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The sale price for all commercial buildings is determined by the location of the property, the rental income and the strength of the tenant (or tenants if multi-tenanted). For example, a well located property with a good tenant will sell for a higher price than a property which is not so well located with a tenant of a lower quality or a vacant building.
As with all property, the most important consideration is location. Having found a property in the right location, the next consideration is to examine the leases. The leases will disclose:
The term (i.e. number of years) of the lease. Is the tenant locked into a long term lease or is the lease about to expire? If the lease is about to expire, how easy will it be to re-let the premises?
The rent payable by tenant, how often the rent may be reviewed, and, in the case of a lease to a private company, whether or not the shareholders of the company have guaranteed the payment of the rent and the performance of the tenant’s obligations under the lease. Bank guarantees/bonds are often over looked as security but this can be effective in securing the tenants obligations.
The obligations of the landlord and tenant respectively. These obligations can vary considerably. For example, in a building where there is only one tenant, the tenant is usually responsible for maintaining not only the interior of the building but also the exterior of the building and any adjoining land (parking area, lawns, gardens, etc.). If the building is old, as the time approaches to demolish and replace the building, it is common for the lease to contain a “demolition clause” which entitles the landlord to terminate the lease on giving the tenant written notice for a period specified in the lease.
The covenant to repair is particularly important. As a general rule, the tenant is required to repair and maintain the premises and to keep them in good and substantial repair and condition, fair wear and tear excepted. The High Court has decided however that a tenant’s requirement to maintain the premises and to keep them in good and substantial repair and condition does not extend to inherent defects. This decision emphasises the importance of obtaining a building report on the condition of a building.
The next consideration is to satisfy yourself about the financial standing of the tenants and to investigate the type of business conducted by each tenant. Changes are constantly occurring and a business which is profitable today may become unprofitable in the future. For example, petrol stations are forever expanding the variety of goods they sell. If a tenant in the building you wish to purchase sells takeaway food and a near-by petrol station starts to sell the same or similar takeaway food the profitability of the tenant’s business may be severely affected and cause the tenant to close down.
Ask the vendor to provide you with any information held by the vendor about the financial position of each tenant. Whenever a new lease is negotiated, it is usual to ask to prospective tenant to provide a statement of affairs similar to that required by a bank when considering a loan application. If the necessary information cannot be provided, obtain a credit report on each tenant.
Your enquiries into both the type of business conducted by the tenant and the financial position of each tenant will involve a consideration of the economy in general. For example, most retail shops are more profitable when the economy is expanding and less profitable when the economy is in recession. If the Government is proposing to relax import controls which will result in an increased supply of cheaper overseas products, how will the imported products affect a tenant’s business?
It is common for business people to implement strategies to protect their personal assets. If you do not make careful enquiries about the financial position of the tenant, and the tenant makes default in payment of the rent/outgoings on the building then you may find that the tenant does not own any assets.
When buying a commercial property it is important to remember the advice contained in the old adage “let the buyer beware”. It is advisable to request the land agent to email your lawyer a copy of any offer you wish to make before you sign the Agreement for Sale and Purchase. It is also advisable that the agreement be approved by your accountant prior to signing, unless you have a suitable condition allowing you to obtain this advice.
Remember that an Agreement for Sale and Purchase is a binding legal contract. It is advisable to read not only everything which is typed or handwritten on the printed form but also the general terms – the fine print – which contain a number of onerous terms on the part of a purchaser, for example, interest for both last minute and late settlement. A reminder too that the agent is the representative of the vendor and is under a duty to act in the best interests of the vendor.
By Michelle Carabine