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5 Proven Tips for Your Next Value Add Investment
Doing most, if not all, of these is essential to make your next commercial real estate value-add investment succeed.
Finding opportunities for value-add investments can be highly lucrative, whether in normal times or even during times of economic uncertainty. By making strategic improvements to a property, you can increase the value of your portfolio and maximize your returns.
However, it's essential to approach these investments with a plan in place to ensure your success. In this article, we share five proven tips for your next value-add investment — whether you’re planning to reposition a multifamily community, office building, industrial warehouse, retail center, or any other type of commercial real estate asset.
From upgrading your property to finding new income sources, these tips will help you maximize your returns and achieve success in your investment.
What’s a Value-Add Investment?
Before diving into the specifics of our five tips, it's important to understand what we mean by the term value-add investments. A value-add investment is any opportunity where an investor can acquire a property, make improvements or renovations to the asset, and then sell or hold the property for a higher value.
This can be achieved through a combination of a variety of means, as we’ll discuss just below. Whether you're an experienced investor looking to add to your portfolio or a newcomer to the world of commercial real estate, these tips will provide valuable insights and help you make informed decisions.
Upgrade Your Property
It's the obvious value-add move. If you want to boost your property values and rental income beyond the average for your market, you’d better be offering more to your tenants. So: How much should you upgrade?
A good general rule of thumb for first-time value-add investors: Aim for upgrades that offer your tenants a noticeable improvement in quality but are also easy to keep up with. It’s important to think about how much time and effort you’re willing to put into the project.
It’s essential to be smart about how much money you’re spending on upgrades. There's no hard cap or floor on what you should spend — but consider your upfront as well as recurring costs.
For example, if you decide to add a new amenity to an office property — say, a fitness center — you'll need to take into account the cost of building out the space and purchasing equipment. You may also need to budget for ongoing maintenance and repairs, as well as the cost of any on-site staff needed to manage the amenity.
Naturally, this isn’t true of all improvements. If you're planning to upgrade meeting rooms, common areas, or bathrooms, once the space is renovated, there’s not much extra cost beyond the normal building operations.
By carefully weighing the costs and benefits of different upgrades, you can make informed decisions about which ones are most likely to add value to your property.
Get Better Financing
It may seem like a questionable time to get a loan — you’ve seen the interest rates, after all. That isn’t true if you know what you’re doing. If you’re doing some serious work at your property, financing can be what sets success apart from failure.
There are a whole range of financing options for renovations. For apartment buildings, some options like HUD 221(d)(4) loans are reserved for sweeping, extensive property rehabs, while others like the Freddie Mac Value-Add Loan can get you the capital you need to upgrade your community by between $10K and $25K per unit.
If you’re looking to finance the renovation of an office, retail, or industrial building, it may seem like your choices are a bit more limited — but that isn't true. There are still a very wide range of options covering all types of value-add plays, from bridge loans to even hard money. Get a free quote from us by filling in the form below.
Change Your Property Manager
Everyone knows that property management is critically important to your bottom line (or they should). But is your current management company up to the task?
If not, it's time to consider replacing your current management company with one that has deep experience in value-add investments in your respective asset type. Do your homework. You’ll want to use a management company that offers competitive rates and excellent customer service while freeing up your time.
A great management company will not only help maximize your leasing income, but it will also ensure that your tenants are happy — and not planning to head for the hills. After all, raising rents means a lot less if your tenants move out.
Be Careful With Rent Increases
If you only take away one thing, let it be this: Don’t raise your rents too fast. This is especially true with shorter-term lease agreements common in multifamily and self storage.
Carefully planned rent increases can maximize profits without negatively impacting your occupancy rates.
Always do market research on what comparable properties are offering. Just be sure you’re realistic with what’s comparable. Don’t assume your Class C building with a new roof and flooring can somehow compete toe-to-toe with a recently completed Class A asset. Be honest and realistic in your expectations, and consider your tenants’ perspectives.
Critically, though, is to be transparent with the businesses or people in your building. Nobody likes surprises, and while your tenants may be pleased with your building now, an unexpected rent hike can cause a mass exodus — and a huge increase in vacancy costs.
Of course, you can be conservative with rent increases while still adding on new revenue from your property — even if other work is ongoing.
Find New Sources of Revenue
Rent increases are the largest focus of any value-add investment. But ignore other sources of revenue at your peril — they all contribute to boosting your property's effective gross income.
What other income sources are there? This doesn’t have to be complicated. For apartment buildings, you could rent out storage spaces. Charging residents to use a new laundry facility or even an EV charging station. For any commercial property, consider adding vending machines if foot traffic warrants it.
Don’t worry that these aren’t huge moneymakers. They don’t have to be: A vending machine that brings in $50 every month may not sound like much, but it’s still $600 more in revenue every year.
How to Calculate Your Value-Add Property's NOI
You can see the difference by using our net operating income calculator below. Add in your property's revenues and expenses — you'll see that even a small addition in income from paid parking spots and vending machine sales can make a noticeable difference.
The Final Word
Adding value to your commercial real estate investments can be a highly effective way to increase your returns and maximize your success in the market. By following the tips outlined above, you can position yourself for success and make the most of your value-add investment.
Whether you're new to commercial real estate or an experienced investor, these strategies can help you achieve your goals and make informed decisions about your investments.
How do you prepare a commercial property for sale?
- Before you start the process of selling a commercial property, it is important to take stock of the asset’s condition and your expectations or needs. Get an appraisal, and make sure your property is in the best condition possible. Investing in necessary repairs and even minor renovations can make a difference.
What is a value-add investment?
- A value-add investment is when an investor acquires a property and makes improvements to it in order to increase its value and maximize their return. This can be achieved through a range of methods, including upgrading the property and finding new income sources.
What are the risks of value-add investments?
- There is always a possibility of cost overruns, delays in completing renovations or improvements, and the potential for lower-than-expected returns if the value of the property does not increase as much as anticipated. There is also the risk that market conditions could change, making it more difficult to rent or sell the property after the renovations are completed.
What are the most important factors to consider when investing in a value-add commercial real estate property?
When investing in a value-add commercial real estate property, the most important factors to consider are location, investment variables, and the tips outlined in 5 Proven Tips for Your Next Value Add Investment. Location is key, as it can influence the value of the property for certain buyers. Investment variables, such as the type of property, the size of the property, and the condition of the property, should also be taken into account. Finally, the tips outlined in the blog post can help you make informed decisions about your investments.
What strategies can I use to maximize the return on my value-add investment?
You can maximize the return on your value-add investment by following the tips outlined in this article. These strategies include:
- Do your research and understand the market
- Create a detailed budget and timeline
- Hire the right team of professionals
- Focus on the details
- Understand the exit strategy
Additionally, you can consider financing your value-add investment with a loan product such as a value-add loan. Value-add loans are typically short-term loans with a loan-to-value ratio of up to 75%. They are designed to provide the capital needed to make improvements to a property and increase its value. The loan terms typically range from 6 to 24 months and the interest rate is usually higher than a traditional loan.
What are the risks associated with value-add investments in commercial real estate?
Value-add investments are higher-risk investments, but they also provide more growth opportunities. These investments might have little to no cash flow at the time of an acquisition, and they might have significant management and occupancy issues. Additionally, value-add investments are typically located in growing or supply-constrained markets, which can also increase the risk of the investment. Source
Investors should also be aware of the risks associated with financing a value-add investment. Financing for value-add investments is typically more difficult to obtain, and lenders may require higher down payments and more stringent terms. Additionally, lenders may require more detailed business plans and financial projections to ensure that the investment is viable. Source
What are the best ways to finance a value-add commercial real estate investment?
The best ways to finance a value-add commercial real estate investment depend on the type of property you are looking to renovate. For apartment buildings, some options like HUD 221(d)(4) loans are reserved for sweeping, extensive property rehabs, while others like the Freddie Mac Value-Add Loan can get you the capital you need to upgrade your community by between $10K and $25K per unit. For office, retail, or industrial buildings, there are a wide range of options covering all types of value-add plays, from bridge loans to hard money.
How can I identify potential value-add opportunities in commercial real estate?
Identifying potential value-add opportunities in commercial real estate can be done by looking for properties that are undervalued, have potential for increased rental income, or have potential for capital appreciation. Additionally, you can look for properties that have potential for cost savings through energy efficiency upgrades, or properties that can be repositioned to better meet the needs of the local market.
For more information on value-add investments, you can check out our Value-Add Commercial Properties page.
What are the key steps to successfully executing a value-add investment in commercial real estate?
Successfully executing a value-add investment in commercial real estate requires a few key steps. First, you need to identify a property that has potential for improvement. This could be a property that is underperforming, has been neglected, or is in need of renovations. Once you have identified a potential property, you need to assess the market and determine the best strategy for improving the asset. This could include renovating the property, adding amenities, or increasing the rental rates. Finally, you need to secure the necessary financing to complete the project. Commercial real estate financing can come in the form of traditional bank loans, private money loans, or other loan products.
For more information, please see this article from CommercialRealEstate.Loans.