Should you get into commercial property?

 

The buoyant commercial property market is rewarding investors with seriously good yields, but there are fish hooks, says Amy Hamilton Chadwick.

When you think about investing in property, you may think about houses only. But maybe you should expand your horizons.

Commercial real estate is a challenging, fascinating investment with the potential to make you some serious money.

When compared to residential property investment, commercial offers higher average returns, lower outgoings, better tenants, and longer leases.

You don’t need to worry about the Tenancy Tribunal or the Healthy Homes Guarantee Bill – commercial landlords can write their own conditions into their leases.

On the downside, the risk of vacancy is dramatically higher and your investment could sit empty for months, or even years.

Borrowing is more costly, more difficult, and you often need a higher deposit.

For those who are involved, though, the benefits far outweigh the risks. High-net-worth individuals don’t muck around with residential rentals, they go straight to commercial.

There are three sectors within the commercial property sphere: office, retail, and industrial. If you’re considering putting your money into commercial real estate, you need to think about which sector will work for you.

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Office

Advantages: Shiny buildings, professional tenants, and strong returns.

Best suited to: Investors with deep pockets looking for a high-quality investment. 

Office space typically provides high returns, attracts quality tenants, and often doesn’t need refitting between tenants. There’s plenty of demand for offices in city CBDs. This makes them extremely expensive.

Two Queen Street office towers in Auckland sold earlier this year for just under NZ$175 million. So, if you want a piece of that kind of action, you’re going to need to buy a share with others in a property syndicate, or buy shares in a listed property company specialising in office space.

However, if you can find a small-scale office in a fashionable city fringe suburb, “that has very good potential”, says Zoltan Moricz, senior director, head of research at CBRE.

“There’s a hunger in the market for character office space if you can find it in a fairly decent neighbourhood. It’s not going to be cheap, but it will be reliable in terms of occupancy and it will rent well.”

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Retail

Advantages: Affordable, and potentially excellent returns.

Best suited to: Investors who know the retail trade and can ride the ups and downs of the markets.

Retail property investors often experience the volatility of the retail sector, suffering when there’s a recession, and flourishing when we open up our wallets again.

Running the gamut from billion-dollar shopping centres to tiny units, retail property has the advantage of having surprisingly low entry-level prices. Modest retail spaces in smaller towns start in the low hundreds of thousands of dollars.

If you prefer a top-end investment, you don’t have to spend much to buy shares in a listed property group specialising in shopping malls.

If your retail property remains occupied, your returns should be very healthy.

“Retail is a little bit difficult, but if people can buy in a high population-growth area, that will have a good occupancy rate and be most impacted by positive retail opportunities,” Moricz says.

Look carefully at the other retail units that surround yours, he says. If the other owners or tenants become a problem, or the quality of the tenants deteriorates, this can drag down the value of your unit, he says.

“If you’re in a strip with a mix of shops in a neighbourhood environment, you have less control. Individual landlords can act in their own short-term interest, which is not in line with the long-term interests of the overall investment.”

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Industrial

Advantages: Simple to manage, lower vacancies, and positive outlook.

Best suited to: Investors who are getting started in commercial, self-managing investors, and those wanting better liquidity.

Industrial property has been in higher demand than office or retail in recent years, says Moricz, making it easier to sell and lease.

There are lower vacancy rates and industrial is the easiest type of commercial property to manage. Of course, none of this has gone unnoticed by investors, who have pushed up prices over the past five years, leading to lower yields.

Regional industrial buildings can start in the NZ$300,000s, but more realistically you’ll be spending NZ$800,000 to NZ$5 million. This is the most hotly contested price range for individual investors, which has also contributed to higher prices.

Moricz says that despite the higher price, this is the best sector for those starting out in commercial property investment.

“The dynamics, in my view, are the healthiest, and industrial is looking better than the others for the next three years.”

Definitions:

Yield: Yield is calculated by expressing a year’s rental income as a percentage of how much the property cost. It is different from a return (below).

Return: What an investor has actually earned on an investment during a certain time period, including rent and capital gain.

Prime property: Prime properties are in big commercial centres and have good transport, design, energy efficiency, and strong tenants.

Secondary property: Secondary property is property that is missing some key criteria of prime property, such as location, transport accessibility, recent refurbishment, or reliable tenants.

First published 28 May, 2018

Story by Amy Hamilton Chadwick

JUNO does not contain financial advice as defined by the Financial Advisers Act 2008. Consult a suitably qualified financial adviser before making investment decisions. This story reflects the views of the contributor only. Content comes from sources that JUNO considers accurate, but we do not guarantee that the content is accurate.


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