Buying a vacant commercial property is not something that I recommend for most commercial investors.
I’ve only done this a few times… Although it was very successful when I did…
But that’s because I had the basics covered and I understood how to work out what the property was really worth.
When a commercial property is tenanted, it’s very easy for a valuer to come up with a true and accurate valuation…
That’s because the value of a commercial property is intrinsically tied to its yield
So when you're looking at a property that's empty… what do you do?
Well… here's my attempt at an answer.
the first thing to consider is that there are going to be three ideas of the value of the property.
1. the agent – who will be trying to get the best price for his vendor because a better price = better commissions.
2. The valuer's idea of the price – this is the one you'd trust more than any other.
3. The vendor's idea of the value… usually based on high hopes and not much else.
And there are three methods that can be used to arrive at a valuation.
1. The income capitalisation approach – this is how commercial is usually valued.
2. The sales comparison method – often seen in residential valuations
3. The cost approach – usually not that accurate and only ever used as a backup method to add weight to the other approaches.
As an astute investor, it's up to you to work out what information to pay attention to and how to take that information and construct your offer.
Let me give you an example.
Let's use a property I just found for sale.
It's a retail shop listed at $615,000. Vacant possession.
It's got a 250sqm lettable area – which is one of the factors that a valuer would use to compare to similar properties in the area.
Being a vacant possession there would have to be some guesswork at what it might rent for.
The agent says $40,000 pa and has come up with this asking price based on a cap rate of 6.5%net.
But remember the agent has a vested interest and is being driven by the hopes and dreams of the vendor.
So a valuer may look at the same property and decide that the agent is being a little ambitious. So he says it would only rent for $35,000.
And because it's vacant he decides to use a cap rate of 7.5%net in this example.
So the vendor is asking $615,000, but the valuer's price comes in at only $470,000…
That's a big difference.
But it doesn't end there.
There are going to be costs associated with letting the space.
You may need to paint it. You'd need a marketing agent.
Valuers often use six months as a forecast time to let a property.
So if we take that as given, then you may minus the costs of the fix-up and the six months of rent from your offer… meaning that you are offering 20k to 30k less than the valuer's price.
This is NOT just about offering some lowball price. That will just get you rejected and earn you a reputation you don't want.
But in this case, you can show the vendor what the property is REALLY worth… and why.
I've negotiated some fantastic deals over the years and had vendors come down because of this and other methods I teach my commercial investing students.
This same property, once leased, can be revalued. With a new 3+3+3 lease in place, the property would value higher.
It's also likely that the same valuer would be inclined to use a lower cap rate for the reval based on the strength of the lease… which would further increase value.
Of course, this is all hypothetical because it's just an example of what's possible, but I'm using very common numbers, and deals like this can be found every day of the week if you know what to look for.