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Session Plan

Session Plan. Chapter Nine: Retail and Office properties as an investment alternative Discuss two retail and two office cases Mini-Case on the DCF. Office Vs. Retail. Customers of tenants in office space visit the property due to having appointments

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Session Plan

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  1. Session Plan • Chapter Nine: • Retail and Office properties as an investment alternative • Discuss two retail and two office cases • Mini-Case on the DCF

  2. Office Vs. Retail • Customers of tenants in office space visit the property due to having appointments • Retail customers typically are spur of the moment visitors so the location is much more important for retail vs. office • Ingress: Entrance into the property • Egress: Exit from the property • Both should be clear, visible from the road, and located near major roads and other retail shopping centers

  3. Office Characteristics • Class A, B, & C • specifies features based on construction materials used, floor and roof structures, fireproofing, quality of interior finish/amenities, and location • Class A is typically skyscraper quality • Reinforced concrete framing, superior location and access, good condition and professional management • Class B is typically suburban office buildings, with brick façade, and professionally landscaped • Class C is typically older (15-25 years), block walls, notable physical deterioration (or converted retail space)

  4. Other Office Characteristics • Could be a medical office building • Should be located near the hospital • Could be a professional office building • Should be located in office park or in neighborhoods of similar quality and utility • Should be located near residential areas where employees of the tenants live • Could be a downtown office building • Should have adequate parking, be near hotels, restaurants, and have good access from major highways

  5. Office Definitions • Gross Building Area • Total square footage of the building, measuring from outside wall to outside wall • Net Rentable Area • The actual useable area. The gross area less areas not rented by tenant (restrooms, public corridors, janitor closets, etc.) • Absorption • the net amount of additional office space that is leased in a year’s time. Can be positive or negative (if new product is built but not leased)

  6. Office Considerations • Asbestos has been a major problem in attaining financing by commercial banks • Should consider the age and condition of the elevators • The age and efficiency of the HVAC, roof, and the utilities • Lease terms are typically 3-5 years • Tenants include doctors, lawyers, insurance, banks, other service sector employment

  7. Retail Properties • As mentioned earlier, retail properties are more dependent on the whims of the customers (rather than appointment oriented) • Nothing like that appointment at McDonald’s! • Anchor tenants • National or regional chain store that is the primary draw for customers to the property • In-Line tenants • Supporting players relative to the anchors

  8. Domino Clause • Most retail leases will specify that if the anchor tenant leaves, the other supporting tenants have the ability to break their leases early (for a fee) • Also known as a “Go Dark Clause” • Sales per square foot • This is a key measure of performance for retail tenants. Investors can request last few years of sales history to gauge success at location (and the probability that a tenant will renew their lease)

  9. Types of Retail Properties • Neighborhood Center • Shopping center containing up to 150,000 sq.ft. of leasable space • Typically will have an anchor (Food Lion), strong supporting players (Dollar General), and local mom & pop tenants (local nail salon or local restaurant) • There are many of these in most communities • Should determine if the property is experiencing a positive trend line or a negative trend line

  10. Types of Retail Properties • Unanchored Center • A retail strip center which is smaller than a neighborhood center: does not have a primary tenant • Think of some of near campus • Outparcel • Separate tract of land at front of shopping center • Typically includes a restaurant, bank, or movie theatre

  11. Types of Retail Properties • Regional Center • A large mall containing 400,000 square feet of leasable space (and above) • Usually has one to three major department stores • These types of properties are typically too large for the average real estate investor • Also require a lot of maintenance and property management due to the size of the property

  12. Various Shopping Centers

  13. Changes in Shopping Center Returns • Key Factors: • Competition entering market • Outdated design and layout • Changes in trade area income levels • Changes in population density • Changes in highway construction/traffic patterns

  14. Projecting Retail Demand • Primary Trading Area: Measure of potential revenue of tenants in property from geographic boundary where 60-80% of sales in a given area originate • Based on property size, goods/services offered, population density, & transportation facilities • More competition equals lower possible revenue • Good for choosing locations in a given market

  15. Location of Retail Properties • Should be near residential neighborhoods • Building should be facing the road vs. perpendicular to the road • Should be located at an intersection • Stop light is a big plus • Should be convenient to major highways • For both consumers and product deliveries • Going Home side of the road (groceries) • Going to Work side of road (coffee, bakeries)

  16. Common Area Maintenance (CAM) • Typically landlords require their retail tenants to pay for their own utilities, and tenants typically will pay for taxes, insurance, and maintenance of the property on a pro-rata basis. • The landlord pays for these expenses, and then is reimbursed by the tenant • All of this is spelled out in the leases.

  17. Second Story Retail? • This is very hard to lease • Customers do not want to climb stairs or take elevators in most cases • Sometimes what was supposed to be second story retail space is converted into office space or possibly apartments • In some metro locations, two story retail space is successful • Fort Lee, NJ example • St. Catherine’s Street in Montreal

  18. Retail Tenant Mix • Tenants vary from grocery store chains, drug stores, dollar stores, restaurants, hobby stores, etc. • Which drug stores will survive? • How would you find out about the financial strength of the tenants? • When would be a crucial time to find this out? • Remember QQD here….

  19. Tenant Improvements & Leasing Commissions in DCF • Tenant Improvements: • Estimate probability of renewal vs. new lease and the costs per square foot for each • Calculate weighted average of above x sq ft of space • Include inflation/growth factor depending on when in holding period expense is estimated to occur

  20. Tenant Improvements & Leasing Commissions in DCF • Leasing Commissions: • Estimate probability of renewal vs. new lease and the costs as % of EGI for space • Calculate weighted average of above x % of EGI of space x length of lease • No inflation/growth factor as this is included in DCF estimation of EGI for a given year • Should survey market averages for inputs to include cost of renewal and new lease and length of leases

  21. End of Session:

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