by Prince Licaylicay | Jul 15, 2021 | All Articles
Absorption, or absorption rate, is a measurement used in Commercial Real Estate (CRE) to indicate the difference between the amount of space vacated by companies or tenants in a certain time period and the commercial space they or other tenants have moved into within the same locality or time frame.
To put it simply, absorption is the rate at which commercial space is “absorbed” (sold or leased) over a specific period of time in a given market, described as positive or negative.
There are two (2) metrics that go hand-in-hand and have a huge impact on CRE. One is the absorption rate, and the other one is vacancy. Vacancy is defined as the units or square feet available in a commercial property, expressed in percentage or number of available units. Vacancy has a direct effect on the net operating income (NOI) of a commercial property – low vacancy means more rental income being generated. Both absorption and vacancy rates are used by real estate investors as determining factors whether to hold, buy, or sell commercial properties.
Gross Absorption and Net Absorption
When real estate investors talk about absorption rate, it can only be one of the two – Gross Absorption or Net Absorption. In a leasing context, here are the differences between both:
Gross Absorption refers to the total amount of space that a tenant physically moved into in a specific time frame in a given market.
Whereas Net Absorption refers to the total amount of space that a tenant physically moved into minus the amount of space they vacated during the same time period, described as positive or negative. Thus, net absorption is a very important metric used by real estate investors in analyzing the commercial market’s supply and demand trends.
Net Absorption further explained
Since net absorption rate is the metric being used by commercial real estate investors most of the time, this article will focus more on understanding net absorption.
Typically, you can gauge the market’s supply and demand dynamics by knowing the net absorption rate, which can be described as either positive or negative.
If the market indicates a positive absorption rate, it means that more space is being leased or occupied than vacated. There is basically a decrease in the supply of commercial space in a given market resulting in a rent increase. If the market indicates a negative absorption rate, it means that more space is vacated than occupied. This means there is an increase in supply for occupancy resulting to rent rates being lowered to attract commercial tenants. With that being said, knowing the absorption rate in a specific area in a given time frame helps real estate investors forecast cash flow in their investments.
How to calculate Net Absorption rate and Vacancy rate
Since absorption rate goes hand-in-hand with vacancy rate, here is an example of how to calculate net absorption rate in relation to vacancy levels.
Let’s say the commercial property has 24,500 square feet of leasable space and 2,250 square feet is available from 5 individual spaces. To calculate the vacancy rate, divide the amount of available square feet by the amount of total leasable space in square feet.
2,250 SF (vacant) / 24,500 SF (total leasable space) = 9.2% (vacancy rate)
To calculate the net absorption rate, let’s assume there is a 2,250 SF of available space throughout this year, a new tenant moves in and leased 1,200 SF of space. It means that the vacancy rate has decreased to 4.3%.
2,250 SF (vacant) – 1,200 SF (new tenant occupies this amount of available space) / 24,500 SF (total leasable space) = 4.3% (new vacancy rate)
With the new tenant “absorbing” a 1,200 SF of space, it leaves an available space of 1,050 SF vacant from the total vacant space of 2,250 SF throughout the year. It creates an annual net absorption rate of 53.3% (1,200 SF absorbed out of 2,250 SF of space available in a year). Thus, it indicates that there is a positive net absorption rate for the commercial property in a period of one (1) year.
Factors that influence Net Absorption
A lot of factors can impact the net absorption rate of a commercial property. As an investor, you should consider these factors so that you could plan the next steps to take for your investments to be successful based on the market’s current status. Here are three (3) major factors that greatly influence the market:
- Availability
- Consider analyzing and taking into account the commercial availability in your area. Businesses that just opened up will quickly occupy spaces that were vacated for them to operate in areas with little availability. This means there is a high net absorption rate in that certain area. While in areas with high availability, commercial properties are experiencing low net absorption rates due to competition of occupancy with other properties. Therefore, evaluating the overall availability in your geographical area will help you in your decision-making about your investments based on the commercial market’s current conditions.
- Pricing
- Rent rates relative to leasable space can greatly influence the net absorption of a commercial property. Businesses or tenants will look for spaces that not only fit the needs and day-to-day operations of their business but also spaces having low rent rates. If you are a landlord or an investor, knowing what price to set for your commercial property can prevent high vacancy and negative absorption rates.
- Economic Conditions
- One of the factors that have a strong impact on net absorption is the change in economic conditions. Take for example the time when COVID-19 hit us and many people and businesses have suffered globally. During this time of economic struggle and crisis, many businesses decided to close and those that planned to expand or open up a new business chose to hold it off because of uncertainties and risks of losing their investments.
In addition, the COVID-19 pandemic shifted the business processes and operations of companies to remote work. It led to commercial properties being vacated and a decrease in occupancy. Other businesses tend to lease smaller spaces to cut overall costs since employees are now working from home. With this new setup, the net absorption rates of commercial properties are greatly affected.
The bottom line
Commercial real estate is highly competitive, and there are a lot of factors, including net absorption that impact the market. Gathering data, taking advantage of these elements, and analyzing the market’s current trend can be a game-changer in handling your investments.
Even after outlining all this information above, investing in CRE can still seem daunting. Please feel free to contact us anytime with your questions and concerns. The Leveraged CRE Investment Team at Commercial Properties, Inc. is here to help you achieve your investment and business goals. Contact us at (480) 330-8897 or send us an email at request@leveragedcre.com.
Need help on how to get started investing in commercial real estate? We got you covered! We prepared a free e-book that will serve as your guide to achieve your long-term business goals or obtain that property you’ve always been dreaming of!
Phill Tomlinson is a commercial real estate broker with Commercial Properties, Inc. (CPI) in Scottsdale, Arizona, and owner of the Leveraged CRE Investment Team specializing in investment sales and tenant/landlord representation in the Phoenix and Scottsdale submarkets. Phill applies over 21 years of experience in the Real Estate industry helping investors and owners maximize their returns.
Bookmark www.leveragedcre.com to learn more about the Commercial Real Estate market and keep informed of relevant real estate strategies designed to maximize your income property investment results. Connect and follow Phill on Social Media at sm.leveragedcre.com/smplatform. #LeveragedCRE
by Phill Tomlinson | Jul 8, 2021 | Blog
Most people are aware of the fact that when you sell a long-term investment, which includes real estate, you have to pay taxes. And generally, taxes don’t come cheap.nnOne of the strategies investors use is the 1031 Deferred Tax Exchange or simply, 1031 Exchange. Since we’ve talked about 1031 Exchange in our previous article, today we’re going to focus more on the Advanced 1031 Exchange Strategies and what you need to know.nn nnBelow are four (4) Advanced 1031 Exchange Strategies that investors commonly use:nn n
Delayed Exchange
nThis is the most common and widely used by investors doing a 1031 Exchange. A Delayed Exchange happens when the exchanger sells their property (relinquished property) first and purchase a new property (replacement property) second by using the sale proceeds.nnUsually, the investor hires a third party, known as the Qualified Intermediary (QI) to facilitate the process of the exchange. After selling the relinquished property, the Qualified Intermediary holds the sale proceeds in escrow, and under 1031 Exchange Rules, a replacement property must be identified within 45 days, purchase the replacement property and complete the exchange within 180 calendar days.nn n
Reverse Exchange
nWhile in most cases investors use the Delayed Exchange, there are certain situations where they are having difficulties locating a viable property to be acquired after selling the relinquished property. In cases like these, investors use the concept of Reverse Exchange.nnReverse Exchange is the opposite of Delayed Exchange. Utilizing this strategy allows the investor or exchanger to acquire the replacement property first before selling the relinquished property. Acquisition of the parked property is the first step and afterward, the exchanger is given 45 days from the purchase date to identify the property that he/she plans to sell and 180 days from the date of purchase to complete the exchange.nn n
Improvement or Construction Exchange 
nThere are times that an exchanger might want to build their replacement property according to their own specifications. Construction Exchange is a perfect strategy for an exchanger to not only acquire the property but also improve it so that the value of the purchased price plus improvements get them to their target replacement. It can be either be a ground-up construction or a renovation. The exchanger, after selling the relinquished property and identifying the replacement property, is given a total of 180 days to finish the construction of the property and close the transaction to complete the exchange. nn nn n
Simultaneous Exchange
nThis is a type of exchange where the sale of the relinquished property and the purchase of the replacement property happen on the same day. It can either be (a) a two-party exchange where the owners of the relinquished property and replacement property trade or swap deeds, or (b) a three-party exchange where an “accommodating party” is present that acts as an intermediary to facilitate the exchange, or (c) a Qualified Intermediary – an expert in 1031 Exchanges, is involved to facilitate the whole process of the transaction and makes sure that the exchange follows all the guidelines under the Internal Revenue Service (IRS) Tax Code.nn nn
nnEven after outlining all the information above, investing in CRE can still seem daunting. That’s why the Leveraged CRE Investment Team at Commercial Properties, Inc. is here to help you achieve your investment goals. Contact us at (480) 330-8897 or send us an email at request@leveragedcre.com.nn nnNeed help on your 1031 Exchange? We got you covered! We prepared a free e-book that will serve as your guide to achieve your long-term business goals or obtain that property you’ve always been dreaming of!n
nn nnPhill Tomlinson is a commercial real estate broker with Commercial Properties, Inc. (CPI) in Scottsdale, Arizona, and owner of the Leveraged CRE Investment Team specializing in investment sales and tenant/landlord representation in the Phoenix and Scottsdale submarkets. Phill applies over 21 years of experience in the Real Estate industry helping investors and owners maximize their returns. nn nnBookmark www.leveragedcre.com to learn more about the Commercial Real Estate market and keep informed of relevant real estate strategies designed to maximize your income property investment results. Connect and follow Phill on Social Media at sm.leveragedcre.com/smplatform. #LeveragedCREnn nn
by Prince Licaylicay | Jul 8, 2021 | 1031 Exchange, All Articles, Buying, Investing, Selling
Most people are aware of the fact that when you sell a long-term investment, which includes real estate, you have to pay taxes. And generally, taxes don’t come cheap.
One of the strategies investors use is the 1031 Deferred Tax Exchange or simply, 1031 Exchange. Since we’ve talked about 1031 Exchange in our previous article, today we’re going to focus more on the Advanced 1031 Exchange Strategies and what you need to know.
Below are four (4) Advanced 1031 Exchange Strategies that investors commonly use:
Delayed Exchange
This is the most common and widely used by investors doing a 1031 Exchange. A Delayed Exchange happens when the exchanger sells their property (relinquished property) first and purchase a new property (replacement property) second by using the sale proceeds.
Usually, the investor hires a third party, known as the Qualified Intermediary (QI) to facilitate the process of the exchange. After selling the relinquished property, the Qualified Intermediary holds the sale proceeds in escrow, and under 1031 Exchange Rules, a replacement property must be identified within 45 days, purchase the replacement property and complete the exchange within 180 calendar days.
Reverse Exchange
While in most cases investors use the Delayed Exchange, there are certain situations where they are having difficulties locating a viable property to be acquired after selling the relinquished property. In cases like these, investors use the concept of Reverse Exchange.
Reverse Exchange is the opposite of Delayed Exchange. Utilizing this strategy allows the investor or exchanger to acquire the replacement property first before selling the relinquished property. Acquisition of the parked property is the first step and afterward, the exchanger is given 45 days from the purchase date to identify the property that he/she plans to sell and 180 days from the date of purchase to complete the exchange.
Improvement or Construction Exchange
There are times that an exchanger might want to build their replacement property according to their own specifications. Construction Exchange is a perfect strategy for an exchanger to not only acquire the property but also improve it so that the value of the purchased price plus improvements get them to their target replacement. It can be either be a ground-up construction or a renovation. The exchanger, after selling the relinquished property and identifying the replacement property, is given a total of 180 days to finish the construction of the property and close the transaction to complete the exchange.
Simultaneous Exchange
This is a type of exchange where the sale of the relinquished property and the purchase of the replacement property happen on the same day. It can either be (a) a two-party exchange where the owners of the relinquished property and replacement property trade or swap deeds, or (b) a three-party exchange where an “accommodating party” is present that acts as an intermediary to facilitate the exchange, or (c) a Qualified Intermediary – an expert in 1031 Exchanges, is involved to facilitate the whole process of the transaction and makes sure that the exchange follows all the guidelines under the Internal Revenue Service (IRS) Tax Code.
Even after outlining all the information above, investing in CRE can still seem daunting. That’s why the Leveraged CRE Investment Team at Commercial Properties, Inc. is here to help you achieve your investment goals. Contact us at (480) 330-8897 or send us an email at request@leveragedcre.com.
Need help on your 1031 Exchange? We got you covered! We prepared a free e-book that will serve as your guide to achieve your long-term business goals or obtain that property you’ve always been dreaming of!
Phill Tomlinson is a commercial real estate broker with Commercial Properties, Inc. (CPI) in Scottsdale, Arizona, and owner of the Leveraged CRE Investment Team specializing in investment sales and tenant/landlord representation in the Phoenix and Scottsdale submarkets. Phill applies over 21 years of experience in the Real Estate industry helping investors and owners maximize their returns.
Bookmark www.leveragedcre.com to learn more about the Commercial Real Estate market and keep informed of relevant real estate strategies designed to maximize your income property investment results. Connect and follow Phill on Social Media at sm.leveragedcre.com/smplatform. #LeveragedCRE
by Phill Tomlinson | Jul 1, 2021 | Blog
When you are planning to purchase commercial real estate as an investment, you would always analyze if the property you’re buying is a good deal or not. You weigh out all the factors and specifics if the property is really worth investing in. Being a diligent investor, you always consider the potential returns by using different metrics before making an investment decision. You wouldn’t risk losing your money onto a property that will not yield strong returns, right?nnOne of the important metrics in assessing a commercial real estate investment is the Capitalization Rate. This article will talk about cap rate, its importance in commercial real estate investing, and how to calculate the cap rate and determine if it is a good cap rate, or a bad one.nn n
What is a Cap Rate?
nIn commercial real estate (CRE), Capitalization Rate, or commonly known as “cap rate”, refers to the return metric that is used to determine the potential return on investment or payback of capital. It is a rate used in CRE to estimate the rate of return on a property based on the net operating income (NOI) that the property generates—expressed as a percentage, usually somewhere between 3% and 20%.nnA property’s cap rate is a factual snapshot of a commercial real estate asset’s return. It simply represents the yield of a property over a one-year period assuming the commercial property is purchased on cash and not on loan.nn n
How to Calculate Cap Rate
nFor something fundamental as a cap rate, the good thing is—it is not complicated to compute. For you to be able to calculate the commercial property’s cap rate, you’ll need two (2) things:n
n
- Net operating income (NOI) of the commercial property
n
- Purchase price of the commercial property
n
nUsing these two (2) elements, you can easily compute the commercial property’s cap rate by using this formula:nn nnCapitalization Rate = (Net Operating Income (NOI) / Purchase Price) x 100nn nnTo calculate the cap rate, you take the net operating income (NOI) and divide it by the purchase price of the commercial property. Since cap rates are expressed as a percentage, you multiply it by 100.nnTo better understand the equation, it is helpful to break down the components and explain them individually. A property’s annual Net Operating Income (NOI) is the income minus expenses and the purchase price is the assessed sales price. If for instance, the purchase price is not available, the current market value or the appraised value can be used. Generally, cap rates have an inverse relationship to the property value. With that being said, the higher the cap rate, the lower the purchase price, and vice versa.nnFor further explanation of the terms like the net operating income (NOI), check out our article 25 Real Estate Terms You Should Know.nn n
Importance of Cap Rate
nThe cap rate is commonly used by investors in deciding whether to pursue a commercial property or not. It is also used as a baseline in comparing investment properties in a given market.nnWhen comparing commercial properties in the immediate market, you see a property that has a cap rate of 6.75%, another property at 7.35%, and a third property at 7.50%. While the property you are planning to purchase has a cap rate of 7.10%. This will tell you that the property you’re purchasing is in the middle and is fairly comparable to the expected returns and sales prices of other commercial properties that are listed in the market.nnHowever, if you see that the other properties in the market have low cap rates around 4-5%, then it is a red flag. Why would the commercial property you’re eyeing sell for such a low price compared to the amount of income it can generate? Or is there something wrong with the commercial property you’re planning to purchase?nnAnother importance of cap rate in CRE is that it can be an indicator of potential risk. Commercial properties with higher cap rates tend to be in developing areas and thus come with more risk. While commercial properties with lower cap rates are found in areas that are more stable and with great demand. That’s why it comes with higher purchase prices.nnIn other words, using a commercial property’s cap rate may be helpful when looking to value a property at purchase and to compare that particular property to the sales of other similar properties in the market.nn n
What is a “Good” Cap Rate?
nA question that is asked by many people who are new to the real estate industry. The short answer is, it depends on how the cap rate is being used. Let’s say you are selling a property, having it be at a lower cap rate is good because the value of your property will be higher. On the other hand, if you are an investor planning to purchase a commercial real estate property, typically you would go for assets that have a higher cap rate so that your initial investment will be lower.nnAlthough cap rate is an important metric being used in comparing investment opportunities, investors should not only base his or her decision in purchasing a property solely on cap rates alone. A good investor always considers all the elements that make up a property.nnIn addition, it is important to keep in mind that different cap rates represent different levels of risk. A low cap rate poses a lower risk, while a high cap rate poses a higher risk. With that being said, there is no “ideal” cap rate—it all depends on the investor’s risk tolerance.nn nn
nnEven after outlining all the information above, investing in CRE can still seem daunting. That’s why the Leveraged CRE Investment Team at Commercial Properties, Inc. is here to help you achieve your investment goals. Contact us at (480) 330-8897 or send us an email at request@leveragedcre.com.nn nnNeed help on how to get started investing in commercial real estate? We got you covered! We prepared a free e-book that will serve as your guide to achieve your long-term business goals or obtain that property you’ve always been dreaming of!nnn nnPhill Tomlinson is a commercial real estate broker with Commercial Properties, Inc. (CPI) in Scottsdale, Arizona, and owner of the Leveraged CRE Investment Team specializing in investment sales and tenant/landlord representation in the Phoenix and Scottsdale submarkets. Phill applies over 21 years of experience in the Real Estate industry helping investors and owners maximize their returns. nn nnBookmark www.leveragedcre.com to learn more about the Commercial Real Estate market and keep informed of relevant real estate strategies designed to maximize your income property investment results. Connect and follow Phill on Social Media at sm.leveragedcre.com/smplatform. #LeveragedCREnn nn
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