Why commercial property should still be on the investor agenda

Rethinking Investing founder Scott O’Neill says there are big opportunities in Australian commercial property despite the ‘risk’ perception arising from the pandemic.

As COVID-19 continues to play out, and lockdowns continue to impact how we live and work, some investors have been uncertain about commercial property.

But Scott O’Neill, whose property portfolio boasts a value of $22 million, believes adding commercial property to your residential assets will see you reap many benefits.

Scott said commercial properties currently provide net yields of 7% and commercial lending interest rates are currently below 3%, meaning higher than normal cash flow returns and capital growth.

“Commercial property opened us up to a whole other level. It was just a different ball game,” Scott told KnowHow founder Bushy Martin on the Get Invested podcast.

“What I’ve found with commercial is that there’s just a certain scalability you couldn’t get with residential – the tenants were larger, the yields were better and the leases were longer. What was also really attractive to me at the time was the fact that tenants paid all your outgoings, like they paid your insurance, your land tax, and in some cases they’ll even pay your management fees to manage them.

“And the lease is a legal requirement to pay rent. So it’s not like residential where the tenants can pretty much bail on you and there’s nothing you can do about it … with a commercial lease the only way to get out of that is to sublease the property.”

Scott went on to explain two major reasons for investors to go commercial, with the first being ‘much more attractive yields’ and the second being the record high levels in residential.

“It’s a good way just to park money up and make money. Even without the growth, you’re going to make very good yields of 6 – 7%. So if you buy a million dollar property where you’ve got a $30,000 dollar mortgage and if you’ve got a 7% yield, that means you’re clearing $70k net income minus your mortgage. That leaves you $40k in your pocket just for buying a property. So you’re making a very good return on your money just through cash flow alone. So as an investment class, the numbers stack and that’s why I think there is room to move,” he said.

Scott said a strong property portfolio with commercial assets will provide investors a safe backing, especially during difficult times like COVID-19.

“I remember when COVID first hit, I thought the business would wrap up because I’m selling or buying commercial properties in a pandemic – it couldn’t get worse than that,” he said.

“But we were comfortable because there was a portfolio behind it. That’s about the biggest difference it makes. It just makes you more comfortable that you’ve got something behind you. If everything else goes to crap, the nest egg will be the safety net.”

Although, Scott said reaching this stage is a process and investors shouldn’t rush into major commercial purchases.

“It just depends on what stage of the journey you’re at, because you need that foundation property. You don’t just jump into a big commercial property unless you’ve got a lot behind you,” he said.

But part of building your portfolio is also accepting when something isn’t working and getting rid of dead weight, whether it be residential or commercial property.

“So currently my strategy is slowly deleveraging out of some of my cheapest properties … and this is a good market, and I say this to clients, if you’ve got dud properties in your portfolio, it’s not a bad time to potentially get rid of them because you’re going to actually probably have a buyer for them,” Scott said.

“If the market’s weak, it’s sometimes impossible to move a property that isn’t any good. So I’m using this hot market very slowly, like I’m probably only going to sell one or two each year. But it’s just about getting rid of the ones that have probably done their thing and and instead getting into better quality assets.

“[Also] if it’s just time consuming and it’s not fun dealing with the same little problems all the time … you need to work out how to get rid of the painful ones and just redeploy it into quality stuff that you don’t have to hear from.”

Scott also highly recommended that commercial property investors look beyond their own backyard.

“Probably the worst investment advice I’ve received is to only buy where you live. That was almost like the old school investment way because you know that area better than you do other areas,” he said.

“It was easy to invest in your local area only, and while it wasn’t a terrible mistake, it meant we slowed ourselves down to a degree and we had to offload an asset that we probably wouldn’t have otherwise bought.

“I’m a borderless investor. I’d invest internationally if the opportunities were there. But luckily for us, Australia represents such good value and opportunity so we don’t need to look abroad. But yeah, I think you’ve got to treat things like you would in the share market. You don’t only invest in a bank because the head office is down the corner, you invest because it’s good value and you’ve just got to understand it.”

Listen to the full interview here.

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