Do you want to value any commercial real estate in 5 minutes or less? Follow my blogs and you will quickly learn how I do it. Practice makes perfect. I have analyzed 5,000+ deals of varied asset types in commercial real estate space and still continuing to analyze deals daily.
Before we continue, you must have access to sold comparables for commercial real estate. My two favorites are Reonomy and Costar. I highly advise getting commercial data! This guide depends on the data. Yes, commercial data is not free and will cost money. You cannot value property without DATA!
Multiple methods exist to value commercial real estate. My favorite is the first 2 in which I use to throw an offer out to see how motivated a seller is. No point in calculating all 4 methods, if the owner is not motivated to sell at a discounted price.
I WILL NEVER PAY RETAIL FOR ANY REAL ESTATE!!!
4 methods on valuing any commercial real estate
- NET INCOME
- ASSET COMPARABLES
- REPLACEMENT COST
Pull up 2 years or less SOLD land lots near the commercial real estate. Do not use residential lots, but commercial lots for commercial real estate! The closer the distance of the sold comparable is to the property, the better the comparable is. If you cannot find 2 years or less, then expand the sold date to 5 years or less. No, LoopNet active properties do not mean that would be the price the land will be sold at. Do not use active prices but SOLD prices!
Give 50%-75% of land value! Depending on the year of the building, you might be able to go 100% of the land value! So obviously if the building is brand new, I would be confident to give an offer of 100% of land value. If you can buy the property under or at land value, you know it is a great deal since you are basically getting the building and land for only the price of the land. Remember, the LOCATION is key. If the land of the property is cheap and the location is not great, then throw away the lead. It is not worth it.
What is the Net Income of the property? You must understand the revenues and expenses of the property! Do not forget the labor cost of the so-called owner. Most of the time, owners forget to add their salary as an expense. After calculating the net income, divide the number by the CAP rate to calculate the market value. The CAP rate at what commercial properties are sold at differ in many markets. Even asset types are sold at different cap rates in one market. Depending on the CAP rates being sold, you will use that cap rate to calculate the value based on net income.
Net Income / Cap Rate = Value
Some obvious aspects to understand once you look at multiple deals, a class A location will demand a lower cap rate than the same property in a class C location. Vice versa, a class B/C asset will demand a higher cap rate than a class A property in the same location.
Depending on the locations, cap rates will differ! If the CAP rate is 7% in the area, and the net income of the property is 100,000. The Property is worth $1,428,571.43 as a 7% CAP deal.
$100,000/7% CAP RATE = $1,428,571.43.
I would try to get a 10% CAP offer for the property. If major capital expenses must occur, I would take it in consideration. My offer price would be $1,000,000 at 10% CAP. If major expenses must occur, and if that amount is $100,000, I would offer $900,000 for the property.
Net Income: $100,000
Property Worth (7% CAP): $1,428,571.43
Property Worth (10% CAP): $1,000,000
CAP EX: $100,000
Our Offer: $800,000-900,000
Discount %: 30
What are the competitors of the commercial real estate? If gas stations, then all nearby gas stations in the area. If a strip center, then strip centers in the area. You get the point; you will compare the commercial real estate value based on similar assets in the same location. If you can’t find data on 2 years or less of sold date, then expand to 5 years or less. If similar assets do not exist, then you may have to compare to other asset classes in the same location. I always look at similar assets and different assets in the same location to have a good view on the commercial real estate value in that one location!
Compare how much the assets sold by
- Asset Type
- Building SF
- Land SF
- Land Acres
- Price/Building SF
- Price/Land SF
You will get a good idea of what price per SF you should pay for the property. Do not pay too much compared to other assets. For example, if your building was 1967, the price per SF would be much lower than a brand new 2019 building. Don’t pay the same price per SF for a 1967 property compared to a brand-new property in the same location. Try to compare closely related asset type, year, building SF, and land SF. The more relatable the comparable are with each other, the better the value is!
70% of the value calculated from asset comparables. Subtract if any major capital expenditures are needed!
A blog will be released with much more details on comparing sold data of commercial properties.
If you bought just land, how much would it cost to demolish (if a property is already on it) and build a new property? Trust me, do not want to buy a property at near construction cost unless you are buying a brand new property. Why would you pay for a building that’s 10 years old in which if someone else could build the same asset next to you at the same price? You want your offer to be well below replacement cost. Whatever replacement cost, you should try to get it as cheap as you get.
Under 50% of the replacement cost is best! At least under 75%.
I confirm that the replacement cost is way higher than the price I am obtaining the property. If someone could just buy land and develop cheaper than the price you are buying an existing property, you will get screwed if a developer comes in.
I give offers depending on #1 and #2 to see if the owner is motivated. If the owner is motivated, I calculate 4 values on the commercial property. I will make sure my offer makes sense. My goal is to get 25%+ discount on commercial real estate in great locations. As you can see, I can easily analyze any commercial property quickly and efficiently. If you can not find data on one method, then use the other methods to calculate the value of the property. Do not ever pay retail prices for commercial real estate!
Pro-Tip: Always ask the asking price of the owner before you give the offer. 99% of the time the owner is asking more than your offer price, but there is always a 1% chance where one could ask a lower price than your offer price! Remember, even if they asked for a great price, always negotiate. Never make the seller seem like you are getting a great deal.
Best Quality Investment