Commercial Property Good Investment – The value of commercial property investment in the UK reached around half a trillion pounds in 2018 and continues to rise. In 2016, the Property Industry Alliance found that commercial property in the UK was worth £883 billion, representing around 10% of the UK’s net worth.
As we can see, the commercial property market in the UK is quite large, but in such a deep forest of opportunities, how can you see the wood from the trees when it comes to finding commercial property investment opportunities?
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Real estate or commercial property is real property used for commercial business purposes. Residential property, such as houses and apartments, are not commercial buildings and have only limited legal uses permitted as far as business activities are concerned. Commercial buildings have different use classes, according to the use class order, which allow more business-related activities. Conversely; commercial buildings are uninhabitable unless they are mixed use (eg shops with apartments above).
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Commercial real estate investment involves the exchange of money in the form of a purchase for a commercial building. Both freehold and commercial building leases are forms of commercial real estate investment, depending on the end goal.
Businesses can invest in commercial buildings for use, while also benefiting from subsequent sales or the installation of new tenants. Commercial buildings can also be flipped quickly, a bit like residential ‘fix and flip’ type investments.
The closest comparison to commercial real estate investing is residential real estate investing. Both residential and commercial real estate investments are often compared to investments in the stock market. Investopedia compares real estate and stock market returns and since this is a very difficult comparison to break, real estate investment returns are generally better than stock market investment returns.
In a sense, the volume of UK investment in commercial property speaks for itself. It is a diverse but strong investment sector that gives investors a special kind of control over their investments given the combination of bricks and mortar and broader industry-specific, national and international trends.
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The classic characterization of commercial real estate investing is risk and reward due to greater market volatility – people always need a place to live, but they may not always need a steel mill. Conventional logic dictates lower risk = lower potential return. This is true to some extent, but in reality the situation is more nuanced.
If commercial real estate has a higher return than most investments, surely it is very risky? It certainly can – it depends entirely on the building in question, the location, the class of use, the tenants and of course the investor’s knowledge and professional advice.
In recent years, several off-plan commercial property investment schemes have gone completely off the rails, often leading to investor shortages. This is largely because investors do not know what they are getting into.
Some of the risks of commercial real estate investing are offset by typical commercial lease terms, which are longer (5 years+) than residential leases. But this again depends on finding reliable business tenants. During the outbreak, many commercial (and residential) landlords were forced to take legal action against tenants who failed to pay their rent.
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Highly successful business tenants are like gold dust to commercial investors. This is when the best returns can be obtained.
In 2021, commercial property yields will average just north of 5%, according to Savills. The gap between low-performing commercial real estate returns and high-performing commercial real estate returns has narrowed.
The highest returns were seen across the retail and leisure sectors, but market sentiment here was generally muted as questions about the post-shopping recovery persisted.
The rise of e-commerce has increased the demand for all types of storage, logistics operations and warehousing services and this is where the current demand is increasing.
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AJ Bell’s Laith Khalaf told This is Money that e-commerce-related supermarkets and commercial buildings have thrived throughout the pandemic, and as the e-commerce boom shows no signs of abating, it will continue.
Shopping centers and supermarkets are considered very strong investments with returns averaging nearly 6%, but warehouse and industrial market sentiment is stronger, according to a report by Knight Frank.
The Class of Use Order sets out the legal definitions of various buildings in the UK together with their permitted uses. The traditional categories of commercial buildings are:
Leisure: The UK has a vibrant tourism industry and demand for hotels for business travel remains high. The coronavirus pandemic is hitting the tourism industry and hotels are bearing the brunt. However, analysts are hopeful for the future prospects of the UK hotel industry, and hotels will remain a target for investors.
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Warehousing: The warehousing and logistics sector is currently very strong, largely due to the rise of e-commerce and the high demand for warehousing and delivery services. The rise of e-commerce is not slow and it is difficult to predict a decrease in the demand for warehouses, especially those located in all positions in urban areas.
Retail: Shopping centers and other retail buildings traditionally hold some of the strongest commercial real estate income. Like many other industries that rely on walk-in customers, the retail sector has been damaged during the coronavirus pandemic. Nevertheless, market sentiment for the future is relatively high as customers enjoy an omnichannel retail experience that aims to revitalize the high street.
Healthcare: The healthcare sector has become more accessible to investors as the private healthcare sector in the UK grows. Knight Frank’s recent focus on healthcare property investment demonstrates this. Nursing homes and day care centers remain popular commercial real estate investments.
Land: Land is not a pure commercial property market, and tends to fall into its own specialist investment category. Land buyers can benefit from land lease or sale for development purposes. Land investors will try to predict regional demand for land with development in the commuter belt a popular target.
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Flex: The post-coronavirus era has created new space for innovation in the commercial real estate market. That said, flexible workspaces and collaborative work environments have really skyrocketed in popularity. Knight Frank continues to cite flexible workspaces as some of the most attractive commercial property investments of the future.
Commercial property market staples for investors are office, retail, leisure and warehouse/industrial, as well as mixed-use residential and commercial properties. Education, healthcare and others
The commercial property landscape in the UK is changing. We live in an unprecedented era where the rise of work-from-home setups and flexible working has irreversibly changed the commercial real estate market.
Offices may face the worst decline in revenue combined with the highest vacancy rates, but for potential investors, flexible workspace is essential.
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Flexible workspaces were already appearing in office investment portfolios before the pandemic, but they are now taking center stage with several opportunities emerging for smart and nimble investors who have money to spend on furnishing offices with flexible space technology.
The emergence of emerging trends combined with the low interest rate loan market is attractive to investors willing to take a little punt.
In situations 2 and 3, the investor does not need a mortgage or any type of regular real estate financing. Direct investment usually requires financing, unless the business is a cash buyer.
Commercial mortgages vary depending on the risk involved in the investment. The mortgage provider will look at how easily the rent and/or income from the occupying business can repay the debt. Commercial mortgage rates tend to be higher than residential mortgage rates because of the increased risk to the borrower, but it’s hard to generalize.
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Mezzanine or bridge financing can be used to add value to an investor’s equity. Immediate financing allows investors to act on a building without letting it out immediately, which is useful when building renovations, upgrades or changes in Use Class are required. Property development loans are another option for investors who want to develop a property before renting it out to new tenants. This can enable the lender to project the future value of the property(s) once development has taken place.
The lending environment is currently very strong in the UK. The Bank of England kept the base rate at 0.1%, thus encouraging borrowers to ‘turn on the taps’ to encourage development and growth.
Low interest rates may be synonymous with a low-yield environment, at least in a general sense, but analysts believe the low interest rate environment creates an attractive situation for commercial real estate investors, especially those targeting flex or other next-generation properties. .
When it comes to direct real estate investing, it is common to use a commercial real estate investment agency or consultancy rather than going it alone. But for smaller commercial real estate investments, it is possible to invest on your own, or to partner with one or two other investors.
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Examples could be mixed-use retail and small residential units. These can be found for as little as £150,000 in the north of England, Scotland and Wales to £1 million or more in Greater London. This type of small scale commercial investment property is ideal for those looking to buy with cash or a small mortgage, renovate and trade if necessary,
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