Menu
LandlordZONE
A Refreshing Change
29/May/2014
Becoming, being a landlord will change you. In the driving seat, no longer a passenger, will shift you into a different state of mind. Investment does that to people: the feeling that others are paying you is enlightening. A business plan is rarely straightforward; at a higher more focussed level of understanding, your way forward will be clearer. What next to do for the best is less likely to be an issue.
The taking of advice and help is still necessary, but not from anyone. What’s needed is advice and practical help from people who really do know what they are doing, what is happening at a deep level of understanding. New ways of thinking are emerging, advancement in technology sees to that, but the fundamental principles are unchanged. Professional advisers have a dual-role: to act for you and guide you through the complexity of the property system, the law and valuation and to extricate you from your mistakes. Good advice will point out the pitfalls and prevent falling into them; wise advice will help prevent making mistakes in the first place.
With commercial property, mistakes are readily available. They serve as a reminder a landlord is not infallible. Anyone can buy what they fancy, but beauty is not necessarily packaged to appear obvious. There may be hidden qualities in the discarded and neglected – as anyone that paid next-to-nothing for commercial property in run-down parts of East and North London can testify now that prices have shot through the roof. Anyone can read a lease but literally is not necessarily the correct conclusion. Legislation can override, so too can case-law.
Investment may be a passive, you can buy to hold, come what may, but what to buy is a challenge. All property is owned by someone somewhere but it doesn’t have to be you. Statistics are averages. For the long term, you have to get your choice of a particular property right from the start or over time you could find yourself out of pocket.
For successful investment it pays to be pro-active. With business tenancy asset management, problems can crop up all the time, often when least expected, frequently when least convenient. A difference between a passive and pro-active investor is the ability to transform problems into opportunities.
Tenants may be corporate entities but are run by people; and people have feelings. If already in your nature then it may not hurt to be accommodating of tenant requests, but nevertheless it will pain if your approach does not lead to you becoming better off. Business tenants are very good at getting what they want at the expense of the landlord. You will have to be firm in your dealings with them, possibly tougher than you normally are with others. To call a bluff, you may have to be willing to let go of the existing tenant, no matter how tempting to hang on. You may have to leap into the unknown and risk a void to improve your prospects. Wise advice from a professional sounding-board will prove a good investment.
Property does not perform, people do. Performance is a measure of achievement. “Wealth is the product of man’s capacity to think”. How wealthy you become depends upon thinking like a wealthy person. Property is not simply a commodity, land and buildings for occupation, it can also double as a store of money. Play the property game well and substantial amounts of money can come your way. You can jump on the bandwagon whenever excitement is in the air, but the big money comes from listening. Listening to wise advisers, listening to what you don’t want to hear, listening to yourself.
When you listen, you hear timing. Successful investment and all that entails is about the art of timing. When to say yes, when to say no. Indecision and choice become things of the past. The more adept, the more you trust your intuition at all times, not just in emergencies and in crisis as do most people. Most people lurch, thinking problems are normal. Essentially, a problem is about direction, a helpful signal in a tangible form. Letting go of wanting to be like other people will result in being yourself. Being yourself is the first step in knowing what to do, to whom to turn for help and guidance.
Anyone can become a property investor by putting their money and mind to it, but there’s a cut-off point, a limit after which things start to go downhill. The point of no return is to warn you. To change your approach to investment. When something comes naturally, you are made for each other, well-suited. All property belongs to someone somewhere but not all property comes onto the market. At any time, the selection of property for sale may not be the property for you. You may have to bide your time, to be patient, perhaps extremely, until the right moment arrives for you to strike while the iron is hot.
People generally are impatient. Most people are scared of going it alone because they are inhibited by a desire to be popular. Lacking emotional self-confidence, they follow the crowd. As Warren Buffett said of equities, “you pay a very high price in the stock market for a cheery consensus.”
To swim against the current of common opinion is contrarian, but to succeed in commercial property investment requires a different mindset. Serious research and a thorough understanding of the principles and forces at work to ensure the crowd is wrong or else the signs can be misinterpreted. The market is so distorted by sentiment and eagerness that long-gone are the days when low yield could be interpreted as certain growth or high yield meaning trouble ahead. Impatience will cause you to become involved regardless. Impatience is an addiction, it takes hold of you and habitually destroys your capacity to think.
Be yourself and you will have one strategy in common with successful investors – let the market bring the deals to you, rather than you chasing after them.
The taking of advice and help is still necessary, but not from anyone. What’s needed is advice and practical help from people who really do know what they are doing, what is happening at a deep level of understanding. New ways of thinking are emerging, advancement in technology sees to that, but the fundamental principles are unchanged. Professional advisers have a dual-role: to act for you and guide you through the complexity of the property system, the law and valuation and to extricate you from your mistakes. Good advice will point out the pitfalls and prevent falling into them; wise advice will help prevent making mistakes in the first place.
With commercial property, mistakes are readily available. They serve as a reminder a landlord is not infallible. Anyone can buy what they fancy, but beauty is not necessarily packaged to appear obvious. There may be hidden qualities in the discarded and neglected – as anyone that paid next-to-nothing for commercial property in run-down parts of East and North London can testify now that prices have shot through the roof. Anyone can read a lease but literally is not necessarily the correct conclusion. Legislation can override, so too can case-law.
Investment may be a passive, you can buy to hold, come what may, but what to buy is a challenge. All property is owned by someone somewhere but it doesn’t have to be you. Statistics are averages. For the long term, you have to get your choice of a particular property right from the start or over time you could find yourself out of pocket.
For successful investment it pays to be pro-active. With business tenancy asset management, problems can crop up all the time, often when least expected, frequently when least convenient. A difference between a passive and pro-active investor is the ability to transform problems into opportunities.
Tenants may be corporate entities but are run by people; and people have feelings. If already in your nature then it may not hurt to be accommodating of tenant requests, but nevertheless it will pain if your approach does not lead to you becoming better off. Business tenants are very good at getting what they want at the expense of the landlord. You will have to be firm in your dealings with them, possibly tougher than you normally are with others. To call a bluff, you may have to be willing to let go of the existing tenant, no matter how tempting to hang on. You may have to leap into the unknown and risk a void to improve your prospects. Wise advice from a professional sounding-board will prove a good investment.
Property does not perform, people do. Performance is a measure of achievement. “Wealth is the product of man’s capacity to think”. How wealthy you become depends upon thinking like a wealthy person. Property is not simply a commodity, land and buildings for occupation, it can also double as a store of money. Play the property game well and substantial amounts of money can come your way. You can jump on the bandwagon whenever excitement is in the air, but the big money comes from listening. Listening to wise advisers, listening to what you don’t want to hear, listening to yourself.
When you listen, you hear timing. Successful investment and all that entails is about the art of timing. When to say yes, when to say no. Indecision and choice become things of the past. The more adept, the more you trust your intuition at all times, not just in emergencies and in crisis as do most people. Most people lurch, thinking problems are normal. Essentially, a problem is about direction, a helpful signal in a tangible form. Letting go of wanting to be like other people will result in being yourself. Being yourself is the first step in knowing what to do, to whom to turn for help and guidance.
Anyone can become a property investor by putting their money and mind to it, but there’s a cut-off point, a limit after which things start to go downhill. The point of no return is to warn you. To change your approach to investment. When something comes naturally, you are made for each other, well-suited. All property belongs to someone somewhere but not all property comes onto the market. At any time, the selection of property for sale may not be the property for you. You may have to bide your time, to be patient, perhaps extremely, until the right moment arrives for you to strike while the iron is hot.
People generally are impatient. Most people are scared of going it alone because they are inhibited by a desire to be popular. Lacking emotional self-confidence, they follow the crowd. As Warren Buffett said of equities, “you pay a very high price in the stock market for a cheery consensus.”
To swim against the current of common opinion is contrarian, but to succeed in commercial property investment requires a different mindset. Serious research and a thorough understanding of the principles and forces at work to ensure the crowd is wrong or else the signs can be misinterpreted. The market is so distorted by sentiment and eagerness that long-gone are the days when low yield could be interpreted as certain growth or high yield meaning trouble ahead. Impatience will cause you to become involved regardless. Impatience is an addiction, it takes hold of you and habitually destroys your capacity to think.
Be yourself and you will have one strategy in common with successful investors – let the market bring the deals to you, rather than you chasing after them.
"Upward only" rent review
12/May/2014
Contrary to popular belief, ‘upward-only’ rent review does not mean the rent must increase.
An ‘upward-only’ review means that the rent payable after the review to open market rental is agreed or ascertained would not be less than the rent payable before the rent review, even if the open market rent were lower.
I think the reason for the misunderstanding stems from not appreciating the difference between rent review and rent payable.
Where the review is to open market rent, as distinct from some formulaic change, such as inflation index-linked or percentage uplift, the rent will be the open market rental at the valuation date. The valuation date is normally the same as the review date unless otherwise stated in the lease.
The rent payable is the amount payable after the review is agreed or ascertained. Therefore, depending upon the market rent at the valuation date, it is possible for that rent to either be less or the same or more than the rent payable before the review.
When the market rent is lower than the rent previously payable, an “upward-only” review could in some circumstances still result in the rent payable after the review is agreed or ascertained being less than rent payable before that review. For example, if at the previous review in say 2009 it was agreed that the increased rent then would be phased over the ensuing period of 5 years, such as £25,000 pa for the first two years, rising to £26,000 at the third year, rising to £30,000 pa at the fourth and fifth years, the average rent over five years is £27,200 per annum. The passing rent immediately before the 2014 review would be £30,000 per annum, but whether the rent payable after the 2014 review is agreed or ascertained would be defined as £30,000 or £27,200 pa would depend upon what was agreed by the parties when the 2009 review was documented.
Rent review dates are normally at pre-set intervals calculated from and including the commencement of the contractual term. The dates do not have to be at logical intervals: it all depends upon what was agreed by the parties when the lease was granted or subsequently varied. Also, the term commencement doesn’t have to be the same date of the lease: the date of lease is simply the date of the document.
It is irrelevant the rent will be fixed for several years, the duration of the revised rent is built into the rent review system, with adjustments or allowances for variations from the norm, the norm itself depends upon the evidence.
Depending upon the state of the market at each review/valuation date, the timing of each subsequent review might coincide with upturns or downturns in the market and/or a different interpretation of the valuation guidelines in the lease; in the event of downturns or static periods resulting in nil increase. Hence, when the review is during a downturn or static period, the rent agreed or ascertained at an earlier review could be greater than the market rent at each subsequent review, with the result that the premises could become overrented. Also, particularly with sale-and-leasebacks and lease restructuring, the initial rent on grant of lease might have been set above the level of market rent at that time, the tenant’s intention that the rent should not increase throughout the term. In fact, in many locations, no evidential justification for any increase at all in rent throughout the term is precisely the fate that befalls many an inexperienced investor. (A lack of evidence may not mean nil increase; there are other ways of procuring an increase, including having a thorough grasp of the finer points of rental valuation and lease analysis.)
It might be thought that over-renting, as a result of an upturn in the market at some stage followed by a downturn, or a deliberate ploy only creates problems for tenants that cannot afford continuing to pay more or want to assign or sub-let, but it can also affect the capital value of the landlord’s investment because the excess rent would only endure for the remainder of the term and during any holding-over period, if any (before statutory procedures are underway). On reversion (expiry of the lease), and assuming the tenant wants to renew, and assuming the Landlord and Tenant 1954 procedures are observed, the rent at the commencement of the renewal term will be the market rent regardless of any previous ‘upward-only’ cushion. Therefore, if the rent payable before expiry of the lease were greater than the market rent on expiry, that lower market rent would be the initial rent on renewal.
It is not just over-renting as a result of higher rent at an earlier rent review date that can lead to a lower rent on expiry/renewal of the lease. Where the rent review basis in the expired lease is index-linked or a percentage uplift, the initial rent on renewal, assuming Landlord and Tenant Act 1954 principles, will be the market rent, regardless. Since index-linked rent review and minimum uplifts can result in the rent payable becoming higher than the market rent, the landlord would be worse off on renewal of the lease and depending on the market rent at the start of the renewal might not recover for years. For example, assuming the initial rent was £50,000 per annum, for a term of 20 years and at each 5-yearly review the rent increased by 5% then after three reviews the rent payable would be £57,881.25. On expiry, the lease is renewed for another 20 years but even though the same percentage arrangement might continue as the basis for reviews in the renewal lease, the initial rent at start of the renewal lease would be the market rent which might be lower, say £45,000 per annum; if so then at the third review of the renewal term the rent would be £52,093.13 per annum.
Erroneously thinking that ‘upward-only’ rent review is a panacea for successful investment is something that commonly befalls inexperienced landlords and can play havoc with expectations.
Generally, minimum percentage uplifts and index-linked reviews are artificial devices ostensibly to enable the tenant to budget for future increases, but primarily designed to trick inexperienced investors into paying more for the investment proposition than the property would otherwise fetch if the rent review(s) were to open market only. Consequently, investments whose rent reviews are index-linked or fixed percentage increase make sense for easy management and rental income cash-flow but don’t be fooled into thinking they are also blue-chip for growth and investment performance. At rent review, the likelihood of encountering tenant resolute resistance to any increase over and above the contractual obligation is almost guaranteed.
An ‘upward-only’ review means that the rent payable after the review to open market rental is agreed or ascertained would not be less than the rent payable before the rent review, even if the open market rent were lower.
I think the reason for the misunderstanding stems from not appreciating the difference between rent review and rent payable.
Where the review is to open market rent, as distinct from some formulaic change, such as inflation index-linked or percentage uplift, the rent will be the open market rental at the valuation date. The valuation date is normally the same as the review date unless otherwise stated in the lease.
The rent payable is the amount payable after the review is agreed or ascertained. Therefore, depending upon the market rent at the valuation date, it is possible for that rent to either be less or the same or more than the rent payable before the review.
When the market rent is lower than the rent previously payable, an “upward-only” review could in some circumstances still result in the rent payable after the review is agreed or ascertained being less than rent payable before that review. For example, if at the previous review in say 2009 it was agreed that the increased rent then would be phased over the ensuing period of 5 years, such as £25,000 pa for the first two years, rising to £26,000 at the third year, rising to £30,000 pa at the fourth and fifth years, the average rent over five years is £27,200 per annum. The passing rent immediately before the 2014 review would be £30,000 per annum, but whether the rent payable after the 2014 review is agreed or ascertained would be defined as £30,000 or £27,200 pa would depend upon what was agreed by the parties when the 2009 review was documented.
Rent review dates are normally at pre-set intervals calculated from and including the commencement of the contractual term. The dates do not have to be at logical intervals: it all depends upon what was agreed by the parties when the lease was granted or subsequently varied. Also, the term commencement doesn’t have to be the same date of the lease: the date of lease is simply the date of the document.
It is irrelevant the rent will be fixed for several years, the duration of the revised rent is built into the rent review system, with adjustments or allowances for variations from the norm, the norm itself depends upon the evidence.
Depending upon the state of the market at each review/valuation date, the timing of each subsequent review might coincide with upturns or downturns in the market and/or a different interpretation of the valuation guidelines in the lease; in the event of downturns or static periods resulting in nil increase. Hence, when the review is during a downturn or static period, the rent agreed or ascertained at an earlier review could be greater than the market rent at each subsequent review, with the result that the premises could become overrented. Also, particularly with sale-and-leasebacks and lease restructuring, the initial rent on grant of lease might have been set above the level of market rent at that time, the tenant’s intention that the rent should not increase throughout the term. In fact, in many locations, no evidential justification for any increase at all in rent throughout the term is precisely the fate that befalls many an inexperienced investor. (A lack of evidence may not mean nil increase; there are other ways of procuring an increase, including having a thorough grasp of the finer points of rental valuation and lease analysis.)
It might be thought that over-renting, as a result of an upturn in the market at some stage followed by a downturn, or a deliberate ploy only creates problems for tenants that cannot afford continuing to pay more or want to assign or sub-let, but it can also affect the capital value of the landlord’s investment because the excess rent would only endure for the remainder of the term and during any holding-over period, if any (before statutory procedures are underway). On reversion (expiry of the lease), and assuming the tenant wants to renew, and assuming the Landlord and Tenant 1954 procedures are observed, the rent at the commencement of the renewal term will be the market rent regardless of any previous ‘upward-only’ cushion. Therefore, if the rent payable before expiry of the lease were greater than the market rent on expiry, that lower market rent would be the initial rent on renewal.
It is not just over-renting as a result of higher rent at an earlier rent review date that can lead to a lower rent on expiry/renewal of the lease. Where the rent review basis in the expired lease is index-linked or a percentage uplift, the initial rent on renewal, assuming Landlord and Tenant Act 1954 principles, will be the market rent, regardless. Since index-linked rent review and minimum uplifts can result in the rent payable becoming higher than the market rent, the landlord would be worse off on renewal of the lease and depending on the market rent at the start of the renewal might not recover for years. For example, assuming the initial rent was £50,000 per annum, for a term of 20 years and at each 5-yearly review the rent increased by 5% then after three reviews the rent payable would be £57,881.25. On expiry, the lease is renewed for another 20 years but even though the same percentage arrangement might continue as the basis for reviews in the renewal lease, the initial rent at start of the renewal lease would be the market rent which might be lower, say £45,000 per annum; if so then at the third review of the renewal term the rent would be £52,093.13 per annum.
Erroneously thinking that ‘upward-only’ rent review is a panacea for successful investment is something that commonly befalls inexperienced landlords and can play havoc with expectations.
Generally, minimum percentage uplifts and index-linked reviews are artificial devices ostensibly to enable the tenant to budget for future increases, but primarily designed to trick inexperienced investors into paying more for the investment proposition than the property would otherwise fetch if the rent review(s) were to open market only. Consequently, investments whose rent reviews are index-linked or fixed percentage increase make sense for easy management and rental income cash-flow but don’t be fooled into thinking they are also blue-chip for growth and investment performance. At rent review, the likelihood of encountering tenant resolute resistance to any increase over and above the contractual obligation is almost guaranteed.
Safety in Numbers
02/May/2014
Physically outwardly people are different and different nationalities each have their own cultures but, other than gender, human beings are basically inwardly the same. When for whatever reason we are emotionally upset at some level, whether consciously or subconsciously, we become psychologically off-balance so will have a propensity that steers us in one direction more than another. It is inclination, a ‘position of comfort’, that is, for example, why people generally only listen to what they want to hear, or don’t take any notice of anything that doesn’t make sense to them. In such a state, warning signals, often subtle, can go unheeded. Often it is only after a tangible symptom is experienced that we take action to remedy the situation in the hope it is not too late to do anything about the underlying problem.
Many people think problems of any sort are normal, but I do not. In my philosophy, a problem is a fault in direction so, essentially, it is not possible to have more than one problem at a time. In reality, having more than one problem at any time is simply fragments of the same underlying problem. Delve and you’ll find a common thread. A problem will not go away of its own accord: it may be swept under the metaphorical carpet, put to the back of your mind, but inevitably it will find a way to attract your attention. You will have to do something about it. The longer the delay, the harder it can get, the more expensive it can become to remedy. The reason problems are direction-related is to enable us and the reality we can create for ourselves to remain in sync with the ups-and-downs of life generally. About how you respond and react to whatever is happening right now, including what you are reading now and thinking about as you go. A problem must be transformed into an opportunity and the more adept you are at doing that as you go the less likely you’ll come unstuck in times of change. As I say, everything in life hinges upon the consequences of two words ‘yes’ and ‘no’. Which means problems can be avoided by taking preventative action. (Word of warning: trying to think of every possibility in advance is likely to leads to nervous breakdown.)
Applied self-development is integral to investment success. When you know yourself inside out, you’ll naturally know whatever you need to say and do and if you want to help make a difference to the lives of others what needs saying and doing. (Caution: don’t try this at home unless you feel confident enough)
In a balanced frame of mind and in the context of property investment, essentially, there is no difference between residential and commercial, or any other type of property for that matter. Both have the potential for investment, of enabling you to become better off than you are now. The only differences that can affect your prospects of success are in how the property is bought, managed, and sold. Any other differences are by-products of bias and prejudice. Both have their share of success stories, of the property that spectacularly outperforms, or the tenant whose improved covenant and financial standing enhances capital value. And both have their share of horror stories, of the tenant that goes broke or trashes the place before leaving.
Demand and supply provide the fuel for short-term action and whether change is seen as for the better or worse depends upon your ability to capitalise on opportunity. The long-term driving force is the socio-political economy and how the property market relates to what will happen in future.
At macro-level, residential property is subject to political ideology, a continual cry to build more new homes suggests shortage to the opportunist but can put a damper on prices for existing properties in the locality. Rents for residential property can increase as mortgage criteria for would-be buyers tightens, but lending relaxation can remove the froth. Commercial property can be affected by new development, changes in the law, and tenants rethinking their business priorities. Ultimately investment value of all property depends upon someone else paying more than you; and the profitability of the particular property to you depends upon how much you pay when you buy, what return you get during the period of ownership, and what you get when you sell.
For peak performance, the goal for human beings is perfect balance and harmony. Extremely challenging self-discipline to always be spot-on, second-best is to have emotional flexibility and financial agility, to be able to adjust your attitude and consequently your thinking at a moment’s notice. But most people are not as fit as that: instead they are set in their ways, do not have what it takes, and most investments prove second-rate. Hence, the property is held beyond its shelf -life as an investment and gradually becomes a problem, where the tenant’s conduct and requests are accommodated regardless.
A common reason for not wanting to sell is tax. Private investors particularly dislike paying tax even though the net proceeds from selling at peak will often be more than after management problems have set in. Another reason is what to do with the money which considering many private investors do depend upon the income from their property might in principle make one think they would be more canny at maximising were it not for a laziness that comes from being an armchair investor. The question is not what to do with the money but whether it would pay to re-invest in a prevailing market when prices are out of sync with property fundamentals. But that is also symptomatic of impatience. It doesn’t follow that one should immediately reinvest the proceeds for the sake of it: what should follow is to hold the cash until the right investment opportunity comes along whereupon it can be bought at a moment’s notice: an investment approach which held in good stead many investors during the immediate aftermath of the 2008 financial crisis. The best time to buy is when the world and his wife cannot. A contrarian approach that calls for deep thinking of a special kind.
Investment is about liquidity, about being able to at least get your money back at short notice. Inflation is present by default so can be ignored in the calculation. In the pecking order, cash on deposit is the purist form of investment, closely followed by equities (stocks and shares) which provide the most opportunity to pit your wits and skills, the sheer volume of transactions assists market liquidity and keeps costs to a minimum. Then there are alternative forms of investment of which property is especially attractive for its unique attribute: the legally-binding payment of rent and in the case of commercial property the ‘upward-only’ rent review whereby at the least the same rent as passing will endure for the contractual term.
Measuring return on investment can be benchmark-related, such as an index, or absolute. In my opinion, absolute, cash performance net of tax, is the better approach. Generally, the financial services industry thinks in headlines. Being told an investment has grown by 10% is more impressive than the true figure after adjusting for inflation and the costs of realising that gain.
Unlike shares in a property company that is quoted on the stock market, where share-price performance is subject to stock market psychology as well as the skill of the company’s managers, direct ownership of property is an illiquid investment, whose costs are hefty which means the risk of loss is greater so the need for rewarding performance to counteract has to be certain. There are however no guarantees, no reason other than emotional and intellectual know-how for your choice of particular property to succeed as an investment. Therefore, because know- how is the test that most investors fail to pass, to overcome the uncertainty and to prevent demand from becoming static, property has developed a reputation as a hedge against inflation. Consequently, people generally buy into the idea that the property market must be viewed as a long-term investment.
Long-term investment in the property market is a source of rich pickings for banks and advisers. Regardless of whether or not your choice of property performs, whether or not you do in fact become better off, a substantial percentage of financial resources is extracted from you, being one of the multitude, into lining the pockets of the few. That is why, all other factors remaining equal, the ease of management in the choice of property medium is critical. And that is why the cost of borrowing and the cost of advice in themselves will make a difference to your return on capital.
Psychological imbalance is caused by adverse influence in early upbringing, social conditioning, and peer pressure. Instead of equal measures of yes and no, a combination of positive support and constructive criticism, the cumulative affect of an overly negatively or underly-enthusiastic here and there can as the years pass make all the difference. I believe that in our heart of hearts, we are all purists. It is at the more mundane superficial levels where the impurities have crept in and toxins allowed to fester and run riot that psychological damage occurs. Naturally geared to balance and harmony, we can counter-act any deficiencies but what sort of adjustments and how much fine-tuning depends upon each individual. Only you know what you need.
It is natural to want to be better off, so choice of investment ought not be a hit and miss affair, but frequently it is. Indeed, choice, a psychological device for ensuring we are on track for our own individual aspirations rather than those of others, ought not to enter our thinking at all, but it does. Decisions, decisions. Bombarded by attention-seekers and half-baked ideas, we can, unless we learn to be ruthless become confused, thought and feeling in a state of uncertainty. (If the idea of becoming ‘ruthless’ bothers then define it as being friendly to everyone but saying no to most of them.) Living in fear, to protect ourselves from repeating mistakes, evidence is preferred to instinct. Rather than unreservedly trust intuition, gut-feeling is analysed and doubted. Instead of formulating a strategy, we disconnect from our metaphorical true path and end up buying whatever takes the fancy, the mood of the moment. The property investment portfolio is a hotchpotch which we might justify as diversification for spreading the risk but really it’s just safety in numbers.
Many people think problems of any sort are normal, but I do not. In my philosophy, a problem is a fault in direction so, essentially, it is not possible to have more than one problem at a time. In reality, having more than one problem at any time is simply fragments of the same underlying problem. Delve and you’ll find a common thread. A problem will not go away of its own accord: it may be swept under the metaphorical carpet, put to the back of your mind, but inevitably it will find a way to attract your attention. You will have to do something about it. The longer the delay, the harder it can get, the more expensive it can become to remedy. The reason problems are direction-related is to enable us and the reality we can create for ourselves to remain in sync with the ups-and-downs of life generally. About how you respond and react to whatever is happening right now, including what you are reading now and thinking about as you go. A problem must be transformed into an opportunity and the more adept you are at doing that as you go the less likely you’ll come unstuck in times of change. As I say, everything in life hinges upon the consequences of two words ‘yes’ and ‘no’. Which means problems can be avoided by taking preventative action. (Word of warning: trying to think of every possibility in advance is likely to leads to nervous breakdown.)
Applied self-development is integral to investment success. When you know yourself inside out, you’ll naturally know whatever you need to say and do and if you want to help make a difference to the lives of others what needs saying and doing. (Caution: don’t try this at home unless you feel confident enough)
In a balanced frame of mind and in the context of property investment, essentially, there is no difference between residential and commercial, or any other type of property for that matter. Both have the potential for investment, of enabling you to become better off than you are now. The only differences that can affect your prospects of success are in how the property is bought, managed, and sold. Any other differences are by-products of bias and prejudice. Both have their share of success stories, of the property that spectacularly outperforms, or the tenant whose improved covenant and financial standing enhances capital value. And both have their share of horror stories, of the tenant that goes broke or trashes the place before leaving.
Demand and supply provide the fuel for short-term action and whether change is seen as for the better or worse depends upon your ability to capitalise on opportunity. The long-term driving force is the socio-political economy and how the property market relates to what will happen in future.
At macro-level, residential property is subject to political ideology, a continual cry to build more new homes suggests shortage to the opportunist but can put a damper on prices for existing properties in the locality. Rents for residential property can increase as mortgage criteria for would-be buyers tightens, but lending relaxation can remove the froth. Commercial property can be affected by new development, changes in the law, and tenants rethinking their business priorities. Ultimately investment value of all property depends upon someone else paying more than you; and the profitability of the particular property to you depends upon how much you pay when you buy, what return you get during the period of ownership, and what you get when you sell.
For peak performance, the goal for human beings is perfect balance and harmony. Extremely challenging self-discipline to always be spot-on, second-best is to have emotional flexibility and financial agility, to be able to adjust your attitude and consequently your thinking at a moment’s notice. But most people are not as fit as that: instead they are set in their ways, do not have what it takes, and most investments prove second-rate. Hence, the property is held beyond its shelf -life as an investment and gradually becomes a problem, where the tenant’s conduct and requests are accommodated regardless.
A common reason for not wanting to sell is tax. Private investors particularly dislike paying tax even though the net proceeds from selling at peak will often be more than after management problems have set in. Another reason is what to do with the money which considering many private investors do depend upon the income from their property might in principle make one think they would be more canny at maximising were it not for a laziness that comes from being an armchair investor. The question is not what to do with the money but whether it would pay to re-invest in a prevailing market when prices are out of sync with property fundamentals. But that is also symptomatic of impatience. It doesn’t follow that one should immediately reinvest the proceeds for the sake of it: what should follow is to hold the cash until the right investment opportunity comes along whereupon it can be bought at a moment’s notice: an investment approach which held in good stead many investors during the immediate aftermath of the 2008 financial crisis. The best time to buy is when the world and his wife cannot. A contrarian approach that calls for deep thinking of a special kind.
Investment is about liquidity, about being able to at least get your money back at short notice. Inflation is present by default so can be ignored in the calculation. In the pecking order, cash on deposit is the purist form of investment, closely followed by equities (stocks and shares) which provide the most opportunity to pit your wits and skills, the sheer volume of transactions assists market liquidity and keeps costs to a minimum. Then there are alternative forms of investment of which property is especially attractive for its unique attribute: the legally-binding payment of rent and in the case of commercial property the ‘upward-only’ rent review whereby at the least the same rent as passing will endure for the contractual term.
Measuring return on investment can be benchmark-related, such as an index, or absolute. In my opinion, absolute, cash performance net of tax, is the better approach. Generally, the financial services industry thinks in headlines. Being told an investment has grown by 10% is more impressive than the true figure after adjusting for inflation and the costs of realising that gain.
Unlike shares in a property company that is quoted on the stock market, where share-price performance is subject to stock market psychology as well as the skill of the company’s managers, direct ownership of property is an illiquid investment, whose costs are hefty which means the risk of loss is greater so the need for rewarding performance to counteract has to be certain. There are however no guarantees, no reason other than emotional and intellectual know-how for your choice of particular property to succeed as an investment. Therefore, because know- how is the test that most investors fail to pass, to overcome the uncertainty and to prevent demand from becoming static, property has developed a reputation as a hedge against inflation. Consequently, people generally buy into the idea that the property market must be viewed as a long-term investment.
Long-term investment in the property market is a source of rich pickings for banks and advisers. Regardless of whether or not your choice of property performs, whether or not you do in fact become better off, a substantial percentage of financial resources is extracted from you, being one of the multitude, into lining the pockets of the few. That is why, all other factors remaining equal, the ease of management in the choice of property medium is critical. And that is why the cost of borrowing and the cost of advice in themselves will make a difference to your return on capital.
Psychological imbalance is caused by adverse influence in early upbringing, social conditioning, and peer pressure. Instead of equal measures of yes and no, a combination of positive support and constructive criticism, the cumulative affect of an overly negatively or underly-enthusiastic here and there can as the years pass make all the difference. I believe that in our heart of hearts, we are all purists. It is at the more mundane superficial levels where the impurities have crept in and toxins allowed to fester and run riot that psychological damage occurs. Naturally geared to balance and harmony, we can counter-act any deficiencies but what sort of adjustments and how much fine-tuning depends upon each individual. Only you know what you need.
It is natural to want to be better off, so choice of investment ought not be a hit and miss affair, but frequently it is. Indeed, choice, a psychological device for ensuring we are on track for our own individual aspirations rather than those of others, ought not to enter our thinking at all, but it does. Decisions, decisions. Bombarded by attention-seekers and half-baked ideas, we can, unless we learn to be ruthless become confused, thought and feeling in a state of uncertainty. (If the idea of becoming ‘ruthless’ bothers then define it as being friendly to everyone but saying no to most of them.) Living in fear, to protect ourselves from repeating mistakes, evidence is preferred to instinct. Rather than unreservedly trust intuition, gut-feeling is analysed and doubted. Instead of formulating a strategy, we disconnect from our metaphorical true path and end up buying whatever takes the fancy, the mood of the moment. The property investment portfolio is a hotchpotch which we might justify as diversification for spreading the risk but really it’s just safety in numbers.
Sentiment v Technicalities
23/April/2014
With commercial property rent review and lease renewal when practical help from a surveyor is sought, as distinct from seeking advice, there are two types of client: those that are only interested in the end-result, and those that want to have the process explained at every step of the way.
I used to think the types were age-related, but I have come to realise it is more about the degree of faith and level of trust that the client has in the surveyor’s overall ability. A youngster surveyor with only a few years’ experience under their belt may have the technical competence that comes from text-book thinking, but is less likely to have anything like the amount of wisdom that stems from dealing with situations over many economic cycles. Any lack of experience is normally reflected in demeanour and conversational style.
To be required to provide explanation at every step of the way can be very tiring and frustrating for the surveyor. It is one thing keeping an experienced knowledgeable client informed because the terminology and subtleties won’t need spelling out, but you try telling someone whose knowledge of the subject is obviously lacking, even if they don’t think it is, and immediately you’re into having to manage the client’s expectations.
When you trust a surveyor that knows what they are doing, amongst the benefits you get is the one thing that micro-managing a surveyor will stifle: creativity. A surveyor left to their own devices without being influenced by the client does not necessarily mean that the surveyor will automatically think of everything, but it should at least avoid the pressure that can be imposed by limitation. In my opinion, there is no point in wanting a surveyor to provide practical help only to insist upon how that help is performed.
Surveyors do not make the market, we merely interpret it for the benefit of our clients. The market is indifferent, it does not care about what happens to participants, but surveyors are concerned (a cynic might say for their own livelihoods if nothing else) so have developed a methodology that may be summed up as a combination of opinion and evidence.
Even though valuation is an art just as much as a science, the evidential approach tends to be preferred because that enables surveyors to be able to justify opinions. To be able to satisfy the assertion to prove it. Our ways of interpretation presuppose sufficient experience to cover every eventuality, but whether there is no difference between theory and practice depends upon remembering that people have feelings, as I keep being reminded, when I venture into sensitive territory, because our ways of interpreting can be stuck in the past or subject to ideology.
Interpretation of the market as a whole comes from a combination of practical experience, industry comment and informed anecdotes. The market as a whole is diverse with a myriad of interests and whether surveyors get a look in to the entire gamut depends upon how much of the market a surveyor is exposed to. Anything unusual or out of line with orthodox ways of interpreting can tend to be dismissed as an aberration.
It is not compulsory for a tenant to take advice from a surveyor, but that doesn’t prevent surveyors from rejecting evidence involving an unrepresented tenant as unrepresentative of the market. In my opinion, it is surveyor-snobbery to think that unrepresented tenants cannot possibly know what they are doing even though it is the tenant that commits to the lease, not the surveyor. A lease of commercial property is a commercial contract which means the parties are deemed to know what they are doing. For a surveyor to override that built-in assumption is tantamount to asserting that only surveyors have the right to decide what is and what is not evidence.
Even so, there is some truth in that, to be precise in deciding the weight that should be attached to the evidence. Evidence is proof but the evidence should also be able to show on the balance of probabilities that the source is au fait with the technicalities. Weight is not the same as admissible: weight is how much notice ought be taken of the evidence for purpose of being influenced by that evidence.
Nor is it compulsory for a landlord to take advice from a surveyor and many landlords do not. Many landlords see no point in incurring the extra expense when as the decision-makers themselves they are perfectly capable of making up their own mind whether to accept the tenant’s offer. Hence, the evidence unrepresented landlords create is as far as such landlords are concerned beyond reproach. It can come as a surprise therefore to be told by a surveyor that evidence provided by an unrepresented landlord is just as likely to be questionable as that of an unrepresented tenant.
The sector of the market involving surveyors tends to be more sophisticated and in the upper reaches where rent level are at least £15,000 pa, but there are pockets amongst the lower echelons where surveyors are involved because what starts as an unrepresented scenario can becomes so frustrating for the parties concerned that surveyors are brought in to sort things out.
A sizeable sector of the market is unrepresented and in a world of its own. In this sector, it is common for rents either to be significantly less or substantially more than if surveyors were involved. Less is when the landlord’s investment policy is to want full occupancy regardless. More is when the business philosophy of the landlord and tenant is contrary to the surveyor-system.
Client-expectations are sentiment-oriented, never mind the small print of business tenancy law and valuation; instead, the landlord believes a right to expect a proper return on the investment, the tenant is doing well so should pay more; while the tenant may not be able to afford so much but doesn’t want to upset the landlord. Surveyor-thinking is technicalities regardless of affordability. Different sectors of the market have their own ways of reaching agreement. It is only when the lines of communication cross between the unrepresented and surveyor-methodology that the attitudinal fireworks begin.
I used to think the types were age-related, but I have come to realise it is more about the degree of faith and level of trust that the client has in the surveyor’s overall ability. A youngster surveyor with only a few years’ experience under their belt may have the technical competence that comes from text-book thinking, but is less likely to have anything like the amount of wisdom that stems from dealing with situations over many economic cycles. Any lack of experience is normally reflected in demeanour and conversational style.
To be required to provide explanation at every step of the way can be very tiring and frustrating for the surveyor. It is one thing keeping an experienced knowledgeable client informed because the terminology and subtleties won’t need spelling out, but you try telling someone whose knowledge of the subject is obviously lacking, even if they don’t think it is, and immediately you’re into having to manage the client’s expectations.
When you trust a surveyor that knows what they are doing, amongst the benefits you get is the one thing that micro-managing a surveyor will stifle: creativity. A surveyor left to their own devices without being influenced by the client does not necessarily mean that the surveyor will automatically think of everything, but it should at least avoid the pressure that can be imposed by limitation. In my opinion, there is no point in wanting a surveyor to provide practical help only to insist upon how that help is performed.
Surveyors do not make the market, we merely interpret it for the benefit of our clients. The market is indifferent, it does not care about what happens to participants, but surveyors are concerned (a cynic might say for their own livelihoods if nothing else) so have developed a methodology that may be summed up as a combination of opinion and evidence.
Even though valuation is an art just as much as a science, the evidential approach tends to be preferred because that enables surveyors to be able to justify opinions. To be able to satisfy the assertion to prove it. Our ways of interpretation presuppose sufficient experience to cover every eventuality, but whether there is no difference between theory and practice depends upon remembering that people have feelings, as I keep being reminded, when I venture into sensitive territory, because our ways of interpreting can be stuck in the past or subject to ideology.
Interpretation of the market as a whole comes from a combination of practical experience, industry comment and informed anecdotes. The market as a whole is diverse with a myriad of interests and whether surveyors get a look in to the entire gamut depends upon how much of the market a surveyor is exposed to. Anything unusual or out of line with orthodox ways of interpreting can tend to be dismissed as an aberration.
It is not compulsory for a tenant to take advice from a surveyor, but that doesn’t prevent surveyors from rejecting evidence involving an unrepresented tenant as unrepresentative of the market. In my opinion, it is surveyor-snobbery to think that unrepresented tenants cannot possibly know what they are doing even though it is the tenant that commits to the lease, not the surveyor. A lease of commercial property is a commercial contract which means the parties are deemed to know what they are doing. For a surveyor to override that built-in assumption is tantamount to asserting that only surveyors have the right to decide what is and what is not evidence.
Even so, there is some truth in that, to be precise in deciding the weight that should be attached to the evidence. Evidence is proof but the evidence should also be able to show on the balance of probabilities that the source is au fait with the technicalities. Weight is not the same as admissible: weight is how much notice ought be taken of the evidence for purpose of being influenced by that evidence.
Nor is it compulsory for a landlord to take advice from a surveyor and many landlords do not. Many landlords see no point in incurring the extra expense when as the decision-makers themselves they are perfectly capable of making up their own mind whether to accept the tenant’s offer. Hence, the evidence unrepresented landlords create is as far as such landlords are concerned beyond reproach. It can come as a surprise therefore to be told by a surveyor that evidence provided by an unrepresented landlord is just as likely to be questionable as that of an unrepresented tenant.
The sector of the market involving surveyors tends to be more sophisticated and in the upper reaches where rent level are at least £15,000 pa, but there are pockets amongst the lower echelons where surveyors are involved because what starts as an unrepresented scenario can becomes so frustrating for the parties concerned that surveyors are brought in to sort things out.
A sizeable sector of the market is unrepresented and in a world of its own. In this sector, it is common for rents either to be significantly less or substantially more than if surveyors were involved. Less is when the landlord’s investment policy is to want full occupancy regardless. More is when the business philosophy of the landlord and tenant is contrary to the surveyor-system.
Client-expectations are sentiment-oriented, never mind the small print of business tenancy law and valuation; instead, the landlord believes a right to expect a proper return on the investment, the tenant is doing well so should pay more; while the tenant may not be able to afford so much but doesn’t want to upset the landlord. Surveyor-thinking is technicalities regardless of affordability. Different sectors of the market have their own ways of reaching agreement. It is only when the lines of communication cross between the unrepresented and surveyor-methodology that the attitudinal fireworks begin.
Location, location, location
12/April/2014
In the last blog (April Fool or Successful Investor, 01 April 2014), I said “successful investment in commercial property includes the ability to be discerning, the more adept you become, the more you can gauge at a glance whether the proposition is likely to perform. Performance despite any resistance by the tenant. Why would the tenant resist?”
Apart from vacant property that might go up in value of its own accord, an occurrence that can reflect change of use for planning permission, development potential, and demand from owner-occupiers, the investment potential in commercial property depends upon tenants.
Tenants are the customers for investors in commercial property.
The property-relationship between landlord and tenant hinges on the terms and conditions of the tenancy; in popular parlance, the lease. Generally, investors prefer what is known as a ‘clean’ lease: an institutional standard whereby most if not all the responsibilities for the use of the premises fall on the tenant, and with no ambiguity in the interpretation of the contract.
Leases in the commercial property market are a challenge for investors, because there is no standard form of lease in common usage. Many landlords and tenants and lawyers have their own standard leases that incorporate specific requirements, but all are subjective. To assume the terms and conditions in each lease would be the same in every other is a mistake.
Drafting a lease is about recording the agreement in writing, the choice of words and phrases that spell out the responsibilities between landlord and tenant. On grant of a new lease, the onus is on the landlord’s side to draft and on the tenant’s side to approve. Sometimes, where the tenant has specific requirements, the tenant’s lawyer will offer to draft the lease but that is usually only to save time. Better for the tenant to provide the wording required rather than the landlord have to guess. Unfortunately, whether through drafting inexperience or error, and because many landlords and tenants can’t be bothered to read the ‘small print’ before signing the document, the wording of a lease will often differ from what the parties intended, so ambiguities in interpretation can arise.
Disputes involving differences in interpretation that are taken to court constitute the body of case-law. The drafting of leases is also fashionable. The widespread use of precedents, often followed slavishly, can result in little or no thought being given to ensuring the performance of the investment.
The duration of a lease, the term of the tenancy, is often for years. Leases may be shorter now, 10 years perhaps with a break clause at the 5th year, but 15-25 years remain popular, not least because bank criteria for lending to tenants requires a secure term of at least 8 years.
Leases are fixed documents whose terms and conditions can only be varied by mutual agreement, or rectification usually only by the original parties. The market, however, is not fixed: it is continually changing. What is a market? A market is anywhere business is done. Transactions are usually for money, but may involve bartering goods and are conducted between sellers and buyers, or through agents, wholesalers, manufacturers, brokers, etc. Marketing happens when we want to satisfy a need and are willing to exchange something with someone able to help us satisfy that need. The process exists to bring buyers and sellers into a market. In business, the transaction is reciprocal. Business is about helping people in exchange for money.
Markets exist to serve the needs of participants and for identification have classifications and categories: for example, the property market, whose categories include residential property, commercial property, and so on. Naturally inactive, markets become active when fuelled and driven by a range of different influences, all of which originate in how the participants in the particular market respond to whatever is or perceived to be happening in the reality that the market exists to serve.
With commercial property, the ups-and-downs of the market are not necessarily dependent upon whatever is happening in the economy at large so the line of reasoning may be hard to follow, but that doesn’t mean we cannot remain in sync with any changes: all that’s needed is flexibility. Leases, however, are inflexible: what was agreed years ago may not be relevant now.
Where the landlord and tenant are the same parties throughout the term, it is probably less likely for either or both to want to interpret the terms and conditions of the lease in a way that differed from their original intention, unless to material advantage and being unconcerned about the risk of falling out over a dispute. Where one or both of the original parties have changed, and since leases are themselves assets that can be bought and sold (subject to any restrictions), a successor-landlord or successor-tenant might have a different view of the intention of the original parties.
Buying an existing investment means taking over a lease that may be outmoded or badly drafted, whose terms and conditions may work against the investment objective. Conversely, leases may contain words and phrases that serve the landlord more than the tenant. It is a question of finding. As I say, anyone can read a lease, it’s knowing what to look for that really counts.
Once upon a time, it would have been unusual for tenants to take professional advice from surveyors. Surveyors acted for landlords and tenants generally did as they were told. Tenants were subservient. For many years, on the RICS application form for dispute resolution procedure, under the heading ‘tenant representative’ were the words, in parentheses, “if any”.
Life was never the same again for landlords following the House of Lords ruling in United Scientific Holdings v Burnley Borough Council [1978]. Briefly, the landlord had missed the date for the rent review notice, so the tenant argued the landlord had lost the right to review the rent.
As I said, (01 April 2014) “We (surveyors) know that landlords become successful when their investments perform. We also know that tenants become successful not just when their businesses are performing well but also when the total property cost commitment is kept to a minimum.” Reducing property costs and minimising tenancy liabilities makes sense for tenants but is unlikely to make any sense for landlords. The idea that provided the premises are economical, tenants more likely to stay the course, is defeated because tenants want to have it both ways. They want the lowest rents and the least liabilities together with the most flexibility. Scrutinising the wording and phrasing of the terms and conditions of leases in the hope of scoring points either for landlord or tenant is big business for surveyors and lawyers. It works both ways: landlords can benefit enormously from a different interpretation; for tenants, a single word, a turn of phrase, can often result in a substantial reduction in rent or relief from liability.
Apart from whether the landlord is legally entitled to more (as distinct from having the right to expect more) and whether the tenant is legally entitled to less (as distinct from thinking the world owes it a living), landlord and tenant each in their own ways want to maintain a profitable relationship with the location of the property. The adage “location, location, location” is a fundamental ingredient for successful investment which might be thought ‘old school’ compared with the relatively recent popular demand for tenant-covenant, but the adage remains nevertheless the more important. Unlike covenant which depends upon the tenant wanting to remain in occupation, the property is fixed and immoveable. In other words, if you buy a property let, for example, to a bank which, as a blue-chip covenant, would normally fetch a higher price in the investment market, but the bank does not renew its lease or exercises a break clause then you’d no longer have the bank as a tenant but you still have the property.
Subject to compliance with the lease, how the tenant chooses to run its business is nothing to do with the landlord, but it is to do with the customers whom the tenant’s business serves. Why those customers and/or type of customers choose to have their needs satisfied by one particular business over another is a function of marketing, and of location. Therefore, the challenge for any tenant that is doing well is whether the success of the business venture is more a reflection of the tenant’s modus operandi or mostly a spin-off from the popularity of the location. For example, acting for a landlord, I let a shop to a business specialising in sale and hire of videos (DVDs, etc) of old movies. The tenant needed to relocate from nearby because its premises there were going to be redeveloped. The tenant was convinced he was doing well because of the specialised nature of his business but as he soon discovered it was more to do with where he was based before. My Client’s shop was not in such a good position and the passing trade was not enough to support the tenant’s business at rent the tenant had agreed. That didn’t make the rent wrong in itself; but just for that type of business.
Appraising the merits of location has become more difficult now that on-line commerce is accepted generally amongst customers. There are many tenants that have downsized to improve efficiency and consolidated premises in order to reduce costs. Many retailers have closed their bricks-and-mortar presence on the high street because the cost of providing a physical place for doing business is considerably more expensive than trading on-line. A virtual presence on-line is akin to mail order but with trimmings.
For multiple retailers, it used to be that to have branches in 200 towns (and cities) would provide almost 100% geographical catchment. Now it’s 50 or so and in future a few stores in top centres might be all that is needed. Whenever locations become centres of attention, the benchmark changes for everyone else. Hence, the ongoing and potentially improving popularity of the location, attractiveness and so on, is important for a landlord. A location that doesn’t have what it takes to attract the calibre of tenant that would contribute to the appeal of the location is unlikely to be able to compete successfully with those locations that do. Since the location is where the property is, the potential for the property should be considered by reference to the factors that obviously contribute now and those in the offing.
Factors in the offing may not be apparent, or rather not so acceptable to the majority: what is clear to some or a few may be laughable to others, but location is not about personal resistance to change, but swirling undercurrents gathering steam, the groundswell of powerful feelings. For example, in the June 1989 issue of my newsletter for clients and contacts, I said that the emergence of the ‘Green’ consumer marked the onset of a major shift in attitude that would have repercussions for all aspects of future retailing. Nowadays, ‘Green’ issues and all that they have spawned such as sustainability, Energy Performance Certificates, and such like, are taken for granted but in the same way the world-wide-web has only been with us for 25 years yet seems like forever so ‘Green’ is a relatively new entrant to mainstream thinking.
Essentially, the direction of a market is geared to progress, which, in the context of personal and business development, may be inwards or outwards depending upon priorities and aspirations. The challenge for all business tenants is to synchronise with customers, and for all landlords to synchronise with tenants, but that does not have to mean the actual tenant. Whether a landlord wants to hang on the actual tenant, rather than take its chances in the market, is a matter of investment policy. And whether a tenant wants to become a tenant of a particular landlord depends upon what that landlord has to offer in the way of property. Similarly, whether a tenant wants to continue catering for a particular type of customer is a matter for that particular tenant. Not so much an instability as the desire to remain in sync, the constant re-aligning, rejigging, pruning and fine-tuning of freehold and leasehold interests by thousands of landlords and tenants is the reason for the number of commercial properties in the market at any time.
For retailers, for example, trading positions change according to the influences on (potential) trade. A prime position today could be become secondary in future, and vice versa. The identity of multiple retailers is not in itself a reliable indicator of a good location: the question is whether most if not all of those particular multiple retailers would jump at the chance of getting a shop in that location if they were not already there. Or would they leap at the first opportunity to get out? When you buy a property, you are not buying the whole of the market, you are buying a particular property. Assessing tenant-covenant is not just about appraising the financial standing of the tenant as a whole, but also identifying the tenant’s intention for that particular property. What you have to ask is if the tenant vacates on break clause or end of the lease, whether the property would relet to a tenant whose covenant would at least be on a par with the outgoing tenant and the rent, the terms and conditions of the new lease at least maintain the investment value.
Since properties worth keeping through thick and thin are rarely offered for sale, which means 99% of propositions in any auction catalogue are probably not worth buying, anyone following my advice might think they’d never buy anything! But why buy for the sake of it? Why invest in buying and owning a commercial property if there’s little or no likelihood of it performing? Of you being better off than you were? One answer, of course, is that I could be wrong. In a market whose prices are mostly driven by sentiment, rather than technicalities, surely any property acquired at the right price will perform over the long term at least? Therefore, it may be not that you shouldn’t buy anything that takes your fancy, but just a question of price. The answer to whether the price is right can only be subjective. The intrinsic value of an asset, over and above its scrap value is largely based on sentiment. [Talking of scrap value, just because the property could cost more to build than the asking price for the end-product does not make the property worth buying. All property has a shelf-life in the demand-market, regardless of any potential for change of planning use.]
Sentiment can get in the way of appraisal by scoffing at technicalities as surmountable. In other words, if all else fails then buy yourself out of trouble. If I were an investor in property then frankly I’d rather not waste time on what is likely to prove a non-performing investment based on technicalities, but since I don’t invest in property (other than a home) the only way I can emphasise with sentiment-investment is in the context of trading: buy to resell on the momentum. Otherwise all I can do is point out the pitfalls and what can go wrong by ignoring the technicalities. What can wrong because the tenant resists resolutely. Hence, my contribution to the success of the landlord’s choice of commercial property is to use my know-how to either at least maintain or better still improve the investment performance. And for that one needs an in-depth knowledge of the technicalities and negotiating psychology, because it is through the use of the technicalities and ploys that tenants can make or break the landlord’s investment.
Although the pace of change is tenant-demand geared to customers, the driving force that has transformed the commercial property landscape from a relatively level-playing field into a polarised market is the successful use of the technicalities and negotiating ploys by tenants and their advisers. Consequently, at a macro-level, some locations have what is takes and have gone for it, others are fighting for survival and in many cases dying on their feet. In the quest for solutions to the havoc wreaked on local economies and communities, one can pinpoint the more obvious macro- reasons for decline, business rates, high rents, local authority parking charges, out-of-town supermarkets, retail parks, etc, but since those factors are nationwide, it still doesn’t explain why some locations are more successful than others.
In my opinion, the underlying reason is organic: a feeling that is equivalent to the institutional property investor’s idea of a ‘clean’ lease. In its tangible form, it is a desire by profitable customers and successful and aspirational tenants to avoid mixing with all and sundry. Why lease tatty premises from a greedy amateur investor in a declining area when one can rent a gleaming building from a professional landlord in a good location, and often for not that much more, all told. The desire for organic in the sense of authenticity, open communication and transparency remains as strong as ever. In my opinion, one that seems to be shared by a good many others, most provincial towns have gone ex-growth. The core organic positions have been redeveloped, thereby acting as a magnet for the tenant-spending power, leaving the peripheral positions to fend for themselves.
The art of selling investments that in future will under-perform has succeeded in wooing hundreds of private investors into dud locations. The dumping of non-performing investments by shrewd sellers on the inexperienced is nothing new but, nowadays, with the bulk of investments offered at auction the fever has spread. There is, of course, nothing wrong with wanting to buy a property currently let to a good tenant in a nice place. But that’s not the point: it’s not whether you as the landlord would like the location, but whether the tenant would renew the lease on at least the same overall basis as now, and the premises would if vacant be lettable to a tenant whose corporate image would help enhance the location and stimulate demand from other like-minded tenants as well. If there is any doubt whatsoever about either one or both of those factors then until a change arises you are stuck with the technicalities, so you may as well use them to your advantage.
to be continued……
Apart from vacant property that might go up in value of its own accord, an occurrence that can reflect change of use for planning permission, development potential, and demand from owner-occupiers, the investment potential in commercial property depends upon tenants.
Tenants are the customers for investors in commercial property.
The property-relationship between landlord and tenant hinges on the terms and conditions of the tenancy; in popular parlance, the lease. Generally, investors prefer what is known as a ‘clean’ lease: an institutional standard whereby most if not all the responsibilities for the use of the premises fall on the tenant, and with no ambiguity in the interpretation of the contract.
Leases in the commercial property market are a challenge for investors, because there is no standard form of lease in common usage. Many landlords and tenants and lawyers have their own standard leases that incorporate specific requirements, but all are subjective. To assume the terms and conditions in each lease would be the same in every other is a mistake.
Drafting a lease is about recording the agreement in writing, the choice of words and phrases that spell out the responsibilities between landlord and tenant. On grant of a new lease, the onus is on the landlord’s side to draft and on the tenant’s side to approve. Sometimes, where the tenant has specific requirements, the tenant’s lawyer will offer to draft the lease but that is usually only to save time. Better for the tenant to provide the wording required rather than the landlord have to guess. Unfortunately, whether through drafting inexperience or error, and because many landlords and tenants can’t be bothered to read the ‘small print’ before signing the document, the wording of a lease will often differ from what the parties intended, so ambiguities in interpretation can arise.
Disputes involving differences in interpretation that are taken to court constitute the body of case-law. The drafting of leases is also fashionable. The widespread use of precedents, often followed slavishly, can result in little or no thought being given to ensuring the performance of the investment.
The duration of a lease, the term of the tenancy, is often for years. Leases may be shorter now, 10 years perhaps with a break clause at the 5th year, but 15-25 years remain popular, not least because bank criteria for lending to tenants requires a secure term of at least 8 years.
Leases are fixed documents whose terms and conditions can only be varied by mutual agreement, or rectification usually only by the original parties. The market, however, is not fixed: it is continually changing. What is a market? A market is anywhere business is done. Transactions are usually for money, but may involve bartering goods and are conducted between sellers and buyers, or through agents, wholesalers, manufacturers, brokers, etc. Marketing happens when we want to satisfy a need and are willing to exchange something with someone able to help us satisfy that need. The process exists to bring buyers and sellers into a market. In business, the transaction is reciprocal. Business is about helping people in exchange for money.
Markets exist to serve the needs of participants and for identification have classifications and categories: for example, the property market, whose categories include residential property, commercial property, and so on. Naturally inactive, markets become active when fuelled and driven by a range of different influences, all of which originate in how the participants in the particular market respond to whatever is or perceived to be happening in the reality that the market exists to serve.
With commercial property, the ups-and-downs of the market are not necessarily dependent upon whatever is happening in the economy at large so the line of reasoning may be hard to follow, but that doesn’t mean we cannot remain in sync with any changes: all that’s needed is flexibility. Leases, however, are inflexible: what was agreed years ago may not be relevant now.
Where the landlord and tenant are the same parties throughout the term, it is probably less likely for either or both to want to interpret the terms and conditions of the lease in a way that differed from their original intention, unless to material advantage and being unconcerned about the risk of falling out over a dispute. Where one or both of the original parties have changed, and since leases are themselves assets that can be bought and sold (subject to any restrictions), a successor-landlord or successor-tenant might have a different view of the intention of the original parties.
Buying an existing investment means taking over a lease that may be outmoded or badly drafted, whose terms and conditions may work against the investment objective. Conversely, leases may contain words and phrases that serve the landlord more than the tenant. It is a question of finding. As I say, anyone can read a lease, it’s knowing what to look for that really counts.
Once upon a time, it would have been unusual for tenants to take professional advice from surveyors. Surveyors acted for landlords and tenants generally did as they were told. Tenants were subservient. For many years, on the RICS application form for dispute resolution procedure, under the heading ‘tenant representative’ were the words, in parentheses, “if any”.
Life was never the same again for landlords following the House of Lords ruling in United Scientific Holdings v Burnley Borough Council [1978]. Briefly, the landlord had missed the date for the rent review notice, so the tenant argued the landlord had lost the right to review the rent.
As I said, (01 April 2014) “We (surveyors) know that landlords become successful when their investments perform. We also know that tenants become successful not just when their businesses are performing well but also when the total property cost commitment is kept to a minimum.” Reducing property costs and minimising tenancy liabilities makes sense for tenants but is unlikely to make any sense for landlords. The idea that provided the premises are economical, tenants more likely to stay the course, is defeated because tenants want to have it both ways. They want the lowest rents and the least liabilities together with the most flexibility. Scrutinising the wording and phrasing of the terms and conditions of leases in the hope of scoring points either for landlord or tenant is big business for surveyors and lawyers. It works both ways: landlords can benefit enormously from a different interpretation; for tenants, a single word, a turn of phrase, can often result in a substantial reduction in rent or relief from liability.
Apart from whether the landlord is legally entitled to more (as distinct from having the right to expect more) and whether the tenant is legally entitled to less (as distinct from thinking the world owes it a living), landlord and tenant each in their own ways want to maintain a profitable relationship with the location of the property. The adage “location, location, location” is a fundamental ingredient for successful investment which might be thought ‘old school’ compared with the relatively recent popular demand for tenant-covenant, but the adage remains nevertheless the more important. Unlike covenant which depends upon the tenant wanting to remain in occupation, the property is fixed and immoveable. In other words, if you buy a property let, for example, to a bank which, as a blue-chip covenant, would normally fetch a higher price in the investment market, but the bank does not renew its lease or exercises a break clause then you’d no longer have the bank as a tenant but you still have the property.
Subject to compliance with the lease, how the tenant chooses to run its business is nothing to do with the landlord, but it is to do with the customers whom the tenant’s business serves. Why those customers and/or type of customers choose to have their needs satisfied by one particular business over another is a function of marketing, and of location. Therefore, the challenge for any tenant that is doing well is whether the success of the business venture is more a reflection of the tenant’s modus operandi or mostly a spin-off from the popularity of the location. For example, acting for a landlord, I let a shop to a business specialising in sale and hire of videos (DVDs, etc) of old movies. The tenant needed to relocate from nearby because its premises there were going to be redeveloped. The tenant was convinced he was doing well because of the specialised nature of his business but as he soon discovered it was more to do with where he was based before. My Client’s shop was not in such a good position and the passing trade was not enough to support the tenant’s business at rent the tenant had agreed. That didn’t make the rent wrong in itself; but just for that type of business.
Appraising the merits of location has become more difficult now that on-line commerce is accepted generally amongst customers. There are many tenants that have downsized to improve efficiency and consolidated premises in order to reduce costs. Many retailers have closed their bricks-and-mortar presence on the high street because the cost of providing a physical place for doing business is considerably more expensive than trading on-line. A virtual presence on-line is akin to mail order but with trimmings.
For multiple retailers, it used to be that to have branches in 200 towns (and cities) would provide almost 100% geographical catchment. Now it’s 50 or so and in future a few stores in top centres might be all that is needed. Whenever locations become centres of attention, the benchmark changes for everyone else. Hence, the ongoing and potentially improving popularity of the location, attractiveness and so on, is important for a landlord. A location that doesn’t have what it takes to attract the calibre of tenant that would contribute to the appeal of the location is unlikely to be able to compete successfully with those locations that do. Since the location is where the property is, the potential for the property should be considered by reference to the factors that obviously contribute now and those in the offing.
Factors in the offing may not be apparent, or rather not so acceptable to the majority: what is clear to some or a few may be laughable to others, but location is not about personal resistance to change, but swirling undercurrents gathering steam, the groundswell of powerful feelings. For example, in the June 1989 issue of my newsletter for clients and contacts, I said that the emergence of the ‘Green’ consumer marked the onset of a major shift in attitude that would have repercussions for all aspects of future retailing. Nowadays, ‘Green’ issues and all that they have spawned such as sustainability, Energy Performance Certificates, and such like, are taken for granted but in the same way the world-wide-web has only been with us for 25 years yet seems like forever so ‘Green’ is a relatively new entrant to mainstream thinking.
Essentially, the direction of a market is geared to progress, which, in the context of personal and business development, may be inwards or outwards depending upon priorities and aspirations. The challenge for all business tenants is to synchronise with customers, and for all landlords to synchronise with tenants, but that does not have to mean the actual tenant. Whether a landlord wants to hang on the actual tenant, rather than take its chances in the market, is a matter of investment policy. And whether a tenant wants to become a tenant of a particular landlord depends upon what that landlord has to offer in the way of property. Similarly, whether a tenant wants to continue catering for a particular type of customer is a matter for that particular tenant. Not so much an instability as the desire to remain in sync, the constant re-aligning, rejigging, pruning and fine-tuning of freehold and leasehold interests by thousands of landlords and tenants is the reason for the number of commercial properties in the market at any time.
For retailers, for example, trading positions change according to the influences on (potential) trade. A prime position today could be become secondary in future, and vice versa. The identity of multiple retailers is not in itself a reliable indicator of a good location: the question is whether most if not all of those particular multiple retailers would jump at the chance of getting a shop in that location if they were not already there. Or would they leap at the first opportunity to get out? When you buy a property, you are not buying the whole of the market, you are buying a particular property. Assessing tenant-covenant is not just about appraising the financial standing of the tenant as a whole, but also identifying the tenant’s intention for that particular property. What you have to ask is if the tenant vacates on break clause or end of the lease, whether the property would relet to a tenant whose covenant would at least be on a par with the outgoing tenant and the rent, the terms and conditions of the new lease at least maintain the investment value.
Since properties worth keeping through thick and thin are rarely offered for sale, which means 99% of propositions in any auction catalogue are probably not worth buying, anyone following my advice might think they’d never buy anything! But why buy for the sake of it? Why invest in buying and owning a commercial property if there’s little or no likelihood of it performing? Of you being better off than you were? One answer, of course, is that I could be wrong. In a market whose prices are mostly driven by sentiment, rather than technicalities, surely any property acquired at the right price will perform over the long term at least? Therefore, it may be not that you shouldn’t buy anything that takes your fancy, but just a question of price. The answer to whether the price is right can only be subjective. The intrinsic value of an asset, over and above its scrap value is largely based on sentiment. [Talking of scrap value, just because the property could cost more to build than the asking price for the end-product does not make the property worth buying. All property has a shelf-life in the demand-market, regardless of any potential for change of planning use.]
Sentiment can get in the way of appraisal by scoffing at technicalities as surmountable. In other words, if all else fails then buy yourself out of trouble. If I were an investor in property then frankly I’d rather not waste time on what is likely to prove a non-performing investment based on technicalities, but since I don’t invest in property (other than a home) the only way I can emphasise with sentiment-investment is in the context of trading: buy to resell on the momentum. Otherwise all I can do is point out the pitfalls and what can go wrong by ignoring the technicalities. What can wrong because the tenant resists resolutely. Hence, my contribution to the success of the landlord’s choice of commercial property is to use my know-how to either at least maintain or better still improve the investment performance. And for that one needs an in-depth knowledge of the technicalities and negotiating psychology, because it is through the use of the technicalities and ploys that tenants can make or break the landlord’s investment.
Although the pace of change is tenant-demand geared to customers, the driving force that has transformed the commercial property landscape from a relatively level-playing field into a polarised market is the successful use of the technicalities and negotiating ploys by tenants and their advisers. Consequently, at a macro-level, some locations have what is takes and have gone for it, others are fighting for survival and in many cases dying on their feet. In the quest for solutions to the havoc wreaked on local economies and communities, one can pinpoint the more obvious macro- reasons for decline, business rates, high rents, local authority parking charges, out-of-town supermarkets, retail parks, etc, but since those factors are nationwide, it still doesn’t explain why some locations are more successful than others.
In my opinion, the underlying reason is organic: a feeling that is equivalent to the institutional property investor’s idea of a ‘clean’ lease. In its tangible form, it is a desire by profitable customers and successful and aspirational tenants to avoid mixing with all and sundry. Why lease tatty premises from a greedy amateur investor in a declining area when one can rent a gleaming building from a professional landlord in a good location, and often for not that much more, all told. The desire for organic in the sense of authenticity, open communication and transparency remains as strong as ever. In my opinion, one that seems to be shared by a good many others, most provincial towns have gone ex-growth. The core organic positions have been redeveloped, thereby acting as a magnet for the tenant-spending power, leaving the peripheral positions to fend for themselves.
The art of selling investments that in future will under-perform has succeeded in wooing hundreds of private investors into dud locations. The dumping of non-performing investments by shrewd sellers on the inexperienced is nothing new but, nowadays, with the bulk of investments offered at auction the fever has spread. There is, of course, nothing wrong with wanting to buy a property currently let to a good tenant in a nice place. But that’s not the point: it’s not whether you as the landlord would like the location, but whether the tenant would renew the lease on at least the same overall basis as now, and the premises would if vacant be lettable to a tenant whose corporate image would help enhance the location and stimulate demand from other like-minded tenants as well. If there is any doubt whatsoever about either one or both of those factors then until a change arises you are stuck with the technicalities, so you may as well use them to your advantage.
to be continued……
April Fool or Successful Investor
01/April/2014
Successful investment is about judicious choice and timing: what to buy, how much to pay, how to manage, when and how to sell.
Most or all of which may be easier said than done, because investors generally are far more influenced towards poor judgement than they might realise. In this scientific world we have created for ourselves, opinions that are not evidence-based don’t seem to count for much. Yet successful investment is not only about considering the evidence, but also the art of knowing.
Knowing is awareness, about being informed. Knowing is different from knowledge. Facts, information and skills can all be learned and from experience relied upon. But experience may be out-of-date, limited, or not suited to different ways of thinking. Knowledge provides a basis for logic. People are comfortable with logic: it is reasoned so it follows. But, logical thinking is based on past experience, whereas the future is uncertain. Life changes, attitudes shift, people change. That’s why past performance is no guide to the future. No one knows for sure, but that doesn’t mean we can’t predict with a fair degree of accuracy, especially when you know what you’re about. Which brings me to asking you to ask yourself: what are you about? What is it about you that would enable you to appraise an investment with sufficient confidence to be certain of your conclusion. How come you can pick winners?
Successful investment in commercial property includes the ability to be discerning, the more adept you become, the more you can gauge at a glance whether the proposition is likely to perform. Performance despite any resistance by the tenant. Why would the tenant resist?
The answer is that you understand the market in which you’re investing. You understand what makes it tick and where it’s heading.
It’s when you don’t understand the fundamental principles that you are likely to come unstuck somewhere along the way. With commercial property, coming unstuck is what plenty of investors do do through fault of their own.
It doesn’t have to be like that.
If through my explaining the principles, you say to yourself, ‘yes, I know all that’ then fair enough. At least we’ve started with the basics rather than charged straight into the deep-end. Jumping to conclusions is what investors in commercial property generally do, only to discover that finding out the hard way can prove an expensive mistake.
Once upon a time, commercial property could be relied upon to adjust to its owner’s mistakes. Never mind if you got it wrong, somehow the market would find a way to bail you out. It’s different now. here have you heard that before? But it is. The commercial property market is polarising, it has been for years. Every so often another gap appears in the level of understanding whereupon another load of investors falls by the wayside. The credit-crunch, the recession, merely brought it to the surface. Take away the money-supply and the commercial property market is exposed for what it is. Overnight, yields soared, prices fell, loan covenants breached, the banks repossessed. An aberration in an otherwise long-term hedge that is generally interpreted a consequence of the state of the economy, but it wasn’t; at least not in my opinion, it wasn’t. I should know, I act for and against more than enough different landlords to know whose investments have powered ahead despite the downturn, and whose haven’t.
The experts tell us the property market is cyclical, but is it? Perhaps it’s steady all the way. Naturally, life has ups-and-downs, but attitudes are flexible, we can remain in sync. We’re not supposed to come unstuck in times of change. Thinking problems are normal is where people go wrong.
In my philosophy, a problem is symptomatic of a fault in direction: either you are thinking the wrong way for you, or the wrong way for the property, or a combination of both. The wrong way for you could be that you’re not cut out for commercial property, you don’t have what it takes to manage the investment as it should be done. The wrong way for the property is that it is no longer fit for purpose, it has outlived its usefulness.
A cyclical market can become a roller-coaster, bliss “if you like that sort of thing” (to quote the comic actor Tim Brooke-Taylor), but perhaps the norm is when yield is high, commensurate with the risk? After all, when you assess a commercial property investment based upon property fundamentals, as distinct from comparing returns with what you get from cash on deposit, it is unlikely there’ll be that many places where growth would be expected.
Performance is the measure of growth. Whether after allowing for all the costs, and adjusting for inflation, and net of tax you are actually that much better off – and not just in the long-run, but from day one.
The ‘day one’ test is that if you were to sell the property on the day immediately following exchange of contracts or completion then you’d get your money back and more. Even if ‘day one’ is too much like wishful thinking for your taste, whatever longer period of time you’d prefer, the test is whether at any point in time your investment would pass the test of getting your money back and more, regardless of the state of the market.
———————————–
The property market is composed of owner-occupiers, developers, landlords (also known as investors) and tenants (also known as occupiers).
There are two ways to participate in the commercial property investment market: each has its advantages and disadvantages.
You can invest in commercial property indirectly, buying shares in a quoted property company on the stock-market, or a property investment trust, or real estate investment trust (REIT), or property unit trust (PUT), or property fund or a property bond. With indirect investment, you are entrusting the success of your investment to the skills and judgement of the directors and managers of the company, and your interpretation of the company’s accounts. A key indicator is the net asset value, so why pay more for a share than the NAV. Share prices at a premium to NAV are an expectancy that the NAV will continue to rise, but it may not. The stock may be in short-supply so you may be competing with demand or market-makers flexing their muscles. In any event, NAV is not enough by itself: it’s also a question of who provided the valuation: surveyors vary in their opinions and estimates from the cautious to the optimistic. It’s also a question of the quality of the company’s existing properties and whether if in the market to sell they’d then fetch at least the same as the value in the company’s books. Where’s the money coming from to pay dividends and how come the directors and staff get pay rises and issue themselves with stock options, but the shareholders can’t count on getting higher dividends. Then there’s the ultimate challenge for anyone investing in equities: timing the volatility of the stock market.
You can invest directly in commercial property, either buying an empty property and letting it from scratch and/or developing the property into something more valuable or buying an existing investment; in doing so you are exposed to an unregulated market. To give the impression that the risk of loss would be minimised, the market is dominated by professional advisers: surveyors, lawyers, and accountants, many of whom also advise the banks and other lenders on the value of property.
(Another way, which is nearly the same as buying directly, is to be a tenant, buy the freehold (assuming the owner would sell) and then when you sell your business as a going-concern, keep the property and grant a new lease to the buyer of your business. )
The volume of information on-line and in the media has exacerbated the mass-market influences for how to appraise commercial property for investment but rarely are the reasons for under-and non-performance of commercial property investments highlighted. The reason I suspect is that the emphasis is on getting you to invest and thereafter using the advisers’ services to maximise performance.
Advisers have a duty of care but the duty doesn’t always extend beyond the adviser’s client. For the most part, it’s caveat emptor (“let the buyer beware”). Therefore, if you choose to be on your own, left to your own devices, and take the view that the people who run the market presumably know what they’re doing, then don’t complain when the experts tell you that the state of the market is the reason your investment isn’t performing as well as you expected when you bought it.
For successful investment in commercial property, there are three levels of understanding, all inter-dependent, and none of which should be considered in isolation:
Generally, property fundamentals are easily identifiable. Technical analysis is experience of business tenancy law and valuation. Sentiment is when investors get carried away.
Market activity and momentum conveys feelings of comfort and reassurance but, when you go along with what you think others know, all you’re doing is following: buying into investor confidence, what is known as market sentiment. Fair enough if you’re going to cash in and sell as prices rise further, but not if you’re planning to hold long-term for a pension plan. Property dealers trade but, generally, investors buy to hold for at the least the duration of the mortgage.
Wealth warning: sentiment is mostly hot air which makes the market hot and inflates bubbles.
A bubble is a situation where market prices are unsustainable. The life-cycle of a bubble starts with the stealth phase, the smart money. As the market takes off, and institutional investors become interested, the first sell off occurs. With the media attention, that grabs the enthusiasm of public, the mania phase fuels greed and delusion. At the peak is the new paradigm, the shift in thinking. Demand wobbles. A sell off occurs. Rebound. Fear and collapse set in. Despair arrives. As the dust settles, demand slowly picks up and return to the mean average.
At present, the market is booming, apparently it’s a no-brainer not to get involved. Low interest rates, awash with cash from overseas investors, émigrés fleeing equities and bonds, and anticipation of a wall of money from cashed-in pension pots. A leading auctioneer tells me demand for commercial property investment is outstripping supply, especially in London and the South-East. The state of the market is bound to be different this time. It always is, that’s the nature of sentiment, very persuasive.
Having set your sights on what you want to buy, a great deal of time, effort and cost can be expended on the preliminaries, so wondering about changing your mind at the last minute can be put down to pre-marital nerves. If you buy by private treaty then you can’t back out because word would soon get around the investment community that you’re unreliable, your word is not your bond, so you’ll have to exchange regardless, or come up with a plausible excuse.
It’s at times like these when stopping to think is crucial. Never mind the cost of borrowing and the yield that can be bought, the question is where is the demand going to come from to provide capital and rental growth. Why should the tenant want to pay more, when most tenants are struggling as it is or bargain-hunting? And if you think tenants have no choice because the rent review is upward-only then you really don’t understand.
There’s another thing: a difference exists between price and market value. Price is subjective, whatever the seller wants and how much the buyer is willing to pay. Market value is objective, what someone else would pay. If you don’t understand the difference or don’t think there is a difference then that’s where you’ll be going wrong.
Caveat emptor. The first point to remember about price is that when you buy, the seller is wanting to sell you something which, until you’ve bought, you might not discover what it is. With private treaty, ‘subject to contract’. you can take as long as you like for due-diligence, subject to the seller’s patience, but the answers to pre-contract enquiries are only as good as the questions you’ve asked. When you buy at auction, you only have about 6-8 weeks to make enquiries and carry out research, so you’ll have to have your wits about you, which should include someone on your side to point out the pitfalls and ensure any assumptions you may be making are in fact correct.
Commercial property investment involves commercial contracts, which means the parties are deemed to know what they’re doing. It’s one thing to know what you are doing when you do what you know, quite another to know what to do when something goes wrong or more usefully to know how to avoid going wrong in the first place.
The role of professional advisers is to help landlords and tenants to be successful. Professional advisers are know-alls, or at least they should be. We know that landlords become successful when their investments perform. We also know that tenants become successful not just when their businesses are performing well but also when the total property cost commitment is kept to a minimum. In our professional capacity, we’re on the client’s side. But deep down it’s a matter of whose side your adviser is really on, and that would depend upon a host of factors. In private, in our personal political views and ideology, we might be outright capitalist, woolly-headed liberal, or hardened socialist. Caring about the wider-consequences? How far we allow our personal beliefs to influence our professional advice depends upon our attitude, our experience, whether we mix business with pleasure, and our principal source of earnings.
Principal-to-principal, in theory, the relationship between landlord and tenant should be a partnership. In practice, it is not. In practice, there is wariness on both sides and in many cases a deep resentment that, through operation of law, rental valuation, and cunning, often involving skillful advisers, the landlord or the tenant is better off at the expense of the other.
The reason for the difference in achievement is that the commercial property market is not a perfect market which, from an investment perspective, is just as well, because the purpose of a perfect market is not to make profits, but to efficiently allocate resources. In a perfect market, profit is a sign of inefficiency, whereas in an imperfect market, profit arises in direct proportion to the imperfections. In a perfect market, there is a large number of buyers, a large number of sellers, the quantity bought by any individual so small relative to the total quantity traded that individual trades leave the market unaffected; the product is homogeneous (the same property for all buyers and sellers), all buyers and sellers have complete information on the prices being asked and offered in other parts of the market; and there is perfect freedom of entry to and exit from the market. In an imperfect market, there is no level playing field. Different people, different levels of experience, different approaches to asset management, some passive, others pro-active. As a tenant-client told me “for lessons in how to be stitched up, the shop property market has no equal”. Not just how to capitalise on opportunities but how to create opportunities. It all adds up to know-how.
As a specialist in rent review and business tenancy advice for landlords and retailers, I work at the sharp end of commercial property market, to be precise, shop property. I’m not an agent in the general-public perception of estate agency. My work is almost entirely behind-the scenes. Sometimes investors consult me on whether a proposition would be a good buy, but mostly I get involved after the property has been bought and at the stage when the landlord wants to take a back-seat in dealings with the tenant, for example on requests for assignment of the lease and such like, or at rent review and tenancy expiry/renewal when the relationship between landlord and tenant is more likely to be fraught.
Whether you are a landlord or a tenant, an advantage of your instructing a surveyor is to have a ‘shield’ between you and the other party. When you deal with the matter yourself, personality issues can get in the way and you could end being accommodating and agreeing to things that you wouldn’t otherwise or a surveyor would question. I tailor my approach to suit the client’s objective, the circumstances, the nature of the parties, so on.
The work is demanding and over the years has become more tiring. That is not a feature of advancing years, young surveyors tell me how exhausting the work can be. It would be so much easier if the other side would give in to reason without a fight, without resorting to ploys that can inject fear into cautious landlords and tenants. Socially, I’ll tell people what I do if they ask and if they probe then I say I argue for a living. It’s not ‘New Age’ negotiation “you win, I win, everyone’s happy”, but ruthless ‘I win, you lose’. I use my skills to increase rent for landlords, unless acting for the tenants in which case I’ll do the reverse. It may not be politically-correct to ignore the wider consequences and disregard the layer of socialism that pervades most walks of life, as summed up in the phrase “we’re all in this together” but when I’m being paid for my services, I’m a technician, not a philosopher. I can discuss whether something is a good idea, I can advise on the consequences, I can recommend, but ultimately it’s up to the client to decide.
Frankly, I think many landlords get a raw deal from tenants, especially from some multiple retailers whose surveyors seem to delight in putting the wind-up landlords. Something tenants are good at is selling: selling the idea they can’t afford any more, selling the idea they’d trigger the break clause if the landlord won’t agree. Whatever the ploy, it’s all grist to the mill of reducing property costs and keeping up appearances.
Is it possible for a surveyor to sit on the metaphorical fence, one moment acting for a landlord, the next for a tenant? In my philosophy, there is no need for emotional involvement or attachment. As a vegetarian, I wouldn’t be able to do my job properly if I were squeamish about going into a butcher’s shop. The more cosmopolitan the commercial property market becomes, the greater the diversity in attitude, the more flexible in views, opinions and application of skill one must be to stay on the ball. For me, landlords and tenants fall into two categories: those whose business methods and attitude generally I admire and respect, and everyone else. Over the years, I’ve honed my early warning system. Generally, people self-select. Even so, it’s not that easy to sift the wheat from the chaff: often the truth doesn’t emerge until after the work is underway. Ultimately, it’s about discernment: about helping the sort of people I like, people on the same wavelength.
Shortly after I established my practice, a public property company instructed me to manage a parade of shops and offices. Although I do manage property for a few clients, full management is not a service I offer as a matter of course – mostly I provide assisted-management, for example, the landlord deals with the rent collection, I do everything else. Curious why a plc should want me of all people to undertake full management, I was told that was the only way the company could instruct me to do any work for them and which it wanted to do because it was scared I should act against them!
I am unsure what I did to deserve being described as the ‘most obstinate surveyor in Harrow’ by a surveyor whom I crossed swords with on occasions, but as my reputation began to precede me, it got to the point that an auctioneer said that if it were known I were acting for the tenant then prospective investors could forget any idea of getting a rent increase. Over 20 years ago, having relocated my office to Herefordshire, where away from the noise and stress of London, it’s possible to think clearly, I had a go at mixing business with pleasure (until the novelty wore off and I reverted to my own method of marketing my services). The experience paid off: a tenant instructed me to deal with a rent review. The landlord had had a go himself but the tenant didn’t want to pay so much, so the landlord instructed a local surveyor who turned up the heat. I inspected the premises, read the lease, and told the surveyor no increase. The surveyor’s response that I might be right but if I wanted to get on in this part of the world then I should learn to play the game. I said I was happy to learn provided it wouldn’t cost my client any more. My client agreed with me, the landlord conceded.
Often employed as a troubleshooter, I crop up all over England and Wales but the bulk of my work is in London and the South-East. Dealing with different landlords, different tenants, different types of property, different locations, I have extensive experience of diversity.
Whether landlord or tenant, principals in commercial property market comprise professionals and amateurs. Professionals wouldn’t dream of agreeing to anything without taking advice and tend to stick with their trusted advisers, through thick and thin. Amateurs seem more concerned about the cost of advice than the quality, so shop around. The commercial property market attracts parasites: people that have latched on to property’s popularity and produce glowing reports and blind you with statistics. They take your money for transactions and all the glossy-stuff but frankly they haven’t a clue about life at the sharp end of tenancy management. Blaming the state of the market is an excuse which sounds plausible because investors are conditioned to think like that. Hence, if you invest without taking advice from people who really know their stuff, but instead doing your own research, gathering informations from all manner of sources and from that conclude that it can’t possibly be as complicated as the experts make out then you’d be correct in theory were it not for the difference between what it says in the classroom textbook and what happens in practice.
Most or all of which may be easier said than done, because investors generally are far more influenced towards poor judgement than they might realise. In this scientific world we have created for ourselves, opinions that are not evidence-based don’t seem to count for much. Yet successful investment is not only about considering the evidence, but also the art of knowing.
Knowing is awareness, about being informed. Knowing is different from knowledge. Facts, information and skills can all be learned and from experience relied upon. But experience may be out-of-date, limited, or not suited to different ways of thinking. Knowledge provides a basis for logic. People are comfortable with logic: it is reasoned so it follows. But, logical thinking is based on past experience, whereas the future is uncertain. Life changes, attitudes shift, people change. That’s why past performance is no guide to the future. No one knows for sure, but that doesn’t mean we can’t predict with a fair degree of accuracy, especially when you know what you’re about. Which brings me to asking you to ask yourself: what are you about? What is it about you that would enable you to appraise an investment with sufficient confidence to be certain of your conclusion. How come you can pick winners?
Successful investment in commercial property includes the ability to be discerning, the more adept you become, the more you can gauge at a glance whether the proposition is likely to perform. Performance despite any resistance by the tenant. Why would the tenant resist?
The answer is that you understand the market in which you’re investing. You understand what makes it tick and where it’s heading.
It’s when you don’t understand the fundamental principles that you are likely to come unstuck somewhere along the way. With commercial property, coming unstuck is what plenty of investors do do through fault of their own.
It doesn’t have to be like that.
If through my explaining the principles, you say to yourself, ‘yes, I know all that’ then fair enough. At least we’ve started with the basics rather than charged straight into the deep-end. Jumping to conclusions is what investors in commercial property generally do, only to discover that finding out the hard way can prove an expensive mistake.
Once upon a time, commercial property could be relied upon to adjust to its owner’s mistakes. Never mind if you got it wrong, somehow the market would find a way to bail you out. It’s different now. here have you heard that before? But it is. The commercial property market is polarising, it has been for years. Every so often another gap appears in the level of understanding whereupon another load of investors falls by the wayside. The credit-crunch, the recession, merely brought it to the surface. Take away the money-supply and the commercial property market is exposed for what it is. Overnight, yields soared, prices fell, loan covenants breached, the banks repossessed. An aberration in an otherwise long-term hedge that is generally interpreted a consequence of the state of the economy, but it wasn’t; at least not in my opinion, it wasn’t. I should know, I act for and against more than enough different landlords to know whose investments have powered ahead despite the downturn, and whose haven’t.
The experts tell us the property market is cyclical, but is it? Perhaps it’s steady all the way. Naturally, life has ups-and-downs, but attitudes are flexible, we can remain in sync. We’re not supposed to come unstuck in times of change. Thinking problems are normal is where people go wrong.
In my philosophy, a problem is symptomatic of a fault in direction: either you are thinking the wrong way for you, or the wrong way for the property, or a combination of both. The wrong way for you could be that you’re not cut out for commercial property, you don’t have what it takes to manage the investment as it should be done. The wrong way for the property is that it is no longer fit for purpose, it has outlived its usefulness.
A cyclical market can become a roller-coaster, bliss “if you like that sort of thing” (to quote the comic actor Tim Brooke-Taylor), but perhaps the norm is when yield is high, commensurate with the risk? After all, when you assess a commercial property investment based upon property fundamentals, as distinct from comparing returns with what you get from cash on deposit, it is unlikely there’ll be that many places where growth would be expected.
Performance is the measure of growth. Whether after allowing for all the costs, and adjusting for inflation, and net of tax you are actually that much better off – and not just in the long-run, but from day one.
The ‘day one’ test is that if you were to sell the property on the day immediately following exchange of contracts or completion then you’d get your money back and more. Even if ‘day one’ is too much like wishful thinking for your taste, whatever longer period of time you’d prefer, the test is whether at any point in time your investment would pass the test of getting your money back and more, regardless of the state of the market.
———————————–
The property market is composed of owner-occupiers, developers, landlords (also known as investors) and tenants (also known as occupiers).
There are two ways to participate in the commercial property investment market: each has its advantages and disadvantages.
You can invest in commercial property indirectly, buying shares in a quoted property company on the stock-market, or a property investment trust, or real estate investment trust (REIT), or property unit trust (PUT), or property fund or a property bond. With indirect investment, you are entrusting the success of your investment to the skills and judgement of the directors and managers of the company, and your interpretation of the company’s accounts. A key indicator is the net asset value, so why pay more for a share than the NAV. Share prices at a premium to NAV are an expectancy that the NAV will continue to rise, but it may not. The stock may be in short-supply so you may be competing with demand or market-makers flexing their muscles. In any event, NAV is not enough by itself: it’s also a question of who provided the valuation: surveyors vary in their opinions and estimates from the cautious to the optimistic. It’s also a question of the quality of the company’s existing properties and whether if in the market to sell they’d then fetch at least the same as the value in the company’s books. Where’s the money coming from to pay dividends and how come the directors and staff get pay rises and issue themselves with stock options, but the shareholders can’t count on getting higher dividends. Then there’s the ultimate challenge for anyone investing in equities: timing the volatility of the stock market.
You can invest directly in commercial property, either buying an empty property and letting it from scratch and/or developing the property into something more valuable or buying an existing investment; in doing so you are exposed to an unregulated market. To give the impression that the risk of loss would be minimised, the market is dominated by professional advisers: surveyors, lawyers, and accountants, many of whom also advise the banks and other lenders on the value of property.
(Another way, which is nearly the same as buying directly, is to be a tenant, buy the freehold (assuming the owner would sell) and then when you sell your business as a going-concern, keep the property and grant a new lease to the buyer of your business. )
The volume of information on-line and in the media has exacerbated the mass-market influences for how to appraise commercial property for investment but rarely are the reasons for under-and non-performance of commercial property investments highlighted. The reason I suspect is that the emphasis is on getting you to invest and thereafter using the advisers’ services to maximise performance.
Advisers have a duty of care but the duty doesn’t always extend beyond the adviser’s client. For the most part, it’s caveat emptor (“let the buyer beware”). Therefore, if you choose to be on your own, left to your own devices, and take the view that the people who run the market presumably know what they’re doing, then don’t complain when the experts tell you that the state of the market is the reason your investment isn’t performing as well as you expected when you bought it.
For successful investment in commercial property, there are three levels of understanding, all inter-dependent, and none of which should be considered in isolation:
- Property fundamentals
- Technical analysis
- Sentiment
Generally, property fundamentals are easily identifiable. Technical analysis is experience of business tenancy law and valuation. Sentiment is when investors get carried away.
Market activity and momentum conveys feelings of comfort and reassurance but, when you go along with what you think others know, all you’re doing is following: buying into investor confidence, what is known as market sentiment. Fair enough if you’re going to cash in and sell as prices rise further, but not if you’re planning to hold long-term for a pension plan. Property dealers trade but, generally, investors buy to hold for at the least the duration of the mortgage.
Wealth warning: sentiment is mostly hot air which makes the market hot and inflates bubbles.
A bubble is a situation where market prices are unsustainable. The life-cycle of a bubble starts with the stealth phase, the smart money. As the market takes off, and institutional investors become interested, the first sell off occurs. With the media attention, that grabs the enthusiasm of public, the mania phase fuels greed and delusion. At the peak is the new paradigm, the shift in thinking. Demand wobbles. A sell off occurs. Rebound. Fear and collapse set in. Despair arrives. As the dust settles, demand slowly picks up and return to the mean average.
At present, the market is booming, apparently it’s a no-brainer not to get involved. Low interest rates, awash with cash from overseas investors, émigrés fleeing equities and bonds, and anticipation of a wall of money from cashed-in pension pots. A leading auctioneer tells me demand for commercial property investment is outstripping supply, especially in London and the South-East. The state of the market is bound to be different this time. It always is, that’s the nature of sentiment, very persuasive.
Having set your sights on what you want to buy, a great deal of time, effort and cost can be expended on the preliminaries, so wondering about changing your mind at the last minute can be put down to pre-marital nerves. If you buy by private treaty then you can’t back out because word would soon get around the investment community that you’re unreliable, your word is not your bond, so you’ll have to exchange regardless, or come up with a plausible excuse.
It’s at times like these when stopping to think is crucial. Never mind the cost of borrowing and the yield that can be bought, the question is where is the demand going to come from to provide capital and rental growth. Why should the tenant want to pay more, when most tenants are struggling as it is or bargain-hunting? And if you think tenants have no choice because the rent review is upward-only then you really don’t understand.
There’s another thing: a difference exists between price and market value. Price is subjective, whatever the seller wants and how much the buyer is willing to pay. Market value is objective, what someone else would pay. If you don’t understand the difference or don’t think there is a difference then that’s where you’ll be going wrong.
Caveat emptor. The first point to remember about price is that when you buy, the seller is wanting to sell you something which, until you’ve bought, you might not discover what it is. With private treaty, ‘subject to contract’. you can take as long as you like for due-diligence, subject to the seller’s patience, but the answers to pre-contract enquiries are only as good as the questions you’ve asked. When you buy at auction, you only have about 6-8 weeks to make enquiries and carry out research, so you’ll have to have your wits about you, which should include someone on your side to point out the pitfalls and ensure any assumptions you may be making are in fact correct.
Commercial property investment involves commercial contracts, which means the parties are deemed to know what they’re doing. It’s one thing to know what you are doing when you do what you know, quite another to know what to do when something goes wrong or more usefully to know how to avoid going wrong in the first place.
The role of professional advisers is to help landlords and tenants to be successful. Professional advisers are know-alls, or at least they should be. We know that landlords become successful when their investments perform. We also know that tenants become successful not just when their businesses are performing well but also when the total property cost commitment is kept to a minimum. In our professional capacity, we’re on the client’s side. But deep down it’s a matter of whose side your adviser is really on, and that would depend upon a host of factors. In private, in our personal political views and ideology, we might be outright capitalist, woolly-headed liberal, or hardened socialist. Caring about the wider-consequences? How far we allow our personal beliefs to influence our professional advice depends upon our attitude, our experience, whether we mix business with pleasure, and our principal source of earnings.
Principal-to-principal, in theory, the relationship between landlord and tenant should be a partnership. In practice, it is not. In practice, there is wariness on both sides and in many cases a deep resentment that, through operation of law, rental valuation, and cunning, often involving skillful advisers, the landlord or the tenant is better off at the expense of the other.
The reason for the difference in achievement is that the commercial property market is not a perfect market which, from an investment perspective, is just as well, because the purpose of a perfect market is not to make profits, but to efficiently allocate resources. In a perfect market, profit is a sign of inefficiency, whereas in an imperfect market, profit arises in direct proportion to the imperfections. In a perfect market, there is a large number of buyers, a large number of sellers, the quantity bought by any individual so small relative to the total quantity traded that individual trades leave the market unaffected; the product is homogeneous (the same property for all buyers and sellers), all buyers and sellers have complete information on the prices being asked and offered in other parts of the market; and there is perfect freedom of entry to and exit from the market. In an imperfect market, there is no level playing field. Different people, different levels of experience, different approaches to asset management, some passive, others pro-active. As a tenant-client told me “for lessons in how to be stitched up, the shop property market has no equal”. Not just how to capitalise on opportunities but how to create opportunities. It all adds up to know-how.
As a specialist in rent review and business tenancy advice for landlords and retailers, I work at the sharp end of commercial property market, to be precise, shop property. I’m not an agent in the general-public perception of estate agency. My work is almost entirely behind-the scenes. Sometimes investors consult me on whether a proposition would be a good buy, but mostly I get involved after the property has been bought and at the stage when the landlord wants to take a back-seat in dealings with the tenant, for example on requests for assignment of the lease and such like, or at rent review and tenancy expiry/renewal when the relationship between landlord and tenant is more likely to be fraught.
Whether you are a landlord or a tenant, an advantage of your instructing a surveyor is to have a ‘shield’ between you and the other party. When you deal with the matter yourself, personality issues can get in the way and you could end being accommodating and agreeing to things that you wouldn’t otherwise or a surveyor would question. I tailor my approach to suit the client’s objective, the circumstances, the nature of the parties, so on.
The work is demanding and over the years has become more tiring. That is not a feature of advancing years, young surveyors tell me how exhausting the work can be. It would be so much easier if the other side would give in to reason without a fight, without resorting to ploys that can inject fear into cautious landlords and tenants. Socially, I’ll tell people what I do if they ask and if they probe then I say I argue for a living. It’s not ‘New Age’ negotiation “you win, I win, everyone’s happy”, but ruthless ‘I win, you lose’. I use my skills to increase rent for landlords, unless acting for the tenants in which case I’ll do the reverse. It may not be politically-correct to ignore the wider consequences and disregard the layer of socialism that pervades most walks of life, as summed up in the phrase “we’re all in this together” but when I’m being paid for my services, I’m a technician, not a philosopher. I can discuss whether something is a good idea, I can advise on the consequences, I can recommend, but ultimately it’s up to the client to decide.
Frankly, I think many landlords get a raw deal from tenants, especially from some multiple retailers whose surveyors seem to delight in putting the wind-up landlords. Something tenants are good at is selling: selling the idea they can’t afford any more, selling the idea they’d trigger the break clause if the landlord won’t agree. Whatever the ploy, it’s all grist to the mill of reducing property costs and keeping up appearances.
Is it possible for a surveyor to sit on the metaphorical fence, one moment acting for a landlord, the next for a tenant? In my philosophy, there is no need for emotional involvement or attachment. As a vegetarian, I wouldn’t be able to do my job properly if I were squeamish about going into a butcher’s shop. The more cosmopolitan the commercial property market becomes, the greater the diversity in attitude, the more flexible in views, opinions and application of skill one must be to stay on the ball. For me, landlords and tenants fall into two categories: those whose business methods and attitude generally I admire and respect, and everyone else. Over the years, I’ve honed my early warning system. Generally, people self-select. Even so, it’s not that easy to sift the wheat from the chaff: often the truth doesn’t emerge until after the work is underway. Ultimately, it’s about discernment: about helping the sort of people I like, people on the same wavelength.
Shortly after I established my practice, a public property company instructed me to manage a parade of shops and offices. Although I do manage property for a few clients, full management is not a service I offer as a matter of course – mostly I provide assisted-management, for example, the landlord deals with the rent collection, I do everything else. Curious why a plc should want me of all people to undertake full management, I was told that was the only way the company could instruct me to do any work for them and which it wanted to do because it was scared I should act against them!
I am unsure what I did to deserve being described as the ‘most obstinate surveyor in Harrow’ by a surveyor whom I crossed swords with on occasions, but as my reputation began to precede me, it got to the point that an auctioneer said that if it were known I were acting for the tenant then prospective investors could forget any idea of getting a rent increase. Over 20 years ago, having relocated my office to Herefordshire, where away from the noise and stress of London, it’s possible to think clearly, I had a go at mixing business with pleasure (until the novelty wore off and I reverted to my own method of marketing my services). The experience paid off: a tenant instructed me to deal with a rent review. The landlord had had a go himself but the tenant didn’t want to pay so much, so the landlord instructed a local surveyor who turned up the heat. I inspected the premises, read the lease, and told the surveyor no increase. The surveyor’s response that I might be right but if I wanted to get on in this part of the world then I should learn to play the game. I said I was happy to learn provided it wouldn’t cost my client any more. My client agreed with me, the landlord conceded.
Often employed as a troubleshooter, I crop up all over England and Wales but the bulk of my work is in London and the South-East. Dealing with different landlords, different tenants, different types of property, different locations, I have extensive experience of diversity.
Whether landlord or tenant, principals in commercial property market comprise professionals and amateurs. Professionals wouldn’t dream of agreeing to anything without taking advice and tend to stick with their trusted advisers, through thick and thin. Amateurs seem more concerned about the cost of advice than the quality, so shop around. The commercial property market attracts parasites: people that have latched on to property’s popularity and produce glowing reports and blind you with statistics. They take your money for transactions and all the glossy-stuff but frankly they haven’t a clue about life at the sharp end of tenancy management. Blaming the state of the market is an excuse which sounds plausible because investors are conditioned to think like that. Hence, if you invest without taking advice from people who really know their stuff, but instead doing your own research, gathering informations from all manner of sources and from that conclude that it can’t possibly be as complicated as the experts make out then you’d be correct in theory were it not for the difference between what it says in the classroom textbook and what happens in practice.
Investment Psychology
27/March/2014
Psychology occupies the middle-ground between who you are and who you want to become, and all that that entails. To become something you have to invest. Investment is about becoming better off than you are now. How long it takes to become better off depends upon a combination of two factors: the practical and the psychological.
The practical is the time that it takes to make a profit; the psychological the level of risk that the investor is willing to shoulder. How much profit depends upon your personal definition of whether the amount of profit is worthwhile. For example, if you want to make a profit to enable you to afford a property in a different league then the profit from each proposition could be likened to stepping stones.
A plan for creating a commercial property portfolio from scratch is to buy with a mortgage then re-mortgage the equity at intervals and use the released money to buy more property.
A difference ought not to exist between investment and successful investment but it does. Property is a depreciating asset whose value fluctuates depending on the state of the market. Allowing for costs of buying and selling, management costs, mortgage interest including loss of notional interest on personal equity, and adjusting for inflation and taxes, an investment might not perform as well as imagined.
If you ignore all those factors and simply calculate profit as the difference between how much you paid and what the property would fetch were you to sell it then growth is largely a delusion.
The rate of depreciation is not a constant so that in itself is challenging. To exceed or at least maintain parity with the rate of depreciation, the investment will have to perform. Property performance is the measure of growth.
Property has a reputation as a long-term hedge against inflation but, when you invest in property, you are not buying into the market in its entirety, but a particular property. Therefore, the criteria for whether the proposition is likely to perform needs to be assessed against that particular property, regardless of what might be happening in the market generally.
It may be suggested there is never a right time to buy property but there is. There are only two times: (1) when the seller has under-priced the value of the property, or (2) when mortgages are difficult to come by.
To assess whether a proposition is under-priced, you really have to know your stuff: the technicalities and the fundamentals. If you simply assess by reference to superficial criteria (for example, yield) then a proposition could appear cheap when actually it is not.
When credit is hard to get and market activity is driven by cash buyers, most investors will be left out in the cold. When bank lending criteria is relaxed, the number of investors increases and so do selling prices.
For successful investment, a rising market is a double-edged sword: on one side, an improvement in sentiment is comforting generally so can override caution. On the other, higher prices bring better quality propositions onto the market, thereby testing buyer experience of the nature of potential and the challenge of whether the propositions are really that much better.
Most investments fail to perform, sometimes miserably, but if your luck’s in then they end up ordinary, nothing special. Two reasons investments fail to succeed is to do with misunderstanding initial yield and buying covenant.
Yield is a measure of the rental return you’ll get from the property, all being well, but it is not the only measure. Indeed, it could be the least important even though the inexperienced invariably regard yield as paramount.
Over the years, covenant, the tenant’s financial standing, has worked its way up the appraisal–ladder, so much so that it has usurped technicalities and fundamentals and created a new layer of analysis: sentiment.
If you are borrowing to buy then the cost of borrowing may need to be covered by the rental. I emphasise ‘may’ because not all investors suffer the iniquity of having to justify each proposition to a lender. Many investors have facilities that do not require them to get the bank’s permission beforehand. When each proposition has to stack up so far as the bank is concerned, the buyer is less likely to apply for a loan on a proposition that the bank would reject. Hence, the popularity of readily-mortgageable investments.
For sellers, the measure of popularity amongst buyers is heaven-sent: attractively packaged, an investment dressed up to look good and ticking all the right boxes on the buyer checklist, such as long term lease and tenant covenant, is a guarantee that the price obtainable will most likely exceed the value of the proposition.
Value is not the same as price. Price is subjective. Price is the worth of the property to the buyer, the price that the buyer is willing to pay. Value is objective, how much the market would pay. Most buyers do not see it like that; most buyers think they are the market. Their concerns are for the attractiveness of the proposition.
The negative aspects are discounted in favour of the plus points. Criticism can sound illogical and be interpreted as out of touch. In this scientific world we have created for ourselves, the only test is evidence.
Opinions don’t count for much. Pitfalls can be explained away, doubts dispelled by overlooking the blemishes. Excited by market momentum, itching to spend, money burning a hole in the investor pocket, infected with auction fever, a show of hands, enthusiasm carries them away.
Investors that think themselves the market and take comfort from prices obtained in auction rooms are living in cloud cuckoo-land. If you do not strip away the superficiality and expose the proposition for what it is, if you do not listen to what you don’t want to hear, then more than likely you are going to experience the difference between investment and successful investment.
The practical is the time that it takes to make a profit; the psychological the level of risk that the investor is willing to shoulder. How much profit depends upon your personal definition of whether the amount of profit is worthwhile. For example, if you want to make a profit to enable you to afford a property in a different league then the profit from each proposition could be likened to stepping stones.
A plan for creating a commercial property portfolio from scratch is to buy with a mortgage then re-mortgage the equity at intervals and use the released money to buy more property.
A difference ought not to exist between investment and successful investment but it does. Property is a depreciating asset whose value fluctuates depending on the state of the market. Allowing for costs of buying and selling, management costs, mortgage interest including loss of notional interest on personal equity, and adjusting for inflation and taxes, an investment might not perform as well as imagined.
If you ignore all those factors and simply calculate profit as the difference between how much you paid and what the property would fetch were you to sell it then growth is largely a delusion.
The rate of depreciation is not a constant so that in itself is challenging. To exceed or at least maintain parity with the rate of depreciation, the investment will have to perform. Property performance is the measure of growth.
Property has a reputation as a long-term hedge against inflation but, when you invest in property, you are not buying into the market in its entirety, but a particular property. Therefore, the criteria for whether the proposition is likely to perform needs to be assessed against that particular property, regardless of what might be happening in the market generally.
It may be suggested there is never a right time to buy property but there is. There are only two times: (1) when the seller has under-priced the value of the property, or (2) when mortgages are difficult to come by.
To assess whether a proposition is under-priced, you really have to know your stuff: the technicalities and the fundamentals. If you simply assess by reference to superficial criteria (for example, yield) then a proposition could appear cheap when actually it is not.
When credit is hard to get and market activity is driven by cash buyers, most investors will be left out in the cold. When bank lending criteria is relaxed, the number of investors increases and so do selling prices.
For successful investment, a rising market is a double-edged sword: on one side, an improvement in sentiment is comforting generally so can override caution. On the other, higher prices bring better quality propositions onto the market, thereby testing buyer experience of the nature of potential and the challenge of whether the propositions are really that much better.
Most investments fail to perform, sometimes miserably, but if your luck’s in then they end up ordinary, nothing special. Two reasons investments fail to succeed is to do with misunderstanding initial yield and buying covenant.
Yield is a measure of the rental return you’ll get from the property, all being well, but it is not the only measure. Indeed, it could be the least important even though the inexperienced invariably regard yield as paramount.
Over the years, covenant, the tenant’s financial standing, has worked its way up the appraisal–ladder, so much so that it has usurped technicalities and fundamentals and created a new layer of analysis: sentiment.
If you are borrowing to buy then the cost of borrowing may need to be covered by the rental. I emphasise ‘may’ because not all investors suffer the iniquity of having to justify each proposition to a lender. Many investors have facilities that do not require them to get the bank’s permission beforehand. When each proposition has to stack up so far as the bank is concerned, the buyer is less likely to apply for a loan on a proposition that the bank would reject. Hence, the popularity of readily-mortgageable investments.
For sellers, the measure of popularity amongst buyers is heaven-sent: attractively packaged, an investment dressed up to look good and ticking all the right boxes on the buyer checklist, such as long term lease and tenant covenant, is a guarantee that the price obtainable will most likely exceed the value of the proposition.
Value is not the same as price. Price is subjective. Price is the worth of the property to the buyer, the price that the buyer is willing to pay. Value is objective, how much the market would pay. Most buyers do not see it like that; most buyers think they are the market. Their concerns are for the attractiveness of the proposition.
The negative aspects are discounted in favour of the plus points. Criticism can sound illogical and be interpreted as out of touch. In this scientific world we have created for ourselves, the only test is evidence.
Opinions don’t count for much. Pitfalls can be explained away, doubts dispelled by overlooking the blemishes. Excited by market momentum, itching to spend, money burning a hole in the investor pocket, infected with auction fever, a show of hands, enthusiasm carries them away.
Investors that think themselves the market and take comfort from prices obtained in auction rooms are living in cloud cuckoo-land. If you do not strip away the superficiality and expose the proposition for what it is, if you do not listen to what you don’t want to hear, then more than likely you are going to experience the difference between investment and successful investment.
Eureka
14/March/2014
After resigning from the partnership (? please read my first blog), for a while I rented a room from my ex-partners but, finding them nosy, I served notice, much their annoyance at loss of revenue, and relocated to renting a small self-contained office building in South Harrow which in keeping with delusions of grandeur I named “Lever House’.
On my own, with a part-time secretary, I started with the management of a parade of shops in Acton, London W3, the rent reviews of some industrial premises in Park Royal, and a few other instructions. I was trading as Fineman Lever & Co which led to special dispensation from the Registrar of Business Names because there were four different businesses all with that name: my father’s business in Acton, his original partner’s Central London office which by then was separate to my father’s and managed property for Dorrington Investments, the business of my ex-partners, and mine. Having the same name particularly in the Harrow area was causing confusion amongst clients and well-wishers so my assistant, whom I’d taken on to handle agency instructions, came up with the idea of Lever Commercial. I don’t think I was the first to add “Commercial’ to a trading name but the publicity I was generating as a consequence of my next decision certainly inspired dozens of agents and surveyors throughout the UK to tag ‘Commercial’ to their business names.
The decision that changed the course of my career history, and led to helping to create what has since become a vast industry for surveyors and lawyers, happened later on in 1975 after I’d been to an industry conference about rent review. One of the speakers, an eminent solicitor, said that the cause of problems at rent review was lack of communication between lawyers and surveyors in the drafting of leases. Spotting a gap in the market, I decided to specialise in rent review and lease renewal and promptly announced my services to the market.
For a while I had the field to myself. In those days, it was contrary to RICS rules for chartered surveyors to promote themselves as ‘specialists’ but soon after my publicity machine got going the RICS relaxed its rules whereupon chartered surveyors flooded the market themselves also claiming to be rent review specialists.
How to stand out from the crowd is all about marketing. Never one for mixing business with pleasure, I rely on different ways of attracting and retaining clients for my services. Unlike those people that find it easier to talk, I find it easier to write. Unlike those that prefer to copy, I find it easier to originate. Writing was the obvious route, but writing is only half the fun, the challenge is what to say.
My newsletter came about in consequence of writing so many letters to the Estates Gazette and other leading journals that hardly a week elapsed before another of my missives was published. Also, a surveyor-friend had asked me to suggest a topic he could write about so that if his letter were published in the EG then his bosses and colleagues would praise him. My suggestion of a topic that I was saving for my future use led to him getting an EG editorial on the same theme as well, he was delighted but of course I’d missed out. My having won an acknowledgement for initiating the longest-running correspondence in the Estate Gazette on a single subject, namely overage and non-standard rent-review intervals, and having been mentioned in a Blundell Memorial Lecture and as footnote in two law books, and what with publishing booklets of my own, including ‘Framework of Rent Review Clauses”, “How to do a Rent Review”, “How to Read an Auction Catalogue” and “Investment in Secondary Shops”, I concluded it might be better to publish my own newsletter in which I could say whatever I liked and to whom rather than risk censorship by the establishment or compete for editorial space.
In 1984, I launched a newsletter entitled Quarterly Commentary, which I subsequently renamed Current Review, and more recently Rent Review Matters. Rather than just a puff to be read and discarded, I wanted the content to be read and kept. In those days, I was in my spare time involved in the ‘mind-body-spirit’ New Age movement, having discovered I was a gifted healer and adept at relationship counselling. To be part of the ‘Green’ movement, I created Marketing Yourself, a business development philosophy for self-employed practitioners and therapists in the complementary and alternative health-care market; many of the people I helped have since become leading lights in their fields. Sensing the concepts of personal development as applied to business would become more mainstream if presented in a tangible pragmatic way, I incorporated a great deal of comment and advice in my newsletter for clients and contacts.
After a while, I dropped Lever Commercial in favour of Michael Lever. It’s easy for me to be myself. Fast-forward to the present, it is getting on for 40 years since I pioneered specialising in rent review and lease renewal. The market for my services has matured and evolved. Nowadays, it’s not only surveyors that deal with rent review, but also lawyers and accountants; and increasingly landlords and tenants are doing it themselves. It doesn’t help that the market is polarising between rent reviews that are worth doing so far as the landlord or tenant is concerned, and those reviews that are non-starters. A trend towards shorter leases is leading a reduction in rent review but an increase in tenancy expiry and renewal, even though to have a longer lease with break clause is often cheaper for the parties.
Anyone with money can buy a commercial property, but successful investment in commercial property requires a different mind-set. Activity in the investment market does not necessarily rub off on rental growth. Property is a depreciating asset. With costs and stamp duty, the moment you buy a property it goes down in value. Capital appreciation may come from blips in yield and/or confidence compression, but for greater certainty of performance, particularly for long-term pension planning, capital appreciation is best derived from rental growth. Rental growth is a product of judicious choice, shrewd management, a feel for tenant-dynamics, and a deep understanding of business tenancy law and rental valuation.
Successful investment is also about timing. The best time to buy is when there’s no money about, the worst time when credit is easy to come by. However, a paradox of market momentum is that the better properties are more likely to come up for sale when prices are high, which means the investor has to weigh up the likelihood of over-paying against the potential for further growth.
It is said that surveyors that deal with rent review have a greater understanding of business tenancy law and rental valuation than most. I also have an unusually good understanding of retailing as well as property. Over the course of this on-going blog, I shall explain how that understanding can be used to maintain and enhance the value of commercial property so that landlords can enjoy long-term consistent success, without coming unstuck in times of change.
As I say on my website, http://www.michaellever.co.uk, rent review is at the heart of commercial property.
I look forward to helping you in some way.
On my own, with a part-time secretary, I started with the management of a parade of shops in Acton, London W3, the rent reviews of some industrial premises in Park Royal, and a few other instructions. I was trading as Fineman Lever & Co which led to special dispensation from the Registrar of Business Names because there were four different businesses all with that name: my father’s business in Acton, his original partner’s Central London office which by then was separate to my father’s and managed property for Dorrington Investments, the business of my ex-partners, and mine. Having the same name particularly in the Harrow area was causing confusion amongst clients and well-wishers so my assistant, whom I’d taken on to handle agency instructions, came up with the idea of Lever Commercial. I don’t think I was the first to add “Commercial’ to a trading name but the publicity I was generating as a consequence of my next decision certainly inspired dozens of agents and surveyors throughout the UK to tag ‘Commercial’ to their business names.
The decision that changed the course of my career history, and led to helping to create what has since become a vast industry for surveyors and lawyers, happened later on in 1975 after I’d been to an industry conference about rent review. One of the speakers, an eminent solicitor, said that the cause of problems at rent review was lack of communication between lawyers and surveyors in the drafting of leases. Spotting a gap in the market, I decided to specialise in rent review and lease renewal and promptly announced my services to the market.
For a while I had the field to myself. In those days, it was contrary to RICS rules for chartered surveyors to promote themselves as ‘specialists’ but soon after my publicity machine got going the RICS relaxed its rules whereupon chartered surveyors flooded the market themselves also claiming to be rent review specialists.
How to stand out from the crowd is all about marketing. Never one for mixing business with pleasure, I rely on different ways of attracting and retaining clients for my services. Unlike those people that find it easier to talk, I find it easier to write. Unlike those that prefer to copy, I find it easier to originate. Writing was the obvious route, but writing is only half the fun, the challenge is what to say.
My newsletter came about in consequence of writing so many letters to the Estates Gazette and other leading journals that hardly a week elapsed before another of my missives was published. Also, a surveyor-friend had asked me to suggest a topic he could write about so that if his letter were published in the EG then his bosses and colleagues would praise him. My suggestion of a topic that I was saving for my future use led to him getting an EG editorial on the same theme as well, he was delighted but of course I’d missed out. My having won an acknowledgement for initiating the longest-running correspondence in the Estate Gazette on a single subject, namely overage and non-standard rent-review intervals, and having been mentioned in a Blundell Memorial Lecture and as footnote in two law books, and what with publishing booklets of my own, including ‘Framework of Rent Review Clauses”, “How to do a Rent Review”, “How to Read an Auction Catalogue” and “Investment in Secondary Shops”, I concluded it might be better to publish my own newsletter in which I could say whatever I liked and to whom rather than risk censorship by the establishment or compete for editorial space.
In 1984, I launched a newsletter entitled Quarterly Commentary, which I subsequently renamed Current Review, and more recently Rent Review Matters. Rather than just a puff to be read and discarded, I wanted the content to be read and kept. In those days, I was in my spare time involved in the ‘mind-body-spirit’ New Age movement, having discovered I was a gifted healer and adept at relationship counselling. To be part of the ‘Green’ movement, I created Marketing Yourself, a business development philosophy for self-employed practitioners and therapists in the complementary and alternative health-care market; many of the people I helped have since become leading lights in their fields. Sensing the concepts of personal development as applied to business would become more mainstream if presented in a tangible pragmatic way, I incorporated a great deal of comment and advice in my newsletter for clients and contacts.
After a while, I dropped Lever Commercial in favour of Michael Lever. It’s easy for me to be myself. Fast-forward to the present, it is getting on for 40 years since I pioneered specialising in rent review and lease renewal. The market for my services has matured and evolved. Nowadays, it’s not only surveyors that deal with rent review, but also lawyers and accountants; and increasingly landlords and tenants are doing it themselves. It doesn’t help that the market is polarising between rent reviews that are worth doing so far as the landlord or tenant is concerned, and those reviews that are non-starters. A trend towards shorter leases is leading a reduction in rent review but an increase in tenancy expiry and renewal, even though to have a longer lease with break clause is often cheaper for the parties.
Anyone with money can buy a commercial property, but successful investment in commercial property requires a different mind-set. Activity in the investment market does not necessarily rub off on rental growth. Property is a depreciating asset. With costs and stamp duty, the moment you buy a property it goes down in value. Capital appreciation may come from blips in yield and/or confidence compression, but for greater certainty of performance, particularly for long-term pension planning, capital appreciation is best derived from rental growth. Rental growth is a product of judicious choice, shrewd management, a feel for tenant-dynamics, and a deep understanding of business tenancy law and rental valuation.
Successful investment is also about timing. The best time to buy is when there’s no money about, the worst time when credit is easy to come by. However, a paradox of market momentum is that the better properties are more likely to come up for sale when prices are high, which means the investor has to weigh up the likelihood of over-paying against the potential for further growth.
It is said that surveyors that deal with rent review have a greater understanding of business tenancy law and rental valuation than most. I also have an unusually good understanding of retailing as well as property. Over the course of this on-going blog, I shall explain how that understanding can be used to maintain and enhance the value of commercial property so that landlords can enjoy long-term consistent success, without coming unstuck in times of change.
As I say on my website, http://www.michaellever.co.uk, rent review is at the heart of commercial property.
I look forward to helping you in some way.
Once upon a time…
13/March/2014
It was in 1967, about a week after I left school just before my 18th birthday, that I got my first job as an employee at Montagu Evans & Son as it then was in Central London. A junior in the town planning department, along with errands for the surveyors, the job included colour-washing plans for appeals. It took a while to get the hang of the standard expected but once I’d got the knack I found it relaxing to spend time at a drawing board with paintbrushes and water-colours.
ME acted for major developers and I was on the planning team for the development of Brent Cross shopping centre, town centre schemes in Stockport, Saffron Walden and Cardiff, the latter involved a land use survey of the city. One job involved preparing plans on parchment for a private Act of Parliament to build on a disused cemetery.
My mother, more ambitious for my future, remarked that I couldn’t spend the rest of my life colouring plans so despite the pecking order whereby longer-serving juniors were given first refusal when vacancies arose I applied for and was transferred to another department. Others were not amused by my jumping the queue and the longest-serving junior left soon after.
In the management department, I looked after some residential properties. A block of flats in Sutton, Surrey, some tenanted houses in Brixton and West Ealing, London and an estate in Homerton, East London. The properties in West Ealing and Brixton were owned by an elderly spinster. Every year it fell upon my boss to take her out for lunch. When he suggested I do the honours, I was told I could keep the visit short but I got on well with the client so I didn’t. In Homerton, the weekly rent collection was every Monday morning. I’d travel straight there from home arriving by about 10am then walk the streets, knocking on doors and collecting rents and by about midday I’d travel by bus to ME’s office in Holborn, my raincoat pockets weighed down with coins and notes.
It was one of those estates where everyone knew one another and whenever a property became vacant someone related to someone already living on the estate would take over. I used to dress up for the occasion and plodded the streets by the same route every week for over a year cash-in-hand, but my successor wore a suit and after just a few weeks he was mugged, the cash stolen. After that all tenants were required to pay the rent either by cheque, postal order or banker’s standing order.
Elderly client didn’t have the money for the urgent repairs so we avoided local council enforcement by selling her properties in Brixton. To be rid of the responsibility entirely, she instructed us to also sell the 6 houses in West Ealing. In those days, ‘tenanted’ meant Rent Act controlled and regulated tenancies and tenanted residential property was valued not as nowadays as a percentage of capital value with vacant possession but by deducting estimated management costs and repairs from the gross rent, then multiplying the net rent by the years-purchase (YP is another way of estimating yield). Each house with sitting tenant valued at £1200 was offered for sale individually in the market whereupon all 6 were immediately snapped up by property ‘dealers’ – it was to be my real taste of decision-makers.
Five evenings a week I was attending evening classes at the College of Estate Management, then in South Kensington to study for qualification for the Chartered Auctioneers Institute (the CAI later merged with the Royal Institution of Chartered Surveyors). Frankly if it hadn’t been for my father’s sniffiness about the Incorporated Society of Valuers and Auctioneers, I could have become an associate member of the ISVA on the strength of my ‘O’ levels and without examination subsequently a Chartered Surveyor when the ISVA also merged with the RICS.
I might have worked my way up the career ladder of Montagu Evans had it not been for my getting claustrophobia on the London underground tube-trains so with travelling to and from work becoming impossible I left their employ in 1971. At a loss for what to do, my father, a chartered surveyor (BSc (Est Man, FRICS) offered me a job at the Harrow, NW London, estate agency branch of his firm.
I took a drop in salary from £11 to £8 a week but was given a company car. A strange experience being the boss’s son being shown the ropes by the long-serving estate agency staff and working in a town that was alien to me, I didn’t last long selling houses and ever since I’ve admired anyone that deals with the general public on a regular basis.
Whether my training at ME in Central London had prepared me, or helped reinforce my propensity for long-term thinking, in Harrow, out in the sticks, I found myself in the deep end of local insularity and indecision-makers. My father was based at his office in Acton, London W3 where behind closed doors managed estates of tenanted property and blocks of flats for landlords and residents alike. I worked at a desk in full view of passers-by where anyone off the street could open the door and enter. The Harrow office was all that was left of 3 estate agency branches that my father and his former business partner had bought from the final days of Corry and Corry. In their heyday, Corry had dominated the residential property market in NW Middlesex/South Hertfordshire, with little or no competition. Amongst old particulars found whilst having a clear-out was a lesson in inflation: a 7 bedroom/4 reception room detached photogenic house, a prime address priced at £5000. The other branches were in Rickmansworth and Eastcote, Rickmansworth didn’t last long for some reason and was disposed of. During my teens when at school I had a Saturday job at the Eastcote office helping with a building society agency; people depositing and withdrawing savings.
The Eastcote office, on the wrong side of the road, only paid its way from building society commission for by then more dynamic agents had set up in the wake of Corry. Harrow office was the jewel in the crown: panel surveyors for banks and building societies, including the Halifax. It must’ve been something to do with our corporate image in the eyes of the public, because the quality of agency instructions tended to be better than run-of-mill properties our competitors got but it didn’t matter because unless a property was good enough to sell itself the local agents circulated instructions on a half-commission sharing. I’d got involved with a local association of estate agents whose code of conduct was constantly under attack from what we respectables called sharp practice. Unable to stop the tide, I suggested a change in the rules; the proposal was voted in and led to the disbanding of the association.
Having had my fill of an indecisive general public, I turned to residential investment and commercial property. A contact from my time at Montagu Evans led to the acquisition of a block of shops and offices in Brentford which my contact, himself ex-ME, viewed in fog and exchanged contracts a few days later.
During the early 1970s there was a rise in inflation caused by the oil crisis, base rate rose from under 8% to over 14% and property prices were on the up. Having become friendly with some property dealers, I was hearing about propositions that were not on the market and felt I was in the swing of things. In one example, a dealer while at a theatre one evening overheard a conversation about a buyer hesitating whether to buy a large portfolio for several million pounds. Next morning, the dealer contacted the seller and within hours had exchanged contracts. I suggested my father’s office to manage the properties that passed through this dealer’s hands: it proved a successful relationship while it lasted, despite my father being more accustomed to the definition of investment as meaning years rather than days and weeks.
Harrow office was autonomous, with an overdraft. After the manager left, I head-hunted someone locally respected from another agent and with the chartered surveyor for surveys, we were all made equity partners. I was 23 and single, my colleagues in their 30s and married with young children, my father in his 50s with my mother and my sister. My father was not a wealthy man in his own right: amongst his wider family were cousins whom I was told had had Rolls-Royces and chauffeurs pre-war, but his own circumstances were much more modest.
My father’s main assets were academic giftedness, never spending a penny of capital, and only living off income: I have never managed to emulate those achievements! My father wasn’t involved with the running of the Harrow office on a daily basis and we three were left to our own devices. It was decided, I don’t remember being consulted, we should each contribute equally to the total revenue. I think that was one of the factors contributing to the failure of the partnership.
My work was longer-term and wishful thinking, theirs short turnaround and certain. Ups-and-downs, interrogation and often stressful, in 1975, my relationship with the others having become untenable, I resigned to set up on my own. The split was backdated: required to reimburse expenses I’d incurred whilst under the same roof. I also bought my car from them for the princely sum of £1100 which is the only time in my life when thanks to the devaluation of the Deutsche Mark the value of a second-hand car increased when I sold it a year later.
Shortly before I set up on my own, I’d had a good year, all my long-term jobs having reached fruition so wanting a place of my own to live in I’d bought a house on Harrow-on-the Hill, a terraced 2-up-2-down in need of modernisation. I paid £9800 with £9000 mortgage from a building society. The property needed a lot spending on it to make it habitable and I got an improvement grant from the Council which I later had to repay in full because I forgot that I couldn’t sell the property for 5 years.
I didn’t have much in the way of savings, having to reimburse my ex-partners which I paid in instalments, and the cost of setting up on my own, it was a struggle. The first year on my own I earned £975 after tax; my accountant enquired whether it was worth it.
To be continued…
ME acted for major developers and I was on the planning team for the development of Brent Cross shopping centre, town centre schemes in Stockport, Saffron Walden and Cardiff, the latter involved a land use survey of the city. One job involved preparing plans on parchment for a private Act of Parliament to build on a disused cemetery.
My mother, more ambitious for my future, remarked that I couldn’t spend the rest of my life colouring plans so despite the pecking order whereby longer-serving juniors were given first refusal when vacancies arose I applied for and was transferred to another department. Others were not amused by my jumping the queue and the longest-serving junior left soon after.
In the management department, I looked after some residential properties. A block of flats in Sutton, Surrey, some tenanted houses in Brixton and West Ealing, London and an estate in Homerton, East London. The properties in West Ealing and Brixton were owned by an elderly spinster. Every year it fell upon my boss to take her out for lunch. When he suggested I do the honours, I was told I could keep the visit short but I got on well with the client so I didn’t. In Homerton, the weekly rent collection was every Monday morning. I’d travel straight there from home arriving by about 10am then walk the streets, knocking on doors and collecting rents and by about midday I’d travel by bus to ME’s office in Holborn, my raincoat pockets weighed down with coins and notes.
It was one of those estates where everyone knew one another and whenever a property became vacant someone related to someone already living on the estate would take over. I used to dress up for the occasion and plodded the streets by the same route every week for over a year cash-in-hand, but my successor wore a suit and after just a few weeks he was mugged, the cash stolen. After that all tenants were required to pay the rent either by cheque, postal order or banker’s standing order.
Elderly client didn’t have the money for the urgent repairs so we avoided local council enforcement by selling her properties in Brixton. To be rid of the responsibility entirely, she instructed us to also sell the 6 houses in West Ealing. In those days, ‘tenanted’ meant Rent Act controlled and regulated tenancies and tenanted residential property was valued not as nowadays as a percentage of capital value with vacant possession but by deducting estimated management costs and repairs from the gross rent, then multiplying the net rent by the years-purchase (YP is another way of estimating yield). Each house with sitting tenant valued at £1200 was offered for sale individually in the market whereupon all 6 were immediately snapped up by property ‘dealers’ – it was to be my real taste of decision-makers.
Five evenings a week I was attending evening classes at the College of Estate Management, then in South Kensington to study for qualification for the Chartered Auctioneers Institute (the CAI later merged with the Royal Institution of Chartered Surveyors). Frankly if it hadn’t been for my father’s sniffiness about the Incorporated Society of Valuers and Auctioneers, I could have become an associate member of the ISVA on the strength of my ‘O’ levels and without examination subsequently a Chartered Surveyor when the ISVA also merged with the RICS.
I might have worked my way up the career ladder of Montagu Evans had it not been for my getting claustrophobia on the London underground tube-trains so with travelling to and from work becoming impossible I left their employ in 1971. At a loss for what to do, my father, a chartered surveyor (BSc (Est Man, FRICS) offered me a job at the Harrow, NW London, estate agency branch of his firm.
I took a drop in salary from £11 to £8 a week but was given a company car. A strange experience being the boss’s son being shown the ropes by the long-serving estate agency staff and working in a town that was alien to me, I didn’t last long selling houses and ever since I’ve admired anyone that deals with the general public on a regular basis.
Whether my training at ME in Central London had prepared me, or helped reinforce my propensity for long-term thinking, in Harrow, out in the sticks, I found myself in the deep end of local insularity and indecision-makers. My father was based at his office in Acton, London W3 where behind closed doors managed estates of tenanted property and blocks of flats for landlords and residents alike. I worked at a desk in full view of passers-by where anyone off the street could open the door and enter. The Harrow office was all that was left of 3 estate agency branches that my father and his former business partner had bought from the final days of Corry and Corry. In their heyday, Corry had dominated the residential property market in NW Middlesex/South Hertfordshire, with little or no competition. Amongst old particulars found whilst having a clear-out was a lesson in inflation: a 7 bedroom/4 reception room detached photogenic house, a prime address priced at £5000. The other branches were in Rickmansworth and Eastcote, Rickmansworth didn’t last long for some reason and was disposed of. During my teens when at school I had a Saturday job at the Eastcote office helping with a building society agency; people depositing and withdrawing savings.
The Eastcote office, on the wrong side of the road, only paid its way from building society commission for by then more dynamic agents had set up in the wake of Corry. Harrow office was the jewel in the crown: panel surveyors for banks and building societies, including the Halifax. It must’ve been something to do with our corporate image in the eyes of the public, because the quality of agency instructions tended to be better than run-of-mill properties our competitors got but it didn’t matter because unless a property was good enough to sell itself the local agents circulated instructions on a half-commission sharing. I’d got involved with a local association of estate agents whose code of conduct was constantly under attack from what we respectables called sharp practice. Unable to stop the tide, I suggested a change in the rules; the proposal was voted in and led to the disbanding of the association.
Having had my fill of an indecisive general public, I turned to residential investment and commercial property. A contact from my time at Montagu Evans led to the acquisition of a block of shops and offices in Brentford which my contact, himself ex-ME, viewed in fog and exchanged contracts a few days later.
During the early 1970s there was a rise in inflation caused by the oil crisis, base rate rose from under 8% to over 14% and property prices were on the up. Having become friendly with some property dealers, I was hearing about propositions that were not on the market and felt I was in the swing of things. In one example, a dealer while at a theatre one evening overheard a conversation about a buyer hesitating whether to buy a large portfolio for several million pounds. Next morning, the dealer contacted the seller and within hours had exchanged contracts. I suggested my father’s office to manage the properties that passed through this dealer’s hands: it proved a successful relationship while it lasted, despite my father being more accustomed to the definition of investment as meaning years rather than days and weeks.
Harrow office was autonomous, with an overdraft. After the manager left, I head-hunted someone locally respected from another agent and with the chartered surveyor for surveys, we were all made equity partners. I was 23 and single, my colleagues in their 30s and married with young children, my father in his 50s with my mother and my sister. My father was not a wealthy man in his own right: amongst his wider family were cousins whom I was told had had Rolls-Royces and chauffeurs pre-war, but his own circumstances were much more modest.
My father’s main assets were academic giftedness, never spending a penny of capital, and only living off income: I have never managed to emulate those achievements! My father wasn’t involved with the running of the Harrow office on a daily basis and we three were left to our own devices. It was decided, I don’t remember being consulted, we should each contribute equally to the total revenue. I think that was one of the factors contributing to the failure of the partnership.
My work was longer-term and wishful thinking, theirs short turnaround and certain. Ups-and-downs, interrogation and often stressful, in 1975, my relationship with the others having become untenable, I resigned to set up on my own. The split was backdated: required to reimburse expenses I’d incurred whilst under the same roof. I also bought my car from them for the princely sum of £1100 which is the only time in my life when thanks to the devaluation of the Deutsche Mark the value of a second-hand car increased when I sold it a year later.
Shortly before I set up on my own, I’d had a good year, all my long-term jobs having reached fruition so wanting a place of my own to live in I’d bought a house on Harrow-on-the Hill, a terraced 2-up-2-down in need of modernisation. I paid £9800 with £9000 mortgage from a building society. The property needed a lot spending on it to make it habitable and I got an improvement grant from the Council which I later had to repay in full because I forgot that I couldn’t sell the property for 5 years.
I didn’t have much in the way of savings, having to reimburse my ex-partners which I paid in instalments, and the cost of setting up on my own, it was a struggle. The first year on my own I earned £975 after tax; my accountant enquired whether it was worth it.
To be continued…
Chasing Rainbows
20/February/2014
Unlike investing in stocks and shares where the volatility of share prices and uncertainty of dividends can lead to long term buy and lose, investment in property offers two advantages: firstly, because the relationship between landlord and tenant rests on a legally-binding contract, there is the potential for both capital and rental growth. Secondly, unlike the Stock Market where in the scheme of things individual private investors have little or no influence over the company’s performance, the property market offers the thought of being in control.
I emphasise ‘thought’ because landlords are not actually in as much control as they might like to think. The landlord owns the building, not the tenant’s business and tenants are not obliged to keep the landlord informed as regarding the intention for the business. All that a tenant is obliged to do is comply with the terms and conditions of the lease and even that the terms and conditions would be subject to any overriding legislation and/or business tenancy case-law. For example, a shop let to multiple retailer which might be thought a secure investment and hence command a higher capital value could fall in valley simply by the multiple retailer deciding to close the branch and assigning the tenancy or subletting the premises to a nobody.
Stocks and shares and property are forms of illiquid investment, but the stock market for the most part less so since buying and selling can be transacted within seconds, with middle-men, or market-makers, to take up the slack whenever demand and supply fluctuate. With property, however, there are no market-makers as such; to buy and sell a property requires a seller and a buyer, and to transact at the desired price requires a seller or buyer at that price.
With stocks and shares, share prices are published and during market hours a trade can be executed at or around the published price. It’s not like that with property: no published prices in advance, no certainty that what someone got for a particular property would result in at least the same price for a virtually identical property paid by someone else. As for value, some say that’s whatever the property fetches but actually the price could simply be a measure of worth for the buyer: otherwise, the market value is based upon one person’s opinion; an informed opinion provided by a professional, but an opinion nevertheless.
Despite the underlying value of property being anyone’s guess, another layer of value is added to be on the safe side. The income from a property let to a good covenant on a long lease also constitutes an investment. All other factors remaining constant, the best time to sell the investment layer is when the end of the lease is so far off that it becomes impossible for mere mortals to predict what would happen by then. For the same reason, it is also the worst time to buy, but that doesn’t stop investors piling in regardless. Because it is easier to mortgage a property let on a long lease and because the total income, ignoring any reviews, is known in advance, the present value of that income can be calculated.
The attraction and value of that present value fluctuates according to confidence in the investment market. Investment confidence varies with bank lending criteria. The easier and cheaper it is to borrow, the more risk may be taken, the higher the price. Conversely, the harder, the more expensive, the less risk, the lower the price.
A paradox of investment-thinking is the difference in attitude between experienced professional investors and everyone else. EPIs focus on the bottom-line: the worst scenario. Challenging at the best of times, protecting the bottom-line is not easy when wanting to invest at a time of improving sentiment. Sentiment is a measure of confidence. Increasing confidence attracts more investors and in turn becomes a virtuous circle, onwards and upwards. Momentum investing is like playing the game of musical chairs: you hope there’ll be somewhere to sit when the music stops. The property game is not limited to a few seats. Widespread availability of propositions enables investors to venture further afield. Outside the hot spots, yields are generally higher not because those places are necessarily neglected through oversight but that growth is hard to come by or non-existent. Despite lower prices, often there is considerably more risk.
On paper it makes sense to capitalise on the difference between the cost of borrowing and the yield obtainable. In practice, it may not make sense at all. A common failing is overestimating the growth potential and underestimating the cost of achieving growth. Often, both factors are symptomatic of tenant-covenant fixation.
Play your cards right and a great deal of money can be made from trading in momentum. Investing for ever requires a different mind-set. Not only a question of timing but also whether the initial yield would be sustainable. After an investment is bought, the investor becomes a landlord and experiences the reality of asset management. A test of performance is the rent review or lease renewal. Naturally, investors/landlords desire a return on capital that is commensurate with their expectations, but at rent review (assuming to market rent) or lease renewal the actual landlord’s aspirations are irrelevant and depending upon skill of the tenant’s advisers could result in less than expected. Moreover, a lot can happen to the whereabouts and/or to a property as time passes: the economy might improve but not rub off on a particular property. To cap it all, the tenant might go broke and the new tenant an inferior covenant.
Whatever the reason for the purchase price, whether sellers offering higher yields for the sole purpose of achieving the highest possible price or high prices bringing out better properties that would otherwise not be sold so commanding scarcity value, any difference between the fundamental value and the investment layer reflects buyers chasing rainbows.
I emphasise ‘thought’ because landlords are not actually in as much control as they might like to think. The landlord owns the building, not the tenant’s business and tenants are not obliged to keep the landlord informed as regarding the intention for the business. All that a tenant is obliged to do is comply with the terms and conditions of the lease and even that the terms and conditions would be subject to any overriding legislation and/or business tenancy case-law. For example, a shop let to multiple retailer which might be thought a secure investment and hence command a higher capital value could fall in valley simply by the multiple retailer deciding to close the branch and assigning the tenancy or subletting the premises to a nobody.
Stocks and shares and property are forms of illiquid investment, but the stock market for the most part less so since buying and selling can be transacted within seconds, with middle-men, or market-makers, to take up the slack whenever demand and supply fluctuate. With property, however, there are no market-makers as such; to buy and sell a property requires a seller and a buyer, and to transact at the desired price requires a seller or buyer at that price.
With stocks and shares, share prices are published and during market hours a trade can be executed at or around the published price. It’s not like that with property: no published prices in advance, no certainty that what someone got for a particular property would result in at least the same price for a virtually identical property paid by someone else. As for value, some say that’s whatever the property fetches but actually the price could simply be a measure of worth for the buyer: otherwise, the market value is based upon one person’s opinion; an informed opinion provided by a professional, but an opinion nevertheless.
Despite the underlying value of property being anyone’s guess, another layer of value is added to be on the safe side. The income from a property let to a good covenant on a long lease also constitutes an investment. All other factors remaining constant, the best time to sell the investment layer is when the end of the lease is so far off that it becomes impossible for mere mortals to predict what would happen by then. For the same reason, it is also the worst time to buy, but that doesn’t stop investors piling in regardless. Because it is easier to mortgage a property let on a long lease and because the total income, ignoring any reviews, is known in advance, the present value of that income can be calculated.
The attraction and value of that present value fluctuates according to confidence in the investment market. Investment confidence varies with bank lending criteria. The easier and cheaper it is to borrow, the more risk may be taken, the higher the price. Conversely, the harder, the more expensive, the less risk, the lower the price.
A paradox of investment-thinking is the difference in attitude between experienced professional investors and everyone else. EPIs focus on the bottom-line: the worst scenario. Challenging at the best of times, protecting the bottom-line is not easy when wanting to invest at a time of improving sentiment. Sentiment is a measure of confidence. Increasing confidence attracts more investors and in turn becomes a virtuous circle, onwards and upwards. Momentum investing is like playing the game of musical chairs: you hope there’ll be somewhere to sit when the music stops. The property game is not limited to a few seats. Widespread availability of propositions enables investors to venture further afield. Outside the hot spots, yields are generally higher not because those places are necessarily neglected through oversight but that growth is hard to come by or non-existent. Despite lower prices, often there is considerably more risk.
On paper it makes sense to capitalise on the difference between the cost of borrowing and the yield obtainable. In practice, it may not make sense at all. A common failing is overestimating the growth potential and underestimating the cost of achieving growth. Often, both factors are symptomatic of tenant-covenant fixation.
Play your cards right and a great deal of money can be made from trading in momentum. Investing for ever requires a different mind-set. Not only a question of timing but also whether the initial yield would be sustainable. After an investment is bought, the investor becomes a landlord and experiences the reality of asset management. A test of performance is the rent review or lease renewal. Naturally, investors/landlords desire a return on capital that is commensurate with their expectations, but at rent review (assuming to market rent) or lease renewal the actual landlord’s aspirations are irrelevant and depending upon skill of the tenant’s advisers could result in less than expected. Moreover, a lot can happen to the whereabouts and/or to a property as time passes: the economy might improve but not rub off on a particular property. To cap it all, the tenant might go broke and the new tenant an inferior covenant.
Whatever the reason for the purchase price, whether sellers offering higher yields for the sole purpose of achieving the highest possible price or high prices bringing out better properties that would otherwise not be sold so commanding scarcity value, any difference between the fundamental value and the investment layer reflects buyers chasing rainbows.
Asset Strippers
21/November/2013
Investment in shop property is very rewarding provided you know what you are doing. Many private investors, particularly novices, do not understand how to go about it. Instead of formulating and sticking to a clearly defined strategy, in which expectations for property performance respect business tenancy principles, most investors have a scatter–gun approach, alighting upon anything that takes the fancy within their price range.
A challenge for any investor whose source of funding demands that the passing rent should at least cover the cost of the bank loan is that, unless the timing of the purchase coincides with the bottom of the market or the proposition really is a bargain and not just dressed up to look like one, higher–yielding propositions rarely come with any chance of capital growth, or at least not enough to offset inflation.
Without capital growth, which to be maintained is a product of rental increase and pro–active asset management, rather than the vagaries of investment market momentum, the asset is likely to depreciate in value through a combination of inflation, non-recoverable costs during ownership, shortening lease term, shifting trading positions and multiple–retailer branch closure. In my opinion, most peripheral trading positions have gone ex–growth. The only trading position (by which I mean actual location, not tenant covenant) to buy into is 100% prime: anything else is on a hiding to nothing, a downward spiral in the making.
Whenever I’m asked whether I think the asking price for an investment property is reasonable, my stock answer is that property generally is overpriced by about 50%. The difference is in the value of the layer of borrowing that, by virtue of the difference between the value of a property with vacant possession and the same property let on a mortgageable lease, has come into existence because the banks are comfortable with lending against cash-flow. Go back in time before property was thought of as a store of value and in a bygone era the value of land, buildings, bricks and mortar was what the real estate could be used for by the owner, as distinct from what it might fetch if sold to someone that could afford to buy provided someone else would lend the buyer the money.
Buying covenant makes sense in the context of improving the chances of getting the rent in on time, but retailers whose financial standing counts for something in the investment market are not daft. Property–cost reduction and minimising tenancy–liabilities is the mantra. Canniness is apparent with the capital–releasing of ex–growth property using sale–and–leaseback where a building let to a well–known company on a long lease with rent reviews at regular intervals is a mouthwatering prospect, tailor–made for a mortgage, guaranteed to attract keen demand and commensurate price.
Unlike the local trader whose financial decisions are likely to be curtailed by resources, whether or not the tenant has a surveyor acting for him, so may cave-in under pressure, the multiple retailer is usually in a stronger position to argue and resist; most multiple retailers have more resources at their disposal than do many of their landlords. Consequently, surveyors acting for inexperienced investors against multiple–retailers in non–core trading positions know full well that the likelihood of the landlords’ rental expectations being met are going to be slim. Managing client expectations calls for a sensitive approach in the wording of recommendation, (a skill which incidentally isn’t something readily grasped by the generalist surveyor fraternity whose advice is dismissed by the landlord refusing to concur and instead instructing someone like me with a specialist perspective). Part of the difficulty is that despite my best attempts via my website – I’d like to think other surveyors too, even though a random search on Google does not reveal much attempt at enlightenment – getting the message across to inexperience that an “upward–only” review does not mean the rent necessarily has to increase has not permeated private investor collective consciousness. Instead, the investor having bought a low yield as a result of investment–market workings sets his sights on a rental hike that would increase the return on capital to a level commensurate with the self–perceived wisdom of the buying choice.
The flight from cash on deposit and derisory interest rates and/or the volatility of dividends from stocks and shares and/or the hassle of residential buy–to–let into the higher yields of a business tenancy and perceived rich pickings of shop property investment is not without risk. The commercial property market, of which shop property is a sector, is unregulated and a paradise for the shrewd. Asset stripping is not only the transfer between connected parties: it is also the extrication by the seller of cash liquidity from the buyer. It is said that a fool and his money are soon parted but surely the millions of pounds that exchanged regularly in auction rooms are not going to result in every buyer ending up feeling disappointed with their purchase? But why not? Why when auction–fever has taken over from the arguably more thorough due diligence of private treaty “subject to contract” should the excitement of bidding before the fall of the gavel not interfere with sound judgement?
In my opinion, the most important point to keep in mind when choosing a shop property for investment is that property is a depreciating asset whose rate of depreciation is only going to be counter–balanced and tilted toward prospects for growth if the host of factors and variables that generate growth are in alignment. It doesn’t take much for the subtle link between the location and/or trading position and/or terms and conditions of the tenancy to be out of sync.
A challenge for any investor whose source of funding demands that the passing rent should at least cover the cost of the bank loan is that, unless the timing of the purchase coincides with the bottom of the market or the proposition really is a bargain and not just dressed up to look like one, higher–yielding propositions rarely come with any chance of capital growth, or at least not enough to offset inflation.
Without capital growth, which to be maintained is a product of rental increase and pro–active asset management, rather than the vagaries of investment market momentum, the asset is likely to depreciate in value through a combination of inflation, non-recoverable costs during ownership, shortening lease term, shifting trading positions and multiple–retailer branch closure. In my opinion, most peripheral trading positions have gone ex–growth. The only trading position (by which I mean actual location, not tenant covenant) to buy into is 100% prime: anything else is on a hiding to nothing, a downward spiral in the making.
Whenever I’m asked whether I think the asking price for an investment property is reasonable, my stock answer is that property generally is overpriced by about 50%. The difference is in the value of the layer of borrowing that, by virtue of the difference between the value of a property with vacant possession and the same property let on a mortgageable lease, has come into existence because the banks are comfortable with lending against cash-flow. Go back in time before property was thought of as a store of value and in a bygone era the value of land, buildings, bricks and mortar was what the real estate could be used for by the owner, as distinct from what it might fetch if sold to someone that could afford to buy provided someone else would lend the buyer the money.
Buying covenant makes sense in the context of improving the chances of getting the rent in on time, but retailers whose financial standing counts for something in the investment market are not daft. Property–cost reduction and minimising tenancy–liabilities is the mantra. Canniness is apparent with the capital–releasing of ex–growth property using sale–and–leaseback where a building let to a well–known company on a long lease with rent reviews at regular intervals is a mouthwatering prospect, tailor–made for a mortgage, guaranteed to attract keen demand and commensurate price.
Unlike the local trader whose financial decisions are likely to be curtailed by resources, whether or not the tenant has a surveyor acting for him, so may cave-in under pressure, the multiple retailer is usually in a stronger position to argue and resist; most multiple retailers have more resources at their disposal than do many of their landlords. Consequently, surveyors acting for inexperienced investors against multiple–retailers in non–core trading positions know full well that the likelihood of the landlords’ rental expectations being met are going to be slim. Managing client expectations calls for a sensitive approach in the wording of recommendation, (a skill which incidentally isn’t something readily grasped by the generalist surveyor fraternity whose advice is dismissed by the landlord refusing to concur and instead instructing someone like me with a specialist perspective). Part of the difficulty is that despite my best attempts via my website – I’d like to think other surveyors too, even though a random search on Google does not reveal much attempt at enlightenment – getting the message across to inexperience that an “upward–only” review does not mean the rent necessarily has to increase has not permeated private investor collective consciousness. Instead, the investor having bought a low yield as a result of investment–market workings sets his sights on a rental hike that would increase the return on capital to a level commensurate with the self–perceived wisdom of the buying choice.
The flight from cash on deposit and derisory interest rates and/or the volatility of dividends from stocks and shares and/or the hassle of residential buy–to–let into the higher yields of a business tenancy and perceived rich pickings of shop property investment is not without risk. The commercial property market, of which shop property is a sector, is unregulated and a paradise for the shrewd. Asset stripping is not only the transfer between connected parties: it is also the extrication by the seller of cash liquidity from the buyer. It is said that a fool and his money are soon parted but surely the millions of pounds that exchanged regularly in auction rooms are not going to result in every buyer ending up feeling disappointed with their purchase? But why not? Why when auction–fever has taken over from the arguably more thorough due diligence of private treaty “subject to contract” should the excitement of bidding before the fall of the gavel not interfere with sound judgement?
In my opinion, the most important point to keep in mind when choosing a shop property for investment is that property is a depreciating asset whose rate of depreciation is only going to be counter–balanced and tilted toward prospects for growth if the host of factors and variables that generate growth are in alignment. It doesn’t take much for the subtle link between the location and/or trading position and/or terms and conditions of the tenancy to be out of sync.
Without Prejudice
24/October/2013
Last year someone on LandlordZONE Forum’s commercial property board was asking about breach of warranty of authority, and suggesting the landlord’s surveyor might be pulling a fast one. The question was brought to my attention by another LZ member who happens to be a client. The questioner’s facts bore a striking resemblance to a rent review I was dealing with so I asked the client to reply – I wasn’t involved with LZ at the time.
A sector of property (real estate) law, business tenancy law is a complex fast-moving subject and it is said that surveyors that deal with rent review and tenancy expiry/renewal have a far greater understanding than most. In theory, the parties ought to be able to agree without delay but, in practice, negotiations invariably take a long time to conclude. It is not the agreement that can take weeks, monthly, sometimes years, but the process of reaching agreement. Perhaps to save money on fees and costs, landlord and/or tenant will have a go at negotiation direct; after all how hard can it be to reach agreement when decision-makers communicate between themselves?
In theory, it should only take a few minutes to reach agreement, provided the first proposal is accepted. If you’re the landlord and pitch the proposal at a figure you would think the tenant could afford, even if the tenant could afford it why should the tenant agree when having regard to the terms and conditions of the tenancy it might be possible to achieve a lower rent? Conversely, if you’re the tenant and think your proposal fair and reasonable why should the landlord agree with your interpretation of fair let alone reasonable?
Rent review negotiation isn’t as straightforward as it might seem. The skill and art of negotiation comes into its own through knowing what to do when something goes wrong. Add rental valuation to business tenancy law and you have a recipe for coming unstuck and/or not knowing what to do for the best.
During negotiations, many aspects are agreed between surveyors without recourse to respective clients for instructions at every step of the way. To an extent that is sensible, most parties are more interested in the end-result than the process and really there is no point in instructing an experienced surveyor if you want a detailed explanation before the surveyor is allowed to say anything to the other side. Of course, it all depends upon the client’s experience of the process and confidence in the surveyor, neither practicality and/or emotion is always obvious no matter how assuring at the onset. Some time ago, I had the misfortune to represent a tenant whose attitude I likened to demonstrating a new car only for them ask you to tell them the name of the person that harvested the latex from the tree that was used to make the rubber for the tyres.
Unless the lease requires a proposal to be specified in a notice, it’s not necessary for the landlord or the tenant to indicate a rent as a basis for the negotiations. Even so, it is common for a proposal at the onset and for ensuing discussions for the reaching of agreement to be ‘without prejudice’.
The expression ‘without prejudice’ means “without prejudice to my right to contend for the full amount to which I assert I am entitled”. In the context of a dispute where terms of settlement are offered, the effect of that will be that, if no agreement is reached and the matter goes to arbitration (or to court), the discussions and any concessions made in the course of them cannot be referred to or relied upon.
The policy of the law is to encourage the compromise of disputes. in general, a statement (whether written or oral) made in an effort to compromise a dispute is taken to have been made on a “without prejudice” basis and is not admissible in evidence unless both the maker and the person to whom it was made consent.
Since ‘without prejudice’ communications are not normally disclosable, one might think that anything can be said without fear of reprisal, but use of ‘without prejudice’ should not be taken for granted. The parties must make it clear at the onset and for the duration of the discussions (if only to be on the safe side) that the negotiations or communications are ‘without prejudice’. Failure to do so, especially where oral communications are involved, could result in a binding agreement which end up causing all manner of difficulties. For example, it has been held that on request by a tenant of the landlord’s consent for licence to assign the terminology used in preliminaries could give rise to consent being granted, and with rent review notices, ‘without prejudice’ positioned in the wrong place can render the notice invalid.
An offer to compromise a dispute is usually inferred as made without prejudice, unless the circumstances negate such an inference. Therefore, whether or not a party actually used the words “without prejudice” on the document is not determinative. Furthermore, terms such as “off the record” and “confidential” have no legal significance.
A ’breach of warranty of authority’ is a rare example of inexperienced use of the terminology ‘without prejudice’ during rent review negotiation. In principle, an offer made ‘without prejudice’ is capable of acceptance, provided the acceptance is otherwise in an open letter or where any condition would be no consequence – the expression ‘subject to contract’ is not always an escape route. When the party upon whose behalf the binding offer is made back-tracks, the agent for that party becomes personally liable and can be sued for damages; hence the breach of warranty of authority. Of course, an agent cannot force the client to agree – agreement is the client’s prerogative – but to make an offer in a form that is capable of acceptance presupposes the client is agreeable to the possibility the offer would be acceptable.
A sector of property (real estate) law, business tenancy law is a complex fast-moving subject and it is said that surveyors that deal with rent review and tenancy expiry/renewal have a far greater understanding than most. In theory, the parties ought to be able to agree without delay but, in practice, negotiations invariably take a long time to conclude. It is not the agreement that can take weeks, monthly, sometimes years, but the process of reaching agreement. Perhaps to save money on fees and costs, landlord and/or tenant will have a go at negotiation direct; after all how hard can it be to reach agreement when decision-makers communicate between themselves?
In theory, it should only take a few minutes to reach agreement, provided the first proposal is accepted. If you’re the landlord and pitch the proposal at a figure you would think the tenant could afford, even if the tenant could afford it why should the tenant agree when having regard to the terms and conditions of the tenancy it might be possible to achieve a lower rent? Conversely, if you’re the tenant and think your proposal fair and reasonable why should the landlord agree with your interpretation of fair let alone reasonable?
Rent review negotiation isn’t as straightforward as it might seem. The skill and art of negotiation comes into its own through knowing what to do when something goes wrong. Add rental valuation to business tenancy law and you have a recipe for coming unstuck and/or not knowing what to do for the best.
During negotiations, many aspects are agreed between surveyors without recourse to respective clients for instructions at every step of the way. To an extent that is sensible, most parties are more interested in the end-result than the process and really there is no point in instructing an experienced surveyor if you want a detailed explanation before the surveyor is allowed to say anything to the other side. Of course, it all depends upon the client’s experience of the process and confidence in the surveyor, neither practicality and/or emotion is always obvious no matter how assuring at the onset. Some time ago, I had the misfortune to represent a tenant whose attitude I likened to demonstrating a new car only for them ask you to tell them the name of the person that harvested the latex from the tree that was used to make the rubber for the tyres.
Unless the lease requires a proposal to be specified in a notice, it’s not necessary for the landlord or the tenant to indicate a rent as a basis for the negotiations. Even so, it is common for a proposal at the onset and for ensuing discussions for the reaching of agreement to be ‘without prejudice’.
The expression ‘without prejudice’ means “without prejudice to my right to contend for the full amount to which I assert I am entitled”. In the context of a dispute where terms of settlement are offered, the effect of that will be that, if no agreement is reached and the matter goes to arbitration (or to court), the discussions and any concessions made in the course of them cannot be referred to or relied upon.
The policy of the law is to encourage the compromise of disputes. in general, a statement (whether written or oral) made in an effort to compromise a dispute is taken to have been made on a “without prejudice” basis and is not admissible in evidence unless both the maker and the person to whom it was made consent.
Since ‘without prejudice’ communications are not normally disclosable, one might think that anything can be said without fear of reprisal, but use of ‘without prejudice’ should not be taken for granted. The parties must make it clear at the onset and for the duration of the discussions (if only to be on the safe side) that the negotiations or communications are ‘without prejudice’. Failure to do so, especially where oral communications are involved, could result in a binding agreement which end up causing all manner of difficulties. For example, it has been held that on request by a tenant of the landlord’s consent for licence to assign the terminology used in preliminaries could give rise to consent being granted, and with rent review notices, ‘without prejudice’ positioned in the wrong place can render the notice invalid.
An offer to compromise a dispute is usually inferred as made without prejudice, unless the circumstances negate such an inference. Therefore, whether or not a party actually used the words “without prejudice” on the document is not determinative. Furthermore, terms such as “off the record” and “confidential” have no legal significance.
A ’breach of warranty of authority’ is a rare example of inexperienced use of the terminology ‘without prejudice’ during rent review negotiation. In principle, an offer made ‘without prejudice’ is capable of acceptance, provided the acceptance is otherwise in an open letter or where any condition would be no consequence – the expression ‘subject to contract’ is not always an escape route. When the party upon whose behalf the binding offer is made back-tracks, the agent for that party becomes personally liable and can be sued for damages; hence the breach of warranty of authority. Of course, an agent cannot force the client to agree – agreement is the client’s prerogative – but to make an offer in a form that is capable of acceptance presupposes the client is agreeable to the possibility the offer would be acceptable.
Changing Market and Varying a Lease
26/September/2013
The definition of ‘lease‘ is "the grant of a right to the exclusive possession of land for a determinate term less than that which the grantor has himself in the land". In practice, a lease is a document that embodies the terms and conditions of the tenancy that are agreed between the first landlord and first tenant. How agreement is reached, whether any terms and conditions were willing, conceded or compromised, will vary depending upon the bargaining strength of the original parties.
Leases comprise 1) what would be called the principal details: for example, rent, start date, duration of term, frequency of rent review, repairing and decorating covenants, service charge if any, insurance, permitted use, alienation, break clause, and any special requirements; and 2) the ’small print’: the words and terminology, the sort of stuff that the parties often leave to their respective lawyers to agree.
The contractual term of a tenancy is often for years, and during that period of time the market for the premises and/or the style of lease is continually changing. The identity of either or both of the original parties might change, sometimes more than once, since the lease was granted. Terms and conditions may become outmoded, new legislation might have come into operation, case–law can override an intention, and different advisers analysing the terminology in the light of the prevailing market might come up with different interpretations on what was agreed by the original parties. Wording and phrasing ranges from precedent to novel as draftsmen try to be both conventional and futuristic, but frankly it is anyone’s guess how successful a lease would be at withstanding the test of time.
After completion the wording of a lease cannot be changed or varied except by mutual agreement, or rectification. Rectification is the correcting of mistakes in drafting which, judging by communications before the lease was completed, one or both parties never intended. Usually, rectification can only be done between original parties. Otherwise variation by mutual agreement occurs as a result of either the tenant or landlord requesting a change.
For the landlord, the usual reason for wanting a variation is either to maintain or enhance investment value. A product of the direction of the market, investment value is a measure of performance for the location and type of property. For the tenant wanting a variation is to do with flexibility of terms and conditions and marketability of the tenant’s business, especially when business and premises are closely bound up through having a secure lease.
All original parties may agree whatever changes they like. Problems involving variations are only likely to crop up when the tenant is an assignee in default and the landlord calls upon the original or former tenant to perform the covenants and pay the rent under privity of contract.
The variation would be recorded in a Deed of Variation or where a variation is agreed in conjunction with something else incorporated into a Licence for that other matter. Unless the first or outgoing tenant and guarantor also agree to the variation, their respective obligations under privity of contract will end on the date of variation. That may not matter if the former tenant and/or guarantor are “people of straw” but where substantial and the covenant of the former tenant is a feature of the investment, the landlord considering a request from the incumbent tenant has to weigh up the consequences of a variation, and whether the old or new rules for privity of contract would apply.
From the landlord’s perspective, to have the previous tenant still on the hook is a comfort, whether or not via an authorised guarantee agreement, (”AGA”). Outgoing tenants are not daft. Rid of the premises, they will try to arrange their financial affairs to also be rid of on–going liability. Most individuals are stuck with taking a chance. For incorporated businesses, it’s a choice between dormant, dissolution, or administration and pre–pack, and restructuring. Using dormant companies, tenants can run the business at the premises through a different company to the company in whose name the lease is vested. The consequences for the landlord’s investment are weakening: for example, any other assets of the tenant’s (old) company would be transferred to a new company, the old company’s name then changed, the new company changes its name to that of the old company, the landlord be none the wiser.
As an example of what can go wrong after a variation, recovering the full annual rent of a stepped increase in rent payable after review has been held to be unenforceable under privity where the lease makes no provision for stepped increase. In the event of a disclaimer by an assignee's administrator and claim against the original tenant under privity, I wonder whether monthly rents might not also fall foul.
Generally, rent is yearly and payable in instalments. Recent leases might incorporate provision for payment quarterly or monthly, depending upon the tenant’s preference, but where monthly rent is agreed in a side–letter, possibly also a non–transferrable personal concession, it is questionable whether the side–letter would be deemed a variation. Side–letters are useful at the time but if not properly drafted can render the entire agreement void.
Another form of variation is the confidentiality agreement. As secret documents, we are not supposed to know about them, but their use is widespread. A confidentially agreement is a side–letter for varying the lease without an overt deed of variation. A confidentiality agreement could be disclosable under certain circumstances, such as legal proceedings, but one has to remember to ask.
With short leases upon which nothing much rests or where the landlord is relieved the property is let, the consequences of a variation to the original lease are unlikely to concern. But where the value of the investment hinges upon what was agreed at the onset the consequences of a ill–thought through variation may be dire.
Leases comprise 1) what would be called the principal details: for example, rent, start date, duration of term, frequency of rent review, repairing and decorating covenants, service charge if any, insurance, permitted use, alienation, break clause, and any special requirements; and 2) the ’small print’: the words and terminology, the sort of stuff that the parties often leave to their respective lawyers to agree.
The contractual term of a tenancy is often for years, and during that period of time the market for the premises and/or the style of lease is continually changing. The identity of either or both of the original parties might change, sometimes more than once, since the lease was granted. Terms and conditions may become outmoded, new legislation might have come into operation, case–law can override an intention, and different advisers analysing the terminology in the light of the prevailing market might come up with different interpretations on what was agreed by the original parties. Wording and phrasing ranges from precedent to novel as draftsmen try to be both conventional and futuristic, but frankly it is anyone’s guess how successful a lease would be at withstanding the test of time.
After completion the wording of a lease cannot be changed or varied except by mutual agreement, or rectification. Rectification is the correcting of mistakes in drafting which, judging by communications before the lease was completed, one or both parties never intended. Usually, rectification can only be done between original parties. Otherwise variation by mutual agreement occurs as a result of either the tenant or landlord requesting a change.
For the landlord, the usual reason for wanting a variation is either to maintain or enhance investment value. A product of the direction of the market, investment value is a measure of performance for the location and type of property. For the tenant wanting a variation is to do with flexibility of terms and conditions and marketability of the tenant’s business, especially when business and premises are closely bound up through having a secure lease.
All original parties may agree whatever changes they like. Problems involving variations are only likely to crop up when the tenant is an assignee in default and the landlord calls upon the original or former tenant to perform the covenants and pay the rent under privity of contract.
The variation would be recorded in a Deed of Variation or where a variation is agreed in conjunction with something else incorporated into a Licence for that other matter. Unless the first or outgoing tenant and guarantor also agree to the variation, their respective obligations under privity of contract will end on the date of variation. That may not matter if the former tenant and/or guarantor are “people of straw” but where substantial and the covenant of the former tenant is a feature of the investment, the landlord considering a request from the incumbent tenant has to weigh up the consequences of a variation, and whether the old or new rules for privity of contract would apply.
From the landlord’s perspective, to have the previous tenant still on the hook is a comfort, whether or not via an authorised guarantee agreement, (”AGA”). Outgoing tenants are not daft. Rid of the premises, they will try to arrange their financial affairs to also be rid of on–going liability. Most individuals are stuck with taking a chance. For incorporated businesses, it’s a choice between dormant, dissolution, or administration and pre–pack, and restructuring. Using dormant companies, tenants can run the business at the premises through a different company to the company in whose name the lease is vested. The consequences for the landlord’s investment are weakening: for example, any other assets of the tenant’s (old) company would be transferred to a new company, the old company’s name then changed, the new company changes its name to that of the old company, the landlord be none the wiser.
As an example of what can go wrong after a variation, recovering the full annual rent of a stepped increase in rent payable after review has been held to be unenforceable under privity where the lease makes no provision for stepped increase. In the event of a disclaimer by an assignee's administrator and claim against the original tenant under privity, I wonder whether monthly rents might not also fall foul.
Generally, rent is yearly and payable in instalments. Recent leases might incorporate provision for payment quarterly or monthly, depending upon the tenant’s preference, but where monthly rent is agreed in a side–letter, possibly also a non–transferrable personal concession, it is questionable whether the side–letter would be deemed a variation. Side–letters are useful at the time but if not properly drafted can render the entire agreement void.
Another form of variation is the confidentiality agreement. As secret documents, we are not supposed to know about them, but their use is widespread. A confidentially agreement is a side–letter for varying the lease without an overt deed of variation. A confidentiality agreement could be disclosable under certain circumstances, such as legal proceedings, but one has to remember to ask.
With short leases upon which nothing much rests or where the landlord is relieved the property is let, the consequences of a variation to the original lease are unlikely to concern. But where the value of the investment hinges upon what was agreed at the onset the consequences of a ill–thought through variation may be dire.
Inexperience and business tenancies
29/August/2013
Tackling a business tenancy matter is full of pitfalls for the unwary but not knowing that is one reason many landlords and tenants will have a go themselves. Another reason is a desire to save on costs. Costs mean the money has to come from somewhere!
In the relationship between landlord and tenant, discussion, also known as negotiation, involving a business tenancy ought to involve simply a literal observance and enforcement of the terms and conditions of the tenancy, but invariably extends to matters of opinion.
To the inexperienced it may seem weird for the parties to have gone to the time, effort and expense of having a lease drafted and approved by lawyers only for the wording of the completed document to be afterwards subject to matters of opinion. But that is a consequence of no standard form of business lease in use generally, combined with the art of drawing comparison which enables the experienced–eye to find fault.
Where inexperience can go wrong is in assuming the wording in the lease may be taken as read, a presumption in favour of reality, which in many instances might be so were it not for the possibility of case–law and/or any overriding legislation. When clashes arise, often they are fuelled by a conflict between a) what the actual landlord or actual tenant has in mind and b) what the lease actually says and business tenancy law and valuation permits.
That conflict may be summarised as the difference between the subjective and objective. The subjective is what the actual parties agree before entering into a binding contract, whereas the objective is what the actual parties would like to achieve after they’ve committed to the lease.
Theoretically, the objective should be shared as if a partnership, but often the interests of landlord and tenant are opposed. A difference in outlook that can be aggravated when either one or both parties are the successors to the original landlord/tenant and/or when the bank is breathing down the landlord’s neck and/or the tenant’s failings are blamed on the state of the economy.
Being a landlord is trying at the best of times. It is not unusual for what starts as a routine fairly straightforward matter to turn into a complex situation, whereupon it may become cheaper to pay an adviser to unravel and resolve the problem than for inexperience to pursue. The main reason for a change in direction during discussion and negotiation is that presented with a thorny issue and difference in opinion a little knowledge is a dangerous thing.
When it comes to information about business tenancies, the internet has a lot to answer for. When you are looking for guidance and free advice, there is an abundance of information, including contributors to on-line forums. But of the freely available information, most is either too general to be of much use, or too sophisticated to be easily understood by the inexperienced.
On forums or asking around, there is the issue of just how much detail an inexperienced person thinks important to mention and what a knowledgeable contributor or adviser needs. There is also the delicate matter of actual experience vs classroom text-book thinking. Business tenancy law and valuation is not a subject in which to to chip in with residential buy-to-let or emotive unfair contract consumer-oriented thinking.
Some problems may lend themselves to definitive solutions, but that presupposes all the facts are known, not just those the questioner would think relevant. Often, there is a vast difference between the academic and in practice. Firing off a warning letter may not have the desired effect. At rent review, the landlord’s intention to pressurise the tenant to concede agreement for fear of costs can back-fire.
Do–It–Yourself business tenancy management may be learned on the job but the art of DIY is not knowing what to do, but knowing what to do if something goes wrong. Generalising about business tenancy law and valuation is unlikely to apply to a particular situation because there is no standard form of business lease.
Each lease is different; in the drafting of documentation, words and phrasing are fashionable, and the use of precedents widespread and followed slavishly regardless. Amongst the ’small print’ is scope for different interpretations that can often result in substantial impact on investment performance.
In the prevailing market is a dash for yield. For successful investment, yield is often the least important, just one of many factors to take into account but, to the inexperienced, yield and immediate return on capital tend to be all that really matters.
Commercial property is an illiquid asset, not a safe-haven substitute for cash on deposit. The commercial property market attracts all sorts, inexperienced buyers are easy prey for shrewd sellers, inexperienced landlords and inexperienced surveyors soft touches for experienced tenants and cunning advisers. Business tenancy law and valuation is in a world of its own, another language. It is not always logical, things don’t automatically follow.
Generally, the higher the yield, the less chance of capital and/or rental growth, and the greater likelihood of problems arising. Before buying, questions include would you get your money back, and how are you going to make a profit?
As a landlord, to save costs and maintain yield, by all means manage the investment yourself and deal direct with the tenant but if you come unstuck then don’t expect advisers to welcome you with open arms. It is not only the market that is polarising between the successful and the rest but also experienced advisers are distancing themselves.
In the relationship between landlord and tenant, discussion, also known as negotiation, involving a business tenancy ought to involve simply a literal observance and enforcement of the terms and conditions of the tenancy, but invariably extends to matters of opinion.
To the inexperienced it may seem weird for the parties to have gone to the time, effort and expense of having a lease drafted and approved by lawyers only for the wording of the completed document to be afterwards subject to matters of opinion. But that is a consequence of no standard form of business lease in use generally, combined with the art of drawing comparison which enables the experienced–eye to find fault.
Where inexperience can go wrong is in assuming the wording in the lease may be taken as read, a presumption in favour of reality, which in many instances might be so were it not for the possibility of case–law and/or any overriding legislation. When clashes arise, often they are fuelled by a conflict between a) what the actual landlord or actual tenant has in mind and b) what the lease actually says and business tenancy law and valuation permits.
That conflict may be summarised as the difference between the subjective and objective. The subjective is what the actual parties agree before entering into a binding contract, whereas the objective is what the actual parties would like to achieve after they’ve committed to the lease.
Theoretically, the objective should be shared as if a partnership, but often the interests of landlord and tenant are opposed. A difference in outlook that can be aggravated when either one or both parties are the successors to the original landlord/tenant and/or when the bank is breathing down the landlord’s neck and/or the tenant’s failings are blamed on the state of the economy.
Being a landlord is trying at the best of times. It is not unusual for what starts as a routine fairly straightforward matter to turn into a complex situation, whereupon it may become cheaper to pay an adviser to unravel and resolve the problem than for inexperience to pursue. The main reason for a change in direction during discussion and negotiation is that presented with a thorny issue and difference in opinion a little knowledge is a dangerous thing.
When it comes to information about business tenancies, the internet has a lot to answer for. When you are looking for guidance and free advice, there is an abundance of information, including contributors to on-line forums. But of the freely available information, most is either too general to be of much use, or too sophisticated to be easily understood by the inexperienced.
On forums or asking around, there is the issue of just how much detail an inexperienced person thinks important to mention and what a knowledgeable contributor or adviser needs. There is also the delicate matter of actual experience vs classroom text-book thinking. Business tenancy law and valuation is not a subject in which to to chip in with residential buy-to-let or emotive unfair contract consumer-oriented thinking.
Some problems may lend themselves to definitive solutions, but that presupposes all the facts are known, not just those the questioner would think relevant. Often, there is a vast difference between the academic and in practice. Firing off a warning letter may not have the desired effect. At rent review, the landlord’s intention to pressurise the tenant to concede agreement for fear of costs can back-fire.
Do–It–Yourself business tenancy management may be learned on the job but the art of DIY is not knowing what to do, but knowing what to do if something goes wrong. Generalising about business tenancy law and valuation is unlikely to apply to a particular situation because there is no standard form of business lease.
Each lease is different; in the drafting of documentation, words and phrasing are fashionable, and the use of precedents widespread and followed slavishly regardless. Amongst the ’small print’ is scope for different interpretations that can often result in substantial impact on investment performance.
In the prevailing market is a dash for yield. For successful investment, yield is often the least important, just one of many factors to take into account but, to the inexperienced, yield and immediate return on capital tend to be all that really matters.
Commercial property is an illiquid asset, not a safe-haven substitute for cash on deposit. The commercial property market attracts all sorts, inexperienced buyers are easy prey for shrewd sellers, inexperienced landlords and inexperienced surveyors soft touches for experienced tenants and cunning advisers. Business tenancy law and valuation is in a world of its own, another language. It is not always logical, things don’t automatically follow.
Generally, the higher the yield, the less chance of capital and/or rental growth, and the greater likelihood of problems arising. Before buying, questions include would you get your money back, and how are you going to make a profit?
As a landlord, to save costs and maintain yield, by all means manage the investment yourself and deal direct with the tenant but if you come unstuck then don’t expect advisers to welcome you with open arms. It is not only the market that is polarising between the successful and the rest but also experienced advisers are distancing themselves.
On-site Parking
31/July/2013
Not all businesses aspire to be in purpose-built premises and for corporate image there is something to be said for the appeal of former residential dwellings used as offices, shops, workshops or hotels, particularly when located in main-road positions. One attraction is the likelihood of off-street parking where the front garden provides a forecourt for on-site car parking.
In many places, demand for parking spaces exceeds supply so the availability of on-site parking may enhance the value of the property. Where service roads exist, such as behind shops, access may be narrow, congested, the road surface uninviting. Accommodation roads (in front of the building) are frequently full up all day or yellow-line restricted and traffic warden patrolled bays with pay-and-display meters. The cost of parking in council or privately owned car parks can be expensive and a deterrent to motorist visitors and shoppers. Businesses that provide free parking for staff and customers enjoy a competitive edge, and generally premises that include on-site parking for tenants and occupiers are more valuable and readily lettable.
Where a property without rear vehicular access fronts the public highway, there may not be anything to prevent the owner or tenant from converting the front ‘garden’ to hardstanding to create a forecourt open to the adjoining highway, (assuming no restrictions in the title or tenancy). But free-standing wedges in the road to facilitate driving over the kerb, as can be spotted in residential streets, would be breaking the law and enforcement action could be taken to prevent such practice. Furthermore, the person may become liable for any damage to the surface or sub-formation of the footway or any utility services damaged as a result of that action.
If you intend to drive a vehicle over the public footway into your driveway/forecourt off a public highway, then you would need a dropped-kerb. A kerb is a stone edging to a pavement or raised path between the road and the path/pavement. Kerbs separate road from roadside, discouraging drivers from parking or driving on pavements and verges, vehicles can be destabilised if they hit the kerb; kerbs also provide structural support to the pavement edge, can be used to channel runoff water from rain, or melted snow and ice into storm drains, and are aesthetic: kerbs look formal and “finished”. Kerbs add to the cost of the road so are generally limited to urban areas. Kerbs are normally 90 degree vertical-faced but slope-faced kerbs with shallow reveals (the lip between kerb and paving stone) allow vehicles to cross at slow speeds. Dropped-kerbs are cuts in the kerb to allow vehicles to cross between the road and off-street.
Depending upon the importance of the road, planning permission may be required. Whether the council would allow a dropped-kerb to be installed where none exists already depends upon the position of the dropped-kerb in relation to the highway and wider consequences. Reasons for refusal (which can be appealed against) include the property is on a bend or at a road junction, a tree is in the proposed crossing, street furniture or lamp-lighting may impede access, the property is close to traffic signals and/or a designated pedestrian crossing, there is a steep slope between the property and the road, the hardstanding and/or visibility isn’t sufficient. The installation would have to be carried out by an approved contractor, with all costs and fees paid by the property owner.
During the early 1970s, when I was a partner in my late father’s firm of chartered surveyors in Harrow, Middlesex, there were several ex-houses nearby that were used as offices and whose front gardens had been converted into forecourt parking. When I set up my own practice in 1975, I used to park on the forecourt of my office building in South Harrow, even though that meant driving over the kerb and a wide pavement. Long after I relocated my office, the council erected barriers on the pavement to prevent that habit continuing. The owner of a property that abuts the highway has a common law right of a frontager to access the highway from any part of his property. However, that right can be modified by a highway authority exercising statutory powers to improve or maintain a highway, and to carry out works even though they many interfere or obstruct frontagers’ rights; which is precisely what happened to a solicitor who since 1969 had used the forecourt in front of his office (ex-residential) in Station Road, Harrow for parking, manoeuvring cars over the public pavement and to exit in reverse. No planning permission existed for that means of access but the use had continued for so long that any breach of planning control was immune from enforcement.
In Cusack v Harrow London Borough Council [2011]*, the Court of Appeal held that Patrick J Cusack & Co were not entitled to an injunction restraining the Council from erecting the barriers, but that under the Highways Act 1980, the Council would have to pay compensation because the Court considered the Council’s proposed action and reason for take it fell squarely within s.66(2). The Council appealed and in 2013 the Supreme Court ruled that compensation would not be payable because the Council could choose to use the s80 route, thereby avoiding paying compensation.
Of no comfort to property owners to be reminded that, where there are two statutory routes to achieve the same result, a local authority is entitled to choose the route that imposes the least burden on the public purse, provided that this is not unreasonable or an abuse of power, it is worth remembering that the continuing value of premises where unofficial forecourt parking has been in place for years could hinge on indifferent councils.
In many places, demand for parking spaces exceeds supply so the availability of on-site parking may enhance the value of the property. Where service roads exist, such as behind shops, access may be narrow, congested, the road surface uninviting. Accommodation roads (in front of the building) are frequently full up all day or yellow-line restricted and traffic warden patrolled bays with pay-and-display meters. The cost of parking in council or privately owned car parks can be expensive and a deterrent to motorist visitors and shoppers. Businesses that provide free parking for staff and customers enjoy a competitive edge, and generally premises that include on-site parking for tenants and occupiers are more valuable and readily lettable.
Where a property without rear vehicular access fronts the public highway, there may not be anything to prevent the owner or tenant from converting the front ‘garden’ to hardstanding to create a forecourt open to the adjoining highway, (assuming no restrictions in the title or tenancy). But free-standing wedges in the road to facilitate driving over the kerb, as can be spotted in residential streets, would be breaking the law and enforcement action could be taken to prevent such practice. Furthermore, the person may become liable for any damage to the surface or sub-formation of the footway or any utility services damaged as a result of that action.
If you intend to drive a vehicle over the public footway into your driveway/forecourt off a public highway, then you would need a dropped-kerb. A kerb is a stone edging to a pavement or raised path between the road and the path/pavement. Kerbs separate road from roadside, discouraging drivers from parking or driving on pavements and verges, vehicles can be destabilised if they hit the kerb; kerbs also provide structural support to the pavement edge, can be used to channel runoff water from rain, or melted snow and ice into storm drains, and are aesthetic: kerbs look formal and “finished”. Kerbs add to the cost of the road so are generally limited to urban areas. Kerbs are normally 90 degree vertical-faced but slope-faced kerbs with shallow reveals (the lip between kerb and paving stone) allow vehicles to cross at slow speeds. Dropped-kerbs are cuts in the kerb to allow vehicles to cross between the road and off-street.
Depending upon the importance of the road, planning permission may be required. Whether the council would allow a dropped-kerb to be installed where none exists already depends upon the position of the dropped-kerb in relation to the highway and wider consequences. Reasons for refusal (which can be appealed against) include the property is on a bend or at a road junction, a tree is in the proposed crossing, street furniture or lamp-lighting may impede access, the property is close to traffic signals and/or a designated pedestrian crossing, there is a steep slope between the property and the road, the hardstanding and/or visibility isn’t sufficient. The installation would have to be carried out by an approved contractor, with all costs and fees paid by the property owner.
During the early 1970s, when I was a partner in my late father’s firm of chartered surveyors in Harrow, Middlesex, there were several ex-houses nearby that were used as offices and whose front gardens had been converted into forecourt parking. When I set up my own practice in 1975, I used to park on the forecourt of my office building in South Harrow, even though that meant driving over the kerb and a wide pavement. Long after I relocated my office, the council erected barriers on the pavement to prevent that habit continuing. The owner of a property that abuts the highway has a common law right of a frontager to access the highway from any part of his property. However, that right can be modified by a highway authority exercising statutory powers to improve or maintain a highway, and to carry out works even though they many interfere or obstruct frontagers’ rights; which is precisely what happened to a solicitor who since 1969 had used the forecourt in front of his office (ex-residential) in Station Road, Harrow for parking, manoeuvring cars over the public pavement and to exit in reverse. No planning permission existed for that means of access but the use had continued for so long that any breach of planning control was immune from enforcement.
In Cusack v Harrow London Borough Council [2011]*, the Court of Appeal held that Patrick J Cusack & Co were not entitled to an injunction restraining the Council from erecting the barriers, but that under the Highways Act 1980, the Council would have to pay compensation because the Court considered the Council’s proposed action and reason for take it fell squarely within s.66(2). The Council appealed and in 2013 the Supreme Court ruled that compensation would not be payable because the Council could choose to use the s80 route, thereby avoiding paying compensation.
Of no comfort to property owners to be reminded that, where there are two statutory routes to achieve the same result, a local authority is entitled to choose the route that imposes the least burden on the public purse, provided that this is not unreasonable or an abuse of power, it is worth remembering that the continuing value of premises where unofficial forecourt parking has been in place for years could hinge on indifferent councils.
Mixed User Buildings and Service Charges
25/June/2013
When a building comprises ground floor commercial premises let on a business tenancy, and upper part residential flat sold on a long lease, there are two ways for the landlord to recover the costs and expenses incurred by the landlord in connection with repair and decoration of the common parts of the building, such as main structure walls, foundations, roof, etc.
One way is a ‘pay-as-you-go’ clause in both leases whereby the respective tenants separately covenant to reimburse the landlord whenever expense is incurred. The other is a service charge, payable part in advance, the balance after the end of each yearly accounting period.
Even though when repairing, etc., covenants are only partly the tenant’s responsibility, there may not be a reciprocal covenant on the landlord to carry out the work. The CML likes defined responsibility, basically for the landlord to also covenant, but to be obliged might not suit the landlord. Even if it were implied that if the tenant were not responsible at all, so surely the landlord would be, there is a practical difference between enforcing an implication and actual.
An advantage of ‘pay-as-you go’ is that the landlord may not be obliged to the tenant; the disadvantage is having to pay for the work before recovering from the tenant. With a ‘proper’ service charge, where an interim payment is in advance, the balance at the end of the charge accounting year, the landlord would have money up front and/or in the kitty.
For what might seem routine matters, landlords frequently encounter resistance from tenants when applying the wording in a lease literally. Services charges, along with building insurance, are amongst the thornier issues between landlord and tenant, and with mixed-user properties services charges can be fraught with difficulty.
The commercial property market is largely unregulated and a lease is a commercial contract which means the parties are deemed to know what they are doing. Residential property is largely regulated and oriented towards consumer-protection legislation. The main reason, I suspect, is that residential tenants pay using net income after tax, whereas for businesses leasing commitments are tax-deductible.
With commercial property, interpretation of the lease is a separate issue, but otherwise it doesn’t matter how open-ended a cost commitment, the courts are unlikely to interfere. Not so with residential property where regardless of any contractual agreement, the Landlord and Tenant Act 1985 (as amended) requires the landlord to comply with a formal consultation procedure in connection with qualifying works, failing which the maximum amount recoverable from the lessee is £250.
The Landlord and Tenant Act 1985 is to ensure residential tenants are not required to pay for unnecessary or defective services, and/or for the payment for necessary services to be provided to an acceptable standard. The gist of Daejan Investments Ltd v Benson and others [2013] is that failure to comply with the minutiae of the consultation procedure ought not be an opportunity for lessees to wriggle out of payment. However, per Phillips v Francis [2012] a landlord has to consider overall expenditure on qualifying works, the whole of which determines whether the leaseholders have to be consulted, even though the charge would be £250 or less for each individual leaseholder.
Long leaseholders may like to regard themselves owners, they are not: all they have is use of the space inside the premises, together with the right for the purpose stated in the lease for the duration of the term (subject to any rights on expiry). Everything else belongs to the landlord (subject to any exceptions) so arguably it is socially fair and reasonable when the landlord wants to carry out works at the tenant’s expense for the tenant to have a say in how much should be expended.
Generally, the landlord wants to do the works; tenants may be less inclined to make the first move when they know it is going to cost them. With mixed-user buildings, where the business tenancy may include tenant-enforceable covenants and/or tenants undeterred by legal proceedings it is a question of who wants the works done and the urgency.
In a matter I dealt with for a landlord of a mixed-user building, the residential lessee wanted repairs done urgently because the state of the building was deterring his prospective (sub)-tenants. He informed my client it was the landlord’s responsibility but would get the work done provided the landlord would reimburse approximately £5000. I advised that despite the lessee having indicated footing the bill, the work couldn’t go ahead until the consultation had been complied with, otherwise the lessee could refuse to pay more than £250. I wrote to the lessee to explain. I was told I could forget any suggestion of him paying my fees, let alone another surveyor for supervising the works. In response, I provided a copy of the lease whereupon I was questioned whether the fees were reasonable. As the matter progressed and insistency of urgency intensified. It transpired the estimates the lessee had obtained were verbal, so I set about obtaining written estimates from the several contractors, The lessee said the lowest price should be accepted, but the works proposed by the contractor would have resulted in an improvement not a repair, so not recoverable. Mentioning that, while scaffolding was erected, my Client could get some other work done, in the event the lessee told us to forget it, he would get the work done at his own expense.
Where the landlord wants to undertake works, then the consultation procedure must be satisfied with the residential element before the work is started. Where the commercial tenant wants the landlord to do the works as a matter of urgency, the landlord might have to decide whether preferable to endure the inevitable delay in getting the go-ahead from the residential tenant or go ahead regardless in order to pacify the commercial tenant and avoid any proceedings.
One way is a ‘pay-as-you-go’ clause in both leases whereby the respective tenants separately covenant to reimburse the landlord whenever expense is incurred. The other is a service charge, payable part in advance, the balance after the end of each yearly accounting period.
Even though when repairing, etc., covenants are only partly the tenant’s responsibility, there may not be a reciprocal covenant on the landlord to carry out the work. The CML likes defined responsibility, basically for the landlord to also covenant, but to be obliged might not suit the landlord. Even if it were implied that if the tenant were not responsible at all, so surely the landlord would be, there is a practical difference between enforcing an implication and actual.
An advantage of ‘pay-as-you go’ is that the landlord may not be obliged to the tenant; the disadvantage is having to pay for the work before recovering from the tenant. With a ‘proper’ service charge, where an interim payment is in advance, the balance at the end of the charge accounting year, the landlord would have money up front and/or in the kitty.
For what might seem routine matters, landlords frequently encounter resistance from tenants when applying the wording in a lease literally. Services charges, along with building insurance, are amongst the thornier issues between landlord and tenant, and with mixed-user properties services charges can be fraught with difficulty.
The commercial property market is largely unregulated and a lease is a commercial contract which means the parties are deemed to know what they are doing. Residential property is largely regulated and oriented towards consumer-protection legislation. The main reason, I suspect, is that residential tenants pay using net income after tax, whereas for businesses leasing commitments are tax-deductible.
With commercial property, interpretation of the lease is a separate issue, but otherwise it doesn’t matter how open-ended a cost commitment, the courts are unlikely to interfere. Not so with residential property where regardless of any contractual agreement, the Landlord and Tenant Act 1985 (as amended) requires the landlord to comply with a formal consultation procedure in connection with qualifying works, failing which the maximum amount recoverable from the lessee is £250.
The Landlord and Tenant Act 1985 is to ensure residential tenants are not required to pay for unnecessary or defective services, and/or for the payment for necessary services to be provided to an acceptable standard. The gist of Daejan Investments Ltd v Benson and others [2013] is that failure to comply with the minutiae of the consultation procedure ought not be an opportunity for lessees to wriggle out of payment. However, per Phillips v Francis [2012] a landlord has to consider overall expenditure on qualifying works, the whole of which determines whether the leaseholders have to be consulted, even though the charge would be £250 or less for each individual leaseholder.
Long leaseholders may like to regard themselves owners, they are not: all they have is use of the space inside the premises, together with the right for the purpose stated in the lease for the duration of the term (subject to any rights on expiry). Everything else belongs to the landlord (subject to any exceptions) so arguably it is socially fair and reasonable when the landlord wants to carry out works at the tenant’s expense for the tenant to have a say in how much should be expended.
Generally, the landlord wants to do the works; tenants may be less inclined to make the first move when they know it is going to cost them. With mixed-user buildings, where the business tenancy may include tenant-enforceable covenants and/or tenants undeterred by legal proceedings it is a question of who wants the works done and the urgency.
In a matter I dealt with for a landlord of a mixed-user building, the residential lessee wanted repairs done urgently because the state of the building was deterring his prospective (sub)-tenants. He informed my client it was the landlord’s responsibility but would get the work done provided the landlord would reimburse approximately £5000. I advised that despite the lessee having indicated footing the bill, the work couldn’t go ahead until the consultation had been complied with, otherwise the lessee could refuse to pay more than £250. I wrote to the lessee to explain. I was told I could forget any suggestion of him paying my fees, let alone another surveyor for supervising the works. In response, I provided a copy of the lease whereupon I was questioned whether the fees were reasonable. As the matter progressed and insistency of urgency intensified. It transpired the estimates the lessee had obtained were verbal, so I set about obtaining written estimates from the several contractors, The lessee said the lowest price should be accepted, but the works proposed by the contractor would have resulted in an improvement not a repair, so not recoverable. Mentioning that, while scaffolding was erected, my Client could get some other work done, in the event the lessee told us to forget it, he would get the work done at his own expense.
Where the landlord wants to undertake works, then the consultation procedure must be satisfied with the residential element before the work is started. Where the commercial tenant wants the landlord to do the works as a matter of urgency, the landlord might have to decide whether preferable to endure the inevitable delay in getting the go-ahead from the residential tenant or go ahead regardless in order to pacify the commercial tenant and avoid any proceedings.
Shop Investment
29/May/2013
I have resisted commenting on the Portas review of the ‘High Street’ and ensuing media and industry reports, because all of what has happened, is happening, and likely to happen I wrote about years ago in my newsletters for clients and contacts. Years ago, it wasn’t difficult, at least not for me, to predict with certainty what was bound to happen as a consequence of retailer expansion combined with a failure by directors to recognise let alone appreciate the shift in attitude amongst shoppers. In resisting also the temptation to say I told them so, there is, nevertheless, a lesson to be learned, the message of which may still not be appreciated.
A difference can exist between the value of a shop property with vacant possession and its value as an investment. Generally, in prime trading positions, the definition of which will vary depending on retailer activity, the number of propositions for sale is few and far between. One reason for scarcity is that where tenant demand for premises exceeds supply the market rent and prospects for rental growth could exceed comfortably the value with vacant possession; in short, the property has investment potential.
In secondary positions, the definition of which also varies, the investment potential is by no means as identifiable. The availability of propositions is often dependent upon incumbent owners’ reluctance to sell, or be able to afford to sell if overly indebted. Generally, private investors are tax- and loss-averse so less likely than institutional and professional landlords to rejig portfolios to synchronise with changes in retailing, and will often hang on to ex-growth, problematic, and empty premises in the hope of better times ahead.
Investment is about becoming better off than you were, but successful investment is about timing and not every shop property has investment potential . Buying a vacant property let’s say for £300,000 and letting at £30,000 pa - 10% yield (ignoring costs and tax) - means that after 10 years, you’ve your money back plus a property that, all other factors remaining constant, would fetch £300,000 but, adjusting for likely inflation, would buy less than today. Property has a reputation as a hedge against inflation, but the market is inefficient, so capital value does not have to go up, and neither does the rent. There are plenty of places where values have remained static for years, or fallen. An ‘upward only’ review to market rent during the 10 years may not help: all that means is that the rent payable after the market rent is agreed or ascertained will not be less than the rent payable before the review (unless provided for in documentation). And even if the market rent does increase, no reason to assume a commensurate increase in capital value: a rent increase might merely counteract a fall in capital value.
In the shop property market, a strong correlation exists between investment potential and tenant demand. An investor that ignores, overlooks or does not appreciate the subtle influences affecting demand does so at his peril. The landlord owns the building, not the tenant’s business. .
Often the price of a retail property investment is based on an artificial evaluation that bears little or no relationship to the underlying value of the property. Ignoring special situations, such as redevelopment, the perceived difference in value may come about from creative thinking. For example ‘yield compression, a feature of the pre-2008 boom years, is valuation by reference to interest rates. An inflated method of pricing, the downside of which is evaporation the moment the supply of cheap money dries up, as the banks have discovered in the undoing of investors that had overpaid. Could it happen again? The market is awash with cash-buyers, stock market emigrants, SIPPers, and overseas investors for whom the rate of exchange makes commercial property seem good value, mostly buying on yield.
As a rule, it makes more sense to buy at or close to the bottom of the market. However, quite apart from the opportunity being in what you actually buy, rather than just anything, most investors shy away from the bottom of the market; either they don’t have the experience to assess whether prices are rock-bottom or they get petrified by tales of doom and gloom. The bottom of the market is a paradise for the shrewd investor. The buyer that would need a mortgage before completing the purchase, let alone exchange contracts, is not in the same league.
Although timing the bottom makes sense in the context of possible uplift, it is often better to buy when prices are higher because rising prices are more likely to bring out the sellers of propositions worth buying. However, the question is why are prices higher? The answer is not necessarily an improvement in confidence; in the prevailing climate, it is pursuit of yield.
When there are ‘extra layers’ between buyer aspirations and the underlying value of the property, the buyer can be fooled into thinking the investment would at least maintain the purchase price. That would only hold true when others share the same attitude and there is enough momentum for the proposition to be re-sold for at least the same price. If you are buying to keep indefinitely and/or for a pension, momentum is risky: it is difficult to predict when the attitude might change, also how far from the end or close to the start of a momentum your timing. Waiting for others to make the first move is ‘confidence compression’ and is nothing to do with the underlying value of the property.
Underlying value is affected by the calibre of tenant demand for the premises. However, where many investors come unstuck is in equating tenant covenant with trading position. In my opinion, prevailing higher yields are not good value compared with the recent past. In my opinion, the lower yields of yesteryear were the aberration, the higher yields now the norm.
A difference can exist between the value of a shop property with vacant possession and its value as an investment. Generally, in prime trading positions, the definition of which will vary depending on retailer activity, the number of propositions for sale is few and far between. One reason for scarcity is that where tenant demand for premises exceeds supply the market rent and prospects for rental growth could exceed comfortably the value with vacant possession; in short, the property has investment potential.
In secondary positions, the definition of which also varies, the investment potential is by no means as identifiable. The availability of propositions is often dependent upon incumbent owners’ reluctance to sell, or be able to afford to sell if overly indebted. Generally, private investors are tax- and loss-averse so less likely than institutional and professional landlords to rejig portfolios to synchronise with changes in retailing, and will often hang on to ex-growth, problematic, and empty premises in the hope of better times ahead.
Investment is about becoming better off than you were, but successful investment is about timing and not every shop property has investment potential . Buying a vacant property let’s say for £300,000 and letting at £30,000 pa - 10% yield (ignoring costs and tax) - means that after 10 years, you’ve your money back plus a property that, all other factors remaining constant, would fetch £300,000 but, adjusting for likely inflation, would buy less than today. Property has a reputation as a hedge against inflation, but the market is inefficient, so capital value does not have to go up, and neither does the rent. There are plenty of places where values have remained static for years, or fallen. An ‘upward only’ review to market rent during the 10 years may not help: all that means is that the rent payable after the market rent is agreed or ascertained will not be less than the rent payable before the review (unless provided for in documentation). And even if the market rent does increase, no reason to assume a commensurate increase in capital value: a rent increase might merely counteract a fall in capital value.
In the shop property market, a strong correlation exists between investment potential and tenant demand. An investor that ignores, overlooks or does not appreciate the subtle influences affecting demand does so at his peril. The landlord owns the building, not the tenant’s business. .
Often the price of a retail property investment is based on an artificial evaluation that bears little or no relationship to the underlying value of the property. Ignoring special situations, such as redevelopment, the perceived difference in value may come about from creative thinking. For example ‘yield compression, a feature of the pre-2008 boom years, is valuation by reference to interest rates. An inflated method of pricing, the downside of which is evaporation the moment the supply of cheap money dries up, as the banks have discovered in the undoing of investors that had overpaid. Could it happen again? The market is awash with cash-buyers, stock market emigrants, SIPPers, and overseas investors for whom the rate of exchange makes commercial property seem good value, mostly buying on yield.
As a rule, it makes more sense to buy at or close to the bottom of the market. However, quite apart from the opportunity being in what you actually buy, rather than just anything, most investors shy away from the bottom of the market; either they don’t have the experience to assess whether prices are rock-bottom or they get petrified by tales of doom and gloom. The bottom of the market is a paradise for the shrewd investor. The buyer that would need a mortgage before completing the purchase, let alone exchange contracts, is not in the same league.
Although timing the bottom makes sense in the context of possible uplift, it is often better to buy when prices are higher because rising prices are more likely to bring out the sellers of propositions worth buying. However, the question is why are prices higher? The answer is not necessarily an improvement in confidence; in the prevailing climate, it is pursuit of yield.
When there are ‘extra layers’ between buyer aspirations and the underlying value of the property, the buyer can be fooled into thinking the investment would at least maintain the purchase price. That would only hold true when others share the same attitude and there is enough momentum for the proposition to be re-sold for at least the same price. If you are buying to keep indefinitely and/or for a pension, momentum is risky: it is difficult to predict when the attitude might change, also how far from the end or close to the start of a momentum your timing. Waiting for others to make the first move is ‘confidence compression’ and is nothing to do with the underlying value of the property.
Underlying value is affected by the calibre of tenant demand for the premises. However, where many investors come unstuck is in equating tenant covenant with trading position. In my opinion, prevailing higher yields are not good value compared with the recent past. In my opinion, the lower yields of yesteryear were the aberration, the higher yields now the norm.
Privity of Contract – AGA
24/April/2013
It is an established rule of English law that a person can only enforce a contract if he is a party to it or a lawful assignee of the benefit of the contract. In the context of a business tenancy, the "privity of contract'' doctrine means the first (original) tenant can assign his interest in the tenancy (presupposing the lease permits assignment), but not his relationship with the landlord.
Before the Landlord and Tenant (Covenants) Act 1995, the first tenant remained liable for the rent, etc throughout the term of the tenancy, regardless of assignment. An assignee default at any time meant the original tenant could suddenly be presented with a demand for rent at any time. Also, privity of contract did not then include any right for the original tenant to take over the remainder of the tenancy. How far down along the line the landlord could pursue an original tenant was brought home to a friend, a beneficiary of a will where the deceased had been the original tenant.
After 1 January 1996 when the 1995 Act came into operation, the change in the law introduced what is known as an Authorised Guarantee Agreement, or “AGA” for short. Now, and assuming completion of an AGA, the first tenant on assignment only remains liable for the duration of the first assignee’s interest in the tenancy. When that first assignee assigns, the first tenant bows out and the first assignee becomes liable for performance of the second assignee’s interest, and so on. Along with the right for the outgoing tenant to take over the remainder of the tenancy should its incumbent assignee default, the Act also introduced a formality into what had been largely dependent upon case law whereby a landlord can specify in the lease the criteria that a proposed assignee has to satisfy to avoid any claim the landlord is being unreasonable in refusing consent to the assignment.
Any joy that landlords may have jumped for dissipated when it was realised that draconian criteria could have a deprecating effect at rent review. Consequently, the criteria have been softened and case-law has added to the tort measures of Landlord and Tenant Act 1988 by providing an indicative time limit on how long may be allowed before it could be said the landlord is unreasonably withholding or delaying consent.
Unlike a new letting in the market where the landlord can refuse offers without having to give reasons, a tenant wishing to assign is presenting the landlord with a substitute tenant whose financial or investment covenant status the landlord may have little or no choice but to accept. Even so, landlords are not obliged to ‘rubber stamp’ a tenant’s application to assign. There is no reason why detailed enquiries may not be made and actually it is prudent to do so. Not only for the landlord’s benefit, but also for the outgoing tenant for whom the added protection of the landlord’s carefulness might prevent the outgoing tenant’s performance as guarantor from ever being called upon. To the landlord, what matters is not whether the assignee could afford the rent out of the business, whether or not the business at the premises is also being disposed of, but whether the tenant could afford to pay even if the business failed. Although few tenants are of independent means, business tenancy law assumes all tenants to be so; generally, rent and compliance with other terms and conditions of the tenancy is nothing to do with how the tenant chooses to use the premises.
Amongst larger companies, there is a preference for either underletting or surrender if possible. Assignment is to be avoided because of the risk of privity bounce-back through assignee default. Underletting enables the tenant to keep tabs but has its own problems from procuring a reliable tenant to one that does not mind, should the tenant or lease require, the underlease being contracted out of the Landlord and Tenant Act 1954.
The value of an AGA to the landlord depends upon whether the outgoing previous tenant can be traced if need be. But what an AGA does not have any control over is whether the outgoing tenant would have any money or assets for the landlord to call upon for the AGA to be honoured. Where the outgoing tenant is a weak covenant or shrewd, the success in whether better for the landlord to ask for a deposit in exchange for scrapping the AGA depends upon how canny the outgoing tenant.
Where a premium for the lease is being paid, or the leasehold business as a going concern at the premises is to be sold, in my experience, few tenants seem too concerned as to the long-term risk of assignee default. The trend for tenancy term 10 years even with a tenant break clause at the 5th year is nevertheless a long period of time in which anything could happen. On the face of it, outgoing tenants that are individuals or partnerships may not be able to do much about minimising the liability but outgoing tenants that are limited companies with no guarantor may be in a stronger position to dump the liability.
As for pro-active management to capitalise on any opportunity to enhance the value of the reversion, landlords should not unwittingly limit the potential in the AGA cushion by varying the terms of the tenancy for an assignee, because that could limit the outgoing tenant’s guarantor of the assignee’s performance to the date of the variation. To be on the safe side, it may be better to vary terms of the tenancy before the AGA is entered into, provided any variation would not fall foul of any unreasonable criteria in the lease, or invoke the wrath of the Landlord and Tenant 1988. Treading carefully at every stage is the name of the game. There are no easy answers, it all depends on the circumstances.
Before the Landlord and Tenant (Covenants) Act 1995, the first tenant remained liable for the rent, etc throughout the term of the tenancy, regardless of assignment. An assignee default at any time meant the original tenant could suddenly be presented with a demand for rent at any time. Also, privity of contract did not then include any right for the original tenant to take over the remainder of the tenancy. How far down along the line the landlord could pursue an original tenant was brought home to a friend, a beneficiary of a will where the deceased had been the original tenant.
After 1 January 1996 when the 1995 Act came into operation, the change in the law introduced what is known as an Authorised Guarantee Agreement, or “AGA” for short. Now, and assuming completion of an AGA, the first tenant on assignment only remains liable for the duration of the first assignee’s interest in the tenancy. When that first assignee assigns, the first tenant bows out and the first assignee becomes liable for performance of the second assignee’s interest, and so on. Along with the right for the outgoing tenant to take over the remainder of the tenancy should its incumbent assignee default, the Act also introduced a formality into what had been largely dependent upon case law whereby a landlord can specify in the lease the criteria that a proposed assignee has to satisfy to avoid any claim the landlord is being unreasonable in refusing consent to the assignment.
Any joy that landlords may have jumped for dissipated when it was realised that draconian criteria could have a deprecating effect at rent review. Consequently, the criteria have been softened and case-law has added to the tort measures of Landlord and Tenant Act 1988 by providing an indicative time limit on how long may be allowed before it could be said the landlord is unreasonably withholding or delaying consent.
Unlike a new letting in the market where the landlord can refuse offers without having to give reasons, a tenant wishing to assign is presenting the landlord with a substitute tenant whose financial or investment covenant status the landlord may have little or no choice but to accept. Even so, landlords are not obliged to ‘rubber stamp’ a tenant’s application to assign. There is no reason why detailed enquiries may not be made and actually it is prudent to do so. Not only for the landlord’s benefit, but also for the outgoing tenant for whom the added protection of the landlord’s carefulness might prevent the outgoing tenant’s performance as guarantor from ever being called upon. To the landlord, what matters is not whether the assignee could afford the rent out of the business, whether or not the business at the premises is also being disposed of, but whether the tenant could afford to pay even if the business failed. Although few tenants are of independent means, business tenancy law assumes all tenants to be so; generally, rent and compliance with other terms and conditions of the tenancy is nothing to do with how the tenant chooses to use the premises.
Amongst larger companies, there is a preference for either underletting or surrender if possible. Assignment is to be avoided because of the risk of privity bounce-back through assignee default. Underletting enables the tenant to keep tabs but has its own problems from procuring a reliable tenant to one that does not mind, should the tenant or lease require, the underlease being contracted out of the Landlord and Tenant Act 1954.
The value of an AGA to the landlord depends upon whether the outgoing previous tenant can be traced if need be. But what an AGA does not have any control over is whether the outgoing tenant would have any money or assets for the landlord to call upon for the AGA to be honoured. Where the outgoing tenant is a weak covenant or shrewd, the success in whether better for the landlord to ask for a deposit in exchange for scrapping the AGA depends upon how canny the outgoing tenant.
Where a premium for the lease is being paid, or the leasehold business as a going concern at the premises is to be sold, in my experience, few tenants seem too concerned as to the long-term risk of assignee default. The trend for tenancy term 10 years even with a tenant break clause at the 5th year is nevertheless a long period of time in which anything could happen. On the face of it, outgoing tenants that are individuals or partnerships may not be able to do much about minimising the liability but outgoing tenants that are limited companies with no guarantor may be in a stronger position to dump the liability.
As for pro-active management to capitalise on any opportunity to enhance the value of the reversion, landlords should not unwittingly limit the potential in the AGA cushion by varying the terms of the tenancy for an assignee, because that could limit the outgoing tenant’s guarantor of the assignee’s performance to the date of the variation. To be on the safe side, it may be better to vary terms of the tenancy before the AGA is entered into, provided any variation would not fall foul of any unreasonable criteria in the lease, or invoke the wrath of the Landlord and Tenant 1988. Treading carefully at every stage is the name of the game. There are no easy answers, it all depends on the circumstances.
SIPP and Commercial Property
26/March/2013
On 14 March 2013, LandlordZONE reported that growing numbers of retirement savers with self–invested pension plans (SIPP) are building up their pension pots by putting money into commercial property, the main reason for the increase that business owners are buying their own premises. Along with obvious tax advantages, it is suggested buying your own premises to form part of your pension is probably a good move. But is it really?
When a business tenant becomes the landlord as well, a different mindset is called for. Criteria for choosing premises for occupation differs from what is needed for appraising whether the property would make a good investment. With an arm’s length relationship, the landlord owns the property, not the tenant’s business. When the parties are connected, the tenancy can be structured to be tax advantageous but, while tinkering for tax is prudent, for property investment it may be wrong. For example, when the business pays more than market rent, an objective appraisal of the investment would be over–rented, and quite possibly down-valued.
The same applies when, for a tenant, ownership enables a new lease to be granted when the business at the premises is sold as a going-concern. Business owners selling a going concern will grant a new lease to the buyer with the rent either low deliberately in order to maximise the price for the business, or at a level the business can afford. A low rent to begin with assumes that on review the rent would be increased to full rent. But that way of thinking presupposes, all other factors constant, that the terms and conditions of the lease are designed to achieve the higher rent on review. Often they are not. As I said in my article in the February newsletter, leaving the drafting to a lawyer can be a mistake. As for the rent the business could support, it is quite possible the amount would exceed the market rent at the review date, resulting in no increase. Since, per business tenancy law, the tenant’s ability to afford more is irrelevant, it is not uncommon for an initial rent to remain unchanged over the entire term of lease; and thereafter, to make matters worse, the rent lower on renewal of that lease. Moreover, not all businesses are property-specific: a buyer might relocate the business, get rid of the lease or vest in a dormant company, and leave the landlord with less-security.
For pension planning, the higher yields that commercial property offers may seem good value compared with the peak of the market about five years ago, and with lower returns and volatility elsewhere a high–yielding investment, particularly where the relationship between landlord and tenant is not arm’s length, safety of income with relatively little hassle commercial property may fit the bill. But there is more to commercial property than immediate yield. Essentially, property is a depreciating asset whose investment potential is a combination of capital and rental growth, neither of which are necessarily linear nor logical. It is possible for capital value to go up or down or remain the same regardless of the rent, and similarly for rent to remain unchanged for years regardless of growth elsewhere. Property is an illiquid asset so while a commercial property investment can be mortgaged, cash is only realisable when there is a buyer at the price required. Even when an investment is regarded as an annuity, there is no certainty the tenant would remain solvent or renew for a term or at a rent commensurate with pension-requirements. As for saleability and funding, there may also be a difference between valuation theory, buyer expectations and mortgage lending criteria. The only ways to profit are either to buy a bargain or when the capital value of the property if sold with vacant possession or subject to an existing tenancy exceeds the purchase price including all costs during the ownership, tax payable, loss of interest on equity, and adjusting for inflation.
All types of business premises fall within the commercial property remit; shops, offices factories, warehouses, pubs, leisure, etc. Property has a reputation as a hedge against inflation and agencies report that commercial property does increase in value, but the commercial property market is not one big market where everything happening necessarily affects each individual property. Furthermore, because there is no standard form of lease, the terms and conditions of the actual lease can make or break the investment. As for pricing, shrewd professionals can dupe the inexperienced buyer into over paying; a tenant may be expected to pay more than an investor. A difference, often substantial, can exist between the value of a commercial property with vacant possession and the same property let; also the remaining duration of the contractual term can affect value, so too the identity and financial status of the tenant in occupation. During the boom years, the driver for rising prices was yield compression, even though the intrinsic value was often unchanged. Countless investors sucked in by the momentum now find themselves lumbered with commercial property which has gone ex–growth and where the property may well be unsaleable without accepting a thumping great loss.
For successful investment in commercial property, the art and skill is all about judicious choice. Pension planning is a long–term commitment to uncertainty. If you are going to buy and hold commercial property in a SIPP then the question is whether the proposition stacks up if you ignore the tax advantages and any tinkering with the tenancy. As for advisers, the people on your side should also be able to think long–term. It’s no good jumping on the bandwagon, demand for commercial property is intertwined with infrastructural changes in the business sector. For the investor, whether landlord or tenant, the ability to select the right commercial property from a vast array of propositions is about identifying the places and properties that still have potential for growth and investment performance.
When a business tenant becomes the landlord as well, a different mindset is called for. Criteria for choosing premises for occupation differs from what is needed for appraising whether the property would make a good investment. With an arm’s length relationship, the landlord owns the property, not the tenant’s business. When the parties are connected, the tenancy can be structured to be tax advantageous but, while tinkering for tax is prudent, for property investment it may be wrong. For example, when the business pays more than market rent, an objective appraisal of the investment would be over–rented, and quite possibly down-valued.
The same applies when, for a tenant, ownership enables a new lease to be granted when the business at the premises is sold as a going-concern. Business owners selling a going concern will grant a new lease to the buyer with the rent either low deliberately in order to maximise the price for the business, or at a level the business can afford. A low rent to begin with assumes that on review the rent would be increased to full rent. But that way of thinking presupposes, all other factors constant, that the terms and conditions of the lease are designed to achieve the higher rent on review. Often they are not. As I said in my article in the February newsletter, leaving the drafting to a lawyer can be a mistake. As for the rent the business could support, it is quite possible the amount would exceed the market rent at the review date, resulting in no increase. Since, per business tenancy law, the tenant’s ability to afford more is irrelevant, it is not uncommon for an initial rent to remain unchanged over the entire term of lease; and thereafter, to make matters worse, the rent lower on renewal of that lease. Moreover, not all businesses are property-specific: a buyer might relocate the business, get rid of the lease or vest in a dormant company, and leave the landlord with less-security.
For pension planning, the higher yields that commercial property offers may seem good value compared with the peak of the market about five years ago, and with lower returns and volatility elsewhere a high–yielding investment, particularly where the relationship between landlord and tenant is not arm’s length, safety of income with relatively little hassle commercial property may fit the bill. But there is more to commercial property than immediate yield. Essentially, property is a depreciating asset whose investment potential is a combination of capital and rental growth, neither of which are necessarily linear nor logical. It is possible for capital value to go up or down or remain the same regardless of the rent, and similarly for rent to remain unchanged for years regardless of growth elsewhere. Property is an illiquid asset so while a commercial property investment can be mortgaged, cash is only realisable when there is a buyer at the price required. Even when an investment is regarded as an annuity, there is no certainty the tenant would remain solvent or renew for a term or at a rent commensurate with pension-requirements. As for saleability and funding, there may also be a difference between valuation theory, buyer expectations and mortgage lending criteria. The only ways to profit are either to buy a bargain or when the capital value of the property if sold with vacant possession or subject to an existing tenancy exceeds the purchase price including all costs during the ownership, tax payable, loss of interest on equity, and adjusting for inflation.
All types of business premises fall within the commercial property remit; shops, offices factories, warehouses, pubs, leisure, etc. Property has a reputation as a hedge against inflation and agencies report that commercial property does increase in value, but the commercial property market is not one big market where everything happening necessarily affects each individual property. Furthermore, because there is no standard form of lease, the terms and conditions of the actual lease can make or break the investment. As for pricing, shrewd professionals can dupe the inexperienced buyer into over paying; a tenant may be expected to pay more than an investor. A difference, often substantial, can exist between the value of a commercial property with vacant possession and the same property let; also the remaining duration of the contractual term can affect value, so too the identity and financial status of the tenant in occupation. During the boom years, the driver for rising prices was yield compression, even though the intrinsic value was often unchanged. Countless investors sucked in by the momentum now find themselves lumbered with commercial property which has gone ex–growth and where the property may well be unsaleable without accepting a thumping great loss.
For successful investment in commercial property, the art and skill is all about judicious choice. Pension planning is a long–term commitment to uncertainty. If you are going to buy and hold commercial property in a SIPP then the question is whether the proposition stacks up if you ignore the tax advantages and any tinkering with the tenancy. As for advisers, the people on your side should also be able to think long–term. It’s no good jumping on the bandwagon, demand for commercial property is intertwined with infrastructural changes in the business sector. For the investor, whether landlord or tenant, the ability to select the right commercial property from a vast array of propositions is about identifying the places and properties that still have potential for growth and investment performance.
Danger in leaving drafting to lawyers
21/February/2013
With commercial property, the relationship between landlord and tenant hinges upon the terms and conditions of a tenancy, commonly known as a ’lease’ (a lease is the document). When a lease is granted, the onus is on the landlord to draft the wording and the tenant to approve. When the lease contains a rent review, with the rent to be reviewed to the market rent, as distinct from a formula such as index–linked, the lease will incorporate a ’second’ lease known as the “hypothetical lease”.
The hypothetical lease is all about how the market rent is valued. Rent is the product of the terms and conditions of the tenancy upon which the premises are let. The object of the hypothetical lease is to replicate those terms and conditions, but it does not have to replicate precisely. The wording of a hypothetical lease requires careful thought. When landlords and tenants leave the drafting to their respective lawyers, as happens invariably, the draftsmen are likely to follow precedents, often slavishly. Use of precedent is widespread and time–saving, but the snag in following what someone else has agreed involving other circumstances is that the consequences in practice for the parties in question may not be appropriate.
Whether the landlord’s or tenant’s intention could back-fire depends upon whether the wording attracts positive or negative connotations of material importance. Amongst issues where the landlord’s intention can back-fire involves the method of dispute resolution. There are two different methods, commonly known as ‘arbitration’, but whose rules differ. When the procedure is arbitration, any wording in the lease requiring each party to pay half the arbitrator’s costs is void under the Arbitration Act 1996. Also, while an arbitrator can award costs to the winner, it is not only the arbitrator’s costs that the loser could end up paying but also the loser’s costs. Where the procedure is determination by independent expert, whether the expert has jurisdiction on costs depends upon the wording of the lease: where the lease is silent one party could end up paying the whole of the expert’s costs.
If at review the rent cannot be agreed then the prospect of having to shell out an extra several thousands pounds plus vat to have the rent fixed by a third party can be daunting. It may become a question of extra costs versus worthwhile. Since ’armchair’ landlords tend to regard the dispute procedure as a last resort to be avoided if at all possible, many landlords tell their surveyors they do not want to go to ‘arbitration’ it doesn’t take much for a well–advised tenant to prey upon landlord fear by using the ploy of extra costs to obtain no increase. The same goes for tenants that concede more rather than pursue the (lower) market rent, only to find themselves stuck paying the higher amount for the duration of the term.
Costs ought not be considered in isolation. For a landlord, any increase will, provided the rent payable is ‘upward-only’ (not less than rent payable before the review) stay at that minimum level for the remainder of the term, possibly longer. Any uplift in rent can increase capital value and indicate investment performance. For a tenant, paying more than absolutely necessary will, assuming the upward-only proviso, endure for the term and possibly any holding-period after expiry of the tenancy, and can affect the marketability of the lease and sale of the tenant’s business as a going-concern.
Allowing the drafting and approval to lawyers working in isolation without input from surveyors can be a mistake. A lease is a fixed document, whose content may only be changed by mutual agreement (or rectification should a genuine mistake made by the original parties) but the market is continually changing. Wording from the past may not be such a good idea now or in future.
A prudent landlord will want a surveyor to assist the lawyer in drafting the lease, likewise a prudent tenant. Lawyers may have the theory at their finger–tips but surveyors deal with the practicalities. The difference is between the subjective and the objective. The lawyers represent the subjective, namely the actual landlord and tenant respectively, but at rent review the actual parties take second–place to the objective, the hypothetical landlord and hypothetical tenant. For subjective aspirations at rent review to be achieved, the hypothetical lease must be complementary.
Where a property is bought already let, the new landlord could be lumbered with a lease whose terminology is unfavourable to the investor’s expectations. Appraising a proposition without considering the impact of the terms and conditions of the existing tenancy can result in overpaying for the investment. For example, of a building that has been structurally enlarged, the question to whom does the rental value of the enlargement belong can be answered by the documentation.
Ideally, the hypothetical lease should allow for changes in the market, but predicting is not easy even if you think deeply and long-term. For matters shown to be contentious the tendency is to include the best of both worlds. For example, whether the term in the hypothetical lease is the original term or the unexpired term; should the original term run from the commencement of the tenancy or the review date.
Of course, any intention one party has via the hypothetical lease is only likely to succeed when those on the other side are inexperienced or have no choice at the drafting stage. At rent review, anyone can barter but for negotiating a rent review to market rent one needs a grasp of business tenancy law, rental valuation, and tenancy-psychology. For those of us surveyors whose job is to scrutinise ‘small print’ with a view to finding lucrative angles and loopholes for clients to exploit, the leaving the drafting of leases to lawyers can provide rich pickings.
The hypothetical lease is all about how the market rent is valued. Rent is the product of the terms and conditions of the tenancy upon which the premises are let. The object of the hypothetical lease is to replicate those terms and conditions, but it does not have to replicate precisely. The wording of a hypothetical lease requires careful thought. When landlords and tenants leave the drafting to their respective lawyers, as happens invariably, the draftsmen are likely to follow precedents, often slavishly. Use of precedent is widespread and time–saving, but the snag in following what someone else has agreed involving other circumstances is that the consequences in practice for the parties in question may not be appropriate.
Whether the landlord’s or tenant’s intention could back-fire depends upon whether the wording attracts positive or negative connotations of material importance. Amongst issues where the landlord’s intention can back-fire involves the method of dispute resolution. There are two different methods, commonly known as ‘arbitration’, but whose rules differ. When the procedure is arbitration, any wording in the lease requiring each party to pay half the arbitrator’s costs is void under the Arbitration Act 1996. Also, while an arbitrator can award costs to the winner, it is not only the arbitrator’s costs that the loser could end up paying but also the loser’s costs. Where the procedure is determination by independent expert, whether the expert has jurisdiction on costs depends upon the wording of the lease: where the lease is silent one party could end up paying the whole of the expert’s costs.
If at review the rent cannot be agreed then the prospect of having to shell out an extra several thousands pounds plus vat to have the rent fixed by a third party can be daunting. It may become a question of extra costs versus worthwhile. Since ’armchair’ landlords tend to regard the dispute procedure as a last resort to be avoided if at all possible, many landlords tell their surveyors they do not want to go to ‘arbitration’ it doesn’t take much for a well–advised tenant to prey upon landlord fear by using the ploy of extra costs to obtain no increase. The same goes for tenants that concede more rather than pursue the (lower) market rent, only to find themselves stuck paying the higher amount for the duration of the term.
Costs ought not be considered in isolation. For a landlord, any increase will, provided the rent payable is ‘upward-only’ (not less than rent payable before the review) stay at that minimum level for the remainder of the term, possibly longer. Any uplift in rent can increase capital value and indicate investment performance. For a tenant, paying more than absolutely necessary will, assuming the upward-only proviso, endure for the term and possibly any holding-period after expiry of the tenancy, and can affect the marketability of the lease and sale of the tenant’s business as a going-concern.
Allowing the drafting and approval to lawyers working in isolation without input from surveyors can be a mistake. A lease is a fixed document, whose content may only be changed by mutual agreement (or rectification should a genuine mistake made by the original parties) but the market is continually changing. Wording from the past may not be such a good idea now or in future.
A prudent landlord will want a surveyor to assist the lawyer in drafting the lease, likewise a prudent tenant. Lawyers may have the theory at their finger–tips but surveyors deal with the practicalities. The difference is between the subjective and the objective. The lawyers represent the subjective, namely the actual landlord and tenant respectively, but at rent review the actual parties take second–place to the objective, the hypothetical landlord and hypothetical tenant. For subjective aspirations at rent review to be achieved, the hypothetical lease must be complementary.
Where a property is bought already let, the new landlord could be lumbered with a lease whose terminology is unfavourable to the investor’s expectations. Appraising a proposition without considering the impact of the terms and conditions of the existing tenancy can result in overpaying for the investment. For example, of a building that has been structurally enlarged, the question to whom does the rental value of the enlargement belong can be answered by the documentation.
Ideally, the hypothetical lease should allow for changes in the market, but predicting is not easy even if you think deeply and long-term. For matters shown to be contentious the tendency is to include the best of both worlds. For example, whether the term in the hypothetical lease is the original term or the unexpired term; should the original term run from the commencement of the tenancy or the review date.
Of course, any intention one party has via the hypothetical lease is only likely to succeed when those on the other side are inexperienced or have no choice at the drafting stage. At rent review, anyone can barter but for negotiating a rent review to market rent one needs a grasp of business tenancy law, rental valuation, and tenancy-psychology. For those of us surveyors whose job is to scrutinise ‘small print’ with a view to finding lucrative angles and loopholes for clients to exploit, the leaving the drafting of leases to lawyers can provide rich pickings.
Letting a Tenant off the Hook
23/January/2013
With a business tenancy, agreeing the documentation is rarely straightforward at the best of times so, unless the lease contains a tenant–break, a landlord won't normally expect the tenant to want to quit before expiry of the contractual term.
When a tenant asks to be let off the hook, whether to agree or refuse is not necessarily an easy decision. The preference, normally in the lease, is to want the tenant to assign its interest or underlet the premises.
For the tenant, both alternatives may be fraught. The tenant must procure an assignee whose status either satisfies criteria or, if the lease does not specify criteria, to ensure no grounds upon which the landlord could reasonably refuse consent. An acceptable substitute could prove hard to find where the supply of ’decent’ tenants has dried up.
On assignment, and depending on the date of lease, the outgoing tenant might be required to sign an authorised guarantee agreement, whereby per privity of contract the outgoing tenant remains liable for the rent, etc., should its assignee default and only bow out after that assignee assigns. For leases before 1996, the first tenant remains liable throughout the term regardless. Privity can prove onerous. The outgoing tenant has no control over its assignee's conduct, the landlord’s enforcement notice comes out of the blue.
With under–letting, the tenant-landlord stays in control, but responsible to the superior landlord for rent, etc, regardless of whether the under-tenant pays. Leases often require an under-lease to be contracted out of Landlord and Tenant Act 1954 so for the tenant it's a matter of finding someone that doesn't mind not having any legal right to remain in occupation after expiry of the under-lease.
Where there is quality demand for premises, or the tenant’s business is sold as a going–concern, the tenant is only likely to request outright quit when not wanting to risk residual liability. Where there is little or no demand, the landlord's risk includes a lengthy void, expensive insurance, hefty utility bills from deemed supply contracts, structural deterioration, vandalism, and, unless the building is listed or below the rateable value limit, empty property rates. A property unoccupied for a long time may in itself be a deterrent.
Whether the tenant is an individual or a company and has a surety/guarantor is relevant. Net asset value should be ascertained. Regardless of any effect on tenants of proceedings for non–payment it is generally fruitless for landlords to pursue a ’man of straw’.
With a company–tenant, care should be taken to prevent the company becoming dormant, affecting investment value and creating problems for asset management. The use of dormant companies, formerly a tax loophole but nowadays a ring–fencing device for the trading or parent company, is widespread. Investors are notoriously lax in checking the prevailing status of existing tenants. With small company tenants, whose landlord is passive, or where the rent is paid on behalf of the tenant, the legal tenant may have been dissolved or the occupation transferred without consent. When individual–tenant(s) incorporate, applying to assign the tenancy to the company is frequently overlooked. Often only when a notice is to be served, assuming due diligence, or the tenant requests something is an irregularity discovered; it may then become a matter of whether or not the landlord is deemed to have acquiesced.
For a decision to accept surrender or vary terms of the tenancy involving an assignee, care should be taken to avoid prejudicing privity of contract with the previous or first tenant and surety. Surrender ends the tenancy. Varying terms could limit the first or previous tenant’s and surety liability to that date.
Generally, tenants are honourable and asking to be let off the hook is symptomatic of wanting to do the decent thing. When, for whatever reason, landlords refuse, tenants resort to roundabout means: nonpayment of rent(s), removing stock and fixtures to defeat bailiffs in the hope of forcing the landlord to re-enter, abandoning premises, and handing back the keys. With company tenants administration is a solution. Landlords may consider pre–packs, the pre-arranged sale of (parts of) the business to persons of the failed company, unethical but the practice is within the law. The administrator must maximise the value of the company’s assets as soon as possible so as to pay creditors.
A simple way to accommodate the tenant's request is to agree surrender in conjunction with simultaneous reletting to a new tenant or disposal. The landlord (agents) handles the marketing, the cost of which could be shared or borne by the outgoing tenant. Another way where the landlord is confident of early reletting is for the tenant to pay a capital sum equivalent to 2–3 times passing rent, to remove all fittings and fixtures and vacate the premises in a clean and tidy condition. With shops the tenant out sooner than later may be better because a snag in allowing a tenant in occupation whilst premises are marketed is that prospective tenants can ask about the trading position and be deterred by comments.
When a tenant is in trouble, often the writing is on the wall and the message may also be a dire warning for the location yet many landlords isolate the situation and fail to avoid the downfall by disposing of the investment before wider consequences become obvious. For premises in demand reletting is less hassle, but elsewhere it makes no sense, at least not to me, to hold a property for the sake of it. Investors may dislike paying tax but a substantial difference in value can exist between a property with vacant possession and let to a tenant whose investment covenant is sought after. To keep the property for income is only worthwhile if trouble-free. "
When tenants want out, change is in the offing. For landlords, the decision is whether to go with the flow, or resist and have change forced upon them.
When a tenant asks to be let off the hook, whether to agree or refuse is not necessarily an easy decision. The preference, normally in the lease, is to want the tenant to assign its interest or underlet the premises.
For the tenant, both alternatives may be fraught. The tenant must procure an assignee whose status either satisfies criteria or, if the lease does not specify criteria, to ensure no grounds upon which the landlord could reasonably refuse consent. An acceptable substitute could prove hard to find where the supply of ’decent’ tenants has dried up.
On assignment, and depending on the date of lease, the outgoing tenant might be required to sign an authorised guarantee agreement, whereby per privity of contract the outgoing tenant remains liable for the rent, etc., should its assignee default and only bow out after that assignee assigns. For leases before 1996, the first tenant remains liable throughout the term regardless. Privity can prove onerous. The outgoing tenant has no control over its assignee's conduct, the landlord’s enforcement notice comes out of the blue.
With under–letting, the tenant-landlord stays in control, but responsible to the superior landlord for rent, etc, regardless of whether the under-tenant pays. Leases often require an under-lease to be contracted out of Landlord and Tenant Act 1954 so for the tenant it's a matter of finding someone that doesn't mind not having any legal right to remain in occupation after expiry of the under-lease.
Where there is quality demand for premises, or the tenant’s business is sold as a going–concern, the tenant is only likely to request outright quit when not wanting to risk residual liability. Where there is little or no demand, the landlord's risk includes a lengthy void, expensive insurance, hefty utility bills from deemed supply contracts, structural deterioration, vandalism, and, unless the building is listed or below the rateable value limit, empty property rates. A property unoccupied for a long time may in itself be a deterrent.
Whether the tenant is an individual or a company and has a surety/guarantor is relevant. Net asset value should be ascertained. Regardless of any effect on tenants of proceedings for non–payment it is generally fruitless for landlords to pursue a ’man of straw’.
With a company–tenant, care should be taken to prevent the company becoming dormant, affecting investment value and creating problems for asset management. The use of dormant companies, formerly a tax loophole but nowadays a ring–fencing device for the trading or parent company, is widespread. Investors are notoriously lax in checking the prevailing status of existing tenants. With small company tenants, whose landlord is passive, or where the rent is paid on behalf of the tenant, the legal tenant may have been dissolved or the occupation transferred without consent. When individual–tenant(s) incorporate, applying to assign the tenancy to the company is frequently overlooked. Often only when a notice is to be served, assuming due diligence, or the tenant requests something is an irregularity discovered; it may then become a matter of whether or not the landlord is deemed to have acquiesced.
For a decision to accept surrender or vary terms of the tenancy involving an assignee, care should be taken to avoid prejudicing privity of contract with the previous or first tenant and surety. Surrender ends the tenancy. Varying terms could limit the first or previous tenant’s and surety liability to that date.
Generally, tenants are honourable and asking to be let off the hook is symptomatic of wanting to do the decent thing. When, for whatever reason, landlords refuse, tenants resort to roundabout means: nonpayment of rent(s), removing stock and fixtures to defeat bailiffs in the hope of forcing the landlord to re-enter, abandoning premises, and handing back the keys. With company tenants administration is a solution. Landlords may consider pre–packs, the pre-arranged sale of (parts of) the business to persons of the failed company, unethical but the practice is within the law. The administrator must maximise the value of the company’s assets as soon as possible so as to pay creditors.
A simple way to accommodate the tenant's request is to agree surrender in conjunction with simultaneous reletting to a new tenant or disposal. The landlord (agents) handles the marketing, the cost of which could be shared or borne by the outgoing tenant. Another way where the landlord is confident of early reletting is for the tenant to pay a capital sum equivalent to 2–3 times passing rent, to remove all fittings and fixtures and vacate the premises in a clean and tidy condition. With shops the tenant out sooner than later may be better because a snag in allowing a tenant in occupation whilst premises are marketed is that prospective tenants can ask about the trading position and be deterred by comments.
When a tenant is in trouble, often the writing is on the wall and the message may also be a dire warning for the location yet many landlords isolate the situation and fail to avoid the downfall by disposing of the investment before wider consequences become obvious. For premises in demand reletting is less hassle, but elsewhere it makes no sense, at least not to me, to hold a property for the sake of it. Investors may dislike paying tax but a substantial difference in value can exist between a property with vacant possession and let to a tenant whose investment covenant is sought after. To keep the property for income is only worthwhile if trouble-free. "
When tenants want out, change is in the offing. For landlords, the decision is whether to go with the flow, or resist and have change forced upon them.
Rent Review in the Prevailing Climate
22/November/2012
Investment is about becoming financially better off. Investing in commercial property can be rewarding provided you know what you’re doing, otherwise risky. Commercial property is a generic term for all types of business premises; offices, factories, warehouses, shops, supermarkets, retail warehouses, factory outlets, trade counters, pubs, restaurants, and leisure. Essentially, a commercial property is a fixed asset whose investment value requires sufficient appreciation to at least counteract depreciation. Successful investment is about judicious choice and timing: what to buy, how much to pay, how to manage, when and how to sell. Generally, assuming the objective is investment, not development, landlords want both capital value and the rent to least keep pace with inflation. Property has a reputation as a long-term hedge against inflation, but not all properties make good investments. Any potential for capital gain and/or rental growth depends on the variables.
The tenant’s objective for the property is a marketing device for the tenant’s business. The tenant does not care about the landlord’s investment. When costs and overheads overshadow the advantages, the tenant moves on. During the tenancy, tenants want to reduce property costs and minimise liabilities but often at the expense of the landlord. To get landlords to be accommodating, tenants use manipulative tactics, such as claiming business is bad, not being able to afford more, and without concessions the tenant would go broke. Some landlords, especially when mortgaged to the hilt or petrified of voids, are so scared they’ll agree to anything. Many unrepresented landlords fall for tenant ploys. It is easy to be influenced by doom and gloom. Of the economy, hardly a day goes by without news of another business collapse or rationalisation, jobs lost. However, the economy rarely has any bearing on individual businesses. The total market for goods and services comprises sectors and segments. Businesses are not all in the same boat. The world does not owe the tenant a living. In my opinion, most problems are self–inflicted, through failure to address operational short-comings.
For landlords whose commercial property is in dire straits, any suggestion of rent review might seem alien. All property belongs to someone. There is nothing new about commercial property ending up in the wrong place: localities, ‘High Streets’, are not sacrosanct, buildings often out-last their useful shelf-life. Tenants go broke by not anticipating change, investors get it wrong by ignoring warning signs.
In stable and thriving areas of the commercial property market, landlords look forward to rent review. Presented with a plea for clemency, any decision whether to implement the review should be made after the rent is agreed or ascertained. To decide against on the basis of a sob–story invites the question ’how do you know it’s not a negotiating ploy? ’ By agreeing no increase without first exploring all the possibilities the landlord risks missing out on rent increase and capital growth. If the landlord could afford to, a lower rent payable could be accepted.
A rent review that’s ‘upward-only’ does not mean the rent necessarily has to go up, simply that after the market rent is agreed or ascertained the rent payable will not be less than the amount payable beforehand (assuming nothing else to the contrary). Since the market rent could be lower than rent payable, there could be repercussions for the investment value if the property were mortgaged. Many landlords commission surveyor reports on the likely rent at review but I consider such reports a waste of money. During negotiations, evidence can emerge that was not known about before, also psychology enters the fray. For example, most tenants are into commercial expediency so, even if there were no evidence, a nominal increase might be offered to avoid the cost of dispute resolution referral.
With commercial property, there is no standard form of lease. Leases are drafted from scratch, to the parties’ requirements, and often using precedents. [The Law Society has devised a short form of lease, but wording can be altered. ] Rent is the product of the terms and conditions of the tenancy upon which the premises are let. Wording should not always be taken literally: there may be overriding legislation, also words and phrases attract connotations; a different interpretation can often result in substantial increases or savings.
When a lease is granted, the terms and conditions are subjective, but the approach at review (assuming market rent, rather than inflation-adjusted, formulaic, or turnover-linked) is objective. Unlike on expiry where, (assuming the tenancy would qualify for renewal rights) rent is based on s. 34–s. 35 Landlord and Tenant Act 1954, a rent review during the term is based on a hypothetical lease, written in the review clause (and any related documents). Open market rent is not what the actual tenant could afford or how much the actual landlord might want, but what rent the premises would fetch if let in the market between a hypothetical willing landlord and hypothetical willing tenant. ’Hypothetical willing’ is defined in business tenancy law. The hypothetical lease may or may not contain the same terms and conditions as the lease so the outcome of the review might not be as envisaged. For example, if when the premises were let the rent reflected a limitation in use of the premises, then an unrestricted use in the hypothetical lease could result in a greater rent at review, all other factors remaining constant. Conversely, an assumed term without a break clause could result in a lower rent.
Where there is no evidence, the answer is to not value back-to-front. Comparable evidence is back-to front: it implies someone else agreed first and for the subject review to follow, pro-rata. Forward-thinking assesses rent by using either one of the other methodologies, or informed opinion. Informed opinion differs from letting agency ‘real-world’ experience because, unlike the actual market where they may be no demand, in the world of the hypothetical anything is possible.
The tenant’s objective for the property is a marketing device for the tenant’s business. The tenant does not care about the landlord’s investment. When costs and overheads overshadow the advantages, the tenant moves on. During the tenancy, tenants want to reduce property costs and minimise liabilities but often at the expense of the landlord. To get landlords to be accommodating, tenants use manipulative tactics, such as claiming business is bad, not being able to afford more, and without concessions the tenant would go broke. Some landlords, especially when mortgaged to the hilt or petrified of voids, are so scared they’ll agree to anything. Many unrepresented landlords fall for tenant ploys. It is easy to be influenced by doom and gloom. Of the economy, hardly a day goes by without news of another business collapse or rationalisation, jobs lost. However, the economy rarely has any bearing on individual businesses. The total market for goods and services comprises sectors and segments. Businesses are not all in the same boat. The world does not owe the tenant a living. In my opinion, most problems are self–inflicted, through failure to address operational short-comings.
For landlords whose commercial property is in dire straits, any suggestion of rent review might seem alien. All property belongs to someone. There is nothing new about commercial property ending up in the wrong place: localities, ‘High Streets’, are not sacrosanct, buildings often out-last their useful shelf-life. Tenants go broke by not anticipating change, investors get it wrong by ignoring warning signs.
In stable and thriving areas of the commercial property market, landlords look forward to rent review. Presented with a plea for clemency, any decision whether to implement the review should be made after the rent is agreed or ascertained. To decide against on the basis of a sob–story invites the question ’how do you know it’s not a negotiating ploy? ’ By agreeing no increase without first exploring all the possibilities the landlord risks missing out on rent increase and capital growth. If the landlord could afford to, a lower rent payable could be accepted.
A rent review that’s ‘upward-only’ does not mean the rent necessarily has to go up, simply that after the market rent is agreed or ascertained the rent payable will not be less than the amount payable beforehand (assuming nothing else to the contrary). Since the market rent could be lower than rent payable, there could be repercussions for the investment value if the property were mortgaged. Many landlords commission surveyor reports on the likely rent at review but I consider such reports a waste of money. During negotiations, evidence can emerge that was not known about before, also psychology enters the fray. For example, most tenants are into commercial expediency so, even if there were no evidence, a nominal increase might be offered to avoid the cost of dispute resolution referral.
With commercial property, there is no standard form of lease. Leases are drafted from scratch, to the parties’ requirements, and often using precedents. [The Law Society has devised a short form of lease, but wording can be altered. ] Rent is the product of the terms and conditions of the tenancy upon which the premises are let. Wording should not always be taken literally: there may be overriding legislation, also words and phrases attract connotations; a different interpretation can often result in substantial increases or savings.
When a lease is granted, the terms and conditions are subjective, but the approach at review (assuming market rent, rather than inflation-adjusted, formulaic, or turnover-linked) is objective. Unlike on expiry where, (assuming the tenancy would qualify for renewal rights) rent is based on s. 34–s. 35 Landlord and Tenant Act 1954, a rent review during the term is based on a hypothetical lease, written in the review clause (and any related documents). Open market rent is not what the actual tenant could afford or how much the actual landlord might want, but what rent the premises would fetch if let in the market between a hypothetical willing landlord and hypothetical willing tenant. ’Hypothetical willing’ is defined in business tenancy law. The hypothetical lease may or may not contain the same terms and conditions as the lease so the outcome of the review might not be as envisaged. For example, if when the premises were let the rent reflected a limitation in use of the premises, then an unrestricted use in the hypothetical lease could result in a greater rent at review, all other factors remaining constant. Conversely, an assumed term without a break clause could result in a lower rent.
Where there is no evidence, the answer is to not value back-to-front. Comparable evidence is back-to front: it implies someone else agreed first and for the subject review to follow, pro-rata. Forward-thinking assesses rent by using either one of the other methodologies, or informed opinion. Informed opinion differs from letting agency ‘real-world’ experience because, unlike the actual market where they may be no demand, in the world of the hypothetical anything is possible.