- One of the biggest long-term investments you can make in your business is to buy property.
- Insider interviewed experts and compiled seven things to keep in mind before settling on a place.
- From finding properties to securing funding, here is a guide for businesses looking to buy in 2021.
- Visit Insider’s homepage for more stories.
When the pandemic hit the US, Christina Stembel calculated that her flower-delivery business had eight weeks of runway, even after it furloughed all but six of her 197 employees.
“Everything I built in the last decade of my life could be taken away,” said Stembel, who founded Farmgirl Flowers, a San Francisco Bay Area bouquet startup, in 2010. “I didn’t mismanage money or make a mistake. It was just out of my control.”
Her business rebounded later in 2020 as people sought ways to connect with loved ones remotely and turned to flowers. Stembel was able to revive her startup and, more importantly, prevent something similar from happening again.
She recently bought a property in Oakland, California, that will serve as her company’s headquarters and be a tangible asset in case she needs funds in the future.
For many business owners, owning property is a ticket to long-term security.
Take New York’s iconic Katz’s Deli, which has stood for 133 years on East Houston Street. Owning the restaurant’s property added a lifeline to the business in tumultuous times, its owner, Jake Dell, said.
“It’s a lifesaver and I’m not sure we’d be here without it,” Dell told Insider. “We’re lucky that someone had the foresight to do that a couple of generations ago.”
In this ultimate guide, Insider rounded up what you should keep in mind before buying a property. We cover the pros and cons of renting, how to get financing, and how to pick the best location.
Established businesses should consider buying, though new businesses might be better off renting
Melissa Cohn, a mortgage broker in New York, said the decision to buy or rent depends on whether you have a fledgling business or an established one.
“If the business is established and has ample cash for a down payment and closing costs, then purchasing can be the smarter option as ongoing carrying costs can be controlled,” Cohn said.
When Stembel weighed whether to buy her property, she already had a strong understanding of her business’ finances. Farmgirl Flowers’ profits went from 1% in 2019 to between 8 and 10% in 2020, thanks to the pandemic bump, giving Stembel extra cash for her purchase, she said.
“Being bootstrapped, you get really good at knowing your numbers and what you need to operate,” she said.
Another thing to consider is the cost of upgrades. If you buy a property, renovations can be costly, but they become added value during a resale. Another plus is the ability to rent out unused space for additional income.
Buying a property comes with responsibilities and some downsides. Not only do you need to come up with a down payment and pay for property maintenance, but you have to consider property taxes and insurance. A good rule of thumb, Cohn said, is to set aside enough money to cover payments for a year before making the purchase.
If your company is just taking off, Cohn added, renting could be the best option because it offers more flexibility to move to a different place.
“It is also possible, especially today, to rent a space with the ability to move to a larger space managed or owned by the same landlord without having to break a lease,” she said.
Another perk of renting in 2021: In many areas landlords are itching for new tenants to fill spaces vacated during the pandemic, thus making it more likely that they’ll offer incentives like lowered rent or free renovations. Rents have dropped to historic lows. According to the Real Estate Board of New York, rent for retail space in New York City fell as low as 25% in the fall of 2020 compared to the fall of 2019.
While market conditions may change in the short term, the decision to buy property should be a forward-looking one. Consider the size of the space. Will it comfortably house staff for at least a decade? asked Ami Kassar, the CEO of the leverage advisor and brokerage firm MultiFunding. If an entrepreneur feels they’re close to outgrowing their current space, it’s likely not the right property to buy, Kassar added.
If entrepreneurs’ financial situations point away from buying property, they should consider asking their landlords to renegotiate the terms of their lease, Grant Cardone, an entrepreneur and real-estate investor, said. Given the market, it would be wise to adjust the values even if the plan is to continue renting, he added.
“You want to use this market and opportunity to go to the owner and renegotiate the lease,” he said. “Even if you’re able to pay the amount, the marketplace is adjusting around you and that lease should come down in value.”
Write a financial plan to determine whether it’s smarter to invest in a property or in the business
An entrepreneur’s financial situation is largely going to dictate what opportunities are available for buying property. First, founders should determine how much capital is necessary for their startups’ growth, said Christopher Mahowald, a lecturer in management at the Stanford Graduate School of Business.
Once that figure is set, weigh whether the relative rate of return would be higher if you invested that funding into property or into the business itself, Mahowald said. Would hiring a marketing expert or programmer make more money for the business than owning an office building?
That answer can vary, depending on the risk associated with a particular business plan, but generally investments in businesses, such as additional staff or equipment, earn a higher rate of return, he added.
“In order for it to make sense, you must have enough access to capital so you’re not capital-constrained,” Mahowald said. “Or so you’re not choosing between investing in the business or in real estate.”
When weighing a substantial investment like leasing or buying, Cohn suggests laying out a 10-year budget plan.
“If you are thinking of buying or renting, then you need to lay out a long-term budget. That will define how much space you will need for the next 10 years,” she said. “Ask yourself: How much cash do you have for an investment property? Do your current financials support a mortgage?”
Farmgirl Flowers’ founder Stembel said she always kept a five-year financial plan handy. So when interest rates dropped and her cash flow increased, she saw an opportunity. What’s more, rent and mortgage rates for an office building in the Bay Area were the same price.
“It’s not rocket science,” Stembel said. “If I’m going to spend the same amount in rent as I would on a mortgage, why would I rent?”
Weigh the other benefits of buying, including diversified revenue streams
As Stembel sought to increase her company’s worth, she drew inspiration from McDonald’s. The fast-food chain owned about 80% of its restaurant buildings and 55% of the land for its restaurants in 2019, which it attributes to its success, the company’s latest annual report said.
Stembel, who aims to buy additional warehouses in California and Ecuador, hopes the decision brings value to her business. She’s considering renting out any unused space, a tactic that can help entrepreneurs diversify their revenue streams. Consider properties where your businesses can occupy between 30 and 50% and rent out the remaining to other tenants, Cardone said.
The properties could serve as collateral if Stembel applied for a loan or line of credit, she said.
When choosing a location, consider these factors
In 2021, anyone considering a property investment should think of the health risks of COVID-19, demographic shifts, recovery from the recession, and climate change, a January report by the commercial real-estate brokerage CBRE found.
Taking those factors into account, CBRE laid out 11 US counties (all secondary markets) best positioned over the next decade, including Ada County in Boise, Idaho, Franklin County in Columbus, Ohio, and Polk County in Des Moines, Iowa. Here’s a breakdown of the location drivers they consider.
1. COVID-19 risk
Health risks will continue to play a role in economic resilience. Because of this, purchasers should consider “population density, public transportation, indoor crowd-driven entertainment and remote work,” the CBRE report said.
2. Demographic shifts
According to CBRE, the trend of millennials moving away from major cities will continue, as affordability makes smaller cities more desirable.
James Chong, cofounder of generator seller Top Generator, set up his offices in White Plains, New York, 30 minutes north of Manhattan. “Our office location minimizes costs but keeps some of the benefits of staying close to New York City,” he said.
Entrepreneurs should also consider their space requirements, Ginsberg said. Are they looking to buy a manufacturing facility rather than a showroom? Can they save money by choosing property in more rural areas over expensive city streets? Should they factor in transportation options for employees? These factors can dramatically change the exact location and price of the space, he said.
Then, get even more granular about where — in a particular city or region — your customers will be. Would your business benefit from an area with heavy foot traffic, where customers may be shopping for similar products or services? Or would the company benefit being closer to a competitor?
3. The state of the local economy as it recovers from the pandemic-led recession
The economic impacts of the pandemic will ripple through the country for years to come, requiring what CBRE calls “more than a temporary ‘ride out the storm’ approach.”
Red flags to look for in a market include a high widespread foreclosure risk, a local government that is spending more money than it’s making, and a high dependency on one industry.
It’s important to look at markets that can provide an array of opportunities, including access to established resources such as machinery or networks of like-minded people, Ginsberg said. For example, Newlab, in Brooklyn, New York, is a technology center that supports more than 800 entrepreneurs, inventors, and engineers, its website said.
“They have the facilities they need and are part of a community,” Ginsberg said. “They can benefit from interactions with other entrepreneurs who can help them solve problems.”
In addition, Ginsberg said, consider the benefits of joining an ecosystem or cluster of startups. Well-known hubs like Austin, Texas, often see transplants from the Bay Area, but smaller cities, like Reno, Nevada, and Boise, Idaho, are also building reputations as hospitable business climates.
4. Climate change
CBRE suggested that business owners take climate change into account when sourcing out a location.
Take the West Coast, for example, where some local markets were devastated by wild fires in 2020. The LA Times reported that Glass fire, a wildfire that burned through Northern California in September and October 2020, had destroyed at least 246 commercial buildings in Napa County alone.
“Issues like sea-level rise, wildfires and severe storms, often worsened by the effects of global climate change, are increasingly important when evaluating overall market risk,” the report reads.
5. Evergreen factors
As CBRE points out, there are also fundamental factors, those that are still important despite current changes, to take into consideration when picking a location remain the same. Things like being near an airport, universities, and other major forms of transportation are still important to a bustling local market.
“Despite the recent focus on change, many of the same factors that have driven business decisions in the past will maintain their importance,” the report said. “Proximity to major university systems, especially those graduating sizable pipelines of STEM talent, will still be valued.”
As Stembel hunts for a warehouse location in California, she’s conducting an analysis that examines the cost of shipping from various ZIP codes, proximity to airports, location of ports, minimum-wage rates, and tax rates.
Make a list of ‘must-haves’
Entrepreneurs thinking about buying must also identify the specific factors they require in a space, Ginsberg said. Will the property house offices or a warehouse? Does the space need to be climate-controlled or close to suppliers?
For Stembel, building a space that meets her needs could be cheaper than developing an existing space. She’s hoping to include on-site childcare for employees at her warehouse facilities, which keeps flowers and supplies, but state laws require that the two buildings be a certain distance from each other.
Meanwhile, Top Generator’s Chong wants his new warehouse to store more inventory as part of his business strategy. Instead of housing fewer portable and solar generators and quickly distributing products — which results in lower profit margins — he wants to carry more devices to boost margins.
Finally, how to fund a real-estate investment
Entrepreneurs looking to finance the purchase of property have options. They can seek out conventional loans at banks, though the terms might fluctuate depending on the lender, Kassar from MultiFunding said. Most conventional loans require 20% down, and entrepreneurs should expect to provide the past three years of federal tax returns.
Additionally, there are two programs through the Small Business Administration that can assist entrepreneurs. The first is the 504 loan program, which provides long-term, fixed-rate financing of up to $5 million to promote business growth.
Eligible companies must be for-profit, have a net worth less than $15 million, and have an average net income of less than $5 million after federal income taxes for the two years ahead of an application. The loan can go toward the purchase of existing buildings or construction of facilities.
The 7(a) loan through the SBA, which Stembel used to buy her property, can also help entrepreneurs. There are two types of 7(a) loans: the standard, with a maximum loan amount of $5 million, and the small, which cannot exceed $350,000. Eligibility depends on approval from the SBA.
“Interest rates are so dirt cheap right now,” Kassar said, adding that government-assistant programs for business owners are another financing option. “If you can afford it, and you’ve got the liquidity to do it, it’s a great time to purchase real estate.”
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