How to Analyze Commercial Real Estate Deals
A building with the potential to bring in money through capital gains or rental income is the easiest way to describe commercial real estate. Commercial real estate might range from an office building to a duplex home, a restaurant, or a warehouse.
Analyzing CRE deals can be complicated, but here are things to do to analyze better:
Search for Similar Properties
Finding similar properties might offer you a sense of what you could do with the investment and can help you confirm that you’re paying the right price. You want to compare comps and look for similarities in:
- The building and property sizes
- Geographic location
- The building’s state and the year it was built
- Any distinctive features of the property
- The zoning
Select an Investment Strategy
There are numerous strategies available. Ensure you thoroughly analyze before choosing whether to go with value-add, long-term holding, or new construction. After looking into the leases and financials, you might need to approach the property differently than you had initially planned. The strategy must be customized for the project.
Construction / Renovation Estimates
Other than purchase, construction and renovation might be your biggest expense. To succeed, you must get these figures perfect. Additionally, you might not have a large enough loan to cover these costs and complete the project if you don’t have the numbers correct up front before buying the property.
Getting Term Sheets from Lenders
You must meet with various lenders, propose the deal, and obtain term sheets. It is beneficial to have several banking partnerships because different lenders will have different project criteria and appetites for different asset classes. Term sheets will generally include, at the very least:
- Loan-to-value or loan-to-cost terms
- Interest rates
- Amortization and length of the loan
They frequently provide much more specific information, such as further paperwork they will need from you, the personal guarantors, collateral, etc.
Review The Offering
If your acquisition price falls within a reasonable market range, consider if the deal will be profitable. As a result, you should gather as much financial data as possible about the property. You should ask the owner for rent rolls, profit and loss statements, and tax returns / K-1s.
Understanding the Different Types of Commercial Real Estate
Although official classifications can differ from county to county, let’s take a look at some of the common types of commercial real estate.
The two main types of office buildings are urban and suburban. Skyscrapers and high-rise structures that can be as large as a few million square feet are known as urban office buildings and can be found in cities. Suburban office buildings are typically lesser in size and arranged in office parks.
Office buildings can have multiple tenants or just one, many of which are custom-built. Classes A, B, and C are the three categories in which they are ranked.
Class A: The most expensive buildings, with rents higher than typical for the area, competing for top office users. Buildings have modern technology, excellent accessibility, and a distinct market presence.
Class B: These are buildings with rentals in the average range for the neighborhood, competing for a diverse range of users. Although the building’s systems are competent and its finishes are decent too good for the neighborhood, it cannot compete with Class A buildings.
Class C: These are buildings vying for tenants that need usable space at rents below the neighborhood average. Medical office buildings are a subset of this market.
Multifamily properties serve as a bridge between residential and commercial real estate. Though they can be used as primary residences, the basic aim of this property type is for investment. A multifamily property class might range from a duplex to a multi-hundred-unit apartment building. Some examples include high-rise, mid-rise, garden style, and duplex.
High-rise: Larger markets are where you can find high-rise buildings, which typically contain over 100 units and are managed by professionals. Although the precise number of floors for high-rise structures is less clear, if you surpass 10–12 floors, most markets will classify the structure as a high-rise.
Mid-rise: These buildings typically have 5 to 12 floors, 30 to 110 units, with elevator service. These are frequently built-in infill areas of cities.
Garden-style: Typically, 3–4 floors, garden-style apartments include between 50–400 units, no elevators, and surface parking. In essence, it consists of a number of low-rise apartment buildings on a single plot of land, some of which may share a yard or other areas of land.
Duplex: Two-unit, three-unit, and four-unit rental homes are referred to as duplexes, triplexes, and quadruples, respectively. Property kinds with “plex” suffixes are present in almost every market.
The hotel industry includes businesses that offer lodging, meals, and other services to travelers and tourists. Hotels can be independently owned (boutique) or branded, which signifies they are a part of a well-known hotel chain. Hotels can be categorized into different types, which include:
Limited-service Hotels: Hotels in the limited-service class are typically boutique. These hotels are typically smaller and do not offer services such as room service, on-site dining, or conference space.
Full-Service Hotels: Full-service hotels are generally situated in central business districts or tourist destinations and feature well-known brands such as Four Seasons, Marriott, and Ritz Carlton.
Extended Stay Hotels: These hotels are meant for guests spending a week or longer and have bigger rooms and smaller kitchens.
Resort: They often have a vast amount of land, are full service, are located in a typical resort area, and have an accompanying golf course, water park, or amusement facility.
Boutique: features full-service amenities, is not a part of a national chain, has fewer rooms, and is situated in an urban or resort area.
Retail properties are those that host the stores and eateries that we visit. They can be multi-tenant or single-use, standalone structures.
Big-box centers, usually with a national chain like Target, Walmart, Best Buy, or Dick’s Sporting Goods, are examples of single-tenant structures. Pad sites are single-tenant buildings within a retail center that typically house a bank, restaurant, or drug store.
Most industrial buildings are found outside of metropolitan areas, particularly along essential transportation corridors, which contain industrial operations for many tenants. The properties are divided into four categories:
Light assembly: These buildings are far more straightforward than those used for heavy manufacturing and are frequently reconfigurable. Storage, manufacturing of products, and office space are common uses.
Heavy manufacturing: Most significant factories would come under this special-use type of industrial property. These types of properties typically need extensive repair to be used by a different tenant because they are substantially tailored with equipment for the end user.
Bulk warehouse: These structures typically range in size from 50,000 to 1,000,000 square feet. These assets are frequently utilized for regional goods distribution and require easy accessibility by trucks entering and exiting highways.
Flex industrial: Flex is a type of industrial property that is easily transformable and typically consists of a combination of industrial and office space. Flex space is also regarded as mixed-use.
Commercial real estate investors may hold special-purpose real estate, but it does not fall into any of the above categories. Amusement parks, bowling alleys, parking lots, stadiums, theaters, zoos, and many more are examples of special-purpose properties.
Things to Consider When Analyzing a Commercial Real Estate Deal
Since purchasing commercial real estate is more complicated than getting a single-family home, you need to first conduct your analysis. Here are some things to consider when purchasing a commercial property.
Local Economic Factors
On the other hand, it’s crucial to comprehend the booming sectors and how they affect the larger CRE market. Which local drivers are generating employment? Is there a dominant industry in the area’s economy? Investors can make more prescient, foreseeable judgments by better understanding the financial environment.
Condition of the Building
What was the structure used for in the past, and what kind of damage has it sustained over time? You should be aware of any potential hidden costs upfront because they are present in the majority of properties. Have the property appropriately assessed before you purchase it to identify any potential issues, such as mold or asbestos.
To buy the property, you must find the appropriate financing options. Your ability to obtain financing will be influenced by your business and personal credit scores, the type of property you’re purchasing, and your lender. Getting pre-approved before submitting an offer on the property is the smart option.
The Terms of the Deal
It’s a good idea to review the deal’s conditions once you’ve submitted your offer and reached an agreement with the seller. It will allow you to identify any issues with the property and prevent you from making a choice that might negatively affect your business.
The Right Professional
A lot goes into purchasing a commercial property, so you want to work with the appropriate people. Having the right team of professionals on your side will improve your chances of obtaining financing and identifying any difficulties early on.
The intricacy of analyzing commercial real estate deals turns off many investors. But it’s essential to remember that analyzing commercial real estate deals gets much simpler as time goes on. Before choosing one deal to invest in, most investors will examine dozens, if not hundreds, of others.
Finance Lobby is a commercial real estate financing marketplace. Our system enables brokers to submit deals to 1000s of lenders in minutes, allowing them to close better deals quicker.