Types of Commercial Property Loans
The property market is in contraction and investors are fleeing from the market in droves. Yet while residential property is struggling, commercial property is performing strongly and continues to demonstrate its sturdiness as an asset class.
The commercial sector boomed throughout the pandemic as consumers embraced e-commerce to stop the spread. Over the 2021 financial year, industrial and logistics assets needed to transport consumer goods delivered growth returns of 16% and total returns of 20.6%. Recurrent lockdowns created abnormally high demand which overstretched supply chains. This increased the value of logistics centres, warehouses, and factories – which have long been the backbone of distribution.
There are lucrative opportunities in commercial real estate, yet it goes beyond the traditional ‘big industry’ components. It is a broad church with options available for all types of investors.
Investing in office space or a business park gives you access to strong yields and high capital growth. Offices typically attract high quality tenants from professional services firms, increasing the likelihood that they will look after your property and pay on time.
There are increasingly high standards for design and amenities, including collaborative spaces, kitchens, security, and aesthetic lobbies.
You can expect a high initial cost to build and fit out an office space but will be rewarded with attractive rents locked into longer term leases. This ensures you have a steady stream of income even if the economic environment changes abruptly. A downside would be the inability to capitalise on increasing rents in a boom period until the lease has expired or renews, and the initial incentives that tenants expect. This includes a rent-free period or discount period.
Retail spaces are those used to promote and sell consumer goods or services. A ‘retail’ investment is a catchall term, including service stations, beauty salons, restaurants, supermarkets, and clothing stores. They are smaller and less expensive to build than offices, reducing barriers to entry for investors and making them a popular asset class. Furthermore, demand from tenants is often very high in space-constrained markets such as Sydney or Melbourne, giving investors peace of mind in finding a tenant.
Retail’s popularity among investors creates competition and forces landlords to lower the rents they charge to attract tenants. As a result, yields are typically lower than they are for offices.
Location is a crucial factor with retail investment. Tenants want spaces on high streets, near other businesses, or close to the city. They do pay a premium per square metre, but only in areas with high foot traffic and high profit potential. Beyond location, fit out is also an important consideration. Businesses will want to update the space every few years as consumer preferences change.
Investors should note that retail investments can be dependent on economic cycles. In boom periods landlords can increase their rents and expect low vacancy rates as many businesses want to open shop. On the other hand, bust periods can deter businesses from opening, extending the amount of time retail spaces are vacant for and making payments less timely.
Industrial property includes any space used in the manufacturing, storage, or transit of goods. Think of warehouses, factories, research facilities and workshops – the vital ingredients to our multi-billion-dollar production and logistics industries.
As industrial properties are highly specialised, often developed around the needs of clients or industries, the construction and maintenance are very expensive. They also demand the highest time commitment of all commercial property types. As such, they are only suitable for investors with deep pockets.
However, high upfront costs are rewarded with strong yields. There is a limited stock of quality industrial property and tenants are forced to compete for suitable properties, raising prices in the market. Furthermore, as industrial property is so specialised, tenants often sign multi-year leases. This provides regular income and a greater level of rental security.
As we emerge from the pandemic, industrial real estate has undergone a complete metamorphosis. There are new fit out considerations including: increased automation, a need for greater surge capacity, and improved integration. Some tenants may take on these costs as these can be quite specialised, and this allows them to retain flexibility to move to a future location. The supply challenges we experienced during lockdowns and the rise of e-commerce have created enormous demand for industrial assets and present untapped opportunities for investors.
Where to go from here?
Taking out a commercial property loan is a big responsibility, so make sure you do your research before deciding, including research into lenders that can help you.
If you want to know more about our commercial property loans, contact us today. Sparrow Loans is a private lender specialising in property loans, property-backed business loans, and bridging loans.