Episode #042 - Five Creative Ways to Make Big Gains in Commercial Real Estate!

"Opportunity is missed by most people because it is dressed in overalls and looks like work." – Thomas Edison

Today our hosts Brian Duck, Braden Cheek & Joel Thompson from The Criterion Fund review some of the most creative ways to make money in Commercial Real Estate!

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once again, you can make money on regular deals, but this is about how to really make a big gain and we've on those auction sites that really catapulted our real estate business because we purchased at least three centers through that auction type platform, uh making several million dollars total on those deals that we would have, we wouldn't have been able to make if we weren't both on those sites. Looking for the opportunity and willing to take the risk that it took to bid on them. How's it going guys? And welcome back to how to invest in commercial real estate. Today. We are going over the top five creative ways to make big gains in commercial real estate. I don't know if they're the top five, but they're they're five ways that we've used to make outsized gains and some of the deals that we've done outsized gains. Alright. The biggest, the biggest gain, which one is the biggest one out of the five? Just pick Just pick one, just pick one. Which one do you think is the coolest biggest, most creative. Let's go creative. The most creative way you've made money in commercial real estate is probably the Dutch Brothers that we've mentioned before.

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That's a good one. And so I think the point there is that uh you know, looking at a deal and seeing something that nobody else has been able to see. So this deal um wasn't a new deal. Um It had gone through a foreclosure, it had gone through multiple owners. And and so we fly out and we're looking at this deal and Brandon you were with me and and we just started looking at it and thought man this this parking lot there's just this little bit too much parking available down on the north end and it had a drive and it was right in front of a light and we thought man that would be a cool out parcel uh to do something and no it wasn't big. But but that's what started us down this journey of just asking the questions what if we could separate that out parcel out. And so man that's a slow process. But we started with just seeing how much parking lot we could contribute to a new out parcel and then we put it on the market just to see what would happen. Yeah and it wasn't I mean it wasn't very long it was it was a couple of months, a few months. I mean it was a quarter or two and then we have an L.

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O. I. On this this piece of parking lot. I mean it's so how do those work you're they're just paying you a lease on on the on the parking lot basically. Or how does that how do you make money Off that? Well the first way you make money off of it is is coming up the crazy freaking idea to do it because it was like 20 parking spaces and and that's all it took up. Yeah I mean it was I mean it was probably, I'm gonna guess a half an acre. No, well when you consider the whole piece of land, it's probably happening okay, we're gonna bring it up and we're going to decide. But it was a time it was a tiny piece parking and and so you give it to a broker, just like a leasing broker and it wasn't built into the income which you were buying. The shopping center off of the income had already produced. So anything you produced out of this piece of parking lot was just straight up side and where our office was a brand new little drive through coffee concept. And basically the landlord or the developer is delivering a concrete pad with stubbed utilities and then the tenant is dropping like basically a shipping container on top of it and selling coffee out of it.

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So it's fairly easy construction and you put that on the market, you're hoping for like a tropical smoothie, a Dutch Brothers at Dunkin donuts, you know, just quick service drive through. Don't need a lot of square footage. And like I said, it was on the market for a couple of months. Got an L. O. I from uh dutch Brothers coffee on a ground lease. So they could have said, hey, we want to build a suit that means okay, you guys have to build the building for us and you may get higher rent for that. We decided to try to do a ground lease where they just said, hey, we want to rent, we'll rent the ground on a 15 year lease, 10 or 15 year lease for a set amount and then we'll take care of putting our building on it. That's really maximizing maximizing the profit because we didn't have hardly any expenses, some legal fees. Uh, they really even took care of stubborn in the utilities to their, to their units. So we ended up selling that this year for, uh, like a million 45, almost $1.5 million. Uh, the ground lease, we're selling the ground lease. Um, and so basically we're selling the parking lot and that lease for a million and a half dollars. And I would have said it was probably at least a million four in profit after some commission and some fees.

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Um, and we've tried to to replicate that. We have an out parcel going in our little rock deal that's taken longer for some reason, that took a lot longer. But we, yeah, we do have, uh, I believe a signed lease with discount tire now and it's a ground lease as well. And so that'll be worth even more than the Dutch brothers. We only own about half of that. We're sharing it with, with the other lot owner. And then we're trying to do one of our perimeter here in Tulsa and we almost got that finalized, We have to negotiate with walmart to let them let for them to let us put something on it. Um But when you're looking at deals, uh if you're out there and you're doing deals, this is just one avenue that we found that you can really get outsized gains by just getting free money utilizing parking lot that you don't need carving off its own lot and selling it with the ground lease. You know, a lot of those older shopping centers are over parked because the retailers and just the parking regulation that was around back then versus now this morning, taylor's just don't need that parking and it's a really common thing. So if you're looking at buying a shopping center, look, you may have an out parcel available that's just straight up side.

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I mean it's, it's rare that you find, you know, a million and half dollars straight upside didn't build another performance, didn't build into the business plan and the equity raise on that. I mean, I might not have even been a million. It was, Well, it was that equity raise was three so that we got 50 uh return on equity there just by that one thing, even though the property is continuing to generate cash. So alright. Um The next one is a really good one and it's one we harp on a lot, but it's just really looking for under market rents. So when, when you're thinking about, you know, a single family rental, you're gonna go buy a house and you're gonna rent that, you know, a lot of Gurus, a lot of people out there say you want to buy a working collar house, you know, you want to buy a $200,000 house, $160,000 house and be able to rent that out for a rent that an average person can afford. Similar concept when in shopping centers, when you can go in or any asset class really, when you can go in and you see, hey, these rents are, are drastically under market here. You take something that could be a big win with just, you know, two or 3% annual bumps and when you start getting, you know, 57, 10 or or more percentage annual bumps or least increases the upside is huge.

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Rockets. The value. I think we did a show where we, uh, we took that and we actually put some numbers on it and uh the value that it can add is, is Amazing and so you may ask, okay, well uh, doesn't the market take care of the rents and if the rents are $10 a foot at a certain shopping center, isn't that what the area dictates? I'm kind of throwing that out there. What do you guys, I mean, not necessarily because I mean it does somewhat, but it also depends on, it depends on um how good the shopping center looks, I mean a lot of people wanna, they'll pay a higher rent for. I mean it can be catty corner to another shopping center. If it looks nicer then they'll pay higher rents. Right? Yeah, I mean if you've got an established business in there that's working and the rest of the shopping center is full and and they can't really go to a competing place, but even if they could, it's going to be a ton of money. The chances are you can you can probably get them to stay with reasonable increases. You know, reasonable that being said if if you've got a tenant that's just, you know, like we're looking at a deal right now tenants paying you know, a dollar per square foot per year per year.

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Yeah. And so that's what I'm gonna try to encourage you guys to do. So when you go into to look at the market, how do I evaluate these rents? It may be that it's a tough area and you're gonna have a hard time getting more rent. It may be that it's right next door to a newer area and that newer area took a lot of their tenants, they had high vacancy. So I had to drop their rates artificially to get the occupancy back up, but if it's close to a good area, it may be that it's time to start raising those rents are example on this one. A lot of people have heard us talk about it as a village south where out of state owner some some uh some guys owned it, they passed away. They handed off to their kids, their kids owned it, their kids are getting older. And by the way pause right there if you get a seller profile of that negotiate to freaking win by the way because that's a dream setup that Yeah, that's right. That's that's uh they inherited this property, they didn't pay anything for it. Anything they sell it for is a win for them. They may not negotiate as hard as someone else that just bought it needs to link out a profit. But the point on this is that we this property had a tough go through the recession.

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All the new development was a mile or two away on Memorial. And so they struggled as all that was getting built out and through the recession. So man they just they were just taking tenants if you know six bucks, eight bucks, 10 bucks a year. The demographics were still amazing but they were just the older center, well all that stuff a mile next to it got filled up at $25 a foot. And now uh they were like they started to finally get some leases done, they got to about 80 90%. Like we should sell this, you know we're sick of dicking with it. So That's where we came in and we just got really lucky uh and and bought this center with rents at $10, $11, $8 a foot and we knew that, that they hadn't managed to its full potential. And, and so we got 4050% increases in a matter of 23 years. Uh, and so that really blew the value up. It's probably worth double or close to double what we paid for it. Yeah. And I'm, we're not going to say that you're not gonna lose a tenant, you're not going to have a vacancy.

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You're not going to have, you know, some, some tenant who just doesn't work with that profile. But that being said, the majority of the center was able to come up with with the market and ride those rent increases and they still have viable profitable businesses. Yeah, definitely. So under market rent I think is if you can identify that where you can drastically increase rents and retain most tenants or if they bail, you know, have a new tenant waiting in line, that's, that's how to get some outsized gains in commercial real estate. And that's what we've been able to do on a few of our centers. Alright. Um, Next one, when you are trying to buy a property that is publicly listed, it went on, you know, the best brokers email list, every institutional investor and that asset class, you know, knows about it, they got notified. It's a lot more competitive. You know, when, when the deal is publicly Broadcasted on this super easy platform with a great broker. You know, you're, you're gonna have to be competitive, you're gonna have sharpened pencil. But sometimes there's these deals that are off market, they may be on an auction platform, they may be on a Sheriff sailor or getting foreclosed on.

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And that really screams opportunity. A lot of times you can pick up a great deal from some of those things just because there's less competition. There's less people in there. Right. Well we, and even off market, we've talked about on the show before where if you want to get a relationship with a broker, you want to, you want him to bring you some of these deals before they go on market. Right? It's the same situation. It's not a distressed sell, like maybe a foreclosure or sheriffs auction or something like that. But um, where you can get some really good deals. But even that's a good way to get a little bit better deal. Yeah. One of the, one of my favorite deals I've ever bought was an off market deal with, you know, on Cherry Street, but that was completely off market and I didn't have any competition guy said, hey, I'm thinking about telling us and we're like, oh, we could be interested in buying that and we, you know, kind of get a deal on it. It was, it was a win win. Yeah, that's, that's, that's a great point. So there's several different ways to get yourself into a competitive advantage. One is to have a relationship and learn about a deal that's off market or someone that may want to sell that isn't going to broadcast it to 1000 people or 10,000 people, you've got to set yourself up.

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You know, you can make money buying the list of deals and I buy some listed deals to this show is about making outsized gains, really big gains in creative ways of buying real estate. So that would be one off market, another one that you mentioned is we had some success buying on 10 X. It's an auction site that's very rigid in how you go about buying it. They don't give you More than 30 days, you have to close, you have to put 10% non refundable day one, you have to have proof of the entire purchase price and liquid funds, funds and so you're weeding out a bunch of people and some of the big players aren't going to mess with distressed and and and auction type site, they want to be able to do their thorough due diligence. So it is a riskier platform and that creates less competition and put you in a position to get an asset for way less than you normally would if everybody was looking at and everybody had a chance to evaluate it. It's it's funny because the competition we've had on those auction platforms was artificial competition. It was, it was literally the seller bidding on the auction platform against us.

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So you know what watch yourself there. But it was just the fact that literally nobody else was bidding on um Liberty. And then the other deal we tried to buy on the auction platform, the one in norman that Andy brought us, that was that was another one we watched and it started and we thought it could trade, you know, 9 11 million I think we could have bought it for and it sold for like 16 or 18. Well that that's a point of we should have bought it off market and it actually went to auction and that auction actually did produce a high price, but we had our chance ahead of time to buy an off market and we didn't take advantage of the unique situation that we had presented to us and we left several million dollars on the table. So hopefully we're encouraging guys to think outside the box and how do you put yourself in a competitive advantage? We're bidding against fewer people directly with the seller or there's some barrier to entry that's keeping some people out where you can get something at a much lower price than you would have otherwise. Uh once again you can make money on regular deals. But this is about how to really make a big gain. And we've on those auction sites that really catapulted our real estate business because we purchased at least three centers through that auction type platform uh making several million dollars total on those deals that we would have, we wouldn't have been able to make if we weren't both on those sites looking for the opportunity and willing to take the risk that it took to bid on them.

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Yeah. Which is which is a big risk because like you said you have to go 10% non refundable at the end of the auction and and they know that because they have your liquid proof of funds. Yeah, it's a it's a big, I mean obviously if we bid and then we backed out They would just, I think it was like $50,000 fee or something. But but once you wire the money it is non refundable, you're not getting it back. So Alright, another one is uh you know, it could be just a gross property, you know it needs major repairs, it's really run down, it's not occupied or it doesn't have a high occupancy, it's got a big vacancy, you know, maybe it's in um you know the outside of a good part of town like you were explaining with village South, you know something uh that was the same deal. We tried to buy on the auction too. I mean a brand new, big power center was built right across the street took all this um centers tenants and it could have been easily backfilled but we just didn't believe in the plan. But anyway, it's it just goes to the testament when you can buy something run down and needed in need of a major rehab. If you can execute that business plan and get the future rent once it's stabilized and the rehab is done, that can lead to massive, massive upside.

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Yeah, I think a lot of people don't want to buy those because they don't want to have to put the work into to redo them or they don't feel as comfortable buying them because they don't know how much it's gonna cost to renovate something that's, you know, needs some massive overhaul. So again, it's it's less competition and you're going to hopefully get a better price on something like that. Yeah, I want to, I want to make this statement. So people get it. Uh the best deals never look like the best deals when you're buying them. And and so if if it had a sign on it that said somebody's gonna make $2 million 18 months, you'd never buy it because everyone would be bidding the price up, right? So that's what we're trying to say here is some of the ugliest foreclosure properties can have the hugest upside if you can stomach the risk and you can uh see the potential that it has because they come with problems and they come with risk and you always get rewarded for solving problems and for taking risks. That that's it, that's where the gains are, is solving problems and taking on risk because those are two things that the average person doesn't want to deal with.

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And so if it looks really hard or if it looks risky, uh obviously you just can't bid on all of those, but at least no in your head there could be big money here. I need to spend a few minutes looking at this one. So Yeah, and that's, that's huge. I mean when you, when you think about remodeling apartments, you know, think about how many apartments just got remodeled and and bought and then as soon as it's remodeled, you know, the rent is $300 more expensive, $400 more expensive. It's for reasons because somebody underwrote that and they realized, Hey man, if we, if we remodel all this stuff, we do all this work, we can make some more money. People are still doing it, still doing it, still doing, it's a great idea. Well, I'll just say one more thing. People watching this. Uh, if they're watching kind of around the time we're taping it is, oh, there, you know, there's, there's none of those deals anymore. Well, I don't think that's, that's necessarily true. There there might be one or one off deals, but you're right because we've had such a cycle from the 2000 and eight crash until now it's 2021. And because of interest rates being low for so long, a lot of the foreclosures and the tough deals have been picked up and have been renovated.

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So they're not laying around like they were in 2012 or 2014 fine. But I want to remind everyone, real estate is a cycle and so these deals will come back around right now, right today, someone's over paying for a property, they don't know what they're doing. They've never had a deal fail and five years from now that's gonna be back on the market. You know, a bank's gonna own it and it's going to be have been mismanaged and it's going to be right for someone ready to go. So, and maybe it's not five, maybe it's three, maybe it's seven, but those deals will always come back around because these, these strong cycles that we're having now, everybody's making money, everybody thinks they can't lose and interest rates are low and so they're just over paying over paying, betting on the upside, betting on the upside and when that doesn't come and and their inexperience, the numbers don't work. It starts to fall apart. So that's why we kept this one in here, yep. Um uh one of my favorite reasons, I love commercial real estate is you get money literally from, from so many different things. Right? So when you're talking about appreciation a lot of times when we analyze it, its annual rent growth.

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You know, we talked about a lot you need rent growth every year. It's kind of like inflation, It happens, it's, it's inevitable. You've got to get rent growth. But another thing is somebody may be willing to pay more money for that income in the future than today. And what we're talking about is cap rate compression. So when you go in, you could be buying a shopping center and apartment complex at a 7% cap rate or an 8% cap rate. And then five years from now that could be a much more desirable asset class and maybe it's a 6% cap rate on the sale. So even if you lost income, You know, you went from a $500,000. NY to a $450,000 in. Ny but you went from an 8% cap rate to 6% cap rate. You're making tons of money. Oh well Brandon that that that doesn't make any sense. You can't do that. Yeah, apartments. I mean you used to be able to buy apartments on a cap rate, like actual income. Here's the actual cap rate on that actual income. And now it's like, here's, here's the five cap on the projected income that you should be able to do if you spend this much money and you get the this astronomical rent growth.

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Yeah, it goes back to people thinking that the market always sorts itself out perfectly. And so well if someone's asking $5 million 49 100%. But what if you marketed the same asset at a slightly different cap rate and asked six million Is someone might think 5, 7 is a really good deal. And if you don't think that's true, then then you're not positive enough to be to be good at this game. Because every deal that I have ever purchased, someone always asked me why are they selling it? They don't probably don't want it whether it's not gonna be a reason they're selling it. It's probably, you know, or or why would they pay that? And and so you have to believe in possibility. And so when you're looking at these deals, I look at so many hundreds of deals every day every week and and tens of deals a day. And there's deals that come across my desk that are listed at eight cap in a in a middle market. Good frontage. Well, you know, well built and I'll see the same thing marketed at a 6.5 cap, which is a big difference in purchase price, they look other than the cap rate, they look identical and of course the 6.5 side just scroll through and the pessimist will say, well there's gotta be a reason that's an eight cap, there's gotta be a reason.

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Maybe there is okay, but maybe there's just a more aggressive owner that said take this thing out at a six cap or an owner that has a better basis in the property. Let's say he bought for three. And so he thinks taking it out of an eight cap, which is five million he's hitting a home run. And so there's all those factors that are built into the system that, that makes it an imperfect system to determine value. And so that's where the opportunity for us comes along. Because if you can determine what someone is selling at an eight cap because it's been in their family and passed down to their kids and they don't even care about it anymore and they just want to get their money out and the brokers, hey, if I can get them to sell it in a cab, we can sell this quick, so I'll get paid quicker. Can you identify that versus a true six cap and maybe you can buy this at an eight and then you'll, you'll turn around five years from now and sell it at seven and that's not a really juicy returns. Your returns are already going to go up because you're gonna raise rents and you're gonna manage it well, but you really juice the returns when you get a cap rate compression on the sale. Now, you, I'm not saying build that into your model necessarily know that could be risky. That could be risky, but but man, if you can identify those type of opportunities and and I'm not gonna mention the name of the property, but we have a property right now that we bought at about an A cap, and we're going to sell it at a six cab 2.5 years later, it was an 8.38 point three.

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Okay. And then we're going to be a round of six cab on slightly higher income. Okay? So you can tell me all day long why? That's impossible. And I'll tell you that that it is a lot of times impossible. But what if it is possible? But if you can figure out those deals, you're going to do better than the average person and investing in commercial real estate. It's an underwriting game. You know, you've got to get good underwriting and you've got to believe it, and you've got to get a bunch of other people to believe it. Your lender, your investors, your partners, you know, everyone in the deal, but it's 100% in underwriting game. And it wouldn't be fair to talk about cap rate compression without cooperate expansion, you know, and I love to talk about the Starbucks on the corner that everyone, you know, Starbucks leases those stores, right? So if you go by Starbucks, you're gonna have super high rent because they factored in the cost of the build out of the Starbucks in the rent. So it's it's inflated already. And then when Starbucks leaves and builds across the street, you know with the other landlord, then you're gonna backfill it with somebody with less credit than a Starbucks, you're gonna get less income, So you're gonna have less income and capital expansion of maybe 2%.

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So you could get hosed on that Deal which we should do a show on with showing in the numbers, buying a six cap deal at $45 rents and then having to reduce your rent, your income to $25 rent and sell at a seven cap for 7.5 cab. You're you're just you're destroyed on your returns if you even get your money back. So anyway, those are five, I think that's five, that's five, that's five ways that that we've used to drastically outperform uh competitors that are doing what we're doing and get big time gains in commercial real estate. Hopefully they'll help you. Absolutely. Thanks guys.