Reposition Underperforming Property Serving SMBs

Governments are preparing to re-open their economies as vaccinations complete for the US population by the early part of Summer 2021.  Stimulus funding includes a large infrastructure bill to put the public back to work en-masse.  Large enterprises are using a hybrid work environment of on-prem and cloud.  Mid-tiers are planning to engineer it into workplace solutions for the foreseeable future.  Small businesses may be more agile about workplace location to maintain productivity.

If a hybrid work environment and socially distanced layout is likely for the foreseeable future, it prompts evaluation to reposition underperforming properties within your portfolio.  Repositioning includes capital expenses to strengthen attributes of public health, capital improvements to make the property more attractive, updating hard and softscapes, changing the tenant base, rent rates, and lease expirations.  A repositioning plan needs to be planned, prepared on paper, then sharpened to meet investment objectives.  View leases as a portfolio of investments within each property; a property could benefit from repositioning to capitalize on future economic cycles.  (Note: commercial property prospers during economic cycles when it meets the needs of a tenant mix and has lease terms to realize ROI objectives over a holding period.)

Assessment

Run a financial analysis to assess room to raise rents and whether operating expenses are supporting economic performance.  Categorize each property by asset class (e.g., A, B, C).  Key financial ratios such as operating expenses to effective gross income, breakeven, and DSCR express the economic health of a property.  Identify comparable properties and compare incumbent rent rates to external listings in the space market; this informs how offered and lease rents compete with substitute properties.  Evaluate how the tenant mix helps or harms property operations and performance.  For example, a high traffic use above a second floor could increase maintenance costs of HVAC, elevators and common restrooms, causing capital expenses to upgrade them before projected useful life.  Functional systems and cosmetics per floor should match the impact of use by tenants.

Market Research

A repositioning plan is positioned to succeed when the asset manager and property owner understand how market conditions can impact [the terms of] lease renewals and relets.  Tenants sign leases because the building, lease terms, and landlord relations enable them to reach future operating objectives; when that stops, tenants relocate to other buildings (which may include subletting their space).  Such facts in mind, thorough market research influences the success of a repositioning plan (e.g., competing buildings, concessions, amenities, asset class).  The asset manager should fully understand how a property competes for tenants, retains them, and what upgrades are worth evaluating to improve ROI from the property.

Current, Transitional, Progressive Economics

Its useful to run economic models of income, expenses, debt service, and capital expenses to determine how current, transitional, and progressive economic plans will affect ROI.  The property owner and asset manager should know what a property could be worth every few years if the owner chose to sell to revise returns from the property (and for the portfolio) and/or reward investors with profits from sale.  Substantial investors in real estate expect to be paid for use of their equity; real estate is a fixed investment that pays a planned return over a holding period of years.  Be aware of how your properties will generate returns for equity partners and how long you’ll need use of their money to generate portfolio returns.  (I recommend reading my post on “Efficient Frontier” to optimize ROI per property.)

Repositioning Plan

Maintain as-is.  A repositioning plan could be achieved by talking with your tenant base about their interest to pay more rent if the property were upgraded.  (Note: It’s likely cheaper them to renew their lease and endure a refresh project than invest time and money to relocate.)  These meetings could identify opportunities to change space allocations, the tenant mix, and lease terms.  Completed results could be used to revise economic projections for the property.

Transitional Plan.  A transitional plan could be useful to renew rents to provide time and funding to build a cogent progressive plan.  A fully leased building provides funding for a fixed number of years to plan to refresh a property.  It also gives tenants lead time to prepare to endure the refresh project, carry out strategic planning to change economics, or carry out a relocation project. This plan is carried out via project management to ensure the objective is met on-time and within budget.

Progressive Plan.  This is your capital improvement plan; the objective is to refresh the property to raise its asset class, perhaps add a mix of uses per floor (e.g., retail, healthcare, office, data center, multifamily or hospitality), realize economic performance in the future, and compete for a different class of tenants.  This plan is also carried out via project management, yet timelines and resources are monitored and controlled closely.  The project must be completed on time and within budget; ROI and promises made to tenants depend on it.

Course of Action

A repositioning plan should explain how alternate courses of action could impact ROI for the property.  The repositioning plan should be compared to alternate choices to evaluate which plan to approve for implementation.  This represents decision support to decide which course of action helps the property owner achieve their investment objectives at scheduled future dates.  The plan to approve should be explained as recommended course of action.  Economic projections and supporting data should be presented in Appendices of the repositioning report.

BREG Team can prepare a detailed property management plan to reposition each property of choice from your portfolio; it’s influenced by a certificate in Asset Management from BOMI and a graduate course in commercial property management from Boston University (based on IREM). If you find the above approach useful to properties in your portfolio, please select the About Us webpage. fill out “Request a Consultation” at the base of the page. Enter “Reposition” in the subject line; please include the name, email address and telephone number of you or your executive assistant in the message body; I reply within 24 hours to arrange an exploratory conference call.  Thanks for reading and listening.###

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