We’ve all heard about the relationship between risk and reward in business – the higher the reward, the greater the risk that inevitably follows it. Nowhere is this more true than in real estate investing. Well, maybe crypto stocks are still ahead, but in real estate you have choices that aren’t all in or all out. This was demonstrated this week in a conversation I had with another small property commercial real estate syndicator. The comparison was interesting.
His purchases have to date been smaller deals, in industrial areas with tenants whose names you wouldn’t recognize, sometimes with lease terms that necessitated a refinance early on because it wasn’t possible to get long term financing for not-so-long term tenant commitments. Sounds a bit far afield from the kinds of properties we prefer – long-term leases with built-in rent accelerators for premier tenants in inflation-proof healthcare industries.
But that’s where the choices come it – it’s not simply black or white. His properties are in pretty solid businesses – warehousing for some small but successful industrial tenant deemed likely to stay awhile, for example – and his cap rates to his investors are a full point or two higher than we typically offer. While all Absolute NNN deals (no repair obligations slipped in), they require more handholding to make them work, like early refinancing once a short term lease has been lengthened to reduce the debt service cost, or having to decide whether to negotiate higher renewal rates or sell the property sooner than might be necessary to capture the full anticipated returns. But the promised returns are very nice, in return for the higher risk.
We talked about his interest in getting into bigger deals, and our possible interest in taking on a bit more risk to improve our overall returns until the spread between cap rates and interest rates widens again. Those are the kinds of trade-offs investors need to make if they want to expand their portfolios in today’s market. We have looked outside our traditional healthcare focus at some different but equally successful business models, such as dollar stores, fast food chains and value-add residential, and have even invested some money with other folks who are willing to exert the management effort that we don’t want to take on.
All in the interest of making choices to balance off risk vs. reward, and to put capital to work in an economy that is demanding better returns but not yet offering the best opportunities to capture those returns. So far, we’re still waiting, but constantly looking. How will we know when the time is right? We know how to read the signs. That’s what we do, because…
We are Your CFO for Rent.