To maximize the odds of delivering above average returns, commercial real estate property investors and managers tend to develop expertise in a specific market segment. This expertise, combined with the experience gained through multiple transaction cycles can create a competitive advantage that becomes an asset for investors and partners. When choosing which segment to develop expertise in, there are several dimensions to consider, but two of the most important are asset class and market capitalization.
There are four commercial real estate asset classes: office, industrial, multifamily, and retail while there are three market segments: small, medium/middle, and large. The intersection of these two dimensions could be plotted on a graph where each asset class can be divided into small, medium, and large cap market segments. For example, the multifamily asset class has properties in the small, medium, and large cap market segments, depending on the value of the property.
Each commercial real estate asset manager has their own investment thesis and it’s typically centered around deciding which combination of asset class and market segment will deliver solid returns. They’ll have evidence to support their belief and will ultimately be proven right or wrong by market dynamics.
At First National Realty Partners, we believe that a middle market, service oriented retail acquisition strategy presents a unique opportunity to deliver strong returns for our investors and valuable assets for the communities we invest in.
What is Middle Market Service Oriented Real Estate?
The middle market real estate segment is defined as those assets that have a value between $10MM1 and $75MM1, regardless of asset class.
Service oriented retail real estate is categorized as retail assets whose tenants are service based businesses. We prefer grocery and fitness anchored retail centers with supporting tenants whose businesses complement those of the anchor like barber shops or quick service restaurants.
Combining the two dimensions, middle market service oriented real estate assets are retail centers whose tenants are service oriented businesses and whose acquisition price is in the range of $10MM1 and $75MM1.
The Seven Point Case for Middle Market Service Oriented Retail
Our investment thesis for middle market service-oriented retail can be broken down into seven points:
Price: At $10MM1 to $75MM1, middle market real estate prices are too large for all but the wealthiest individual investors and too small to move the needle for institutional investors. Because the value is “in the middle” of two large market participants, it’s often overlooked and underloved. We believe there’s real value to be found.
Resistant to E-Commerce Driven Change: Service oriented retail businesses have proven to be remarkably resistant to the e-commerce driven change that has forced many product based retailers out of business. We believe that there’s always going to be a market for a haircut, doctor’s appointment, fast casual meal or personal training session and that thoughtfully curated, well located retail centers with these types of tenants stand to benefit.
Spillover Effects from “A” Markets: Institutional investors tend to focus on the “A” sub-markets, which are those in fast growing cities that are “hot or trendy,” but patterns show that their substantial investment tends to drive up rental costs and drive out smaller businesses, which makes the secondary and tertiary markets surrounding them — where middle market assets tend to be located — an attractive and logical alternative.
Availability of Financing: Given the size of large cap institutional assets, the ability to finance their purchase is limited to the largest lenders. On the other hand, the size of the typical middle market deal — and the tailored solutions they require — are palatable for a variety of lenders ranging from local banks to middle market specialty lenders. In addition, the deals tend to be less complicated and more streamlined so they can close faster and with less roadblocks.
Stable National Tenants: Our preference for grocery or fitness anchored retail centers means that they’re often occupied by national tenants with investment grade credit ratings and long term leases. This means that property cash flow tends to be stable and dependable, resulting in similarly stable and dependable distributions to investment partners.
Opportunities for Site Pad Development: Retail businesses tend to operate in clusters. For example, a grocery store anchored center attracts traffic because shoppers need to buy food for the week. While they’re there, shoppers may benefit from other retailers such as a coffee shop, hair salon, or boutique fitness center. As such, these complementary businesses tend to cluster around grocery store anchors to capitalize on the traffic they generate.
As a result, our experience has been that service oriented retail centers offer value-add opportunities for outparcel site development marketed to businesses that stand to benefit from the traffic generated by the anchor. Typically, these businesses include: coffee shops, bank branches, boutique fitness centers, and fast casual food chains.
Liquidity: The pool of investors that can afford a $75MM+ property is small. When it comes time to liquidate an investment, we believe that middle market price points are attractive to a wide variety of investors, offering more liquidity and faster turn times than their large cap, institutional counterparts.
Our investment thesis is time tested and has been proven through strong returns to our investors over the past 5 years.
Interested in Learning More?
First National Realty Partners is one of the country’s leading private equity commercial real estate investment firms. With an intentional focus on finding world-class, multi-tenanted assets – including middle market service oriented retail shopping centers – well below intrinsic value, we seek to create superior long-term, risk-adjusted returns for our investors while creating strong economic assets for the communities we invest in. Whether you’re just getting started or searching for ways to diversify your portfolio, we’re here to help. If you’d like to learn more about our middle market retail investment opportunities, contact us at (800) 605-4966 or firstname.lastname@example.org for more information.