Paradoxes of Commercial property

I admit i know little about how commercial property works, although i know from the business i work for the tenant pays the rates (which i always find absolutely crazy) as well as all other standard outgoings like water, power etc which i can fully understand.

I refer to Melbourne Rd North Geelong, and how you can have three quite large properties which have a vastly divergent outlook insofar as to the income they generate for their owners, despite them being within about 400 metres of one another.

Firstly there is the large and now vacant for at least two years former Rays Outdoors site, which is gathering graffiti and not much else as it forlornly sits vacant and unloved, despite it's very prominent position. From memory it has a sign saying it's for lease, but i can't find anything online about the details. The ad below seems to refer to when it was still tenanted by Ray's Outdoors.

Ray's Outdoors, 340-344 Melbourne Road, Geelong, Vic 3220 - SOLD Showrooms/Bulky Goods Property

The very next door, is a even curiouser case, the former Pizza Hut building that has actually been vacant as a commercial venture for the best part of 10 years. But over three years ago whoever owns it decided to build a bespoke showroom/premises which upon completion was put up for lease....and three years later..it still is!! I guess the owner can claim depreciation, but since nobody is renting it, i am guessing they have to pay the rates. I find it flummoxing to the extreme that you'd build a building without perhaps having an agreement from a tenant to move in, and moreso just have it remain untenanted for all this time. This is the ad for it here....

346 Melbourne Rd North Geelong, GEELONG VIC 3220 | Darcy Jarman

Lastly comes the most successful plot of land, the large parcel which has the iconic tenant McDonalds, which sold around a year ago with a yield of 3.7%, selling for $3.05M, as per the article here.

North Geelong McDonald's reaps $3 million at auction

My point is....with commercial property to me it seems the land value is specifically tied in with the tenant you have...and if you have someone like a McDonalds you're probably set, as they are likely to be very long term and with a miniscule chance of failing. But what of having an almost equally iconic tenant as Rays Outdoors? With them moving, you now have a place gathering dust for over two years, earning zilcho in rent, and therefore how does one value the land if the property there is unloved by prospective tenants. And of the second one, it's a total mystery how one,be it a business or private person...could build a building and yet it remain untenanted all this time.

You would think that you'd try might and main, and even by offering a reduced rent or some other means to get SOMETHING into these places rather than watch them gradually deteriorate with graffiti, grime and just general wear from the elements for such a long time. And the contrast between the high demand for the freehold/land for a McDonalds tenanted block compared to the ostensible value of an unloved commercial block is so stark to this long time Geelong resident who has seen this unfold over the last few years.

Anyone here much more au fait with commercial property share my curiosity about these scenarios?

 

I would never go into the middle of no where and let the business dictate your income.
The mind set of building an extra building and yet let it remain for 2 years may be something that owner didn't expect, i.e. agreed verbally. For me I would have the tenant signed the contract before I even start thinking of building it, but well a place where there are so much land available, one may think vapourshop isn't the way to go.

 

Some stuffs I've learned during the property searching
1. Some developers offer massive contribution to get tenants in.
eg. $400k Landlord's contribution for a cafe. ~$200k gross income with 7 years lease term.
$625k landlord's contribution for a gym ~$250k gross income with 10 years lease term.

2. A commercial property with a reputable tenant attracts upto 50% premium.
eg. a vacant retail property sold for $3.5m and, within a year, the same property leased to a bank and sold for $6m (prob. landlord contributed more than $500k to get the tenant in)

 

What's confusing? It is called risk. Lots of different risks involved with each of these properties (not that I am familiar with the locations).

Economic risk - tenants simply aren't looking (eg post GFC) or during a recession.
Functional obsolescence risk - is the building design not to current standards eg small floor plates, too many columns, insufficient services etc all affect the appeal to a tenant

As for tenants paying full outgoings - what's the issue? Rates - tenant uses the services eg roads, street cleaning etc so why shouldn't they pay the rates?

 

Just that you don't pay the rates when you rent a private residential place, and if you own the land/building you're the one getting the capital growth. It seems a bit unfair to me for a business to be forking out an expense which in a residential setting is part and parcel of the owner's call.

For what it's worth the locations of these properties are coming off Melbourne Rd North Geelong, the ostensible Princes Hwy or what is now known as the A10, in the section between the Separation St Overpass and Cowies Creek, it has a huge amount of passing traffic. Admittedly the first two properties are on the service road, the McDonalds is off the road proper.

It may well be that Super Group owns the former Ray Outdoors site, they are a huge conglomeration so maybe it doesn't matter to them they are not earning an income on what is probably a tiny proportion of their real estate holdings. The second building that was completed around three years ago is probably the stranger one.....the land it sits on had not been used for several year prior, the old Pizza Hut dine-in restaurant had been vacant for a long time prior, then the building was demolished and it remained just a vacant slab for a fair while too.

Also Scott, just regarding some terms of the rental agreement with my employer, they pay a little shy of 3K per month to rent their building, paying the rates as well and other outgoings for a place that most likely cost in the early '00's maybe 300K-ish at a guess. In that case the landlord has probably hit the jackpot, as his real rate of return is probably approaching 10% now. Given the employer i have is an iconic enterprise he would be on easy street with this.

Another example is the relatively new housing development with two shops on the corner of Moorabool St and Kilgour St Geelong. Surrounded by houses that would command in the range of $600K within this development and on a major intersection just up from Kardinia Park and close to the South Geelong station and the CBD, the brief tenure of a bakery and convenience store when it opened say 6-7 years ago was surprising. Those two shops had remained vacant for a hell of a long time before finally last year a art/cafe type shop opened in one, and the second more prominent shop on the corner now seems to have signs that someone has leased it.

It's just weird i guess....build a house and you'll easily get a tenant in a city like Geelong, but whether it's asking too much rent or what, it seems to be a lot more challenging getting a business tenant. Particularly when the location of this place is smack bang into coffee country for the quite wealthy populace of inner Geelong/Geelong South.

 

It all comes down to supply and demand and what you can negotiate. If you have a weak market or have an owner desperate enough, I'm sure you can get a gross lease where rates are paid by the landlord.

Again it comes down to what you are willing to live with vs what you will walk away from and go look for another site in lease negotiations.
What is that location worth to you and your business vs getting somewhere else? Does that site have special features that make it worth more to you?
Landlords can ask what they like in rent but a place will only be leased if someone is willing to pay that rent.
I've heard of places with yield of 10% pa (mostly professionals renting from their SMSFs) and I've also heard of stories of someone getting a dirt cheap long lease on an unloved vacant property, building a good business and managing to keep rent increases at CPI for the whole lease and option periods (because they negotiated it, as they were in a position to do so at the starting lease)

To me commercial is closer to the stockmarket and more pure capitalism - What the commercial property is worth is based pretty closely on what it will earn, which in turn is based on what that site is economically worth for potential businesses, just as shares are ultimately based on what the market thinks a company will earn. What does that site potentially bring to the business - eg exposure, foot traffic, etc and what are people willing to pay for that?

 

"who pays the outgoing" really doesn't make any difference. does it?
would you be happy if all outgoings are paid by the landlord after factoring in those expenses into the gross rent just like the residential? it's just matter of structuring the lease terms.

There is a chinese restaurant listed for sale in chatswood NSW. Landlord is paying the council fee ($90k) and land tax ($180k).

and the gross rent is....


$550k.

 

basically it's same as making the gross rent cheaper at $280k and tenant pays land tax and council fee. or gross rent @ 460k and tenant pays the council fee and the landlord pays land tax.

The thing matters most is that the tenant is paying $550k per year in total and the net income for the landlord is $280k.

 

There are countless ways to skin a cat. If agreeing to a higher face rent in return for other concessions gets the deal over the line, so be it. It all comes out of the tenant's pocket in the end.

 

May I ask which Chinese restaurant is it?
Also, 180K land tax, the land value of it must be around 11.5Mil?

 

what about 80k council fee? I thought it's ridiculous as well.
399 victoria ave, chatswood. those information is in the IM. you will need to contact the agent for it.

 

must be this then

399-403 Victoria Avenue, Chatswood, NSW 2067 - Retail for Sale

Big block of land though.

 

True. It might be worth for the development. but the problem is it comes with 15 years lease.
Anyway it's not something an individual investor can touch. the asking price is $18m

 

Why not?

 

Commercial property can have really long periods of vacancy so having a key tenant and a long lease in place greatly impact on the value of the underlying property. Then there are other considerations such as the condition and use of the property. Given the tenant sometimes (not always) has to repair the building, the rent is going to be much lower if the roof or another major capital item will need replacing soon.

 

Asking price seems high if most of the value comes from development potential but the lease locks you out of developing for 15 years.. Yield this low makes no sense to me. Is there something I am missing?

 

Finally....at least three years after completion of the building next to the former (and still vacant) Rays Outdoors complex, Kennards Hire is moving into that new premises. Glad someone is now going to be in it, and i guess for the owner of the building maybe they were just happy to sit on a vacant property and wait for a fairly big name tenant to rent it. Given what others have said about how strength of tenant can help yields, and therefore the property value perhaps that was most important for the landlord rather than just getting a lesser known and perhaps more volatile business into the premises.

Like i said, it's only a couple of hundred metres up the road from the highly valued McDonalds and other big name tenancies so it was always a bit odd to have such a variance of desirability in essentially the same area, all on Melbourne bound traffic along the busiest thoroughfare in Geelong.

 

It looks like it is still for sale

 

This is a great comment re commercial being pure capitalism

Commercial property is a competitive, monopolistic game. Retail sites compete to draw foot traffic and as one centre becomes full and has a full range of shops, banks, eateries, entertainment... it naturally attracts more tenants and leave other retail areas vacant and looking like ghost towns
It can take a long time for balance to restore and people to flow back into an area in the doldrums...
Look at the Gold Coast - Burleigh nobbys and the Q centre @ mermaid boomed... and it has left main beach, Broadbeach and Southport looking like
A ghost town

Pretty risky asset class imo and u really need to be careful to avoid losing your Shirt

The best comm prop as someone mentioned is buying your premises in your smsf and paying a 10-12% tax free rent

 

That assumes that you own the business, If you're not in that position then you need to rely on tenants.