A Blueprint for the Aspiring Commercial Real Estate Investor

Key Takeaways:

• Commercial real estate is any property used to generate income and covers sectors including office, industrial, multifamily, retail, and special purpose. 

• Most commonly, commercial real estate investors make money from rent — the fee charged over a specific period for property occupancy. 

• Before investing in a commercial property, investors should gauge risks including market-trend changes, zoning, and environmental regulations.

Investing in commercial real estate — an alternative asset class — can be an effective way to generate cash flow and earn steady returns. It can also protect against inflation and diversify portfolios. But how do investors participate in the market? To answer that question, here is a blueprint for the aspiring commercial real estate investor — with strategies, financials, and practical insights.

The Investor’s Blueprint

Commercial real estate is any property used to generate income and covers sectors including office, industrial, multifamily, retail, and special purposes. Within those sectors are a myriad of property types, such as hotel, mixed-use, and self-storage.

But just who are these investors in commercial real estate? They, too, vary and range from individuals, funds, and syndicates to real estate investment trusts (REITs), institutions, and corporations. Investment giant Blackstone is reportedly the biggest CRE owner globally.

Investor type notwithstanding, goals generally include potential protection against inflation, capital preservation, and tax benefits. They also usually include value appreciation, steady income, and portfolio diversification.

Making Money in Commercial Real Estate

Most commonly, CRE investors make money from renting leasing — the fee charged over a specific period for property occupancy. This model generally applies to properties such as hotels, apartment buildings, shoppers centers, and parking lots.

There are other ways to acquire wealth in commercial real estate, including by buying the property, holding it for some time, then selling it when the property’s value has risen. Money can also be made through fees for additional services offered to tenants or customers. These services can include parking privileges, for example, or access to a hotel ballroom.

Owners of commercial properties can also rent out part of the real estate for billboard advertising, which can potentially be lucrative – depending on the location. In 2022, some $8.5 billion was spent on outdoor advertising, including billboards, according to IBIS World.

Investor Checklist for Success

Successful commercial real estate investing requires comprehensive analysis of the properties in which there is interest. Otherwise, the investor is unduly exposed to risks as well as missed opportunities.

For one thing, understanding and assessing market trends and conditions is essential. This covers, for example, area rental rates, supply and demand factors, and vacancy rates. The overall economic climate and market growth prospects should also be considered.

The investor must also determine the property’s value, which considers factors such as location, income prospects, and physical condition. In addition, they should conduct an analysis of the property’s financial performance and assess recent sales of similar properties.

Before investing in a commercial property, it is also advisable to gauge risks including market-trend changes, zoning and environmental regulations, financing risks, and tenant turnover. 

Before acquiring CRE, it is essential to conduct thorough due diligence. This means going over financial statements, property records, lease agreements, legal documents, and more. It also means reviewing property inspections and environmental reports.

Commercial Real Estate Financials Unveiled

Successful commercial real estate investors spend time understanding and mining certain metrics. Those include:

• Net operating income (NOI). This is the formula used to quickly calculate the profitability of a specific investment. 
• Capitalization rate (Cap rate). This is derived by dividing the NOI by the property’s market value and can be used to assess a potential investment’s prospects
• Cash flow. Cash flow in real estate can be predicted by subtracting a property’s total expenses from total income. 

Warning Signs and Analysis Tools

Those who wish to invest in commercial real estate should also review financials for warning signs. They should pay special attention to a property’s cash flow statements, balance sheets, and income statements, for example.

There are also a number of tools available to analyze potential real estate deals, including DealCheck, RentZend, Bankrate, Roofstock Cloudhouse, and Mashvisor.

Location, Location, Location

Location is also a very important element of commercial real estate investing. Its value should not be underestimated. In fact, location can ultimately determine a property’s value, demand, and success overall.

Factors include accessibility and visibility and whether the location aligns with the property’s target demographic. They also include whether the location is a sought-after area, the region’s economic health, and future growth and development. Note that there may be higher insurance costs associated with properties in some areas, including those with high crime rates.

Market Trends and Cycles

From a macro perspective, there are trends and cycles that investors should consider. For example, there are four primary phases in the real estate cycle, each of which calls for a different strategy. The phases are:

• Recovery. This is the initial stage following a recession or market pullback.
• Expansion. The market here is starting to rebound, grow, and expand.
• Hyper supply. This is when more real estate is for sale than the market demands, which leads to price drops over time.
• Recession. Here, the supplier of properties exceeds demand, and real estate prices fall to their lowest.

Using Data for Timing Investments 

Investors can mine data such as real gross domestic product, consumer sentiment, employment, interest rates, and wage growth to help “time” investments and make decisions regarding commercial real estate holdings.

Mastering the Deal

There are actions commercial real estate investors can take to secure funding, including:

• Compare loans and creative financing. Of all U.S. banks, CRE loans comprise about 25% of all outstanding loan balancing. As opposed to residential loans, CRE loan terms usually range from five to 20 years. Be sure to compare such loan options to nontraditional ways to finance a property.
•  Navigate loan terms for optimal deals. To get the best terms, investors should know their goals and priorities and do their homework. They should also be open and flexible and communicate effectively.
• Navigate legalities and negotiations. CRE transactions comprise a host of complicated details that require a great deal of attention. A first step might be to find an attorney or advisor who knows the ins and outs of commercial real estate deals. 
• Essential contract terms. A valid and useful real estate contract must include a legal purpose, agreement by offer and acceptance, legally competent parties, consideration, and consent.
• Due diligence. Risk mitigation requires thorough inspection of the property as well as of the seller, financing, and compliance.

Assembling a Dream Team

Successful commercial real estate investing is not a solitary endeavor. It requires a team of experts including:

• Brokers. A commercial real estate broker acts as a middle person between buyers and sellers of commercial property. They assist clients in buying, selling, or leasing.
• Managers. These individuals are responsible for the assessment, lease, and maintenance of properties. To optimize real estate investments, the managers also implement CRE investment approaches.
• Lawyers. Attorneys here seek to protect their clients from financial risk when purchasing or selling commercial real estate. They draft, review, and negotiate commercial leases.

When building the best team for success, the investor must be able to clearly communicate their needs and expectations. 

Insights from the Field

History has shown that despite fluctuations, real estate values generally rise over time. That can potentially make commercial real estate a good way to build wealth.

Consider this quote from real estate mogul John Jacob Astor: “Buy on the fringe and wait. Buy land near a growing city! Buy real estate when other people want to sell. Hold what you buy!” Here is another, this concise one from real estate investor Louis Glickman: “The best investment on Earth …  is earth.”

For all the bullishness and potential benefits, however, that are challenges in CRE and seizing opportunities, including rising rates, a hybrid work milieu, economic instability, and a tight labor market.

Every investment carries some degree of risk, but there are moves one can make to promote good outcomes. Those include exercising due diligence, possessing a solid business plan, and constructing a strong team and network.

Alternative Investments in Real Estate

As a way to generate income and grow wealth, real estate remains a popular investment. Participation in the market does generally require a good deal of know-how, however. A way around that is through a leading alternative investment platform, Yieldstreet, which makes investing in property simpler, easier, with no expertise required. Alternatives may be a good option for smaller investors in commercial real estate.

Yieldstreet, on which more than $4 billion has been invested to date, offers one of the broadest selection of alternative asset classes available. Such offerings are potentially less volatile due to their indirect correlation to constantly fluctuating public markets.

Yieldstreet’s curated and highly vetted investment opportunities include passive opportunities in commercial real estate. For example, the platform offers a real estate equity program for IRA investors as well as REITs. With the REIT, which can be accessed for as little as $10,000, income is earned from interest on investments. Rather than own real estate, REITS finance property.  

Another potential benefit of commercial real estate investing is diversification. Establishing a portfolio of varying asset classes and expected performances can not only protect against downturns, but it can potentially improve returns. Importantly, diversification can also reduce overall portfolio risk. 

Alternative Investments and Portfolio Diversification

Alternative investments can be a good way to help accomplish this. Traditional portfolio asset allocation envisages a 60% public stock and 40% fixed income allocation. However, a more balanced 60/20/20 or 50/30/20 split, incorporating alternative assets, may make a portfolio less sensitive to public market short-term swings. 

Real estate, private equity, venture capital, digital assets, precious metals and collectibles are among the asset classes deemed “alternative investments.” Broadly speaking, such investments tend to be less connected to public equity, and thus offer potential for diversification. Of course, like traditional investments, it is important to remember that alternatives also entail a degree of risk. 

In some cases, this risk can be greater than that of traditional investments.

This is why these asset classes were traditionally accessible only to an exclusive base of wealthy individuals and institutional investors buying in at very high minimums — often between $500,000 and $1 million.  These people were considered to be more capable of weathering losses of that magnitude, should the investments underperform.

However, Yieldstreet has opened a number of carefully curated alternative investment strategies to all investors. While the risk is still there, the company offers help in capitalizing on areas such as real estate, legal finance, art finance and structured notes — as well as a wide range of other unique alternative investments. 

Moreover, investors can get started with a relatively small amount of capital. Yieldstreet has opportunities across a broad range of asset classes, offering a variety of yields and durations, with minimum investments as low as $10000.

Learn more about the ways Yieldstreet can help diversify and grow portfolios.

In  Summary

To demystify the complex world of commercial real estate investment, aspiring investors would do well to first take advantage of – and act on – market insights. They include the importance of mastering financials, understanding the value of location, and staying ahead of market trends. And remember the value of real estate as a way to diversify one’s investment portfolio to mitigate overall risks.