To Buying
COMMERCIAL
REAL ESTATE
The Small
Business Owner’s Guide
Illinois Small Business Development Centers
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*See the Northeast Region map on the last page
for the Business Center Services in that area.
See
Note
Below
If you’re sold on buying Commercial
Real Estate, here’s your plan.
Take a moment to sit back and reflect. You’ve grown your small business
with a lot of hard work, time and dedication, and now you’re ready to take it
to the next level. Or perhaps you’re standing on the ground floor of a new
endeavor. In either scenario, you’re at an important threshold, ready to take
the crucial step of purchasing commercial real estate.
Even if you’ve bought a home or two, make no mistake about it: buying
commercial real estate takes longer and requires more research and
planning. You will need to be tenacious and organized. You’ll need the
expertise of professionals to prove that your business profits can pay for the
real estate loan – and that positive cash flow will not be interrupted.
What makes real estate “commercial?” Any property you use to grow,
expand or support your business qualifies. Some examples are:
• Retail locations • Warehouses • Office buildings
• Manufacturing facilities • Shopping centers • Hotels
• Apartment complexes with at least 4 units • Commercial condos
• Land for commercial construction
The Good News
Many business owners rent whatever space is necessary to operate, so why
is purchasing Commercial Real Estate/CRE a good idea?
• By building equity in your CRE, its value may increase because of
inflation, and because the principal balance of the loan is decreasing.
• You’ll enjoy the tax benefits of depreciation that offsets income.
• You’ll have the freedom to manage and customize your own space
without restrictions from a property owner or landlord.
If the building or facility you purchase has space that can be leased to other
businesses, that income can greatly supplement your cash flow. In addition,
tax laws benefit entrepreneurs who invest in commercial real estate because
it promotes commerce, elevates surrounding property values and could
increase employment. Additions and improvements also add value.
So let the process begin! is easy-to-follow guide will explain it in simple
terms, in logical order and in full support of the entrepreneurial spirit.
© NewGround Publications. (Phone: 800 207-3550) All rights reserved. Copying any part of this book is against the law.
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Contents
Professional Team . . . . . . . . . . . . . 4
Analysis & Appraisal . . . . . . . . . . 6
Lenders & Loans . . . . . . . . . . . . . . 8
Business Plan . . . . . . . . . . . . . . . . 12
Financial Statements . . . . . . . . . 14
® Balance Sheet . . . . . . . . . . . . 15
® APOD . . . . . . . . . . . . . . . . . . 16
® Profit & Loss/P&L . . . . . . . 17
® Cash Flow . . . . . . . . . . . . . . . 18
Purchase & Sale . . . . . . . . . . . . . . 19
Closing . . . . . . . . . . . . . . . . . . . . . 19
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T O B U Y I N G C O M M E R C I A L REAL E S T A TES M A L L B U S I N E S S O W N E R ’ S G U I D E
Find a Good Real Estate Broker
It’s preferable to work with a realtor who specializes in
commercial rather than residential real estate. A commercial
expert will not only make finding a suitable property easier,
but will also offer valuable advice, insight and experience.
Don’t just consider someone’s resumé or track record. It’s
wise to make sure that your broker is a good fit for you, since
the two of you will be working closely. Temperament,
personality and working style should be factored in, too,
before you sign a contract.
Once a real estate broker knows the size, usage, zoning and
condition of the property you’re looking for, he or she will
search the market, showing you qualifying properties. At the
Closing, the seller typically pays the commission earned by
the broker. e usual fee is 5%-10% of the sale price,
although laws vary by state, and the rate can be negotiated
before the broker agreement is signed. Brokers earn their
commission by:
• Finding real estate that fits your needs, within your
price range.
• Knowing how the real estate can be financed. Most lenders
require a 20- to 30% down payment, with the remainder
of the loan financed for 15 or 20 years (which results in
affordable monthly payments) with a three to five-year
balloon. A “balloon” means that, at the end of five years, the
remainder of the principal balance of the loan is due.
Gather Your Team
You’ve made the decision to buy commercial real estate, so how do you begin? First, realize that, although you’re
good at what you do, negotiating the worlds of real estate, law, accounting, leasing and insurance – especially when
your money is on the line – requires sharp knowledge and experienced perspective. Your “team” should include a
commercial real estate broker, an attorney, an accountant, an insurance agent, a business advisor, and a lender.
Choose your team wisely, considering not just their track records, but also their working styles. Asking iends,
business contacts and local chambers of commerce for recommendations is a good idea, but do your homework
before contracting with anyone.
• Facilitating all negotiations between buyers and sellers.
• Providing business plan documents, including current
leases (if the real estate has tenants) and the income
(“rent roll”) they provide.
• Researching the costs associated with the real estate, including
operating expenses such as utilities and tax information.
• Gathering old environmental studies and appraisals,
even though the lender will order new ones. (Some “old”
information is valuable in this process.)
e Legal Team
e Buyer’s Attorney
• Prepares formal offers.
• Reviews zoning, environmental reports, titles, survey and
licenses that will be included with the purchase.
• Looks at the lender’s commitment letter and/or term sheet,
which outline terms, conditions, rates and covenants. is
letter typically has a time limit, so returning a signed copy
to the lender is crucial.
• Holds the “good faith” deposit, a nominal amount agreed
on by the buyer and seller. e deposit can be “hard” (non-
refundable) or “so” (refundable).
• May or may not be present at the Closing. Ask the lender
to send all documents to your attorney before the Closing,
and feel comfortable that they have been reviewed and
explained to you.
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T O B U Y I N G C O M M E R C I A L REAL E S T A TES M A L L B U S I N E S S O W N E R ’ S G U I D E
e Lender’s Attorney
• Dras the loan documents to be reviewed and signed by
you. is will happen only aer the lender receives your
signed commitment letter.
• Checks for any liens on the real estate or other assets you’re
using to secure the loan. is insures that the lender has
the first lien on all collateral.
e Seller’s Attorney
• Develops the final Purchase and Sales agreement,
which must be signed prior to presenting the loan
request to the lender.
• Creates the Bill of Sale, which is signed at the Closing.
• Facilitates the transfer of any licenses or easements
with all legal documents necessary. If licenses have to be
transferred, ask for enough time in the P&S agreement.
Transfers must be final at the Closing.
• Usually does not attend the Closing. If, however, the
seller cannot be there, the seller’s attorney can attend
as a representative.
Add a Good Certified Public Accountant
Lenders will typically require a CPA (Certified
Public Accountant) to prepare your financial
statements. Your accountant will assist in analyzing
the property you’re buying by reviewing past financials.
Financial projections, which include new real estate costs
and mortgage payments, will be solidified. In addition to
these numbers, lenders also require both personal and
business tax returns for the past three years from anyone
who will own more than 20% of the real estate. ese
returns must be re-signed in blue ink to confirm they are
correct, and that they match the ones you filed with the IRS.
Lender oen require detailed personal financial statements.
Find an Insurance Agent or Broker
Your lender will require property and casualty
insurance on the real estate you’re purchasing, as
well as on any assets taken as collateral. You have
the option to choose your own insurance agent, so look for
one who specializes in commercial real estate. Show the
agent a copy of the commitment letter to be sure you receive
the right kind and amount of insurance, which must be
equal to the loan amount.
Buyers who will hold a 20% or more ownership in the
property are sometimes required to carry life insurance as
well – a guarantee that the loan will be paid if they should
die. If a loan has three guarantors, three insurance policies
would each cover one third of the loan amount. If the
owner/borrower dies, the lender is paid the remaining loan
amount from the insurance payout and anything in excess
goes to the borrower’s beneficiary.
Hire a Good Business Advisor
Many times, it’s wise to pay for the perspective of
a knowledgeable business consultant (also called
a commercial loan broker) who sees the financing
process with clarity and can offer solid perspective and
advice. Professional advisors have experience putting
together business plans and loan presentations, as well as
constructing financial projections. You should negotiate a
fee up front with your consultant, usually an hourly rate for
a minimum amount of hours. In addition, there is usually a
“success” fee or commission of .75% to 2% of the loan
amount. is number has nothing to do with the rates,
terms or covenants of the loan, and is paid by the borrower
at the Closing.
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T O B U Y I N G C O M M E R C I A L REAL E S T A TES M A L L B U S I N E S S O W N E R ’ S G U I D E
Even those who have bought commercial real estate in the
past would agree that each facet of the process requires
careful analysis. Here are some things to ask yourself:
• Is the property the right size?
• Is the building or land the right type?
• Are all the necessary utilities in place?
• Is there parking, a loading dock, or access for the disabled?
• Is it close to highways, airports and rail lines?
• If it’s important to be close to your market, how does the
property’s location rate?
• Is it OSHA (Occupational Safety and
Health Administration) approved?
ey set and enforce health and
safety rules for employers.
• Will the property comply with
zoning laws?
• Do any licenses need to be transferred
with the sale? For example, if you
were buying a restaurant, the license
to serve food would need to be
transferred. Research into licenses will
be done by the lender, and should also
be conducted by both the buyer’s and
seller’s attorneys. Keep in mind that
license transfers take time, so the issue
should be brought up early on, in the
offer letter (page 11) and the Purchase
& Sale Agreement (page 19).
Get Real with Your Real Estate Purchase
• Do any easements need to be transferred? An easement
allows someone access to your land. For example, an
easement for utilities allows an employee or representative
of a utility company to pass through your property for
repairs or maintenance.
• Pay attention to zoning laws for the new purpose of the
property. If you are buying an old farm that will become
an antique store, be sure zoning will allow it.
• Utilities – or the lack of them – should be considered. For
example, if you’re buying a small manufacturing facility,
be sure its power supply is up to current standards.
How Do You Arrive at a
Value for Real Estate?
Numbers can be demystified by using
several valuation methods (page 7). In
order to complete these calculations,
you must have a copy of the current
property tax bill. Ask the seller for it,
or you can go to the municipal office
that records property transactions,
which are public record. It is a good
idea to run the numbers on other
recently sold properties in the area, too.
Idea
Create two separate companies:
Operating Company
Holding Company
You may be the owner of both
companies.The Holding Company
owns the real estate and leases the
commercial space to the Operating
Company.The Operating Company
pays rent to the Holding Company.
A “triple net” lease is common which
means the Operating Company
directly pays real estate taxes, hazard
insurance and repairs/maintenance for
the Holding Company.Why do this?
There are tax benefits, plus a lawsuit
against the operating company will not
affect the real estate holding company.
You also have the ability to sell the
business but keep the real estate.
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T O B U Y I N G C O M M E R C I A L REAL E S T A TES M A L L B U S I N E S S O W N E R ’ S G U I D E
Three Appraisal Methods
Capitalization/CapRate
is method arrives at a value based on
what the real estate generates in lease and
rental revenues, minus expenses. Each property
will have a different cap rate. Investors and
lenders want higher cap rates if the property has
problems including a depreciating value.
Investors and lenders will accept lower cap rates
if the commercial property is in good condition,
in the right location, with no major problems,
and a low vacancy rate. e appraiser bases the
analysis on what an investor would expect for a
similar investment.
Comparison
is method of
determining a property’s
value compares it to properties
that are the same size and
condition, in the same vicinity.
is method is somewhat
difficult, since there are so many
types of real estate – everything
from horse stables to
skyscrapers. In this method, the
land and building are separately
valued according to square
footage.
Replacement
is appraisal method is
based on what it would cost
to reproduce the same real estate.
Costs might include things like
land preparation, utility
installation, building type and
location. Appraisers typically break
down costs per square foot. For
example, the cost per square foot
may be $50 for a storage facility
and $75 for a retail store. is
method of valuation is affected by
the age of the building(s) and the
amount depreciated over the years.
e appraiser will be aware of, and
research these numbers.
An overview of the basic computations for analyzing the value of real
estate
What it Number we’re Your
represents using as an example number
A Size of the land being purchased 9,000 sq. ft.
B Size of the building being purchased 5,000 sq. ft.
C Tax assessed value of the land $100,000
D Tax assessed value of the building $200,000
E Total tax assessment of land and buildings $300,000
F Percentage of taxes allotted to the land 33.3%
G Percentage of taxes allotted to the building 66.7%
H Purchase price of the land ($165,000) (33.3%)
I Purchase price of the building ($335,000) (66.7%)
J Total sale price $500,000 (100%)
K Purchase price value of one foot of the land (H divided by A) $18.33
L Purchase price value of one foot of the
building’s floor space (I divided by B)
$67.00
M Total area of land and building 14,000 sq. ft.
N Average purchase price of one sq. ft.
of land and building ( J divided by M)
$35.71
1
2 3
$48,000 Annual Rental Income
-
$33,000 Less Total Expenses
$15,000 Net Operating Income
x 10 Cap Rate
$150,000 Real EstateValue
8
T O B U Y I N G C O M M E R C I A L REAL E S T A TES M A L L B U S I N E S S O W N E R ’ S G U I D E
Landing a Lender and a Loan
When searching for a lender, you need to find one
that not only offers commercial loans, but is open
to the type of financing you seek. ere are many
internal reasons for a lender’s decision, so it’s wise to
ask up ont whether your loan request would be
considered. Suppose you’re seeking a loan to open
a restaurant. Even if everything you bring to the
table looks good, a lender may already have too many
restaurant loans and will not be interested in yours.
One way to pay a smaller down payment is through
an SBA/Small Business Administration guaranteed
loan offered by most lenders (page 9). You may also
consider your state’s department of economic
Applying for a Commercial Loan
In order to apply for a commercial loan, you will be required
to pay a down payment (page 11) and to submit a complete
business plan (page 12). Your business plan includes the
loan request and projected financial statements, usually for
the next 12 months. is shows the lender that you have the
money to pay the real estate loan, while maintaining
profitability and positive cash flow.
Show how much money you have and where it is coming
from. If there are investors, you must provide detailed
information about the money they are investing. Indicate
how much money you are requesting from the lender, and
how it will be used (such as renovating, upgrading or
customizing the property). Include itemized expenses,
backed up with written estimates, contracts or other
documents that show amounts.
How Will e Loan Be Used?
Lenders want every dollar of their loan accounted for.
Uses include the purchase of inventory, furniture, fixtures,
equipment, machines, repairs and improvements, and
working capital (money for the business’ day-to-day
activities). Your business’ income must cover your expenses.
You need more money if your expenses are more than your
income. Use of funds must be fully documented (page 15).
You are usually allowed to use the commercial loan money
to pay for legal fees, environmental remediation, zoning fees,
building plans and permits.
development, which offers business loan programs
with low interest rates and/or property tax breaks.
In addition to your loan presentation, you may
also be asked to fill out the lender’s own loan
application. If a loan guarantee from the Small
Business Administration is required, you must
also complete an SBA application.
Your loan presentation will be reviewed along
with your personal and business credit. Regardless
of their decision, lenders will usually not return
your submission; so make at least one complete
copy to keep for yourself.
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T O B U Y I N G C O M M E R C I A L REAL E S T A TES M A L L B U S I N E S S O W N E R ’ S G U I D E
SBA
Perspective
The
The 7(a) Program
• Terms up to 25 years, and a variable
interest rate that is tied to a
certain level over the prime rate.
• The actual real estate loan comes
from a commercial lender. The
SBA guarantees the loan. If the
borrower does not repay the loan,
the SBA will reimburse the lender
up to the amount of their
guarantee.
• Loans/guaranty can be used for
working capital, machinery and
equipment, furniture and fixtures,
as well as land and building
(purchase/renovation/new
construction).
What They Have In Common
• Terms of any SBA loan will not change, even if the lender is taken over or sold. No changes can take place
without your consent.The borrower and their attorney should review the lender’s loan agreement before the
Closing since the lender could include many things.Changes may be done later by the lender first and then the
borrower is notified.
• There is no balloon. A balloon loan has a long term, or amortization, but a shorter maturity. For example, let’s
say the loan has a 20-year term with a 5-year balloon. At the 5-year mark, the entire balance of the loan is due,
or must be refinanced. Usually, non-SBA commercial mortgages are balloon loans.
The 504 Program
• You occupy 51% of a building’s floor plan. If, however, you are building
a structure, you must occupy 60% immediately.
• Terms up to 20 years.
• The borrower must put down 10% (may be more in some cases) of
the total loan amount.
• 50% of the loan is funded by the lender, who determines the interest
rate on their portion, and holds the first mortgage.
• 40% of the loan is funded by an economic development company,
certified by the SBA.The interest for this portion is set by the
Treasury’s 10-year bond market.The economic development
company then sells a bond, guaranteed by the SBA, into the bond
market.When the bond is sold, the EDC repays the bank its 40%, and
then holds the second mortgage.
• You can find economic development companies in your area by
checking with your state’s economic development office, the State
Treasurer or the Secretary of State, or the SBA.
The Small Business Administration/SBA
offers loan guarantee programs for buyers
of commercial real estate.
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T O B U Y I N G C O M M E R C I A L REAL E S T A TES M A L L B U S I N E S S O W N E R ’ S G U I D E
When The Lender Says “Yes!”
If your lender is interested in financing your commercial
real estate, you will receive a Term Sheet and/or a
Commitment Letter.
e Term Sheet
A Term Sheet will sometimes be generated, although it is
not a requirement or an approval. It specifies the borrower,
guarantor, loan amount, term or length of the repayment
period, interest rate, prepayment structure, prepayment
penalties, collateral being put up, fees being charged, as well
as any covenants or stipulations agreed to by both parties
(such as the lender not allowing you to borrow from
another lender).
You must review the Term Sheet very closely, preferably with
your business advisor and/or your attorney. If you agree with
everything it specifies, sign and return to the lender.
e Commitment Letter
is letter is based on the Term Sheet (if provided) and
outlines every detail of the agreement, including the amount
of insurance. Your attorney, advisor and accountant should
review the commitment letter very carefully. Pay attention
to the “suspense date.” is is usually 10 to 30 days aer it is
issued, and it is the deadline for signing the letter. Should
you require more time, it is acceptable to ask the lender for
it. But remember that if the suspense date is not honored,
the lender’s commitment expires and you will need to
reapply for financing.
Once the lender receives the signed letter, money may be
requested from you for the appraisal, environmental
inspections and other administration costs. At this point,
the lender can still change the terms and conditions of the
funding, but not without your written approval.
If your loan isn’t approved:
Receiving a rejection letter from a lender is not good news,
but it’s very important to understand why. A short, cordial
conversation may give you valuable advice and feedback you
can use to revise your loan request. Oen, a rejection does
not reflect shortcomings in your loan request. e lender
may simply have too much money out in commercial loans
in your particular category. You may submit your request to
another lender who would be more receptive to your type
of loan.
e Value of an Appraisal
Developing an opinion of the value of property is called
an appraisal. Since no two properties are identical in nature
or location, it is important to have an appraisal done by a
professional. Your lender, not you, will select an appraiser
from their list of qualified and approved professionals.
As the borrower, you pay the lender for the appraisal.
In the past, when assets were overvalued or decreased in
value without being revaluated, lenders have had serious
problems. In an economy that goes up and down, lenders
don’t want to see your real estate drop in value, so they
usually require a 20- to 30% down payment (10% for SBA
guaranteed loans), and then finance the remainder of the
property’s appraised value. Lenders base their maximum
loan amount on either the sale price of the property, or on
the appraisal value, whichever is lower.
If additional collateral (like the borrower’s home) is needed
to secure the loan or to back up a personal guarantee, the
lender will use 80% of the collateral’s appraised value less any
liens or mortgages.
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T O B U Y I N G C O M M E R C I A L REAL E S T A TES M A L L B U S I N E S S O W N E R ’ S G U I D E
To protect themselves against a drop in the property’s value,
lenders oen require more than a first mortgage on a
commercial property, such as a personal guarantee secured
by a mortgage on their personal property, in addition to the
current mortgages on the property. ey may take a lien on
all of the company’s assets, including Furniture, Fixtures,
Equipment and Machinery (FFEM). Lenders might also
want your Accounts Receivable and Inventory as collateral
too but try to avoid this, because if you apply for a line of
credit, they would be used to secure the line. A commercial
real estate mortgage without an SBA guarantee is usually
written with a 15-year term and a 5-year balloon (every five
years, the lender may roll the remaining balance over for an
additional five years with a different interest rate). Lenders
may also “call” the loan (require full repayment of the
remaining loan principal) on the balloon’s maturity date.
e Down Payment
e amount of money you have to “put down as a deposit”
on a property (10% - 40% depending on the type of loan) is
based on either the appraised value of the real estate or the
sale price, whichever amount is lower, since lenders will
finance the smaller amount. If the property cannot be
transferred because the title isn’t clear or because it doesn’t
pass an environmental inspection, the deposit is refunded to
the buyer.
What Is Discounted Collateral?
Commercial mortgages may be discounted
from 20- to 40%, as shown:
Appraisal of borrower’s home . . . . . . . $100,000
Lender discounts appraisal 20% . . . . –$20,000
Lender’s discounted value . . . . . . . . . . . $80,000
Mortgage/Loan amount . . . . . . . . . . . –$50,000
Usable equity . . . . . . . . . . . . . . . . . . . . . . . $30,000
If financing is secured and the property passes all
inspections, but the buyer backs out, the seller may keep
the deposit, unless another arrangement has been specified
in the Purchase & Sales Agreement (page 19).
Environmental Inspection
Lenders also require an environmental inspection, which the
buyer pays. Keep in mind that the seller or seller’s broker
must be notified in advance of these inspections. A Phase
One environmental study must also be ordered by the lender
and paid for by the buyer. If any environmental issues are
uncovered, the seller must correct them, or the lender can
withdraw approval for financing.
Making an Offer
Once you know that you have an interested lender in place,
it’s time to make an Offer to the seller. e Offer doesn’t just
include the sale price, but also more specific terms – which is
why it must be prepared by your attorney, then reviewed by
your business advisor and accountant before bringing it to
the seller.
If the seller accepts your Offer, he or she will return a signed
copy to you. is will serve as the basis for the Purchase &
Sales Agreement (page 19), which is developed by the
seller’s attorney.
e Door Is Open for a Closing
Once the Commitment Letter is signed by you and
returned, the lender’s attorney will go to work developing
the Closing documents (page 19) and confirming that all
legal requirements have been satisfied, and that all permits
and licenses can be transferred to the new property owners.
e lender’s attorney’s fees are your responsibility and are
paid at the Closing.
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T O B U Y I N G C O M M E R C I A L REAL E S T A TES M A L L B U S I N E S S O W N E R ’ S G U I D E
Here’s the Plan
In order to secure a loan for a piece of commercial real
estate, you will haveto complete and submit a business
plan – even if your business is already established.
Lenders need to make sure that the revenue your
business generates will be sufficient to meet the
monthly mortgage payments. In addition, you must
understand where themoney will be coming from, and
how it will affect your Balance Sheet (page 15) and
Profit & Loss Statement (page 17).
A business plan looks at every facet, every aspect, and
every dimension of yourbusiness. Writing your plan is
an invaluable exercise for creating clarity and helping
you foresee problem areas. A well executed business
plan will give a lender everything needed to make an
easier, quicker decisiononyourloan – and to offer it at
the best rates and terms.
e components of a business plan are:
• Summary or Cover Letter
Be sure to answer all of the following questions:
® How much money are you requesting?
® What is the loan’s purpose?
® How will it be repaid?
® What collateral are you offering?
® What terms are you requesting?
® What products or services will you offer?
® What experience do the business owners have?
® What markets will you be involved in?
® Who is your biggest competition?
® Why are you a better choice?
• Business Description
is detailed description must include the legal name
of the business, the location address, your taxpayer
identification number (TIN), names of owners with
percentage breakdown of ownership, legal structure,
purpose, rationale for financing, short-term goals for
the first year, long-term goals, industry information,
history and schedules for operation.
• Professional Team
Include names, addresses, phone numbers and email
addresses for all the members of your team, as outlined
on pages 4 and 5. Team members include your broker,
attorney, accountant, banker, insurance agent and
business consultants.
• Property History
Answer questions like: Why is the property being sold?
What other purposes was this property used for in the
past?
The Foundation for Your Success
is a Business Plan
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T O B U Y I N G C O M M E R C I A L REAL E S T A TES M A L L B U S I N E S S O W N E R ’ S G U I D E
• e Management Team
e resumé and background of anyone who owns 20% or
more of the business will need to be submitted. Your
lender wants to feel comfortable that the people who own
the property are competent and responsible. Don’t hesitate
to explain each person’s qualities and experience.
• Operations/Suppliers
Tell your lender about the day-to-day running of the
business. Explain what facilities and equipment are
necessary to produce and distribute its products and
services. Include a copy of any leases, existing or new.
Provide a list of suppliers and explain what they will be
supplying and at what terms.
• Marketing
Show your lender that you understand your market by
creating a profile of your customer base, including its
geographical scope and size. Explain your products and
services in relation to your market, how you will distribute
and how you will promote. Include copies of any
copyrights, patents and licenses.
• Competition
Develop a list of your closest competitors and explain their
strengths and weaknesses. How will you differentiate your
business from theirs? What reasons will customers have
to switch to your business? Estimate the percentage of the
market owned by each of your competitors, and explain how
you are going to take customers and sales away from them.
• Location
Explain why you chose this location. Your description of
the property should include topics like zoning and traffic
patterns. Talk about the general vicinity, the kinds of
businesses there and the general economic temperature of
the area. If renovations will be necessary, show all costs and
a timetable for completion. Include copies of all the quotes
you have received for renovation work.
• Leases
If there are any new or existing leases that must be honored
by you, the new buyer, you must include copies of them in
your business plan. Any proposed leases that may take
effect aer the Closing must also be included.
• Licenses
Any licenses or permits that will be transferred
to the new owner(s) with the sale of the property must
be included.
• Appraisals and Environmental Reports
Make copies of all reports, whether old or new. Lenders
welcome an abundance of data on property value,
and environmental reports are crucial to minimizing
their liability.
• Financial Statements
Your business plan must include several financial
statements (pages 14-18).
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T O B U Y I N G C O M M E R C I A L REAL E S T A TES M A L L B U S I N E S S O W N E R ’ S G U I D E
In order to feel confident that your business can repay the real
estate loan, your lender will require one to three years of past
financial documents and projections.
Lenders will “crunch” the numbers in the five documents
highlighted on this page, using them to make the decision
on whether to approve your loan request. With the
exception of your tax returns, each of the four financial
statements is further explained in pages 15 through 18.
If the loan you are seeking is exclusively for real estate,
it may be structured in two different ways. First, the
operating company can make the loan to the real estate
holding company you’ve set up as a separate entity and
second, the loan could be structured to name the operating
company and the holding company as equal co-borrowers.
Tax Returns
Anyone who will hold a 20% or more interest in either
the operating company or the real estate holding company
must submit tax returns from the last three years. Does the
property have its own legal identity? For example, the seller’s
real estate holding company may own the property (see Idea
on page 6). If rental income will be necessary to pay the
monthly loan, the seller needs to provide the past three years
of tax returns.
The Balance Sheet {
PAGE 15
}
is is a snapshot of your business, a moment frozen in
time. You will need to provide Balance Sheets for the past
three years. If you’ve been in business for less than three
years, submit your fiscal-year-end statements for the time
you’ve been in business. You will also need to create an
“aer” Balance Sheet, showing the day aer the loan closes
(page 15). Use the most current Balance Sheet for the
“before-the-loan” version. e loan itself will be reflected
on the liability side, while use of the loan proceeds (such
as an increase in fixed assets or working capital) will be
reported on the asset side or reduced in Accounts Payable
on the liability side.
The Financial Statements
The APOD Report {
PAGE 16
}
An Annual Property Operating Data (APOD) is one of the
most popular reports in real estate investing because it gives
you a quick evaluation of property performance for the first
year of ownership. e APOD shows you what a property
will take in, and also what it will cost. It concisely reveals
income, operating expenses, net operating income, debt
service, and cash flow, making it a good "first glimpse" of the
investment opportunity.
The Profit & Loss Statement/P&L {
PAGE 17
}
e P&L, also called the Income Statement or Income &
Expense Statement, is a company report card, showing the
performance of a business over a period of time. e seller
provides a P&L for the previous year, only as it pertains to
the real estate that will be purchased, as well as interim
statements that are less than 30 days old. is allows you,
the buyer, to build your financial projections. Based on the
seller’s information, you, the buyer, need to provide the
lender with a projected P&L statement for one year, broken
down month by month. It should show expenses paid
by the operating company for the real estate – not just the
loan itself, but also things like interest, property taxes and
hazard insurance.
The Cash Flow Statement {
PAGE 18
}
Simply put, this statement shows how much money “flows”
into the business, and how much “flows” out. Breaking down
the year month by month, it shows how much money is le
at the end of each month to carry into the following month.
Be sure to include the assumptions you used to construct
your projections. Ask your lender how many years of cash
flow projections are required, and whether to show them
monthly or quarterly.
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T O B U Y I N G C O M M E R C I A L REAL E S T A TES M A L L B U S I N E S S O W N E R ’ S G U I D E
e balance sheet is a
snapshot of the business,
like a moment frozen in time,
and the numbers change
daily. It shows what you own,
and what you owe.
e two sets of numbers
shown here reflect the
changes that result from
financing. From these two
versions, your lender will see
how the loan will be used.
e most current set of
numbers reflects the day
before the loan, and the
second set of numbers reflects
the day aer the loan.
The Balance Sheet
A M O M E N T F R O Z E N I N T I M E
Balance Sheet
Before After
Financing Financing
ITEM AMOUNT CHANGE AMOUNT NOTE
Cash $59,750 $(23,000) $36,750
A/R, Inventory, Prepaid Expenses $46,600 0 $46,600
Deposit $8,000 $(8,000) $0
Total $114,350 $(31,000) $83,350
FFEM/Furniture Fixtures $85,000 0 $85,000
Equipment Machinery
Real Estate $0 $200,000 $200,000
Total Assets $199,350 $169,000 $368,350
Current Liabilities $43,350 0 $43,350
Loan Amount $0 $180,000 $180,000
Total Liabilities $43,350 $180,000 $223,350
Stock $10,000 0 $10,000
Retained Earnings $146,000 $(11,000) $135,000
Equity/Capital/Net Worth $156,000 $169,000 $145,000
Total Liabilities & Equity $199,350 $368,350
Breakdown: Current Liabilities
Accounts Payable . . . . . . . . $23,650
Accrued Expenses . . . . . . . . . . . $700
Line of Credit Payments . . $19,000
Total . . . . . . . . . . . . . . . . . . . . $43,350
Breakdown: Loan Amount
Loan Amount . . . . . . . . . . $200,000
10% Down Payment: . . . ($20,000)
Loan Balance . . . . . . . . . . . $180,000
Breakdown: Retained Earnings
Before . . . . . . . . . . . . . . . . . . $146,000
Closing . . . . . . . . . . . . . . . . ($11,000)
Aer . . . . . . . . . . . . . . . . . . . $135,000
Breakdown: Cash
10% down . . . . . . . . $12,000
Closing Costs . . . . . $11,000
Total . . . . . . . . . . . . . $23,000
. . . . . . . . . . . . . . . . . . . . . . . . . .
Cash before . . . . . . . $59,750
Plus deposit . . . . . . . . $8,000
Total . . . . . . . . . . . . . $67,750
Less down . . . . . . ($20,000)
Less Closing . . . . ($11,000
)
Cash Aer . . . . . . . . $36,750
Breakdown: A/R, Inventory, PP Exp
A/R . . . . . . . . . . . . . . $36,000
Inventory . . . . . . . . . $10,000
Prepaid Expenses . . . .
$600
Total . . . . . . . . . . . . . $46,600
These
numbers
must be
the same
$20K (10% down on
$200K loan) less
$8K deposit
6%, 20 yrs
($1290/month,
$15,480/year)
$3000 legal, $2500
appraisals, $1500
environmental study,
$4000 loan points
Note: Retained Earnings would drop to
$123K if both the Down Payment/$12K
and Closing/$11K were deducted
Notes
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T O B U Y I N G C O M M E R C I A L REAL E S T A TES M A L L B U S I N E S S O W N E R ’ S G U I D E
An APOD Report, which stands for Annual Operating Property Data, shows you clearly and concisely what
a property willtake in (Income) and what the property will cost (Expenses) during the first year of ownership.
Keep in mind that this report summarizes yearly, not monthly figures. It is a good first glimpse of the
investment, helping you to evaluate how it is expected to “perform”. Your accountant or business advisor can
assist in the preparation of your APOD report.
The APOD Report
Y O U R “ S N A P S H O T ” O F I N C O M E A N D E X P E N S E S
Property: Industry Park
Type: Commercial Building | Land: 40,000 sq. ft. | Building: 25,000 sq. ft.
Purchase Price $200,000
Acquisition Fees (appraisal, etc.) $5,000
Loan fees (two points) $3,920
Legal fees $2,080
Total Cost $211,000
Less: Down Payment (10% of $200,000) ($20,000)
Mortgage Amount $191,000
ANN UAL INCO M E:
Rental Income $13,500
Less Vacancy Factor (5%) ($675)
Total Income $12,825
ANN UAL EXPE NSES :
BOTH OPERATING HOLDING
COMPANIES COMPANY ONLY COMPANY ONLY
Taxes $9,000 $9,000 $0
Insurance $4,000 $4,000 $0
Maintenance. $4,500 $4,500 $0
Repairs $1,000 $1,000 $0
Utilities $10,800 $10,800 $0
Legal & Accounting Fees $2,500 $0 $2,500
Licenses $500 $500 $0
Supplies $250 $0 $250
Landscaping $900 $900 $0
Snow removal $400 $400 $0
Miscellaneous $350 $350 $0
Condo fee $2,400 $2,400 $0
Alarm $600 $600 $0
Total Annual Expenses $37,200 $34,450 $2,750
Net Income To t al Income-Total Expenses
($24,375) ($21,625) $10,075
Less: Mortgage Payments ($16,428)($16,428)
Cash Flow Net Income-Mortgage ($40,803) ($6,353)
Before After
depreciation depreciation
Square feet 23,500 23,500
Cash flow $(40,803) $(40,803)
Depreciation $0 $4,103
Cash Flow – Depreciation $0 $(36,700)
Cost per sq. ft. $(1.74) $(1.56)
(Cash Flow/Square feet)
Simplified APOD Data Example
Cost Per Square Foot
Rent 1500 sq. ft.
@ $9.00 per sq. ft.
The Holding Company is short this amount
for the mortgage payments.
Annual amount (or $529 monthly) paid
by the Operating Company,
see Related Expenses on P&L (page 17)
Loan is for 20 yrs
at 6% is $1369
per month or
$16,428 per year
Mortgage payments by the Holding Company,
not the Operating Company
Operating Company
and Holding
Company explained
on page 6 “Idea”
Figures are based on
a “triple net lease”
which sends related
expenses to the
Operating Company
$200K for land & building
($40K) land only
= $160K building only
÷39 years allowed by IRS
$4,103 depreciation
Range of
negative
numbers
since it is
an expense.
See APOD
Cash/Flow
number
25,000 sq. ft.
1,500 rental
23,500 sq. ft.
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T O B U Y I N G C O M M E R C I A L REAL E S T A TES M A L L B U S I N E S S O W N E R ’ S G U I D E
The Profit & Loss Statement
B E F O R E A N D A F T E R F I N A N C I N G
Profit & Loss Statement
Before and After the loan/financing for the Operating Company
B
EFORE AFTER % OF SALES
Sales/Income $328,790 $328,790 100%
Less: purchases/cost of goods sold ($94,856) ($94,856) (29%)
Gross Profit $233,934 $233,934 71%
EXPENSES: BEFORE AFTER % OF SALES
Accounting $2,000 $2,000 0.61%
Advertising $6,575 $6,575 2.00%
Automobile $3,000 $3,000 0.91%
Bank Charges $120 $120 0.04%
Commissions $6,575 $6,575 2.00%
Credit Card Merchant Fees $3,289 $3,289 1.00%
Dues & Subscriptions $500 $500 0.15%
General insuarance $2,780 $5,000 1.52%
Group insurance $6,000 $6,000 1.82%
Internet $1,176 $1,176 0.36%
License taxes $300 $300 0.09%
Line of credit interest $1,140 $1,140 0.35%
Miscellaneous $1,440 $1,144 0.35%
Office supplies $1,500 $1,500 0.46%
Miscellaneous $300 $300 0.09%
Payroll $112,296 $112,296 34.15%
Payroll taxes $13,476 $13,476 4.10%
Postage $522 $522 0.16%
Real Estate Taxes $0 $8,000 2.43%
Rent and Related Expenses $30,000 $39,903 12.14%
Repairs & Maintenance $2,700 $2,700 0.82%
Security system $900 0 0%
Shipping supplies $1,644 $1,644 0.50%
Telephone $4,560 $4,560 1.39%
Travel $4,000 $4,000 1.22%
Utilities $1,104 $1,104 0.34%
Total Expenses ($207,897) ($216,900) (66%)
Net Profit/Loss $26,037 $17,034 5%
Gross Profit less Total Expenses
RE LATED EX PENSES
License/permits $500
Real Estate taxes $9,000
Hazard insurance $4,000
Maintenance $4,500
Repairs $1,000
Utilities $10,800
Snow removal $400
Other $350
Condo Fee $2,400
Alarm system $600
Total Expenses $33,550
Payments to Holding Company $6,353
(See Cash Flow amount on pg.16)
Total Rent & Related Expenses $39,903
(or $9976 per quarter shown on pg.18)
e Profit and Loss statement (also called P&L, Operating Statement, or Earnings Statement) is the "report
card" for a business and is developed monthly, quarterly or annually. When buying real estate, you need to
develop and review the P&Ls for "Before" and "Aer" financing(seethe statement below). A P&L is developed
for the OperatingCompany only (see Idea on page 6). e Holding Company doesn't need a P&L since their
only income is the rent (paid by the Operating Company) and their only outflow of cash is the commercial
mortgage/loan payment.
The P
&
L vs. APOD
You may notice that this projected
P&L is similar to the APOD
(page 16). What’s the difference?
e P&L is created for the
Operating Company that occupies
the real estate, and it shows the
rent payment and related
operating/business expenses.
e APOD is created for real
estate only and used primarily by
an “investment buyer.”
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T O B U Y I N G C O M M E R C I A L REAL E S T A TES M A L L B U S I N E S S O W N E R ’ S G U I D E
Cash is thefuelthatruns your business,soyou must be acutelyawareof how it is“flowing.” is statement covers
themoneycominginandgoingout – and howmuch“stays” inthecompany for daily expensesand emergencies.
It willshow youthe maximum loanpayment the business can afford– a crucialnumber. Keep in mind that your
business may produce a profit, but still not have a positive cash flow. Shown here is a Cash Flow Statement aer
financing. e seller will provide a Cash Flow Statement before you buy or finance a business.
The Cash Flow Statement
W H AT C O M E S I N A N D W H AT G O E S O U T
Cash Flow
After Financing for the Operating Company
1
ST QTR 2ND QTR 3RD QTR 4TH QTR TOTAL
CASH IN:
Sales & Accounts Receivable $84,288 $44,261 $65,553 $134,691 $328,793
CASH OUT:
Expenses
Accounting $500 $750 $250 $500 $2,000
Advertising $1,330 $648 $1,768 $2,829 $6,575
Automobile $750 $750 $750 $750 $3,000
Bank charges $30 $30 $30 $30 $120
Commissions $1,330 $648 $1,768 $2,829 $6,575
Credit Card Merchant Fees $665 $325 $884 $1,415 $3,289
Dues & subscriptions $0 $500 $0 $0 $500
General insurance $278 $834 $834 $834 $2,780
Group insurance $1,500 $1,500 $1,500 $1,500 $6,000
Interest on line of credit $190 $285 $285 $285 $1,045
Internet $294 $294 $294 $294 $1,176
Miscellaneous $360 $360 $360 $360 $1,440
Office supplies $375 $375 $375 $375 $1,500
Miscellaneous $75 $75 $75 $75 $300
Payroll $28,074 $28,074 $28,074 $28,074 $112,296
Payroll taxes $3,369 $3,369 $3,369 $3,369 $13,476
Postage $138 $138 $138 $138 $552
Rent and Related Expenses $9,976 $9,976 $9,976 $9,976 $39,303
Repairs & maintenance $675 $675 $675 $675 $2,700
Shipping supplies $333 $162 $442 $707 $1,644
Taxes and license fees $0 $300 $0 $0 $300
Telephone $1,140 $1,140 $1,140 $1,140 $4,560
Travel $1,000 $1,000 $1,000 $1,000 $4,000
Utilities $276 $276 $276 $276 $1,104
Total Expenses ($52,658) ($52,484) ($54,263) ($57,431) ($216,835)
Purchases ($14,941) ($10,888) ($22,005) ($41,047) ($88,881)
Only product costs including raw materials and direct labor
TOTAL CASH OUT ($67,599) ($63,372) ($76,268) ($98,478) ($305,716)
Total Expenses plus Purchases
BEGINNING CASH $36,750 $53,439 $34,329 $23,614
Use Ending Cash from previous quarter for Beginning Cash in next quarter
CASH CHANGE $16,689 ($19,111) ($10,715) $36,213
Cash in less Total Cash Out
ENDING CASH $53,439 $34,329 $23,614 $59,827
Beginning Cash and Cash Change
Cash amount after
financing on pg.15
19
T O B U Y I N G C O M M E R C I A L REAL E S T A TES M A L L B U S I N E S S O W N E R ’ S G U I D E
e Purchase & Sales Agreement/P&S is a contract
between the buyer and seller for the sale of real estate, and
spells out very specific terms and conditions. It is developed
by the seller’s attorney or real estate broker.
Sometimes, before the P&S is signed, the buyer will make an
Offer, which is draed by his or her attorney. is Offer is
not required but, if both parties sign it, it may be used instead
of the P&S, or the P&S may be based upon the Offer.
Whether there is a P&S or a written Offer in place, the
seller usually responds to the buyer’s offer with adjustments
and this is called the Counter Offer. A negotiation period
is common before both parties agree on every detail.
Time Is As Important As Money
e seller usually grants a 60 to 90 day period from the
signing of the P&S to the Closing. is gives the buyer time
to prepare documents, complete inspections and provide for
transfers. It’s preferable to ask for a 90 to 120 day period,
since it may take time to get the appraisal and environmental
assessment completed. e P&S should allow for an
extension, to accommodate any delays or problems.
Transparency Is a Must
A “real estate disclosure statement” is a declaration by the
seller of everything known about the property. It does not
eliminate the need for inspections, nor does it act as a
warranty. Buyers need to ask about any defects, problems or
issues, preferably before the appraisal and environmental
inspection are done. Due Diligence involves investigating the
property before signing contracts and includes a recent
survey, environmental study, title search, physical inspection,
zoning permit/review, and operating cost analysis. Any and
all problems must be addressed and corrected by the seller
before the lender will approve financing.
Get a Safety Net in Place
Protect yourself bymaking sure there isa financingcontingency
in place. is states that if the buyer is unable to finance the
real estate, the seller must return the deposit – deducting
any out-of-pocket expenses that were incurred – and the
P&S becomes null and void.
Agreeing on the
Purchase & Sales
The Closing Is
Just The Beginning
e end of the process is the Closing, which the lender will
schedule. e buyer/borrower, any guarantors, the seller,
the lending officer and the lender’s attorney will attend the
Closing. All legal documents necessary for the Closing will
be required, including personal guarantees, the mortgage
and note, the loan agreement (as outlined in the
commitment letter), the appraisal and the environmental
study. When these documents are finalized, they should be
carefully reviewed by your attorney before you sign them for
the Closing. At the Closing (which your attorney does not
need to attend), there will be numerous documents for both
the seller and buyer to sign, but the real estate will not
officially transfer to you until the lender’s attorney records to
deed and files the mortgage and/or liens with the
appropriate state and local government agencies. Only aer
the lender is officially notified that this has taken place –
putting the lender in the appropriate legal position – does
the money transfer to the seller.
If your loan becomes past due, your lender’s attorneys
may draw up a forbearance agreement, which outlines what
the lender will do in order to clear the delinquency. e legal
fees for creating this are the buyer’s responsibility, plus a
lending fee of the outstanding loan principal which must be
paid at the time the agreement is signed.
Some of the liens that the lender’s attorney files include:
• A first mortgage on the property in question
• 1st Uniform Commercial Code (UCC) liens on
furniture, fixtures, equipment and machinery
• An equity mortgage, which secures a personal
guarantee, such as a second mortgage on the principal
buyer’s real estate
• Mortgages on other property, which may be owned
personally or by the company
• Other assets (like a Certificate of Deposit), which may
need to be offered as collateral
Printed by the Authority of the State of Illinois. W.O. 12-021 100 9/11 IOCI 12-261
www.ilsbdc.biz
The Illinois SBDC is funded in part through a
cooperative agreement with the U.S. Small Business
Administration and the Illinois Department of
Commerce and Economic Opportunity.
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