Session Plan
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Chapter Nine:
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Retail and Office properties as an investment
alternative
Discuss two retail and two office cases
Mini-Case on the DCF
Office Vs. Retail
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Customers of tenants in office space visit the
property due to having appointments
Retail customers typically are spur of the
moment visitors so the location is much more
important for retail vs. office
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Ingress: Entrance into the property
Egress: Exit from the property
Both should be clear, visible from the road,
and located near major roads and other retail
shopping centers
Office Characteristics
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Class A, B, & C
– specifies features based on construction materials
used, floor and roof structures, fireproofing, quality of
interior finish/amenities, and location
Class A is typically skyscraper quality
– Reinforced concrete framing, superior location and
access, good condition and professional management
Class B is typically suburban office buildings, with brick
façade, and professionally landscaped
Class C is typically older (15-25 years), block walls, notable
physical deterioration (or converted retail space)
Other Office Characteristics
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Could be a medical office building
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Could be a professional office building
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Should be located near the hospital
Should be located in office park or in neighborhoods
of similar quality and utility
Should be located near residential areas where
employees of the tenants live
Could be a downtown office building
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Should have adequate parking, be near hotels,
restaurants, and have good access from major
highways
Office Definitions
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Gross Building Area
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Net Rentable Area
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Total square footage of the building, measuring from
outside wall to outside wall
The actual useable area. The gross area less areas
not rented by tenant (restrooms, public corridors,
janitor closets, etc.)
Absorption
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the net amount of additional office space that is leased
in a year’s time. Can be positive or negative (if new
product is built but not leased)
Office Considerations
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Asbestos has been a major problem in
attaining financing by commercial banks
Should consider the age and condition of the
elevators
The age and efficiency of the HVAC, roof,
and the utilities
Lease terms are typically 3-5 years
Tenants include doctors, lawyers, insurance,
banks, other service sector employment
Retail Properties
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As mentioned earlier, retail properties are
more dependent on the whims of the
customers (rather than appointment oriented)
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Anchor tenants
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Nothing like that appointment at McDonald’s!
National or regional chain store that is the primary
draw for customers to the property
In-Line tenants
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Supporting players relative to the anchors
Domino Clause
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Most retail leases will specify that if the
anchor tenant leaves, the other supporting
tenants have the ability to break their leases
early (for a fee)
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Also known as a “Go Dark Clause”
Sales per square foot
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This is a key measure of performance for retail
tenants. Investors can request last few years of
sales history to gauge success at location (and
the probability that a tenant will renew their lease)
Types of Retail Properties
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Neighborhood Center
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Shopping center containing up to 150,000 sq.ft. of
leasable space
Typically will have an anchor (Food Lion), strong
supporting players (Dollar General), and local
mom & pop tenants (local nail salon or local
restaurant)
There are many of these in most communities
Should determine if the property is experiencing a
positive trend line or a negative trend line
Types of Retail Properties
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Unanchored Center
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A retail strip center which is smaller than a
neighborhood center: does not have a primary
tenant
Think of some of near campus
Outparcel
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Separate tract of land at front of shopping center
Typically includes a restaurant, bank, or movie
theatre
Types of Retail Properties
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Regional Center
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A large mall containing 400,000 square feet of
leasable space (and above)
Usually has one to three major department stores
These types of properties are typically too large
for the average real estate investor
Also require a lot of maintenance and property
management due to the size of the property
Various Shopping Centers
Primary
Type of Shopping Center
Size (Sq. Ft.)
Anchor Ratio
Trade Area
Neighborhood Center
30,000-150,000
30-50%
3 miles
Fashion/Specialty
80,000-250,000
30-50%
5-15 miles
Community Center
100,000-350,000
40-60%
3-6 miles
Regional Center
400,000-800,000
50-70%
5-10 miles
Power Center
250,000-600,000
70-90%
5-10 miles
800,000 +
50-70%
5-25 miles
Super-Regional Center (Mall)
Changes in Shopping Center Returns
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Key Factors:
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Competition entering market
Outdated design and layout
Changes in trade area income levels
Changes in population density
Changes in highway construction/traffic patterns
Projecting Retail Demand
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Primary Trading Area: Measure of potential
revenue of tenants in property from
geographic boundary where 60-80% of sales
in a given area originate
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Based on property size, goods/services offered,
population density, & transportation facilities
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More competition equals lower possible revenue
Good for choosing locations in a given
market
Location of Retail Properties
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Should be near residential neighborhoods
Building should be facing the road vs. perpendicular
to the road
Should be located at an intersection
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Should be convenient to major highways
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Stop light is a big plus
For both consumers and product deliveries
Going Home side of the road (groceries)
Going to Work side of road (coffee, bakeries)
Common Area Maintenance (CAM)
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Typically landlords require their retail tenants
to pay for their own utilities, and tenants
typically will pay for taxes, insurance, and
maintenance of the property on a pro-rata
basis.
The landlord pays for these expenses, and
then is reimbursed by the tenant
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All of this is spelled out in the leases.
Second Story Retail?
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This is very hard to lease
Customers do not want to climb stairs or take
elevators in most cases
Sometimes what was supposed to be second
story retail space is converted into office space
or possibly apartments
In some metro locations, two story retail space
is successful
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Fort Lee, NJ example
St. Catherine’s Street in Montreal
Retail Tenant Mix
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Tenants vary from grocery store chains, drug
stores, dollar stores, restaurants, hobby
stores, etc.
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Which drug stores will survive?
How would you find out about the financial
strength of the tenants?
When would be a crucial time to find this out?
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Remember QQD here….
Tenant Improvements & Leasing
Commissions in DCF
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Tenant Improvements:
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Estimate probability of renewal vs. new lease and
the costs per square foot for each
Calculate weighted average of above x sq ft of
space
Include inflation/growth factor depending on when
in holding period expense is estimated to occur
Tenant Improvements & Leasing
Commissions in DCF
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Leasing Commissions:
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Estimate probability of renewal vs. new lease and the costs
as % of EGI for space
Calculate weighted average of above x % of EGI of space x
length of lease
No inflation/growth factor as this is included in DCF
estimation of EGI for a given year
Should survey market averages for inputs to include
cost of renewal and new lease and length of leases
End of Session: