Why do investors buy empty buildings? – Orange County Register
As the owner of a commercial building, you fall into one of the following two categories. You are either fully divorced from the occupant.
In other words, you don’t own the resident business, or you do. We call the latter an owner-occupant and the former an arm’s length investor.
If we then dissect the kinds of arm’s length investors – those who depend on a tenant to pay the rent – a myriad of classes emerge.
Neighbors could own a small strip center with a nail salon, fast food restaurant and animal hospital. We would call them a “mom and dad”.
As their holdings grow over time and more properties are acquired, so does their class. Now they fall under the category of a private investor.
Private investors typically use money from other sources such as a business, inherited wealth, or savings as seed capital. Thus, a private investor uses his own money to buy buildings. Of course, a bank loan can help, but the down payment comes from a personal account.
Now compare the use of “your own money” to “other people’s money” and a capital market investor is identified. Capital market investors rely on Wall Street dollars (real estate investment funds, pension funds (California Teachers, CalPERS, Washington State) or, in some cases, premiums from insurance companies (John Hancock, Aetna) to finalize the purchases.
Okay, with this preamble, let’s talk about a trend that has been observed since the start of 2020. Investors of all types are buying empty buildings! Remember, they need rent to survive. They don’t occupy a location with their business. So, without rent and without tenant, why is this happening? Do me a favor because I am giving some opinions.
Original costs: Each rented plot acquired has a price. This includes time in the market, rent concessions, improvements and professional fees. Out of all these expenses ultimately comes a stream of income. Currently, since available buildings are scarce for those who need them to function, all four cost categories have been squeezed.
It is quite common to start construction on a new project and lease the entire square footage before completion. Time on the market is evaporating! With more groups looking for space and fewer places to consider, the concessions and upgrades on offer are slim. Therefore, it is quite easy these days to calculate the cost of a new occupation. In addition, the current market rent is captured against the expectation of a below market rent to catch up.
Lack of quality: A brand new, vacant building is equipped with all the benefits – high warehouse ceilings, sufficient truckload and is in perfect condition. These targeted operations benefit operationally from greater efficiency. This attracts more potential tenants.
Musical chairs: Similar to seven players and six chairs, the competition for fully leased assets is fierce. It is quite common for a new offering to generate multiple interested parties. As a result, prices go up and returns suffer. Faced with the need to deploy real estate dollars, vacant buildings have now grown in popularity.
Cost and production time: We’ve concluded several meetings this week with some of Southern California’s biggest real estate developers: Birtcher, Hillwood, REDA, IDIL, and Blackcreek. They build them, then rent or sell the finished buildings to occupants or investors.
You see, a buyer that we represent was in town on the east coast. We try very diligently to find a building to buy for our client. Good luck! We’ve heard time and time again that land prices, government overreaching, environmental impact assessments, and rising construction costs ALL reduce the supply of new inventory.
Therefore, if an investor can skip the hassle of construction and simply purchase existing property – even vacant ones – it makes sense to do so.
Allen C. Buchanan, SIOR, is Principal at Lee & Associates Commercial Real Estate Services in Orange. He can be reached at [email protected] or at 714.564.7104.