What is retail real estate?
Most of us have happily indulged in retail therapy, but how many of us have considered investing in a retail real estate?
Maybe you currently lease a shop or you want to diversify your investment portfolio. Either way, retail real estate is one of the largest and most diverse sectors of the commercial property market and well worth a look at.
What is retail real estate?
First things first, what actually is retail real estate? Put simply, retail properties are used exclusively to market and sell consumer goods and services.
They range from shopping centres, individual stores and pop-up shops to ‘big box’ stores like Bunnings and Masters.
Retail stores include everything from supermarkets, dry-cleaners, cafes, florists, pharmacies, bike shops, fashion stores and so on.
The good news about retail property investment
Retail property offers investors great opportunities for solid returns. Here are some of the key benefits:
Investors are often attracted to retail because of the high yields that it offers. Yields are calculated as a percentage of the annual rental income divided by the price you paid for the property.
Retail typically offers yields of 5%-6%. This is great for investors wanting an income-stream based investment (retirees for example) over capital gains growth (increase in the value of the property over time).
Unlike residential leases, retail leases are usually signed for at least five years. This gives tenants time to establish their business and offers landlords some security.
Most leases include annual rent increases, usually tied to the consumer price index (CPI).
Unique to retail are “turnover rents”, which give landlords a percentage of the gross revenue from a business. They can be a good incentive for retail investors.
Retail leases tend to be net leases where the tenant, not the landlord, bears a lot of costs such as real estate taxes, insurance, utility bills and maintenance costs.
If you are a business owner, buying your own retail space offers different benefits. Besides becoming an asset, owning your business home can have tax advantages and you can buy property through your SMSF.
Reasons for caution with retail property
So we’ve talked about some of the major benefits, but you need to be aware of the risks too. Here is an incomplete list of some of the main pitfalls to be aware of:
Retail can be a tough business
The retail industry is very sensitive to the state of the economy. If the economy is down, the retail sector suffers and businesses can fail.
As an investor, you must be prepared for the potential of long vacancy periods during economic downturns. You may also need to offer incentives such as internal fit-outs and reduced rents to attract tenants in difficult times.
It is critical that you find out as much as you can about your tenants before signing a lease. How secure their business is and how likely are they to fail are important things to consider.
Expensive to invest
A major obstacle to a lot of investors is that banks usually require at least 30% deposit and will also charge a higher interest rate.
Changing consumer patterns and demographics
Location is critical in retail property. It needs to be easily accessible (good parking, public transport options) with lots of foot traffic and the business type needs to suit the demographics of the area.
If any of these things change, a business can quickly lose business. In large shopping centres a good ‘anchor tenant’ is critical as they will draw the foot traffic – think of how many bakeries and pharmacies are located close to a Coles or Woolworths.
Retail property attracts a diverse range of investors. Private buyers, overseas investors and property trusts are all active. For small investors, A-REITs are the easiest way to start investing in retail property.
Retailers also find many advantages to buying instead of renting their own store.