Commercial Real Estate – Valuing The Cash Flow

Many investors don’t understand the power of commercial real estate. I too had reservations until I understood the power and safety commercial real estate can provide. Commercial real estate is similar to trucks. Trucks come in all sizes and all shapes – a Ford Ranger to an 18 wheeler. Commercial properties come in all sizes and shapes – a standalone building that houses a small restaurant to the Empire State Building. People read in the newspapers that commercial property prices are crashing. People notice the strip malls have a lot of vacancies and it scares them away. Let’s take a look at the power of commercial real estate and a quick note about market cycles. Commercial real estate is a business and is priced based on current cash flows. For simplicity sake, commercial property pricing is based on 10 x annual cash flow, not including debt service (loan). So a property that yields $10,000 in cash flow is worth $100,000. Regardless of the type of property, if you increase rents by 1% ($100) the value goes up a $1000. Decrease expenses by $100 and the value goes up $1000. So what? Let’s look at a simple apartment example.A small apartment complex (10 units) has an annual cash flow of $50,000 and is for sale for $500,000. It has a lot of long-term tenants paying below market rents. You put down 20% or $100,000 (there are ways to make it someone else’s money). We’ll assume it is a positive cash flow property even with the debt service (loan payments). First a storage area is made into a laundry facility that provides $5000 on annual basis. You just increased the value $50,000. Next rents are raised the first year to market rents. Raising rents $50 per unit increases cash flow $6000. You just increased the value $60,000. That means you have doubled your original $100,000 in the first year and you get to keep the $11,000 cash flow. There are many more ways to increase the cash flow including: separate utilities and have tenants pay utilities, decrease vacancy, work out a deal with dish network and get paid, reduce maintenance costs, and more. Just by raising the rent $10 a year increases cash flow $1200 a year and increases the value $12,000. In three to five years you’ll have cash flows of $70,000 to $100,000 (less debt service which remains constant) and you can sell the property for $700,000 to $1,000,000. Now you see the power of commercial real estate.Just like single family homes, not every property is a good deal. First you look for commercial properties in areas that have improving rents, increasing employment, and areas where the entire area is going through gentrification. Next you look for properties that have a value proposition – rents too low, poor management, ability to install laundry or some other measure to increase cash flow. You would be surprised how many buildings are poorly managed or have below market rents.I’ve used an apartment as the example; however this same model works for office buildings, mobile home parks, strip malls and more. All types of real estate (all types of investment) go through cycles. When the economy is booming for example, the vacancy in office buildings goes down significantly (prices go up). Of course the opposite is true during an economic downturn. During economic downturns more people move to apartments, mobile homes and need storage facilities. By observing these cycles one can move in and out of various positions to minimize risk and increase portfolio value.
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Romance in the Law Office

We’ve all heard tales of office Christmas parties that ran amuck. Coworkers get caught making out in the copy room or a storage closet. Reports of after-hours office frolicking run like wildfire through the halls and floors of businesses. These shenanigans occur in all types of companies.Office romance isn’t only the tipsy pawing of revelers. Coworkers date. They even marry.Does office romance negatively affect office atmosphere and the service provided? I’d like to share a work story, and you can tell me if you think office romance is detrimental.One time, at band camp…no, not really, but it definitely left me feeling LIKE I was at bamp camp…For a time, I worked for a satellite office of a large law firm. I was the legal secretary for a husband and wife team. Being assigned to two attorneys married to each other was…interesting, to say the least. The entire staff could tell in the first two minutes on Monday mornings how their weekends went. If it had been a bad weekend, I was offered condolences.The thermostat which controlled both of their offices was located in husband-attorney’s office. My desk was conveniently across from their doors. One particular “bad weekend” Monday morning, Mrs. Attorney came out to my station and said, “Would you tell HIM to turn up the heat, I’m cold,” and returned immediately to her office, shutting the door firmly behind her.I stopped typing, fully aware that our close proximity created the strong likelihood that Mr. Attorney had already heard what she said. I was also aware that the secretary behind me had stopped typing as well. The day’s antics had begun.I stood up, smoothed my blouse, and ventured into Mr. Attorney’s office. He was typing and didn’t immediately acknowledge my presence. Finally, he said, “…yes?” I dutifully delivered the message. Silence reigned. Well, silence reigned in those four walls. I heard shuffling and whispers as staff began clustering near my station.Mr. Attorney swiveled his chair to face me, peering at me over his glasses. “Do tell, if you will, my lovely wife that if she had dressed appropriately for the weather, she wouldn’t now be complaining that she is cold.”Silence reigned everywhere.I walked out of his office. Exchanging glances with my coworkers who were poised to scatter but too curious to immediately beat a retreat, I veered right and knocked on Mrs. Attorney’s door. I gained entrance, and dutifully delivered the quoted reply. Silence reigned again. Coworker shuffling had ceased at that point. All ears were at attention.Mrs. Attorney said, in a voice an octave higher, “Will you please inform him that my state of dress is none of his business and that if he ignores a reasonable request it will not bode well this evening.”I returned to Mr. Attorney’s doorway, repeating Mrs. Attorney’s words. His response was, “All reasonable requests are considered. It is the unreasonable requests that are denied, in toto.”I updated Mrs. Attorney and announced that I was going back to my desk, to work (while wondering if emphasis on “work” filtered through).My fingers typed senseless words on the screen as the thermostat dance began. She walked in his office, flipped the control and went back into her office. The sound of the heat kicking in muted the return of coworker shuffling. They backed away but remained a rapt audience.His chair squeaked as he got up, turned the heat off, and sat down with more squeaking.Heels clicked (which was pretty amazing since the floors were carpeted) as she made another control-flipping appearance.I chose to take my morning break earlier than usual that morning.Yes, I believe office romance definitely affects office atmosphere. Based on my personal observation, it affects client service as well.