What Defines a Good Deal in Commercial Real Estate and Why So Many Miss Them?

Every prospective buyer wants a good deal in commercial real estate (and they should), but what exactly is a good deal?

Focusing on price alone can oftentimes have an opportunity cost far in excess of any discount in price a buyer may think they are getting. For example, a prospective owner-user buyer can easily pass on buying a property because they viewed it as a poor investment due to its allegedly low cap rate. However, the location and other characteristics of that property may have been far better economically for that prospective owner-user’s business than another property elsewhere with an allegedly higher cap rate. I’ve seen this happen often.

Focusing on industry metrics that are supposed to be a somewhat accurate barometer of a commercial real estate property’s economic value without knowing how those metrics are/can be manipulated can render those metrics less reliable and their analysis an exercise in futility. Myopia of any kind with regard to the economic analysis of commercial real estate can be fraught with pitfalls. With regard to good deals on financing for example, I remember a commercial real estate loan officer many years ago who was tired of fielding calls from prospective borrowers who only wanted to know what the loan interest rate was and wouldn’t allow him to explain any of the loan’s other terms. He decided to give them what they wanted and quoted a very low rate he knew he could deliver without all the details. When they called back to get that great rate no one else was offering, he would then explain that rate is only available with a loan fee of 10 points or with a fully amortizing five-year term. Loans are not a homogeneous product. They all have various elements in addition to rate like amortization, prepayment penalty, recourse versus non-recourse, etc. that can affect the rate (and/or fees). The same goes for commercial real estate (elements as a basis for value other than price).

One way to mitigate the risks above and others not mentioned is to use a broker highly experienced in many facets of the commercial real estate industry and to also keep in mind that industry tenure is sometimes insufficient and not synonymous with actual experience. 

After more than 35 years in the commercial real estate industry, I have no shortage of anecdotal stories involving great deals and how they were obtained by commercial real estate buyers. However, what goes unnoticed and unsaid is the highly unusual circumstances at the time and the enormous risks those buyers undertook to obtain those great deals. When I meet with clients, I like telling these anecdotal stories because they are actual transactions and quickly illustrate the importance of other considerations many overlook.  

If I was forced to distill what prospective buyers should take into account when considering the purchase or sale of commercial real estate, it would be the following three adages that many of us have heard before.

• Focus on the return OF your money and not just the return ON your money in any investment. (identify the risks associated with the higher return and factor that in). 
• Always sell early (while it’s obvious that you never want to sell late, what seems less obvious to many is that you can’t perfectly time the market, so that only leaves selling early. How early however is a separate topic for another time) 
• Bulls and bears make money, but pigs get slaughtered (a stock market adage about not being greedy that is equally applicable to commercial real estate investment)

The last time I saw good deals readily available on the market was in the early 1990s after the Resolution Trust Corporation (where I worked) took over hundreds of failed S&Ls and dumped their foreclosed commercial real estate on the market all at once.

So getting back to the title of this article, what defines a good deal in commercial real estate and why are so many missing them? Because a good deal is subjective and dependent on a prospective buyer’s particular needs and circumstances, I am going to distill what I think constitutes a good deal today and in the foreseeable future, notwithstanding a significant event in the market, to one qualified consideration. That qualified consideration is “availability”.

With the kind of monetary policy this country has had over the last few decades, there are simply too many dollars chasing too few properties. While the government’s ability to print money is almost infinite, the availability of property is not just finite, but worse yet extremely limited.

While pricing for commercial real estate might seem to be a little on the high side (because of limited inventory), it is somewhat (and sometimes entirely) mitigated by the incredible financing terms now available.

The bottom line is when you see a property that you know makes economic sense to buy (or lease) for your business, then that should qualify as a good deal and you should immediately make an offer. Don’t jeopardize losing a good deal to save a few dollars because others won’t make that mistake, to your detriment. 

If you are a prospective buyer seeking to buy, lease, sell or finance commercial real estate in San Diego County (and southwest Riverside County), please give me a call.