Commercial Real Estate Development Process

 What is the Commercial Real Estate Development Process?

Here is an email I sent to a client looking to do their first Commercial real estate development (he's a new retail developer).
The information here is not sensitive.
Don't focus on the numbers (every market is different), instead focus on the process and thinking.
How I start a commercial development.

These numbers are only for illustration.

You can plug in your own numbers and modify as needed. The importance is seeing how I come up with values

I break Development into a few different Chunks:

Commercial real estate development

Commercial Land Cleared - Ready for Development


1. Demand 
-

1 acre= 43,560 sq.ft.  Assume 25% site coverage (likely a bit high) would equal 10,890 sq.ft  For easy math lets say you build 10,000 sq.ft of retail.

Assume you were leasing to a tenant (this client was thinking of developing and using part of the space for his own practice).  Most banks will want to use and see 'market rents'.

You didn't include any of those rents - so we will use mine and you can adjust.

In Calgary new retail is $30-40 psf NNN (just updated based on current leasing I'm doing on my own development on 52nd Street in Calgary AB).

We will be conservative and use $25 psf for rent.

How to Calculate the Value of your 10,000 sq.ft building:

  • $25 psf x 10,000 = $250,000
  • Cap rate - for this - 6%
  • $250,000/.06 =  $4,166,000 Value

 

2. Supply

Land- I don't know the market you're in.  I have worked on commercial real estate development in various cities in Canada, Texas and AZ.

Good retail land trades north of $1m/acre.  I would confirm the land is serviced and zoned correctly first.  You want to be a developer- but if you're new to this, and having to rezone land, is a different- more risk, time and cost.
Immediate Questions:
  • Is the land serviced?
  • To the site?
  • Or, are you paying offsite to the City?

What other entitlement issues will you face?

 

Running the Numbers

I have a very detailed spreadsheet I use- but lets us BOE

  • Land $500k
  • Hard costs- $2M (sounds high- 200 PSF for retail construction- I'm building at $130psf for hard cost)
  • Soft Costs- let's plug 20% for safety $400K
  • Leasing Fees? (you're only paying for 4k sq.ft) 5% of your leases signed over 5 years and then 2.5% (my market- you're
  • might be different).  Assume $75k

Financing Costs -  Assume $100k

TOTAL Cost: Let's call it $3.1M

Your Investment - if you can get away with 15% down - $500k.  My gut tells me you'll need more like a $1M equity.  Which would still be a double.

Profit - $4.1M- $3.1M = $1M


3. Risks

If this is a new venture your biggest risks will be execution risk

    • General Contractor (and sub-trades who do the work).
    • Cost overruns?
    • Fixed Price/ GMP/ GMP with Upset.
    • How are change orders going to work?
      architect- will do the layout.
    • How good are their drawings?
    • Anything missed will be Change order.
    • Timing- weather, zoning, city, off-sites, neighbors

Team Members:

    • Good commercial agent who understands retail and land development
    • GC with experience in retail developments
    • Architect - same as above
    • Mortgage Broker- who understand SBA and construction financing
    • Leasing Agent to lease-up the balance of space
    • Every market is different and a big piece of the puzzle for your development would be zoning, access points, services (deep).

On the scale of difficulty- what you're undertaking is about a 7-8 in difficult in commercial real estate.

The only thing harder would be buying raw land and rezoning and then developing.

Lot's of moving parts.

But, you can see- if done right- you can make a very healthy profit.

I expect you're building new - because of the potential upside.  And, possibly buying and developing for below replacement value.

You get exactly what you want.  And, you control the process.

  • Our recent retail building is going to take us 5 months for actual construction.
  • The DP was 4 months (had to get architectural controls agreed to, DDSP- deep services with City) and then another 6 weeks for BP.

    We started construction once DSSP was released.

  • I expect 1 year from closing on land to delivering a fully built outbuilding (+ maybe 2 months).

    If you're going to PM your project- min 1/week during construction.

  • I have regular check-in with my GC/Architect.
  • There are not as many good websites to check out.  ?You could go to NAIOP (for commercial developers) - but geared to bigger players.

     

This is a high-level way I'd look at Commercial real estate development.

  1. Demand (you have that)
  2. Supply (need to verify the costs to do that)
  3. Risks (mitigate these)

Decision- go/no go.

In all developments, my team is critical to my success.  I'm fully aware of my weakness and strengths.  Bring on the right people from the start.

Commercial Real Estate Investing Scorecard

My 8 Non-Negotiables to Investing and the checklist for how I analyze every property

Commercial-Real-Estate-Scorecard