I posted this in the "off topic" section and got no replies:
This is a situation that is not typically seen on BP. I am a partner in a small business. We have three locations currently and we rent all three spaces. We are considering opening a fourth location by constructing a building. We do not plan to have any tenants in the building other than our own company. We would plan to take our current main location which is the largest and downsize in the same business park. The building that we have built would become our new main office. The new building budget to complete it is about 2.5M. We have been all set to move forward with this plan until today when our current landlord brought up the possibility of us moving to another building in the same office park as our current main office. We would be able to rent that location for about 10k a month. This would cause us to not build the new building and only put a satellite office where we were going to build the new building.
There are two scenarios that we see.
1. Build new building for 2.5M that we own and open a smaller office where our current main location is that would cost about 2k a month. The building would cost about 17k a month for 25 years.
2. Rent a small space in the area where we currently plan to build our building. That rent would be 2k a month. We would then rent a new space in the same park as our current main office for about 10k a month and have that be our main office.
Assuming both situations work just as well for the company as far as patient treatment and meet all other needs, which would be the best move financially moving forward for my partner and I? I know that there are many things to consider. I am looking for feedback from anyone that thinks they can help. I invest in residential real estate as well and know that is what BP is for, but I thought there may be members with expertise to weigh in on this issue as well.
I look forward to the discussion and if a moderator feels that this discussion would fit better in another area of the forums, please feel free to move it.
What does your accountant say?
So far my personal accountant and our company accountant have pointed out positives and nevatives for both situations. They have not provided any definitive answers.
Are there existing buildings you could retrofit for cheaper than building ground up? What about an SBA loan? Generally if the business occupies 50% or more of the building you can get an SBA loan on it.
You could buy a building to own it and then later if your company needs operating capital again look at doing a sale leaseback with a long term lease in place. The difference is since you own the property you can try to dictate under what terms you would do a sale leaseback.
Through personal experience, I would say definetly do it.
I opened a small retail location in 2003, and have been renting an 1800 square foot facility for the last 15 years. 2 years ago I planned a second larger location, 10,000 square feet, and this time I built a building from the ground up that I will own after I'm done with the business. Over the next 20 years (hopefully less) the business will pay for my building.
Years down the road when I sell the business, I will still own the buildin 100% free and clear. And hopefully at the sale of the business, I will have the new owner sign a 5 or 10 year lease also. Looking back, it would have been nice to do it with the first shop, but financially there's no way I could have bought a building and started a new business, just too much risk and capital involved.
If your business seems to be doing well enough to have that buy or lease option, I would definetly say buy.
Thanks Joel. We looked into a SBA loan, but have since found even better financing. There is a local small bank that is trying to grow into our specific area and is really aggressive. They are offering 100% financing on the new building. This makes it even more attractive. I like your idea of having the sale and leaseback as an option down the road. We honestly hadn't thought of that. There are some buildings around that are the size we need and could be changed to fit our needs. We want to build in this specific park that has a lot of medical buildings and is in a great location. Some of our big referral sources are in that same park and it would be a great fit for us to be there with them.
Thanks for the reply Andy. I was hoping that someone on BP would have some real world experience with the same situation. I like the idea of the company paying for the building over time. The obvious major concern is how to I ever make money on the deal in the end. The plan would be to sign a long term lease with the company before I sell the company off to someone. If the market is right, I could also sell the building at that time. There are so many things that play into the decision, but I am certainly leaning towards the buy option.
As far as making money in the end goes, it can go a few different ways.
I can have the person who buys the business sign a multi year lease, in my case the building is renting (2017 $) for $8500 per month. So hopefully it goes this way, if not, then I will hire a broker to lease it out to another business. Or sell it, hopefully in 15 to 20 years it will be paid off and worth 1.5 million or so, and that will be a big chunk of change. I tend to think of it somewhat like a rental house, have the tennant (my business) pay it off for me. I know it's kind of all the same money, but on paper the business money is different than personal money.
The cost per sqft of new construction typically is much higher than renovating or stripping an older building. If you build new, why not go the route of building a few additional spaces to rent out to other businesses?
Robert, it has already been mentioned here but the benefits of purchasing your space and then leasing back to your company is a very common scenario I see. I have seen many businesses sell their operations but keep the real estate down the road.
As for financing, I would be very leery of any bank that offers 100% financing without the use of a government-backed program such as the SBA. Small and aggressive are not characteristics I would look for in a bank partner. Otherwise, a 90% financing scenario would be much more typical in your situation.
Thanks again Andy. I do agree that if your business has to be located somewhere, it might as well be paying for real estate that you end up owning. It provides multiple opportunities in the future.
Dan B, we have considered building extra space on the building for tenants. I invest in residential real estate, but have never invested in commercial. My thoughts are that I want to stick to what I am good at. That is currently residential real estate and our current business My partner and I would have to decide if we want to be commercial landlords. I do know how that could help to offset some of the costs going forward.
Dan W, I am interested to know more about your concern with the bank offering 100% financing. This is my first deal of anything this size or type. Would the concern be that the terms would be ridiculous? Would you be concerned that the bank could go under?
I vote to go for building your own structure. Rehab is an option if you don't have any specific build out needs, but if you have 100% financing (which I think is great and common with aggressive banks), it reduces your risk tremendously.
I have no issues with small aggressive banks...plenty of them down here in Texas.
Thanks for the input Ronald. I have thought that the 100% financing could be great for us. We have a 10% down payment set aside, but it would be nice to keep that around as operating capital in case it is needed.
We have been in similar situations and I think there is a pretty simple way to find a solution. Fast forward 10/15 years and see what each scenario yields. Try to take into account as many factors as possible, future value of property, total lease payments, NNN expenses and don't forget tax implications for each scenario. A lot of it depends on time frame. If you are getting out in 5 years, a sale leaseback may be great. If you will be around at this location for 15+ years, maybe investing in the ground will pay off.
I own a small business and we have been renting space in various buildings for over 20 years. I also have exp. with residential real estate a bit. While I think it would be great to own a building, I would definitely look at the potential growth of commercial space demand in your area before committing to buying. For example, my building and the one next door is about 40-50% vacant, because demand is soft... EVEN in a city which is strong economically (I dont understand it.).
After doing your DD, if you determine that there will be demand, I would go with the buy option... It's nice to pay yourself rather than paying your landlord. Commercial is an entirely different animal than residential and you really have to know your stuff.
For me it comes down to - do I want to be a commercial landlord or do I want to put that time into running my business. Everyone has a different plan.
@Robert Siverd In my opinion, more than the financial decision, you have to first decide what you want to do. Buying or leasing are both attractive options but without having the end goal in mind, it is hard to decide.
Ash, I can run those scenarios out for 15-20 years. The issue is what will the property be worth in the future. Nobody can know that, but it is probably the most important factor that would determine which option would be most lucrative.
Sanjay, I appreciate your thoughts. There is a strong demand in my area for commercial space currently. There is a lot of demand in this specific park as well. There are only a few lots left to purchase in the park. I believe that values will only increase over time once the land is all purchased in this park. Purchasing would give me options in the future as there will be extra space on the land to build out for commercial leasing purposes.
Omar, I think you are down to the core of the decision. What do I want to do long term with my career. Purchasing would tie up more cash each month from our business which is less that would go home. This would limit my ability to grow my personal real estate portfolio without including other investors. I am strongly leaning towards building the new facility as it will give me a lot of options in the future. The tax implications would be great in the first few years of owning the building as well. The one major key would be to go out and get a lot more revenue for our business that would make all projects possible at one time.
Being from a business family, I understand the predicament you are in. In my opinion, it boils down to 3 things:
- 1.Which path will provide more growth?
- 2.Which path will provide more flexibility?
- 3.What balance are you seeking between growth and flexibility?
Don’t let the tax or portfolio implications worry you. Focus on growth, flexibility and balance and work backwards.
My two cents: In more cases than I care to count, you should focus on your existing business and growing it as fast as possible. Then using the capital your business generates to aggressively invest in your real estate portfolio. It might be an unpopular opinion on these forums, though :)
Robert, my concern with a bank offering 100% financing without either requiring other assets to be pledged and/or using a government-guaranteed program like the SBA, is that 100% financing is not "prudent and commercial reasonable" lending. That's a phrase I picked up while I worked at the FDIC during the economic crisis and was responsible for reviewing and resolving billions of dollars in failed bank assets.
Unless there is some sort of other consideration such as additional collateral, etc. these small, aggressive banks are not around long or come under regulatory scrutiny with a cease and desist order.
If you are concerned about maintaining working capital, then there are ways to finance working capital into the project. This is a very common scenario whereby the cost of acquisition, moving, build out, etc and just additional working capital for whatever is included in the project costs. No lender wants a new borrower to be cash poor after closing on a deal.
@Robert Siverd I relate most with Ash's comments about analyzing it on a set time frame, and to Omar's boiled down questions. I would add that you or your accountants might consider (you may have this already) about how much money can you make from additional dollars invested in your own business. Many businesses can make a higher return than by investing in real estate. Real estate is a relatively safe low return if done competently and carefully by people that are not industry professionals. So, I'd compare the 10-25% down payment to other projects in your own business - what would those returns be like. e.g. investing in business development, training, new technology, etc. Often, the reasons to go with the low return real estate play have to do with control, diversification and asset protection rather than purely financial reasons.
Omar, I like the way you made me think about the situation. Building the facility would be the best option for growth no doubt. In terms of flexibility, the building gives me more options later on with owning the real estate, but takes away flexibility from our company since we won't be able to move easily like we could if renting. I don't think we will need to move from there, so I would like growth a lot more than flexibility. I totally agree with you in growing the business as quickly as possible along with then being aggressive(but disciplined) with real estate.
Dan, the bank does require that we guarantee the loan personally along with our business guaranteeing it. I assume this is how they can offer that deal.
Whit, thanks for taking the time to chime in. In regards to ROI with the same money, the 100% financing really frees up our capital to use on other projects. We are going to be investing soon into a new technology that is expensive. We are lucky enough to have the cash on hand to soak that cost up as well.
We are continuing to move in the direction of constructing the new building. I have a new question for the forums. The appraisal of the building will be done soon and is going to have a big impact on our financing options. One bank is telling me that appraisals tend to come in lower than the actual cost of a building. Another bank is saying they have seen the appraisal come back at more than the actual costs more often than not. Does anyone have any experience to say which way they typically see that go recently?
You're most likely not going to get a solid answer to your question. An appraisal is generated by a human.... humans have opinions, biases, make mistakes, don't care, get busy, etc etc.... could be lower, higher or what you expected.
What you may want to consider is hiring the BEST local brokerage firm to provide you a BOV based on your completed project with solid back up documentation. I would suggest to pay the broker to complete the BOV (whatever cost they want within reason... don't cheap out tho). Guide that broker to provide you a price point that is supportive of your business plan. When the time comes for the appraisal you will be prepared to have the conversation with the appraiser and point the (human) in the direction you want him to go.
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