June 25, 2022

JF2853: Investing in Retail Pt. 1 | Beyond Multifamily ft. Ash Patel


The Beyond Multifamily series is hosted by non-residential commercial real estate investor and Best Ever Show host, Ash Patel. Ash’s goal for this series is to introduce you to the world of non-residential commercial real estate investing and teach you how to look at and underwrite different commercial asset classes. 

In this episode, Ash shares the ins and outs of how to invest in mom-and-pop retail strip malls. These properties typically have the highest management overhead, the highest return, and the lowest competition. Learn the pros and cons of investing in mom-and-pop strip malls, how to look for them, how to add value to them, and how to manage them.

 

 

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TRANSCRIPT

Ash Patel: Hello, Best Ever listeners. Welcome to the Best Real Estate Investing Advice Ever Show. I'm Ash Patel and this is an episode of Beyond Multifamily, where we dive into topics other than multifamily investing. Today, we're going to discuss how to invest in retail. A question that I get asked very often, "Isn't retail dying? Isn't there a retail apocalypse? What about the Amazon effect?" My answer to that question is there's certainly been a fair amount of carnage, especially through COVID, but there's still so many opportunities in retail.

For many, the wounds are still fresh. Headlines that read "JCPenney survived the Great Depression, World Wars and finally met its demise in 2020." Bed Bath and Beyond, Toys R Us, and other retailers closing their doors permanently. "Why would anybody invest in retail?" I'm often asked. Today's episode, I'm hopefully going to answer that question and show you what I look for when I invest in retail.

I'm going to break retail down for you in three different categories. The first one is mom-and-pop strip malls. These are often in tertiary towns or on the outskirts of suburbs, and they have those neighborhood services like the nail salon, the barber shop, the pizza place, the deli, the insurance agent. Next, we're going to get into non-anchored strips. These are a little bit larger strips. They may have regional tenants in them, and they might be located in suburban downtowns. Finally, we're going to get into the traditional anchored strip mall. An example of these are the Kroger with several stores next to it, the Target, the Meijer that's the anchor for several other stores. My goal is to educate you on the pros and cons of each of these asset types, how to look for them, how to add value to them, and how to manage them. Let's dive in right away.

Let's talk about mom-and-pop strip malls. They typically have the highest management overhead, the highest return, and the lowest competition. Why is that? These are often mom-and-pop tenants that are not professional multilocation tenants, and they are often on gross leases. So if their AC goes out, if there's a sewer backup, if the parking lot needs to be redone, if exterior lighting - it's all the landlord's responsibility. Now Best Ever listeners, just to be clear on what a gross lease is - that is where the tenant pays you a flat rate per month, per year, and that does not fluctuate. A gross lease will also define what the landlord's responsibilities are and what the tenant's responsibilities are.

I mentioned these assets have the lowest competition and the highest returns, and the reason for that is exactly that. Because competition is low, the returns are higher, the prices have to be much lower than a more competitive type of asset. There aren't out-of-state investors knocking down doors for the smaller mom-and-pop strips, which makes them ideal for you to pick them up in your local market. And it's that local knowledge that gives you an edge over your competition. You know where the jobs are growing. You know where the crime is high. You know where the schools are improving or declining. You know the trendy areas that people are moving to, and the areas that people are moving away from.

You also know those markets where homes are very tight and there's very few available, or the other areas where there's just an abundance of housing available. That local knowledge gives you a competitive advantage over your competition. For the Best Ever listeners that are multifamily investors, you can often pick up some of these smaller strip malls for the same price as a four-unit apartment building. So please, do not let the cost be a mental barrier to entry for this asset class.

In addition to the retail apocalypse, another argument that I hear against investing in retail is it's too difficult to manage. So let's dive into managing these mom-and-pop strip centers. In the past, I've purchased these mom-and-pop strips sight unseen. I'm not recommending that for your first property, but I'm going to share with you some of the tricks I've learned on how to manage these types of properties.

The first is meet all of your tenants. Introduce yourself, let them know that you are a hands-on property manager. Give them your cell phone. If there's a problem, you want to be the first to find out about it, not a property management company that's going to reply with "We'll get back to you in 24 hours." There's a great sense of comfort for your tenants knowing that you're very accessible and they can call you anytime, day or night. And they often will not abuse that privilege.

Right after I purchase any property, I always improve the exterior lighting and/or the landscaping. Exterior lighting I love, because right away, the entire town knows that there's new management, there's new life coming into this building. Your tenants believe that you're going to continue to improve this property. The local police comment and they appreciate how much lighting you've added to your property. This is a method of differentiating yourself from a hands-off, absentee landlord that nobody wants.

When you meet all of your tenants, put them in your CRM system. If they talk about their kids, if they talk about their upbringing in Cuba, write all of these things down, so in the future when you interact with them, you have this and you can have more meaningful conversations. This will also help you identify the one rockstar tenant that you need at each property. This rockstar tenant should become your eyes and ears, your boots on the ground, and there is no better property manager than one of your own tenants.

In my properties, I've given tenants reduced rent all the way down to free rent if they pick up trash, if they clean the common areas, if they call me when there's a problem, if they will meet the exterminator or the plumber on site when there is a problem. These rockstar tenants will save you hours and a lot of aggravation, and they are worth whatever you're paying them, or whatever discount in rent you're giving them.

A valid argument that can be made here is if you give somebody free rent, they have no skin in the game. I agree with you, I would never offer free rent right off the bat. However, I've got a tenant in an office building who asked if she can start cleaning the hallways and the commonly-used bathrooms in exchange for a reduction in rent. And then she asked if she can spread salt on the stairs before the snow removal company gets there during a big snowstorm, a further reduction in rent. And we got all the way down to her paying no rent whatsoever, but anytime I need her, she's always there and she is the best property manager.

When a tenant does call you and they have a problem with their HVAC or their plumbing, what do you do? You don't have any contacts in that area. You haven't spent years building relationships with tradespeople. How do you handle this? I'll share what has worked for me in the past. So one of the things that I always do for any property that I buy, is I get on to their local Facebook page for that town. And it's not the official Cincinnati page; it's the garage sale page, the community page that everybody talks about, the gossip, the drama, the good and the bad. What's going on with the schools, what's going on with crime, what the latest restaurants are there coming into town? These are those sites where you can get the vibe of a town, and they're so important to me and due diligence because I'll often ask questions. "Hey, tell me if you own this center, what would you do to improve it?" "Hey, townspeople, why has the center gone downhill?" "What restaurant do you want to see come into town?" And you start building a rapport with the local townspeople, and they get to know that "Hey, there is a great owner coming to this retail building, and they're going to add new life into the center."

So when I do have a problem that requires a tradesperson, and asphalt repair, roofing repair, HVAC, plumber, drywall expert, I will get onto that Facebook page and say, "Hey, who do you recommend for this type of job?" Or just do a search for plumber, and you should be able to see all the rockstar plumbers that when people have asked in the past, "Hey, I've got a plumbing problem. Who do I call?" In that one or two names that is always prevalent from people's responses, you can call them.

Another thing that I've done is I will try to find the closest plumber, closest HVAC person to that property, call them up, introduce yourself and say, "Hey, I'm the new owner of this property. I've got a problem. Can you help me? Here's my credit card. Here's what I need done. Here is the tenant's phone number. They're waiting on you to contact them." And again, this goes into your CRM system. If one of these tradespeople does an incredible job, you know for that property that's the person to call the next time you need their help.

Please do keep in mind in some of these smaller towns, you don't want to argue too much over price. You want to be respectful for somebody that drops what they're doing to attend to your problem, because your name will get around in the small town. Remember, you've already established yourself on those Facebook groups.

Break: [00:11:27] - [00:13:14]

Ash Patel: Winning hearts and minds of the locals in a small town is very important, especially when it comes time to find tenants to fill vacancies. I will often reach out on those groups and say, "Hey, I've got a vacancy. Anybody you know that is starting a small business, has a home-based business that needs to come into the center, or is operating somewhere else and would love to be at this strip center?" You will be absolutely amazed at how many people start sharing your posts and they start dropping names underneath your posts, and all of a sudden, you've got a lot of conversations with people that are interested in leasing space from you.

I will record a due diligence checklist episode sometime in the future, but one of the things that I also do is try to engage with either the mayor and/or the city council to see if they're welcoming, pro-business. You can always ask them for recommendations on tenants. I've even had fire chiefs and police chiefs that have come up to me and say, "Hey, you know what this town needs? We need a deli. We need a meat market," and trying to get them to recruit tenants on your behalf is all a win-win strategy.

My last piece of advice for these mom-and-pop strip malls is keep a log of all of your interactions. If you remember, earlier on I said these have the lowest competition because there's the perception that they're very difficult to manage. Somebody from New York is not going to want to buy a four-unit mom-and-pop strip mall in a tertiary town in Cincinnati, because the perception is it's too difficult to manage. "I don't have any boots on the ground. It's away from everything."

If you have this log of all of your interactions every time you went on-site, what you did every time a tenant calls you, the reason for that is, if you go to sell this property, you can show prospective buyers this call log, this visit log over the last three or five years, and when they see that this property is relatively easy to manage, it puts their buying decision at ease and encourages them to move forward with this purchase. This will also maximize your sale price, because you've taken a lot of the uncertainty and the what-ifs out of the buyer's mind.

I would go as far as sharing some notes in your CRM system about each tenant. When they see that this tenant is incredibly nice, very helpful, humble background, whatever it is, it almost helps build a connection with a buyer to the tenants, and it feels like they already know them. They know what they're buying, they feel comfortable about it.

Best Ever listeners, I lied to you. I said that was going to be the last thing about these small mom-and-pop strips, but I feel so passionate that these could be a great segue with minimal risk for single-family investors, multifamily investors to segue into commercial real estate. So let's talk about what to look for when you're looking at a number of different mom-and-pop strip malls.

The first thing you should look for is what kind of buildouts or a demo is necessary for your strip center. For example, if there's a pizza place that has a hood, they have deep fryers, they have fire suppression, your highest and best use for future tenants is going to be another restaurant.

A while back, I bought a strip mall that had one vacancy in it, and it was a bank that was an endcap. This bank was ready to go. It had the vault, it had all the teller windows, offices very nicely appointed, it had the dual drive-thru with the little suction thing that my kids would play with every time we went there. And again, I bought this strip mall with the bank being vacant, and I thought highest and best use for sure is get another bank in there.

And for the next six months, all I did was call up credit unions, lending institutions, banks whether they were out of state, out of town, or right down the street in wanting to move into this location. I called everybody and I have got no hits on lending institution filling that space. And it turns out that there's a way to get on the FDIC website and look at how many deposits and how many lenders are in a certain area, and the town that I was in, just was not sustainable for another bank. So as much as you want to try to fill highest and best use, at some point, you have to cut your losses.

A dentist is another great example. Often dentist chairs have plumbing and electric that goes underneath the slab, and the ideal best use if a dentist leaves is replace them with another dentist. But again, if your market is saturated with dentists, look at other options as well. Even if that means taking a little bit less in terms of price per square foot, the bank would have paid me $12 a square foot. Instead, I settled for an $8 a square foot tenant.

If you have drive-throughs at the end of your building, it's so much easier to lease that out to restaurants, delis, donut shops, florist, fishmongers, your meat purveyor. The possibilities are endless by having that drive-through. Even liquor stores, beer and wine stores. All of these things will give you a competitive advantage.

Now let's talk about how do we find these mom-and-pop strip centers. Often, they're not listed by commercial brokers. There's just not enough meat on the bone. When somebody could list a $5 million strip mall, why would they list a $500,000 strip mall that is going to have buyers that are less sophisticated? They may not get financed, they may not know what they're doing, they just may not have the lender relationships or the experience to take down even a $500,000 strip mall. So often these are listed by residential brokers. That means get on the MLS and search for commercial properties. Some of the best deals that I've ever found were on the MLS listed by residential realtors, but they were commercial properties and they were often mispriced.

Now Best Ever listeners, I honestly believe that a lot of residential realtors, brokers secretly want to learn or get into commercial properties as well, so if I interact with a residential realtor, I will start talking to them about commercial. I'll give them tips. I'll even tell them, "If you have any commercial properties that come your way, by all means, send them to me. I'll help you evaluate them. I'll give you my opinion on pricing, and if it's attractive, I'll put an offer in." Often what I hear back is, "Well, anytime we get a commercial lead, I just turn it over to this person in my office, or I turn it over to this other brokerage." Well, now you've planted a seed in these realtors' minds, where if they have a commercial listing, you're at the top of their mind. And in fact, in my experience, a lot of them will seek out commercial listings and potentially be another source of deal flow.

One of the ways that residential realtors often come across commercial properties is if they're selling somebody's house, and they say, "I've got my business in this building, would you list that as well?" "Oh, sure. No problem." So I've bought a number of deals where people are moving out of state and they're selling everything. Commercial properties, residential properties, and again, keep your eyes on the residential MLS or commercial listings.

I don't want you to discount commercial brokers when looking for the smaller mom-and-pop strips. Often, if it's a younger broker starting out in the business, they'll take anything. They're not going to discern and go after the $5 million strips and not chase the $500,000 strips, so if you can get in front of younger brokers and if they have these types of deals, try to get on their list as well.

Another tactic that is often underutilized is call up for lease listings. If you see a sign that says "For lease", if you get online and find an office space or retail space for lease, call up the number. You're either going to get the broker or you're going to get the landlord or property manager, and start having that conversation. Inquire about what it is that they're leasing, the dollar amount they're leasing it for, the terms are looking for, the types of tenants they're looking for. Ask questions about the other tenants in that building, and then tell them you want to buy the property. Often, they're taken aback or almost a little bit pissed off, and their reaction is, "Look, I'm not selling this building. This is for lease only."

Not a problem. Let them know you're interested in buying it, leave them your number, and most importantly, follow up. I've had people do this to me and I was a little taken aback because I had no intention to sell whatever buildings they were inquiring about. But later on that day, I started thinking about it. And if it's a building that really hasn't done much for me, or there's not much upside left, I would actually consider selling it, but I'm not going to go through the effort of looking through my call log and finding who it was that called me.

But if they followed up, I certainly would entertain a conversation.

And Best Ever listeners. I'm telling you this is very underutilized. Even if there's not a for sale or for lease listing, if you drive by a strip mall, and you see that there's vacancies there, you see that there's deferred maintenance the same way a lot of you have done for residential, when you see the grass is overgrown, the shutters hanging on by one screw, the roof is missing some shingles, what do you do? You skip trace the owner. You find out who it is. You knock on the neighbor's doors, and you say, "Hey, what's the story with this house?"

Well, nobody does that for commercial real estate. So when you drive by what looks like a dying strip mall, if the lights are not very adequate at night, bulbs are missing out of the signage, you know that the strip mall is in need of repairs, find out who the owner is. Go talk to the tenants during business hours, find out who the landlord, the property manager, or the owner is and see if they're willing to sell. Get their contact info. Start building a report. Put them in your database if they blow you off, and follow back up with them. And finally, Best Ever listeners, the last way to find these properties is just direct marketing. The same lists that everybody uses to wholesale residential properties, do the same thing for commercial. Look for zoning, retail, maybe under $500,000 or $1 million.

Best Ever listeners, this recording has gone way longer than I thought it would. Hopefully, you could tell that I'm passionate about retail, I'm passionate about commercial real estate, and I'm really passionate about all of you looking at different asset classes. If historically, you've only done residential or you've only done multifamily, look at different opportunities.

I did not get to get to non-anchored strips and anchored strip malls on today's episode, but that'll be the very next recording, so hopefully you'll join me for that as well. Best Ever listeners, if you enjoyed this episode, please leave us a five-star review. Share the podcast with someone who you think can benefit from it. And also, like, subscribe, have a Best Ever day.

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