The Pros Are Buying Below FMV Right Now. You can too, with STP.

The Pros Are Buying Below FMV Right Now. You can too, with STP.

For all you up-and-comers in the real estate investment game, Cardinal has some strong words of advice: lingering in the wings for a neon “invest now” sign may mean watching prime opportunities slip through your fingers.

If it hasn’t registered yet, you should know that there are many savvy real estate investors out there, including Blackstone, who believe that right now there is a “generational opportunity in commercial real estate” (Nadeem Meghji-Global Co-Head of Blackstone Real Estate – watch his Wall Street Week interview here).

We have had two very difficult years in commercial real estate, for sure. The primary reasons for this are twofold. First, the giant upward pressure on interest rates is a substantial impediment for investors who have loans coming due. Second, the impact of work-from-home trends and the subsequent paradigm shift of what it means to “go to work” has changed the office market like nothing before.

All of this has resulted in many negative headlines, which will continue for the next 24 months. According to data from real-estate consulting firm Colliers, the U.S. vacancy rate has risen from 11% in late 2019 to 17% today, higher than at any point in the 2008 global financial crisis. Pressure is building slowly as leases expire: Many companies are reducing their space by 30% to 40% when their leases end.

America’s office fire sale has barely begun. Thanks to optimism and forgiving lenders, only 3.5% of offices sold last year came from distressed sellers.

But many savvy investors are not waiting for the bottom of the market – they’re suiting up and  diving in now. Opportunistic investors are eagerly jumping off the sidelines with fresh offers of debt. Reven Capital is trying to raise $1 billion in a blind-pool initial public offering for an office-focused distressed lender.

“It’s 1929 for offices,” says Reven founder Chad Carpenter. He thinks distressed-debt funds will be able to lend at very favorable terms as banks have pulled back. Blackstone, BrookfieldCohen & Steers, and Manhattan landlord SL Green Realty are also bullish about distressed real-estate lending. Ironically, Blackstone and Brookfield are simultaneously handing back keys to some of their offices!

The bulls feel that the market’s stress has been priced into the assets, and they cite compelling evidence that we are at the bottom of the market – such as data showing all-in borrowing costs have decreased by 200 points over the past six months and transaction activity is building momentum.

Offices will be “the buying opportunity of our generation,” provided investors pick the right locations, says Mike McDonald, a senior managing director at real-estate firm JLL. Ultra-wealthy families and local property developers are among the earliest investors gearing up to buy cheap buildings.

What Should a Rookie Real Estate Investor Watch For?

If you’re waiting for clear skies in the CRE world, you may as well wait for a unicorn to appear. It’s the STP principles that should guide your decisions:

Seller Circumstances can present timely opportunities for a buyer to purchase at below FMV:

  • Look for quick deals where the seller has less time to market the property.
  • Look for sellers who wish to avoid the limelight, are politically sensitive, and seek to sell their assets discreetly.
  • Probe the seller’s motivation and seek those with few alternatives.
  • Recognize passive, nonprofessional real estate investors, investors without a broker, or brokers out of touch with the market.
  • Identify sellers who express fatigue with the asset.
  • Find deals where the sellers have owned it for a short time with a high basis.

Here’s a fresh scent, courtesy of Cardinal, for you to pick up. We see deals that are available at below FMV in a few distinct property types in the Carolinas: (i) small bay flex buildings, (ii) small, partially vacant, infill retail, (iii) large single-family residential in rural areas, (iv) off-market land offerings from religious and fraternal organizations, (v) distressed class B suburban office space.

Transaction Structures often reduce the amount of competition and provide comparative advantages to well-positioned buyers:

  • If you can underwrite and execute portfolios with one or more assets, ideally in different markets, you will be above the fray.
  • “All-cash buyers” are rare in CRE, but you can structure offers that are equivalent to cash or borrow with low LTV short-term debt if you have dry powder.
  • Time is money, and more valuable than ever – entrepreneurial buyers who can complete due diligence quickly will have particular advantages.

At Cardinal, we execute deals with many encumbrances, such as leases, contamination, mortgages, and easements. In times like these, we move quickly and structure deals on complex assets. Our clients are savvy—they know to ignore prognostications about “V-shaped recoveries” and buy solid assets you can hold long-term with a plan to create hands-on value.

Property Characteristics are the real “devil” in the details, and it’s where hands-on buyers get the most upside:

  • This may sound sophomoric to the pros reading this article, but look for functional class B and C buildings with vacancies that can be relet at higher rates.
  • Buildings in non-prime locations are typically harder to keep fully occupied. For buyers on the pulse of a submarket considered Tier 3, it’s possible to achieve superior terms with fewer competitors.
  • Specialize in a unique property type, such as truck terminals and data centers. Fewer investors deeply understand these types of specialty properties and, as such, they have limited marketability and few competing buyers.
  • Typically, a management-intensive property is viewed as less attractive to buyers. Savvy buyers can succeed here but only in one way: excellent management capability.
  • Properties with deferred maintenance find few buyers. This is particularly true when the problems are environmental. However, the best investors can successfully quantify actual risk and cost, manage obstacles, and effectively remediate even the biggest messes.

Don’t let the fog of uncertainty squelch your ambition. Cardinal Partners invites you to harness the nuanced opportunities of the CRE market with our STP Scorecard™. Sharpen your investment acumen and unlock potential in a landscape rich with both possibility and peril. Sidestep clarity for action and reach out to us — let’s chart a course for enduring value and strategic success in commercial real estate.

We offer our thanks to Gary T. McDermott of McDermott Law, LLC, for spurring this valuable dialogue. Your insights and participation fuel our collective triumph, and we sincerely encourage your active engagement. So, if you have any suggestions, please let us know!

Real estate transactions can be fraught with frustration and pitfalls.

Sometimes the hardest part turns out to be working with your broker, the person who is supposed to help you through the complexities. Veteran commercial real estate broker and client advisor John Culbertson discovered that brokers’ interests aren’t always aligned with those of their clients. He realized there was a better way to advocate for clients and get the deal done.


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