Today Bloomberg announced that Morgan Stanley is doing just that for the second time in 2009. And the Wall Street Journal has had a series of articles on single family home owners and the epidemic of strategic defaults in home loans

More on Morgan Stanley …

Back in the boom days Morgan Stanley made a series of purchases of commercial property from folks like Sam Zell that turned heads because everyone in the industry knew they had over paid. Now the stuff is hitting the fan and Morgan Stanley is simply handing the properties back to the bank and walking away – even though the loans are still current!

• Last month they agreed to surrender 17 million square feet of office buildings to Barclays Capital after acquiring them for $6.5 billion in 2007 from Crescent Real Estate Equities.
• Now they are announcing plans to relinquish five San Francisco office buildings to its lender two years after purchasing them from Blackstone Group LP near the top of the market.

From Bloomberg:  “San Francisco prime office rents fell 37 percent in the third quarter from a year earlier, the biggest decline since 2001, as companies cut jobs, Colliers International said. The vacancy rate rose to 14 percent, the highest since 2005. Almost 1.4 million square feet of space was returned to the market in the first nine months of the year. ”

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Due Diligence is the disciplined process you use to lower the risk of investing in Commercial Property. This risk typically comes in four “flavors” when you are investing in Commercial Real Estate.

• Market Risk: Will the fundamental conditions of this market allow me to meet my return on investment (ROI) goals?
• Financial/Performance Risk: Does the projected financial performance of this property meet my ROI goals
• Tenant Risk: Will these Tenants allow me to meet my ROI goals?
• Physical Risk: Will the physical structure of this property support my ROI goals?

The third area of risk… Tenant Risk… deserves special attention when you are buying Retail, Office and Industrial Properties. These property types carry an additional layer of risk you don’t see in Multifamily because your Tenants aren’t just living in your building… they are doing business within your Property.

Their ability to pay your rent is predicated upon the health of their business and not just on their ability to draw a paycheck.

In order to lower your Tenant Risk you must understand the nature and strength of the businesses of each of your Tenants. Where in Multifamily you might stop at reviewing the Tenant’s background check and payment history… in Retail, Office and Industrial you have to go further and really research the viability of each Tenant’s business. This has never been more important than in today’s economy.

No matter what your Lease says, if your Tenant goes out of business, you will have a vacancy to deal with.

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Researching your Tenant’s Business has several steps…

1) Start with researching the businesses on the Internet.

a) Place the entire business name in quotations (like this: “International Outfitters”) and search on Google. See what shows up.

b) If the company is publicly traded, research their stock prices, analyst opinions and earnings projections. Call the corporate office and see what their plans are for this branch.

c) Do the same thing with the names of the owners and CEOs. Google them in quotes again… like this… “John Doe”

2) Ask each Tenant for current Financial Statements and analyze those carefully to get an idea of the business’ recent and past financial performance.

You won’t always get the financials from a private business owner… and you can always ask. What trends do you see in the financials in the last 6 -9 months?

3) Call each business Owner/Manager and arrange a sit down, face-to-face interview.

One logical time to ask for this interview is when it’s time to go over the Estoppel Letter and confirm its contents. While you’re discussing the Estoppel Letter, you can question them about:

• The strength of their business
• Their outlook for future business
• The challenges they see on the horizon
• How you might help them improve their business when you take over as their landlord

Make note of any concerns you have about the business strength of any of your Tenants.

4) Sit down with your team and discuss ways you could help the business of your current Tenants and mitigate against the loss of any of your weaker Tenants.

The goals here are to help when you can and have contingency plans in case any of your weaker Tenants goes out of business. Identify the businesses with the highest risk of failure and make sure you and your team know what you’re going to do if they actually do cease to be one of your Tenants. AND make sure you create proformas with and without the income from your weaker Tenants.

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You must perform these specific Tenant Due Diligence steps at the same time as you are completing the activities of Market, Financial and Physical Due Diligence for one simple reason…

You could be in the best property, in the most stable market with a glowing Proforma… and if your Tenant’s business falls apart… you will potentially lose money. Take the steps we have outlined here and you will dramatically reduce this Tenant specific risk.

AND never be afraid to walk from a deal if the Seller is not willing to discount the property because of Tenants at high risk of business failure.

Here’s to your investing success,

No-Hype Commercial Real Estate Training   |  Follow me on Twitter for the latest ]]> http://the-commercial-investor.com/commercial-property-tenant-due-diligence-secrets/feed/ 0 http://the-commercial-investor.com/the-office-market-crater-its-different-this-time/ http://the-commercial-investor.com/the-office-market-crater-its-different-this-time/#comments Mon, 23 Mar 2009 14:54:49 +0000 Dike Drummond http://the-commercial-investor.com/?p=240 Globe Street is reporting that the Office Market downturn is deeper and wider than previous dips … especially the Dot Com meltdown. The wider economy is being hit and the impact on nationwide office markets is severe.

The article is based on Foresight Analytics 2009 Office Market outlook entitled “This Downturn Is Different”.

We certainly agree that the only market with decent fundamentals in the downturn is Multifamily.

Here is a link to the Globe Street Article

Here is the link to the Foresight Analytics summary

Great minds think ….

Here is the full post

NOTE: once again we are talking about Apartments and Medical Office properties in very select markets – read … NOT Detroit. You are looking for markets with continued job and population growth … and in the case of Medical Office – strong growth in the older age groups.

Here are the 4 big reasons why Globe Street is hot on Selected Medical Office

1. The Demographics: The aging of the baby boomer population is a given and with 70% of medicare expenses coming in the last 90 days of life … the older the population, the more medical services they will use. Think of the last time you were in the doctors office … what was the average age of the people in the waiting room? At my cardiologist it is about 75 … and those folks are there weekly! As the baby boomers move into their 70’s, this trend will drive healthcare consumption for the next 20 years … especially in areas favored by retirees.
2. Higher Quality Tenants: Your tenants are mostly doctors and other professionals (dentists, chiropracters, naturopaths) or medical support businesses such as X-ray, medical supply and pharmacies. No matter what the condition of the larger economy … these are some of the strongest credit tenants around. Just like people always need a place to live (Multifamily), they also always run into health problems and need a doctor.
3. Easier Funding: Your Commercial Lender is MUCH more likely to lend to a building full of physicians than a strip mall full of nail salons. I know this is a bit of an extreme example and you get my point.
4. Tenant Improvements: TI’s on Medical Office properties are usually very specialized which leads to a high cost for a tenant to move to a new office. You get a more stable tenant base … this makes your lender even more enthusiastic to fund your deal.

Last … here’s one from me since I am an MD myself … most doctors don’t know much about business and are happy to remain tenants in a Medical Office rather than buy and develop their own property. HOT TIP: You can also occasionally find vacant Medical Office Condos on the cheap which you can buy and lease to a Medical Tenant at a nice monthly cash flow.

Think about widening your lead generator criteria to include Medical Office and see what lands on your plate.

You can read the whole article here …