Distressed vs Stabilized Commercial Real Estate

Distressed vs stabilized commercial real estate, which one is the better investment? Should you choose the distressed 24-unit property that needs a new roof and is poorly managed? Or should you choose a more stabilized property that’s fully occupied and managed well? There are pros and cons to both so in this post you’ll discover 6 beginner investor guidelines for purchasing distressed property and 6 go-to guidelines for purchasing stabilized property. Follow these tips to best determine when to buy a distressed property and when to buy a stabilized asset.
 

 

Distressed vs Stabilized Commercial Property: The Pros and Cons

 

3 Benefits of Purchasing Distressed Commercial Real Estate

1. You can buy distressed property at a discounted price.
2. If you buy right, you can make a lot of money.
3. There’s potential to use creative financing techniques such as seller financing.

Disadvantages of Distressed Commercial Real Estate

• Buying distressed commercial property is risky; a lot can go wrong.
• The financing can be complicated since distressed properties aren’t always attractive to traditional lenders.

 

3 Benefits of Purchasing Stabilized Commercial Real Estate

1. The property cashflows from day one which is important to beginner investors.
2. It’s less risky because it doesn’t require a lot of rehab.
3. The property has a stable financial history; income and expenses that the banks can track and approve, giving you the best traditional finance possibilities.

 Disadvantages of Stabilized Commercial Real Estate

• Paying market price for the property.
• Because the property is stabilized, you may not be able to raise the rates immediately.

Keeping the pros and cons of both types of properties in mind, you may be wondering at what point do you choose the distressed property and how do you purchase it? At what point do you choose the stabilized property and how do you purchase it? Well, as you’ll discover, it’s all about you and what you prefer. No matter which property you choose, these guidelines will help you create a solid deal and successful investment.

 

6 Tips for Buying Distressed Commercial Real Estate

 
As a beginner commercial real estate investor, when pursuing a distressed property follow these guidelines:

Tip#1: Light rehab only; major renovations are to risky.

Tip #2: Do not purchase 100% vacant properties, no matter how good the numbers are.

Properties that require major rehabs or that are 100% vacant are too risky for beginner investors. There’s just too many things that can go wrong. For instance, you could begin to open the walls and find disaster behind them, or the contractor could rip you off. These two things alone can take you down because you’re a beginner.

Tip #3: Be well capitalized and have cash reserves.

You need to have all the money upfront. This includes the money to purchase the property as well as to complete the rehab. Never consider doing the rehab with cashflow.

Tip #4: Have a conservative exit strategy.

A conservative exit strategy means leaving room for mistakes and a changing market. Three possible exit strategies are:

• Buy, fix up, and sell.
• Buy, fix up, and hold long-term.
• Buy, fix up, and do a cash out refinance.

Tip #5: No DIYs.

What I mean is don’t try to do this by yourself as a beginner because too many things can go wrong. I suggest building an experienced team with a mentor to help you do this right. We can help you be successful, so give us a call and become my next protege.

Tip #6: Use this Common Sense Formula.

Whenever you consider buying any distressed property, make sure you use this common sense formula:

Acquisition Cost + Rehab Cost = All in Cost :    The purchase price plus the cost for renovations equals your all in costs.

Your ARV (After Repair Value) must be much greater than your all-in cost. For example, let’s say your acquisition costs are $300,000 with rehab cost of $100,000. That gives you an all-in cost is $400,000. You want your after repair value to be much greater than $400,000, so don’t have all-in costs of $400,000 and an after repair value of $500,000. That’s just cutting it too close.

Interested in buying distressed commercial property? Watch my video How to Buy Distressed Commercial Real Estate to learn more.

 

6 Tips for Buying Stabilized Commercial Real Estate

 
If you’re a beginner investor, these are solid guidelines to follow in any market:

Tip #1: Hire reputable property management.

What is reputable property management? They need to have a good reputation, solid references, and consistently report on the 4Ms:

• Marketing
• Management
• Maintenance
• Money

We focus on the 4Ms in our company every single month and you need to have systems for all four. If your property management company doesn’t send you reports or talk to you about the 4Ms do not hire them.

Tip #2: Get Long-term financing.

Many commercial loans today have 30-year amortization, but the loan ends in five years. I don’t like those loans right now because of where the market is. You may get caught in a down market in the fifth year. I suggest you negotiate a loan for more than five years. Even seven, ten, twelve, whatever you can manage.

Tip #3: Have a rainy day fund.

You need a rainy-day fund for when things go wrong, which happens in commercial real estate. A good practice to have as an investor is to establish an initial rainy-day fund with 5% of your gross rental income. And that’s just to start. So, when you buy the property, the first 5% should go towards your savings.

Tip #4: Do a market rent survey to see where you can increase the rents.

Once or twice a year you should be able to increase the rents, even though this is a stabilized property. How do you know how much you can bump it up? You can either do one yourself or have your management company do a market rent survey and compare your property and it’s amenities to another similar property.

Tip #5: Think long-term.

Investing long-term in commercial real estate is where the money is made and having a long-term outlook will set you up for your retirement and to leave a legacy for your family. As a result, you will be able to reach your ministry or charity goals, or any travel goals that you have. It’s just a fact that those rewards come from thinking long-term in this business.

Tip #6: Focus on B and C class properties.

Many of you think that the nice, stabilized properties are A class properties. However, this isn’t the case. I recommend you don’t focus on A class properties because they’re too expensive and the return on investments is too low. Instead, focus on the stabilized B and C class properties in good neighborhoods and think long-term. These two guidelines together are a winning combination.

 

The Secret to Commercial Real Estate Success

What is the secret to success when buying commercial property? Watch my video called Secret to Commercial Real Estate Success. This video outlines the basics that will enable you to make the best decisions when investing in any commercial property.