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Buying
vs. leasing
Goodbye
landlord, hello maintenance. Low interest rates help
some businesses buy their space
Related
link:
Regional Roundup
by
Brett Lieberman
Virginia
Business
December 2003
After
a long dusty day of building custom cabinets, workers
at Gaithersburg Cabinetry & Millwork can wash up
in nice new showers in the company’s bathroom.
During the workday, the air they breathe is cleaner
now, thanks to a new dust collection system. Their work
environment is safer, too, because infrared sensors
shut down equipment before fingers can be lost.
Just
like any proud homeowner, the Warrenton company decided
to spruce up after purchasing its space. President and
owner Stephan W. Smith says the company spent $850,000
to renovate and build out its space, adding a boardroom
and equipment to make his custom millwork firm safer
and ultimately more profitable. After leasing space
for 23 years in various locations, the company decided
last summer to buy its most recent home — a 30,000-square-foot
building in Vint Hill, a mixed-use corporate park in
Fauquier County, 50 miles from the nation’s capital.
“Our monthly payment is about equal to what it
used to be. But now we have improved the facility. It
doesn’t take a genius to figure that one out,”
says Smith.
Fueled
by the same low mortgage rates that have spurred many
people to make the leap from renting to homeownership,
small and mid-sized businesses have been on a buying
spree, purchasing office space and becoming their own
landlord. Attractive financing, with interest rates
as low as 5-3/4 percent — about 2 percent lower
than two years ago — has been a key force driving
the commercial market, but it’s hardly the only
one. Investors, spooked by a volatile stock market,
new scandals surrounding mutual funds and a still uncertain
economic recovery, are also pouring money into commercial
properties. Either individually or through Real Estate
Investment Trusts (REITs), they are sinking money into
office condos and buildings.
Businesses
are able to purchase for as little as 5 to 20 percent
down. Many are taking advantage of Small Business Administration
loans and other incentives offered by the state and
communities. Gaithersburg Cabinetry’s decision
to buy was prompted in part by the expiration of a five-year
option to purchase the property, but the deal happened
because of the availability of industrial revenue bonds,
which generally carry lower than market interest rates.
The company’s building is appraised at $2 million,
and the company purchased it for less although Smith
prefers to keep the exact price undisclosed. He says
it was a good deal, because his company no longer has
to worry about relocating. An adjacent eight acres included
in the sale leaves plenty of room for future growth.
Smith, who owns the building and leases it to the business,
expects his equity will continue to grow, providing
a nice nest egg.
An
added bonus when purchasing office space is the pride
of ownership. “We wanted to purchase something
to call our own,” says Bob Farkas, president of
Infocus, which purchased and renovated an old Army library
building at Vint Hill. The company, a supplier of mail
list services to national associations, bought a 13,480-square-foot
building on a three-acre parcel.
The
buying trend is most prominent among smaller companies,
often those with fewer than 50 employees. They are more
likely to be locally owned and able to make decisions
on buying vs. leasing. The likely impact on the personal
finances of small-business owners is often a key consideration.
The properties are frequently used as annuities, providing
retirement income when the mortgages are paid off. Advantageous
tax codes also allow owners to avoid paying taxes when
they sell and invest the equity in another property.
Large corporations such as an IBM are less likely to
buy, because they have many locations around the world
and don’t want to tie up so much money on their
balance sheets.
In
many parts of Virginia, the office condo market is hot
with doctors, lawyers, accountants and other small business
owners scooping up 1,200- to 10,000-square-foot units.
A doctor doesn’t have a need for an acre of land,
but if he’s paying $15.50 or more per square foot
to rent, he can probably do better buying, says real
estate broker Mark Douglas of Thalhimer/Cushman &
Wakefield in Richmond.
Business-owned
office condos are popular in Williamsburg and sales
have taken off in Richmond, too. Chris Rice of Rice
Development sold two buildings with a combined space
of 60,000 square feet to 23 buyers. The larger units
sold for more than $500,000. Chris is developing another
80,000 square feet in seven buildings. One reason for
the popularity, he says, is that a business can get
what it wants. “They get to buy exactly what they
need. They don’t need to go out looking for a building
and then lease more than they need and then have to
sublet it,” he says.
While
they’re not in Donald Trump’s league, some
small businesses find commercial property ownership
profitable. “It was a no brainer,” says Gary
Brothers, a Nationwide Insurance agent in Hampton Roads.
He has purchased three buildings worth $1.7 million
in the last year and plans to buy two more in the next
year. One building is a new 4,500-square-foot office
space while another 6,000-square-foot building has eight
units rented and includes space for Brothers’ agency.
As
with home ownership, commercial real estate brings new
responsibilities. No more calling the landlord or a
property manager to fix broken heating or plumbing.
Maintenance is a new terrain for many condo owners,
but other buyers are accustomed to keeping up properties
because some commercial leases require tenants to pay
for everything from taxes and cleaning to roof repairs.
Repair costs can be deducted and the properties depreciated
on tax returns. “In the long run, we’re willing
to accept problems of owning our own,” says Farkas.
The
surge in demand for commercial space is not all positive.
It’s a sellers market with tight inventories and
increased demand spiking prices. Selling prices often
exceed asking prices, and there is little negotiation
over details, say brokers. Even with high vacancy rates
in some areas such as Northern Virginia, many owners
are holding on to their real estate. Finding virgin
land for development is even more difficult because
of rising prices and zoning regulations. In Norfolk,
“You can’t find inventory. We have a lot of
users looking for 5,000 to 10,000 square feet, and you
can’t find freestanding space for sale because
so many people have taken advantage of these low rates,”
says Bill Overman of Advantis Real Estate Services in
Norfolk.
Cheap
financing is helping developers lower their costs too,
but they are finding leased space a tough sell among
local businesses. “As long as you can own for the
same or less than you lease and can grow equity, it
truly makes sense to own if you can accurately predict
your space,” says Thalhimer/Cushman & Wakefield’s
Douglas. The buying frenzy surrounding commercial space
is reminiscent of the buildup to the late 1980s and
early 1990s when the bottom fell out of the overbuilt
real estate market. Today’s real estate market
is quite different, say industry insiders. Pension funds
and REITs that own the majority of commercial properties
can afford to weather a down market.
New
owners like Farkas don’t seem worried. He was one
of the first to buy at Vint Hill. “If everything
else goes kaput, we still have a nice building with
land.” Or as homeowners would say, a place to hang
your hat.
Return
to Virginia Business - December 2003
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