Commercial property offers better value than its residential counterpart. Abundant supply creates a fairly open playing field and better economies of scale. Commercial tenants also sign longer leases, which generate more cash flow than residential ones. Combined with bigger tax write-offs for commercial properties, commercial investors see bigger returns.
However, despite the relative ease of investing in commercial property, strategic thinking helps maximize the value of one’s purchase. Like with any other type of investment, the aim is to “buy low and sell high.”
So when is the best time to buy low? The answer lies in the real estate value cycle. Prices rise and fall in four stages: recession, recovery, expansion, and contraction.
During recession, property prices are low but financing becomes scarce or expensive. Commercial properties also have higher vacancies during this time. Nevertheless, because sellers are more likely to negotiate a lower price and the general price trend typically falls below replacement costs, this is the best time for buyers with high liquidity to invest.
However, potential investors in this stage should note that in addition to having enough cash to purchase a commercial property, they should also have extra reserves to pay for carrying costs, expenses associated with running the property while vacancies are high.
As the real estate market improves, it enters the recovery phase. More tenants return to the market as confidence in it increases. Property owners can also expect better financing options during this time. But because property prices have not yet reached a zenith, this is still an excellent time to buy commercial property, especially for those buyers who will need a mortgage.
Nevertheless, a good level of liquidity remains important at this stage. Most commercial lenders like to see a 30% down payment before they will green light a loan. Even if they require less, commercial sellers traditionally require at least a 20% down payment for a deal to be struck.
Once recovery is complete the market begins its expansion. At this point, vacancies are low and financing becomes readily available, but the price of real estate may jump higher than its maximum during previous expansion phases. For investors who already own commercial property, this is the best time to “sell high.”
Though it is possible for buyers to find a good deal during this time, rising prices make doing so more difficult. Potential investors should be more mindful of their specific needs and price trend indicators if they are looking to purchase during this stage.
Eventually, the real estate market begins to contract. Vacancies increase and property prices start coming down. Because the market was oversaturated during the expansion phase, financing becomes more expensive and harder to get. Purchasing may be a good idea, but prices will be lower in the coming recession phase.
Unfortunately, there is no set duration for any of the four phases, and sometimes the early stages of each are difficult to ascertain. Nevertheless, at some point the signs that indicate each stage become clear, allowing potential buyers ample opportunities to form their investment strategies.