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Should you buy a commercial property?

By Todd Alexander

Perhaps you have been investing in residential property for some time and now want to diversify. Or maybe you like the idea of owning your own pub or are looking to get a higher yield. As we continue through this period of low interest rates and rising residential prices, we are seeing more and more investors seeking out commercial assets to diversify their portfolio. However, there are several key things to remember when investing in these assets ensuring you balance both risk and return.

Historically, smaller private buyers would seek out more traditional commercial investments such as office suites and retail shops. However, given the changes in our economic landscape and the way we are interacting and doing business in a post COVID-19 economy, these assets have lost some favour. More recently there has been a swing to industrial and alternative use assets such as medical suites and childcare setting new benchmarks in demand and values.

Despite the threat of online retailing we continue to see activity across the strip retail market by first time commercial investors, this being the most affordable price point for retail assets. Tenanted, prime retail strips in some locations can achieve yields in the sub 3.5 per cent range, while retail shops in secondary locations achieve very different levels of return as the tenancy opportunity is lessened due to exposure and can be subject to higher vacancy or tenancy turnover. A good rule is to walk around the area you are interested in and see if there are many “For Lease” boards and talk to agents about the churn of tenants. We continue to see tenancies such as clothing and soft goods decline in our retail strips making way for more service orientated businesses and food retailers.

The asset which has seen the greatest growth in popularity over the past few years is industrial investments. Location is key for industrial investments with access important, proximity to major road and rail nodes is often a consideration for tenants as is clearance and parking. Industrial assets have a wide range in values from small storage and strata industrial unit facilities in suburban locations to large distribution centres located in industrial estates, as a result, yields can range from four percent to eight per cent. When looking to purchase these assets, assess the occupancy level in your region and potential new supply additions which could hinder growth. For older assets future capital expenditure needs to be factored in to keep the standard of property high to compete in the leasing market. Tenancy risk can be elevated when dealing with small businesses, however purchasing properties already leased or with a long WALE (weighted average lease expiry) gives certainty on income and expiry particularly for multi-tenanted properties.

Alternative assets are also in growing demand by private buyers due to the attractive returns on offer and certainty of lease covenant. We have seen turnover levels increase for these assets such as medical suites/centres and childcare; these are heavily government subsidised giving the buyer confidence in returns. Similarly, these assets are often kept to a high standard in terms of repair and hygiene given their use; tenants also commit to long lease terms and invest heavily in their accommodation. The demographics of the area is a key consideration for these assets with a growing population, increasing the need for these services.

Some key things to remember when buying your first commercial investment:

  • Rent calculations are based on an area leased and often include an incentive
  • Tenants generally pay all outgoings
  • Lease terms are longer depending on the agreement entered
  • Management fees are generally higher than residential properties
  • Vacancy factor can impact returns and future capital appreciation
  • Future capital expenditure should be considered to keep property to high standard
  • Consider the WALE of the property
  • Remember, the higher returns achievable are often directly as a result of the greater risk involved in investing in this asset type

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