Anyone involved in commercial real estate is hoping to maximize the return on their investment. When trying to increase their potential returns, they often focus on the value of the properties they’re investing in.
While buying properties with an upside (i.e., natural appreciation) is certainly important, it’s vital not to overlook another way your investments can bring returns: cash flow.
When your properties are providing a monthly income, you’re receiving a regular reward for having made the investment.
Why Cash Flow Is So Important
A steady cash flow is essential in many cases because it supplies the investor with a regular income. This is especially important for investors who are just starting out and don’t have a lot of wealth to fall back on.
Take the example of a young couple who were hoping to parlay their real estate expertise into a profitable enterprise. In the early years of their venture, they needed to prioritize investments that could bring immediate cash flow. This is the only way they were going to get by.
A steady income can also help increase the value of the property itself. While the cash flow is undeniably useful to the investor, it is even more important as a way of increasing equity. Not only is the increase in equity likely to exceed the value of the income, but it will also remain untaxed as long as it remains unrealized.
While unrealized equity might not feel as good as cold hard cash in your pocket, it will still be part of your total wealth. Eventually, the equity you gain through your income will become big enough that you can use it for further investments, which will in turn provide other income streams. This means the modest cash flow you started out with will allow you to create an income-equity-investment cycle that should prove highly profitable down the road.
In order to maximize the return on an investment, you want the cash flow to be as high as possible. There are many ways to boost the income from a property, all of which depend on adding value to the property itself.
A sound value-add investment strategy will improve the property in ways that directly increase cash flow. Here are four ways you can create additional value for a property.
Find Off-Market Deals
Before you can successfully add value to a property, you need to find properties that present opportunities for improvement. One of the best ways to do this is by working off the market. While you might find some great options listed on the MLS, LoopNet, or from a commercial real estate broker, you should never limit yourself to what is officially for sale. Some of the best commercial real estate opportunities will only show their faces if you go actively looking for them.
Finding off-market opportunities is a lot of work, which is why not all investors take the time to do it. Worthwhile discoveries only come after months of marketing efforts, like cold calling and direct mail campaigns. Eventually, however, all that work will pay off, and you’ll find yourself with a property that could undergo serious improvements. Once you’ve increased the property’s value, you’ll see the cash flow steadily improve.
Get Creative In Negotiations
Sometimes, you can increase the value of a property before closing. The way to do this is by artfully negotiating with the seller. With the right negotiation tactics, you can add conditions to the purchase that will increase your cash flow down the line.
Imagine, for example, that you are hoping to buy a mobile home park that is not making efficient use of its space. You could insist that the sellers build additional units as a condition for the purchase. If the current owners are truly interested in a sale, they might be willing to negotiate a deal. You can buy the property once the additional units have been completed, and then you’ll have the ability to house more tenants on the property. This, in turn, will increase the property’s cash flow.
Creativity in negotiations will also make it easier to land promising off-market deals. Try to stay as flexible as possible when dealing with intransigent sellers. By making multiple offers, each of which contains different financing options, you make it more likely you’ll secure a deal. Once you’ve got the deal in place, you can start making plans to add value and increase revenue streams.
Improve Property Management
A well-managed property will always outperform a similar investment that’s not properly run. As an investor, you should seek out properties that aren’t living up to their potential. Once you’ve secured the purchase, you’ll be able to implement your own management style that should bring a greater steam of income.
Not all investors know how to make wise decisions regarding their properties. Many indulge in cost-cutting measures that ultimately detract from a property’s profitability. As the new owner, you’ll have the ability to run the business as you see fit. By looking for potential improvements, running a series of cost-benefit analyses, and implementing meaningful changes, you can increase the cash flow that a property produces.
Invest in Infrastructure
Infrastructure is one area where better management can make a major difference. Improving a property’s physical components will increase demand among potential tenants. This, in turn, will allow you to fill more units and increase monthly rents. When you have more tenants, each of whom is paying more than before, your property will produce a much more significant income.
Take the example of a self-storage facility in Texas. In an effort to save money, the original owners used massive fans on the third level instead of installing a typical climate control system. As a result, one-third of the facility was unbearably hot during the summer months. Unsurprisingly, this made it difficult to rent the units in this part of the building. Upon buying the property, new owners ripped out the fans and installed regular air conditioning, and the demand for the units increased dramatically. By spending big on significant improvements, the buyers were able to make the property much more valuable while increasing the monthly cash flow. Soon enough, the infrastructure improvements had paid for themselves.
Conclusion: Value And Cash Flow Go Hand-in-Hand
Any investor wants their commercial properties to accrue value and bring in cash.
Luckily, these two goals are far from mutually exclusive. In fact, they supplement each other, allowing you to pursue them both simultaneously. By developing and implementing a value-add investment strategy, you’ll increase the cash flow from tenants. Over the years, you’ll earn a significant income from your property, increase the associated equity, and grow your overall wealth.
What more could an investor ask for?
Disclaimer: The views and opinions expressed in this blog post are provided for informational purposes only, and should not be construed as an offer to buy or sell any securities or to make or consider any investment or course of action.