Check who is leasing and rental amounts before buying commercial property
Examining current tenants in a commercial property is one of the most important factors to consider before buying it, and is just as important as the building’s location, condition, area zoning and growth potential.
This is because the tenants play an important role in determining the value of a property, says Leon Breytenbach, national manager of the Rawson Property Group’s commercial division. Good tenants will improve the value of the investment, while bad or dissatisfied tenants may detract from it.
The health of a commercial building may best be assessed by examining the current tenants and speaking to them to determine their attitudes towards the building, and whether they are likely to renew their leases. This will give a potential investor a fair idea of what the future may hold.
“Looking at the type as well as the standard of tenants over a period of three years should give you a realistic idea of how well the property is being managed at present, in addition to showing the perception of the tenants towards the building management,” Breytenbach says.
Determining the financial strength or credit rating of existing tenants will prove helpful in making a decision, he says.
“Identifying the economic sector into which each business fits will help you ascertain whether all or most of the tenants are reliant on a buoyant economy. This could be problematic, should the economy suffer a dip in the future. For the same reason it is preferable not to have tenants who all fall into the same economic category.”
Furthermore, it helps to understand the operating needs of each business to better manage the prospective commercial property, while also ensuring the tenants flourish as much as possible. Happy tenants are more likely to renew their leases.
“Assembling a description of each tenant’s method of operation, including any unique requirements they may have, will give an overall idea of what management efforts may be required of you in the future,” says Breytenbach.
Besides acquiring an insight into the businesses represented in the prospective commercial property, it is also necessary to ascertain the strength of the current lease agreement between the tenant and landlord. A priority should be to check there are valid lease agreements with all existing tenants. In addition, one should ensure the leases are properly executed by all the parties.
“It is important to confirm the remaining duration of current leases before buying the property. There could be sub-leases in existence and these should be carefully studied as the conditions may require specific consideration or attention.”
Breytenbach also offers a suggestion with regard to rental costs to assist a potential investor with their decision to purchase a commercial property.
He says the potential investor must compare the asking rents of the commercial property against those of the current property market to ascertain whether the rents are realistic or overly high or low. Be aware of the escalations to which tenants are subject within the parameters of leases.
Confirm rents have been correctly calculated on leases, then ensure this is the actual amount each tenant is paying on monthly. Inquire whether there are overdue amounts outstanding.
The information a buyer amasses about tenants before offering to purchase will put them in a stronger position.
“It should also help prevent unpleasant surprises after you take over management of your new investment,” says Breytenbach.