Commercial Real Estate Analysis And Investments
These chapters describes the two major types of markets relevant to the analysis of commercial property: the space market and the asset market. The space market is the more fundamental of the two in the sense that it determines the cash flows property can generate, and these cash flows underlie any value the property asset can have. However, the asset market is of equal importance because it determines the valuation of property assets, and this in turn governs the flow of financial capital to real estate. Also, the asset market is most directly relevant to the analysis of investment in commercial property, which is the main subject of this book. In introducing these two real estate markets, this chapter has also presented a few of the most basic analytical tools and measures that are widely used in real estate investment practice, including such concepts as the kinked space market supply curve and the cap rate shortcut measure of real estate pricing in the asset market.
Commercial Real Estate Market Analysis In Practice
Heres an example of how you can find market information and use it to check your assumptions in a financial model for a real estate deal, taken from the office development case study in our Real Estate Financial Modeling Course.
This deal corresponds to 100 Bishopsgate, a 36-story office development in London.
Many assumptions go into this model, including the land price per square meter, the construction costs, the number of tenants and their lease types, the annual change in office rents in London, the annual rental escalations, and the expense growth rate.
Then there are also concessions for the tenants, such as a certain number of free months of rent, and tenant improvements, which give the tenants money to customize their space.
I found all the reports required for this real estate market analysis with simple Google searches for terms like London office market rent trends and London office prime yield.
You can get two of the reports, with the key sections highlighted, below:
Mit Commercial Real Estate Analysis And Investment
Wondering if anyone has any experience or knowledge about the 6 week course offered through MIT on Commercial Real Estate Analysis and Investment? Seemed like a very well run course, although expensive, but not in comparison to some others and considering the brand name. I am an incoming junior looking to pursue a career in real estate I am currently interning at a real estate development company which is what drew my interest initially and my school does not offer a major or minor in real estate, so I wondered if anyone had input on if this program would be beneficial from my point of view as opposed to someone who’s already graduated/worked for some time?
Here’s the link for reference:
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Mitigation Of Asset Risk
Again, the key to managing asset risk is diversification and it can come in two forms. First, a real estate investor may choose to spread asset risk over multiple property classes in their portfolio. Or, if an investor specializes in one specific type of real estate, they can manage risk by diversifying their portfolio through investment in multiple markets.
Real Estate Financial Modeling Courses & Interview Preparation
Like any highly-paid field, real estate is a competitive field where companies expect new hires to be able to hit the ground running and add value immediately.
Thats why many future commercial real estate professionals invest in specialized courses and training to help them get noticed, get hired, and get promoted.
- For industry-specific financial modeling training, we recommend the Real Estate Financial Modeling course from Breaking Into Wall Street.
- For a quick review of the key concepts, plus further advice on getting hired, invest in the BIWSInvestment Banking Interview Guide.
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Mitigation Of Market Risk
The key to managing real estate market risk is diversification. As investors are building their commercial real estate investment portfolio, it should include properties in multiple markets to limit the impact of declines in any one of them. Using the example above, an investor with holdings in Ohio and Texas would be able to use the gains from strong markets in Texas to offset any potential losses in Ohio.
Real Estate Investing Strategies
When it comes to individual properties, real estate investment strategies are organised into several broad categories, which include:
- Core: buy an existing, stabilized property, change very little, and sell it again
- Core-Plus: similar, but make minor upgrades
- Value-Added: acquire an existing property, renovate or greatly improve it, and then sell it again
- Opportunistic: develop or redevelop a property and then sell it
You can see the risk and potential returns of these strategies below :
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Brief Summary Of Book: Commercial Real Estate Analysis And Investments By David M Geltner
Here is a quick description and cover image of book Commercial Real Estate Analysis and Investments written by David M. Geltner which was published in 2000-9-1. You can read this before Commercial Real Estate Analysis and Investments PDF full Download at the bottom.
This comprehensive book is ideal for graduate-level MBA or anyone interested in learning more about real estate. The content presents the essential concepts, principles, and tools for the analysis of commercial Real Estate from an investment perspective. This book integrates relevant aspects of urban and financial economics to provide learners with a fundamental analytical understanding of Real Estate investments. It bridges the gap between mainstream finance and the current cutting edge of professional Real Estate practice, in order to address the implications of their key difference.
Rent The Space To Tenants
Now that youve updated the look and feel of the building, time to get it leased.
Unless you have a background in commercial leasing, its best to lean on a leasing brokerage or property management company here.
The quicker that you can lease out the space, the faster you can move on to the next step.
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Lease Terms And Renewal Probabilities
Renewal probabilities are a big part of any office, industrial, or retail model because these properties tend to have fewer tenants with more customized leases.
It also takes significant time to find a new tenant if an existing one vacates, so lease expiration is a huge risk factor that you try to assess in any real estate market analysis.
Fortunately, other sources track the percentage of tenants that renew or vacate across these three property types in the U.K. even going back ~20 years:
Were assuming renewal probabilities of 40%, 50%, and 60% in the Downside, Base, and Upside cases here, which are probably too optimistic based on this data.
On the other hand, this data is for the U.K. as a whole, not just London and, presumably, its easier to find tenants in the City of London than it is in Random-City-in-the-Middle-of-Nowhere.
This same document has information on the average lease terms and rent-free periods, but they confirm the numbers in the Carter Jonas report, so Im not pasting them in again.
Comparable Property Sales Comparable Properties And Rent Expense And Other Trends
We used the JLL report here to check/confirm potential trends for the change in rent and Cap Rates, called Yields here:
With the Prime Rents graph, its important to focus on the percentage change and, specifically, how much rents fell in the last recession.
The nominal rent figures have increased since then, so rents would not necessarily decline to £45 or £40 per square foot if another recession struck.
However, they could fall by the same percentage as they did in the last downturn .
That makes our assumed decline rates of 7%, 3%, and 1% in the Downside Case here a bit too optimistic.
Therefore, we might want to reconsider the Downside Case numbers for both Prime Yields and the Change in Prime Rents if we believe another 2009-style recession is plausible.
Moving on, we found information on current rents in the City of London from another source :
And then we found information on current expenses and rent-free periods in the same report:
There wasnt much information on expense trends, but looking at past reports, expenses tended to move in the same direction as rents, but by lower percentages.
So, if rents increase by 6%, we might assume only a 3-4% expense increase.
We did not create explicit sections for Comparable Properties or Comparable Property Sales here because we relied on the market-wide data instead.
Also, since this is a new development, lists of individual properties are arguably less relevant than data for the entire region.
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Mitigation Of Risk Of Physical Obsolescence
Managing the risk of the physical obsolescence of a piece of real estate requires careful thought about a propertys condition relative to the market. If it lags the market, renovation and/or replacement cost must be calculated to determine if its economically feasible to update the property to market standards.
The Purpose Of Commercial Real Estate Market Analysis
The purpose of commercial real estate market analysis is to generate reasonable assumptions for use in financial models and to ensure that the qualitative aspects of the market and property meet your requirements.
For example, if you are building a real estate pro-forma for a multifamily property acquisition, youll have to make assumptions for items such as:
- Average Rents per Unit or Square Foot
- Annual Growth in Rents
- Expenses and Net Operating Income Margins
- Required Capital Expenditures
- The Going-In Cap Rate and Exit Cap Rate
You use to determine these numbers or to decide if someone elses numbers are reasonable.
If rents for similar properties in the same area have been growing at 3% per year, on average, then it will be difficult to justify a 10% growth rate in your model.
But a 4-5% growth rate might be easier to justify, especially if something specific explains the difference such as a renovation, population gains in the area despite a limited housing supply, or a company like Amazon moving in.
Nearly all real estate markets are cyclical, so you pay the most attention to the values of these items in the low points and high points of previous cycles.
This is especially true if youre doing a credit analysis of a property deal with limited upside, lenders focus on the numbers in the pessimistic scenarios and the chances of losing money if they transpire.
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How To Get Into Commercial Real Estate
There are many paths that real estate professionals follow in order to break in. However, there tends to be some common threads:
- Its often said that in real estate, its not what you know, its who you know. For this reason, coming from a school with a reputation for real estate and a large alumni network is an advantage .
- Another typical path is to first get into real estate investment banking. Many of the top people at the biggest real estate firms and REITs started out this way.
- If your school doesnt have a strong presence in real estate, another option is to get an MBA at a school with a strong real estate program.
- Whatever you do, networking is even more important in real estate than other industries, so start pounding the pavement as soon as possible. For advanced methods, get your hands on the BIWS Networking Toolkit.
Ongoing Operations Of The Property
As the investor, you likely wont want to be involved in the day to day operations.
Especially if you intend to purchase more commercial property.
From day one, you should hire a property management company and a commercial leasing team to oversee the ongoing operations onsite.
Owner-occupied commercial real estate is the exact same strategy.
Except, for, you know, on commercial property.
You move your business in to the property, maybe lease to another tenant or two, and use your business to help pay down the mortgage.
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An Overview Of Commercial Real Estate Including Development Acquisitions Lending Real Estate Investment Trusts Real Estate Investment Banking And Real Estate Private Equity
What Is Commercial Real Estate ?
Definition of Commercial Real Estate: Commercial real estate refers to non-residential property used by companies to support business activities and which generates income by charging the companies rent to use this space.
The main categories include office buildings, retail properties such as shopping malls, industrial complexes such as warehouses, hotels, and apartment complexes or multifamily properties.
Commercial real estate does NOT include single-family owned homes or condominiums because those properties are used for residential purposes rather than business purposes.
Apartment complexes are an exception to this rule. They are considered commercial because they are owned by investors and rented out to individuals .
Real Estate Investment Banking
Real Estate Investment Banking relates to the groups at investment banks that advise real estate, gaming, and lodging companies on M& A deals and capital markets activities.
This is different from brokerage and development/acquisitions groups because REIB focuses on entire companies, not individual properties.
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How To Conduct Real Estate Market Analysis
In real life, youll do a combination of online research and offline work to analyze the market.
Major components of this analysis might include:
- Comparable Property Sales What have similar properties in the area sold for on a per-unit and per-square-foot basis in the past few years? What about the Cap Rates?
- Comparable Properties What are the average rents at similar nearby properties? What about the occupancy rates and concessions given to tenants?
- Historical Rent, Expense, and Other Trends How have rents changed over the past 5-10 years? What about expenses, such as property taxes and maintenance? How have Cap Rates changed over the past few cycles?
- Lease Terms and Renewal Probabilities Whats the average term of a lease? How many free months of rent do tenants receive? On average, what percentage of tenants renew their leases upon expiration?
- Absorption Data What is the total amount of space that becomes occupied in a given period, minus the amount that becomes vacant? How many new units, properties, or square feet are constructed each year, and how many are leased out?
- Demographic Trends Is the population in the area rising or falling? Whats the average family income, and what is the unemployment rate? Is the population relatively young, or is it aging rapidly?
- In-Person Assessment of Property and Neighborhood There are some things you can only figure out in-person.
Mitigation Of Debt Risk
Debt risk can be particularly tricky to manage because high amounts of leverage can also boost returns. So, it is incumbent upon investors to find the right mix of debt and equity when financing a transaction. In many cases, this decision is driven by the lender who will dictate the maximum amount of debt that can be placed on the property, usually ~75%.
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Choosing The Right Site
When using this strategy, its important to find a building that also works for your business.
If your business cant succeed or operate out of the investment, you wont have it for very long, anyway.
This strategy is almost a business first, investment second thought process.
These investments can be a multi-tenant situation or you could be in a standalone building – totally your call.
Most investors that take this route prefer to have at least one other tenant, in addition to their business, to help cover the costs of the building.
Depending on how much of the space youre taking, you could use owner-occupied financing.
These terms are, for good reason, better than typical commercial loans.
Because the lenders risk is lower since your business is operating there.
Depending on your lenders requirements for owner-occupied, your business may need to inhabit at least 51% of the leasable space.
However, Ive seen lenders offer as low as 30% of the space.
Youll find interest rates and down payments are lower when exploring this investment strategy.
Real Estate Financial Modeling
With real estate financial modeling , you analyze a property from the perspective of an Equity Investor or Debt Investor in the property and determine whether or not the Equity or Debt Investor should invest, based on the risks and potential returns.
There are three major categories of real estate financial models:
- Real Estate Acquisition Modeling: Acquire an Existing Property, Change Little to Nothing, and Sell It.
- Real Estate Renovation Modeling: Acquire an Existing Property, Change It Significantly, and Sell It.
- Real Estate Development Modeling: Buy Land, Pay to Build a New Property, Find Tenants, and Sell It Upon Stabilization.
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The Truth About Real Estate Market Analysis
In this case, the conclusions are simple: were probably too optimistic with most of our assumptions, ranging from rent and expenses to renewal probabilities to likely changes in average rents.
But thats also because were looking at this from an equity perspective , which means that we need some amount of optimism to sell the deal and get others to buy into it.
A lender analyzing this deal would use much lower numbers and find ways to justify below-market rates for many of these assumptions.
In tests and case studies, you dont need to do much more than what we did here: review the provided data and make sure your numbers arent too far off.
But in real life, you might go far beyond this with on-the-ground research, interviews, and more.
Different firms and groups have different standards for this process, so maybe its not so surprising that articles about real estate market analysis present wildly different views.