Distressed vs Stabilized Multi-Family and Commercial Real Estate: Which is Right For You?
Written by,
Rick Dimidjian President & Broker of Record
Camryn Ruby Director of Marketing & Business Development
8 June 2022
What’s the Difference?
Let’s break it down together. A distressed commercial property can be identified as a property that badly needs work. Not just a few minor deferred maintenance issues, but generally much bigger issues. Distressed properties have indicators like, but are not limited to, needing a new roof, needing new mechanical systems, or being terribly managed.
Now, a stabilized commercial property can be identified as a property that is already in good standing overall. The stabilized commercial property indicators consist of having 100% tenant occupancy, no longer in the development stage, and having great property management in place.
Pros and Cons
Now that we can identify the two properties, we will explore the real pros and cons of each property type. The main areas to consider when identifying pros and cons are initial purchase and investment costs, financing routes, and risk assessment.
Distressed Pros: | Distressed Cons: |
Buy at a Discount | Risky and Stressful during Stabilization |
High potential ROI | Financing is More Complicated |
Seller Financing Potential | |
Stabilized Pros: | Stabilized Cons: |
Immediate Cash Flow | Difficulty in adding value to the Property |
Low Risk | Possibly Paying Market or Above Market for the Property |
Bank Financing | |
What To Expect
Maybe you are currently in this dilemma, or you may find yourself in this situation soon. Deciding which investment is best for you will depend on your current situation. Making the wrong property choice will have avoidable consequences on your future as a real estate investor, so it is important, to be honest with yourself. So, check back in with yourself as you weigh these strategies.
Distressed Commercial Property
So what should you expect when you purchase a Distressed Commercial Property? A distressed commercial property needs rehab. Rehab is a risk factor, let's not forget, so doing light rehab is recommended for a beginner commercial real estate investor. Next, stay away from 100% vacant properties. You cannot forecast what other financial obstacles you will encounter when you perform rehab, so you must have some occupancy. Even though you are a beginner, you need to be well-capitalized and have reserves. Having money to purchase the property is one thing, but having money for rehab is also required. The rehab money should not be taken from the cashflow because that is too risky. It is advised to have all the money upfront. What happens if it all crumbles? An exit strategy is a necessity for a distressed commercial property. A clear exit strategy will lessen the blow if you make too many mistakes. Another piece of advice is to have a well-experienced adviser or coach assist you in your distressed property decisions. The workload and potential issues that go into a distressed property are often too heavy for a beginner to bear. Lastly, you must guarantee that your acquisition costs and your rehab costs combined are LESS THAN your after-repair value. The higher your after repair value is than your acquisition costs and rehab cost, the more money you will make off your distressed commercial property.
Stabilized Commercial Property
If you decide to purchase a stabilized commercial property, the following points should be expected from you, even as a beginner. First, you must have a reputable property management company. The property management company is expected to communicate marketing, management, maintenance, and money by providing you with reports that prove their system. Hiring a reliable company is vital to keeping the stability of your property. Next, expect to have long-term financing for at least 7 years. You can not control the market, so having a long-term financial plan will put you in a better position to make tough decisions. Tough decisions can also be altered by your rainy-day fund. If you have a rainy-day fund of less than 5% of your gross rental income (GRI) then that is not good enough. If a situation presents itself needing immediate attention, a beginner will be able to fall back on their rainy-day fund instead of going to personal savings or other loan sources.
Things go wrong with commercial properties, so you must be well equipped to handle these unfortunate situations. Another strategy that is expected is to perform a quarterly market rent survey. You will lose money by not increasing rent where your market rent survey shows comparable properties collecting higher rent. It is advised that you focus on B and C-class properties in good neighborhoods. They have a higher ROI than an A-class because A-class properties are too expensive and typically are purchased by large real estate funds. Lastly, you must acquire a long-term mindset. This will help set you up for retirement and hand over your property for your family to inherit.
Which One is Best For You?
Both property types come with different obstacles for the commercial real estate investor. When you break down the different expectations from a distressed property and a stabilized property, ask yourself which property type can you make a higher ROI on, whether in experience or money. Are you willing to take the riskier option by choosing the distressed property or are you not in a position to take on that risk? Distressed assets can come with some huge potential upside once stabilized, but not all investors are prepared or wanting to undergo the stress from distressed to stabilized.
The stabilized property will require you to be ready for a fully functional property, which may be more realistic for a beginner investor, rather than a distressed situation which may put a strain on cash flow. You must fully understand the commitment to the property to establish goals, generate ROI, and implement your action plan to hit the ground running.
Aegis Realty Partners Real Estate manages over 1000 units, there isn't a type of property that we are not familiar with. If you or you know of any investor that needs assistance in choosing a property to invest or manage in we are willing to discuss our professional investment brokerage and/or management services. We are in constant communication with investors actively looking to buy, sell, and lease properties.
Aegis Realty Partners Real Estate Investment specialists are well-positioned to advise our investors to seek out new real estate acquisitions as well as assist real estate investors when it comes to selling their properties.
Don’t just take our word for it…
“Before Aegis, we didn’t even have financial records…”
Aegis Property Management has been actively managing The Glass Lofts for over 7 years. When Aegis first began providing services to our 24 units, The Glass Lofts did not have any financial records, and the building was not properly maintained. In short order, Rick and Chris conducted a thorough building analysis and provided our board with a realistic action plan. Aegis presented the plan to the owners, and now The Glass Lofts have a proper receive and maintenance program. For us, the ease of paying monthly HOA fees and submitting requests cannot be understated. We are impressed with Aegis’s response time and efficient handling of all building issues. Aegis has been a great partner from day one, and I feel confident recommending Aegis to any building owner.
Jim Blue
Board Member
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