Commercial Real Estate is the IDEAL investment!!! By Hue Chen.

Why are so many millionaires created through investing in real estate? Because real estate is the IDEAL investment! There are many different types of assets you can invest in such as stocks, bonds, gold, oil, crypto-currency and real estate are great examples. But out of all of the things you can put your money in, only real estate have the following 5 forces working for it simultaneously!

NOTE: At the very end there is a side-to-side comparison as well as a summary of all of the calculations within this article.

I will explain each using the examples of a typical SAGLO neighborhood shopping center which consists of the following:

• $18,000,000 purchase price
• 160,000 square feet of buildings
• 16 acres of land
• 30 tenants, 3 vacancies
• Located in the Southeast United States in communities that show population growth such as Tampa, Florida
• Typically, but not necessarily, anchored by at least 1 big-box retailer. Either national or local chains, grocery or non-grocery. For example Dollar General, Winn-Dixie, Humana Health.
• We typically borrow 65% loan-to-price. We are seeing interest rates near 5.75% currently for a 7 year term, and 25 year amortization.

Income

• 30 retail tenants might pay a total of $1,900,000 in total gross rent annual.
• There might be $450,000 in property expenses.
• Your Net Operating Income is $1,450,000 annual.

Bonds, some dividend paying stocks, and staking your crypto-currency may provide you an income, however, most stocks and commodities do not generate a regular income.

Depreciation

• Commercial real estate is depreciated over 39 years if you are using the straight-line method.
• Most savvy landlords will use Cost Segregation in order to depreciate the asset faster. The general concept is that a shopping center is comprised of many assets that are eligible for faster-depreciation, such as HVAC equipment, lighting, signage, etc. ie: HVAC doesn't last 39 years
• The Depreciation during Year 1 for the example above might be $1,000,000. The depreciation amount in subsequent years will be substantially less, however, due to time-value-of-money this approach is smart.
• That means each of the investors will get their share of the $1,000,000 Depreciation, which reduces the taxable income.

Real Estate is one of the only asset classes that you can write off the depreciation against your income. Bonds, stocks, crypto, nor commodities allow you to use depreciation.

Equity

• If you used debt to acquire the property, you are likely paying down the principal amount of that debt each month and therefore increase the amount of Equity that you have in the asset each month! The income that you receive from your tenants funds this principal paydown! In our example, it is possible that over $2,200,000 of principal is paid down over 7 years.
• The value of your property increases as the income of your property increases. When the value of your property increase, the amount of Equity in the asset also increases. It's possible that the Net Operating Income in Year 7 is near $1,900,000, a 31% increase in NOI from year 1 through leasing up vacancies, replacing lower-rent tenants and increasing rental rates after renovating the property. NOI can also improve by managing expenses very well.
• $1,900,000 of NOI at a 7.75% cap rate is $24,500,000, the year 7 value of the asset in our example.
• The Equity would have increased by $5,800,000; as well as the $2,200,000 in principal pay down. Since you started with $7,000,000 of Equity in Year 1, the Equity in Year 7 is $15,000,000.
• This is a 114% increase over 7 years.

As the value of Stocks, crypto, commodities, and real estate go up your equity in them also goes up. Bond values fluctuate based on interest rate, however, if you hold the bond to maturity the value doesn't necessarily "go up", therefore the Equity doesn't go up.

Appreciation

• An income producing property increases in value when the NOI increases and/or the cap rate decreases.
• You can play an active role in improving both the NOI and Cap Rate.
• A Cap Rate represents the un-levered return an investor is willing to accept. Meaning that the less risky the investment seems, investors are willing to take a lower return. Single-Tenant Chick-Fil-A's are seen as very low risk therefore the cap rate is also very low, at one point as low as the 10 Year US Treasury Yield.
• How do you lower the cap rate for retail strip centers? Lower the risk profile of the asset by (i) having all successful tenants with high sales volumes which justify a higher rent (ii) create an environment within your property that attracts the consumers in the area to visit often and stay a long time (iii) curate the tenant mix so that they function as a whole making it a must-visit destination for the target audience.
• By doing the above, you can not only lower the cap rate but also increase rental rates. The result is a strong appreciation of your asset.

Crypto and commodities are passive investments where appreciation is purely macro-economically driven. Bonds have a set maturity value. Stocks can appreciate with good management. The value of Real Estate can be enhanced through operating the property in a world-class manner and being intelligent with the tenant-mix that you lease to. There is a lot more individual control.

Leverage

• You may not have access to enough readily available cash to acquire the $18,000,000 asset, however, you can still acquire the property by using debt to Leverage the equity that you do have.
• Assume you borrow $11,700,000 to acquire the asset. That is a 65% loan-to-value.
• There are transaction costs that you must account for as well as upfront cash you would want to reserve.
• You may need $7,000,000 to acquire the shopping center by using leverage after accounting for transaction costs and cash reserves.
• The debt service will be about $880,000 per year using the assumptions above.
• Your Year 1 Cash Flow will be the $1,450,000 NOI minus the $880,000 debt service = $570,000 or about 8.14% levered annual yield.

While some investors borrow money to acquire Crypto and Stocks, it is very risky due to the high volatility in values of those asset classes. Most Crypto and Stock investors do not use debt to acquire those assets nor Bonds. Most investors acquire Real Estate by leveraging their equity because the asset class is well suited for low-leverage debt given the long-term leases and relatively predictable income.

Here is an easier to follow explanation of all of the calculations above.

I.D.E.A.L. investment concepts displayed within the calculations above.

Here is a side-by-side comparison of Stocks, Bonds, Commodities, Crypto and Real Estate (note: this is my opinion only)

I've been with Saglo Companies for 12 years now and we have purchased many shopping centers with our 150+ investors. Please like, share and comment below.

Hue Chen