What to Consider Before Investing in Commercial Real Estate

As a real estate investment firm, we’re encouraged by the rising popularity we’ve seen in the industry over the last few years. However, we cannot overstate the importance of doing your due diligence before taking the leap into commercial real estate. By evaluating five key aspects of real estate investing, you’ll have a better idea of which investments may benefit your portfolio and how your capital will be used.

Passive vs. Active Investments

It may seem like an obvious first step, but deciding how much time you’re willing to commit to an investment is critical. If you choose a passive investment, a fund manager will put in most of the work. They’ll act as a fiduciary in actively selecting and managing the fund’s assets on behalf of the fund’s investors. REITs are an ideal passive option for many investors because the minimum amount required to invest is more attainable than investing alone.

Active commercial real estate investments tend to be much less accessible to novice investors because of the resources, experience, and capital it takes to acquire and manage property. They require a high level of commitment; investors are responsible for the big picture as well as the daily minutiae, such as scheduling repairs and collecting rent. On the flip side, active investments give investors much greater control than passive ones.

Location & Valuation

Even if you choose the passive route, research each target asset’s location and valuation . Is the potential investment property close to major highways, in areas of anticipated growth, and easily accessible through public transportation? Is there an opportunity for the owner to increase value through improvement projects and increase the cash flow potential over time? These factors may contribute to determining your investment returns.

Cash Flow

An asset’s cash flow is calculated by subtracting operating expenses and capital expenditures from the property’s revenue. While you may not have exact numbers, you can take a look at things like occupancy and physical condition of the structure to estimate the operating expenses. High occupancy usually means rent will be coming in regularly, while the appearance will show if the landlord is reinvesting in the maintenance and improvement of the property. A higher cash flow generally can lead to a greater return on your investment.

Investing Strategy

When considering investing through a fund, there are many variables to evaluate to determine if the fund’s strategy is a good fit for your portfolio. Other than the obvious items like target geography, asset classes, and investment time horizon, additional considerations are a fund’s focus on sustainability and accessibility. Will the fund focus on sustainable management practices? For example, does the owner have resources in place to monitor utility and materials consumption portfolio-wide, pursue LEED certification, engage with international sustainability protocols, and more. Many investors also look for whether or not a fund sponsor is adopting innovative technologies such as mobile apps to communicate with tenants or online platforms to connect with investors.

Manager’s Experience

Real estate investing involves managing risks such as leasing vacant space, accessing funding from lenders and managing renovation projects. As we have seen in the current climate, risk can also include broader changes in the economy that require hand-on management to preserve and grow investors’ capital during uncertain times. Before investing, make sure to research a fund manager’s track record in navigating economic cycles and review information on the performance of prior investments.

Conclusion

Vetting a potential property’s location, valuation, and cash flow is a necessity before investing in any commercial real estate. If you choose a passive investment, do your homework and research the fund and its target assets. Your due diligence can result in your capital being in good hands and, presumably, lead a better outcome for your portfolio.