Value-Add Properties: When are They Good for Your Real Estate Investment?

Europe’s commercial real estate markets keep on attracting investors amid today’s pandemic. Attributed to that fact are the region’s reliable and strong business environment and fundamentals. But why real estate?

Instead of stocks and bonds, investors view commercial real estate as an alternative to diversify their asset portfolio. The industry’s different risks, return of investment profile (ROI), and a wide array of choices make it an appealing investment for them. They can choose based on location, tenant profile, and property type. But for the more adventurous investor, like you perhaps, property management, risks based on market conditions, relative liquidity, and more importantly, the level of return, are the factors that steer you in this direction.

To successfully close a commercial real estate investment deal, however, you need an approach that will provide you with better returns. This is where value-add properties come in.

Commercial Real Estate Investment Segments

There are three broad segments that distinguish commercial real estate properties based on an investment deal’s characteristics. Each segment differs on what risks and returns they can offer.

The first segment, core and core-plus properties, offer less risk but has the lowest expected ROI. The third segment, opportunistic properties, offers the highest ROI but is the riskiest option.

In the middle is the value-add properties. In this article, you’ll learn what it is, how you can add value to your value-add investment, and why it’s a good opportunity to take today.

Value-Add Commercial Real Estate Property

You can see them everywhere in cities and urbanised areas. Commercial buildings that have been left unfinished, empty. They look like bleak monoliths in the middle of a busy centre. Those are the value-add properties.

In investment terms, value-add properties are commercial buildings that have outstanding fundamentals and are within excellent locations but are at some level of financial, operational, or physical stress. Because of this, they have yet to reach their full potential and actual market value as commercial real estate properties.

Value-add real estate properties weren’t originally intended to be the way they are. But because of various reasons such as unsatisfied demands from tenants, costly repair and maintenance, and poor management, they suffer from different kinds of structural issues. Often, these properties have substandard equipment and facilities, and below-market average lease rates and occupancy.

To generate a good ROI from value-add investments, investors must add value to them. This process involves using strategies to either minimise expenses, increase income, or both. Each property, however, will require different sets of strategies. The most common though, include the following:

Renovation

 Commercial office building

All value-add investments will need some level of physical improvement. If it is not improved and properly maintained, its structure will deteriorate and architecture will become outdated. This can lead to a decrease in rent and will eventually fall below market rates.

But if a property simply needs a few improvements, you can also pursue that move. Often, value-add properties lack proper rendering. For that, you can work with a render products supplier to let your property’s facade look clean and smooth.

Sometimes, value-add properties are missing some functional bathroom facilities. Search for companies that can install updated fixtures. These simple changes can add value to your property.

Modernisation

According to a white paper report by Fiera Real Estate, there is a current demand for sustainable and energy-efficient buildings in the UK. You can focus your efforts based on that demand.

Tenant Mix

Choose tenants that complement each other’s businesses. In fact, most businesses like to be near each other because they benefit from each other’s client base. For example, commercial centres with groceries always attract bank branches, quick-serve restaurants, and take-out diners. These businesses benefit from foot traffic coming from the grocery store.

If you have a tenant with a start-up business, consider offering a longer-term lease to get a better ROI.

Market Adjustments

If you’ve acquired a building with tenants and have done improvements on the property, consider negotiating the rent when they renew their contract. Adjust your rates to the current market rate to increase your operating income.

Why Value-Add Properties are Good Investments

IPE Real Estate, a leading commercial real estate magazine in the UK, stated in its May/June 2020 issue that value-add investments provide a 12-14% expected level of ROI. Undoubtedly, value add investments can awaken any investor’s appetite for risk with its increased options and opportunities to earn more. It is a promising alternative to your usual mutual funds and stock market investments.

However, experts advise that investors shouldn’t hold on to a value-add property for long-term purposes. To truly gain a high ROI, you must sell it after applying much-needed improvements and upgrades to the property.

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