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Commercial property tips for 2012
South African prime commercial properties are expected to perform better this year when compared to the not-so prime properties, according to FNB.
The FNB Property Barometer report on commercial property aspects for the third quarter of 2011 saw a rise in all commercial property average price growth.
The same quarter also saw a very slight rise in the average capitalisation rate but more significantly the FNB All Commercial Vacancy Rate Index rose from 93.6 as at the Q1 2011 to 97.7 by Q3 2011, the highest vacancy index reading since the fourth quarter of 2005.
Writing in the report, FNB property strategist John Loos says should this rising vacancy rate trend continue, it could be expected to dampen rental income prospects.
“This would also lead to a more noticeable rise in capitalisation rates, which in turn could be expected to exert downward pressure on price growth.”
He explains that 2012 looks set to be a weaker global economic growth year than 2011 and the weak economic growth is expected to exert upward pressure on commercial property vacancies.
Higher vacancies will lead to anticipation of an increase in capitalisation rates which in turn could exert downward pressure on real commercial property values, he says.
“We believe that a further sign of possible looming commercial property price weakness is the slowing in year-on-year price growth in the residential market in recent months.”
Loos says while commercial property is not believed to be as over-priced as residential and its yields are estimated to be higher than residential, it is subject to the same interest rate and economic trends as residential.
This generally tracks the direction of residential price growth trends with something of a lag.
“Economic indications are that commercial property could be in for a challenging year in 2012.”
After a mini-recovery in 2010, the Investment Property Databank (IPD) reported declining commercial property returns in the first half of 2011.
During this expected period of weakness, if one could generalise, it would appear that prime properties/areas look set to hold up better than the less illustrious ones, he says.
The IPD report indicated a significantly more rapid rise in office vacancies of Central Business Districts (18.1 percent in the first half of 2011) compared to de-centralised nodes (10.4 percent).
In the case of retail, it has been the smaller community (8.1 percent) and neighbourhood (10.2 percent) shopping centres that have seen more noticeable rises in vacancy rates, while regional (3.2 percent) and super-regional (2.4 percent) shopping centres remained at far lower vacancy rates in the 1st half of this year.
Despite gloom statistics on commercial property, there is seemingly a growing interest from investors wishing to buy commercial property rather than residential property.
According to Jason Lee, national manager of Commercial this interest is understandable because in most cases, returns on commercial are far higher and often double that of residential property of approximately the same price.
“Commercial tenants are also far easier to evict than residential tenants if they default,” he says.
If you are interested in investing in commercial property this year, Lee has the following tips:
- look for residential property located near other residential homes and already rezoned for commercial purposes.
Also check out properties on a busy road where a conversion to commercial property would be in the interests of the community and likely to achieve council’s approval.
- when making an offer for such a building, it should be subject to the departure application being successful.
This might involve buying the unit and waiting for a few months, if several units in the area have already been granted departures the wait is usually short. The buyer cannot afford to risk the application being turned down.
- an advantage of this type of building is that should it then prove difficult to secure a commercial tenant, it will usually be possible to find a residential one.
As the building would have been originally zoned for residential use, banks will, whatever the outcome, in most cases give the bond on a 20 year basis whereas on commercial property, it is likely to be for no more than 10 years.
- another option is to look for newly developed sectional title units in an industrial park or office complex.
New or upgraded parks and complexes are particularly popular currently and recent bank data suggest that they have weathered the storm better than second grade properties.
- the so-called strip or convenience centres are fast becoming attractive to investors.
This is where it is sometimes possible to secure two or three retail outlets all of which may be benefiting from the presence in the centre of a draw card anchor tenant such as a popular supermarket.
Such centres must have adequate parking as experience has shown that they never perform satisfactorily if this is lacking.
- when the new owner starts looking for a tenant, it is important that the tenant is thoroughly checked and get references from at least three previous landlords.
- when a lease agreement is drawn up, it is essential to get two to three months rental upfront as a deposit against damages or sudden desertion as well as for unpaid municipal services.
The wording of leases has to be watertight in terms of the new Companies and Consumer Protection Acts.
Lee says owners should not be put off by the tenant who haggles over every clause in the contract.
This tenant is likely to be a good payer, the tenant one should be wary of is the one who signs every clause without carefully reading through.
He adds that experience has shown that such people are likely to be equally slack about paying their rent.
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