Defining Market Rentals in Commercial Real Estate Leasing

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Market rents in commercial property can and will change.  Understand why and how.

When you work with the commercial property or asset, the income stream and particularly the levels of market rental within the asset will have a large impact on investment performance.

(N.B. these ideas are also sent out to regularly to our friends in Commercial Real Estate Online Snapshot to help amplify brokerage results…. Get your access here)

As the local broker or agent for the area and for the property type, it is your job to understand exactly what the market levels are doing for the property and for the location.

Consider the following market rental questions and issues as they apply to assets that you may have now for sale or for lease:

  • What is the market rental today in the property and how was that rental set? The true market rental must be something that was set through negotiation between willing and involved parties to a lease situation.  The landlord and the tenant must have been fully engaged in a property negotiation to determine the real market rental.
  • What are the differences between the tenancies when it comes to location? Some locations are importantly different when it comes to setting and negotiating rent.  Any building and any particular tenancy will have location factors to consider when looking at rent.  Make sure you inspect the properties comprehensively to identify the location differences.  Look at the strengths and weaknesses of the properties as you review income from the leases.
  • How will those differences impact in any market rental establishment or review? When there are differences in location, the market rental should be adjusted accordingly.  Assess every comparable rental and look at the strengths and weaknesses evolving from location.  Also determine the rental type in any lease, i.e gross, net, face or effective.
  • Understand the impact of any incentive that may still be active in the establishment of a tenancy and lease situation.  Incentives should be discounted from the face rental so you can understand exactly what rent is really being paid.
  • What is the permitted and legal use of the premises? The use of the premises should be similar when you are comparing properties and market rentals.  Also look at the factors of property zoning that apply to the different assets being compared.
  • How recent are the reviews undertaken? Rentals change over time so always determine the dates on which rentals would have been established in any review and market situation.  If the date of review is relatively old, you will need to look at the property trends in the location since that review.
  • Where are the comparable properties and tenancies located? What are the differences that apply to services, amenities, and improvements?  When you look at each and every property involved in a market assessment, location factors will have a big impact on the final rental outcome.  Those location factors and other variables will include ease of access, visibility, branding, local transport, highways and freeways, and also are the services and amenities applicable to each property.  That is why it is so important that you physically inspect any property involved in comparing market rentals.
  • How large are the tenancies that you are using or identifying as comparable? When you compare properties, understand the size of each tenancy space involved in each market review, and also look at the quality of the fit-out in each case.  The larger the space, the lower the level of rental per unit of area under lease and of the area of space occupied.  The quality of the fit-out will also directly impact the achieved rental.
  • Are the properties of the same type? You can only compare tenancies and properties when they are of the same type in a very similar location or precinct.  Make sure that all the factors of property use and occupancy are fully aligned in your comparisons.
  • Have you reviewed the lease documents as part of the comparison? You can always get to the complete facts of any lease market review when you look into the lease documents and the terms and situations that applied to the last rental establishment and occupancy agreement.
  • Critical dates will apply to the market review and certain understandings will also be outlined within the lease document.  Whenever and wherever possible, ask to see the lease documents that apply to the market review that you are using in the property performance and market rental assessment.

So there are some important and relevant things that you should look into and review as part of undertaking a commercial market rental assessment and property performance investigation.

Take the time to look into things comprehensively, and as part of that process inspect the properties, interview the tenants, talk to the landlord, check all elements of the documentation, and assess the rental trends for the location.

(N.B. these ideas are also sent out to regularly to our friends in Commercial Real Estate Online Snapshot to help amplify brokerage results…. Get your access here)

By John Highman

John Highman is an International Commercial Real Estate Author, Conference Speaker, and Broadcaster living in Australia, who shares property investment ideas and information to online audiences Worldwide.