Most of you have heard about the Seven Deadly Sins that include; pride, envy, gluttony, lust, anger, greed and sloth. There are also Seven Deadly Sins of CRE investment, and these are not so-called psychological sins but errors or misjudgments in the art of investing in commercial real estate assets.
The CRE investment process is a multifaceted procedure to analyze, acquire, finance, manage, lease and sell a commercial property. There are many steps in the process from evaluating a broker sales package, to analyzing the market in which the property is located, touring the property, raising the appropriate amount of debt and equity capital, closing the acquisition and managing and leasing the property. Each of these steps is critical to a successful CRE property investment. However, there are many sins or errors committed along the way and our list of seven of these are listed below.
Buying at Low Cap Rates
Acquiring CRE at low cap rates is one of the biggest sins that an investor can commit. This is typically done when interest rates are at artificially low levels, investors don’t understand the various risks in CRE investment and investors have uninvested capital that needs to be used. In acquiring commercial real estate assets, it is more important to buy a good asset at a great value than a great asset at a good value. The most important criteria in a successful real estate acquisition are to buy the asset below its intrinsic value. Buying a CRE asset above its value or at a low cap rate, is rarely, in the long term, a route to a successful transaction.
Poor Due Diligence
The due diligence process conducted before the closing of a real estate acquisition includes all the procedures to make sure the property, financial and market data provided by the seller and broker are accurate and form the basis upon which the purchase price is based. During the booming CRE market of the last few years, the due diligence process has been condensed and, in some cases, not even performed. Sellers have compressed the time to close a transaction, which leaves the buyer with less time to complete a thorough due diligence program. This is especially true of large portfolio transactions with dozens of properties. Shoddy due diligence can result in poor financial proformas, missed negative lease provisions and critical issues with the property’s physical condition. Poor due diligence can lead to lower investment returns and reduced cash flow for the property.
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Joseph J. Ori | September 19, 2019 | Globe St