I’m usually bullish on my outlook for almost everything in Northwest Arkansas. Our area keeps growing, and we continue to outperform the rest of our state and nation regarding job creation.
Our area has a massive influx of educated, higher-income people with an ever-increasing amount of affluence. That kind of growth attracts all of the other businesses that come with people with those kinds of family incomes. Good times ahead.
With this kind of growth in terms of population and income, one would expect the commercial real estate market to be rocking along. And for the most part, it is. But after more than a decade of solid appreciation and ultra-low interest rates, the commercial market seems to be undergoing a cooling-off process. And that “cooling,” while it never lasts forever, may not be over.
While we still are far from having a glut of space available in the market — and continue to have some retail and office space shortages in specific areas like downtown Bentonville — there are nevertheless a few clouds on the horizon that will present opportunities for some investors while posing threats to others.
The biggest threat — one that is here now — is significantly higher interest rates for commercial property mortgages. Those new rates could threaten loan renewals for many leveraged owners who acquired their properties with 3% or 3.5% loans two to five years ago. As the preponderance of commercial real estate loans have either three- or five-year terms with a balloon payment at the end of that, borrowers must periodically refinance them. For each $1,000 borrowed at 3% on a 25-year amortization schedule loan that requires refinancing at, for example, 9%, payments will increase from $4.74 a month to $8.39 a month, or nearly double.
Only some people will be able to increase their rent collections sufficiently to pay for that due to
existing long-term leases or the market conditions at that location and point in time. So, there will inevitably be some loans that don’t renew and some bank-owned properties popping up in the next few years.
Those bank-owned properties and others that longer-term owners want to liquidate now could be excellent investment opportunities for savvy investors who have deleveraged themselves and gotten liquid, along with preserving their credit before this happens. We got some fantastic deals on commercial properties from 2009 to 2015 from area banks that could once again materialize in the not-too-distant future.
Of course, any business owner with a company that rents space should always be exploring the benefits of owning their facilities. It’s a long-term, classic wealth-building strategy for privately held business owners. You control the rent you pay yourself (usually, the real estate would be held in a different legal entity outside of the business that occupies it), significantly reducing your property ownership risk.
Whatever you do — buy, sell or lease — get a qualified commercial real estate professional to help you. Good ones know the market and usually have buyers or sellers you probably won’t find on your own. Plus, they can help school you on all this stuff and keep you out of trouble.
Mark Zweig is the founder of two Fayetteville-based Inc. 500/5000 companies. He is also entrepreneur-in-residence in the Sam M. Walton College of Business at the University of Arkansas and author of the award-winning book, “Confessions of an Entrepreneur.” The opinions expressed are those of the author.