Commercial Developers Face a New Challenge: Younger Investors

The following article originally appeared in the June 26, 2024 issue of The Daily Record. 

As Boomers continue to age, commercial real estate (CRE) developers are adapting to a new, younger group of financiers who are relatively new to investing, more risk adverse, and potentially hesitant to provide large sums. But is it any wonder? Given current interest rates, many big box stores going out of business, and general economic uncertainty, a cautious approach is understandable.

Since developers now need more investors to raise the same amount (or more) of capital, the challenge becomes convincing this new class of investors that a project is a great idea, a safe bet, and the ROI will be significant. For developers, here are the key areas that will ensure an investment proposal projects stability and becomes persuasive to this new class of stakeholders.

Financial Projections and ROI

Be realistic. Presenting a shoot-for-the-stars plan might be overwhelming for young investors, and a starry-eyed developer may come across as disingenuous. Build trust by basing financial projections on realistic assumptions, skewing more towards conservative expectations.

Then, provide a model to potential investors. A good model illustrates a comprehensive financial projection and will include how much rental income is expected, potential operating expenses, and the net operating income (NOI). A good model also shows the differentiators between cash flow vs. taxable income.

Finally, clearly outline the expected ROI and the internal rate of return (IRR), which is the calculation that predicts how much money the property will earn over time.

Tax Incentives

Depreciation of real estate will reduce the investors’ taxable income over time, even when no money changes hands. But depreciation isn’t the only benefit of investing in a commercial property. There is also the potential tax benefit of deferring payment on capital gains taxes upon sale.  Under current laws, sellers of CRE can still defer paying taxes on profits through a 1031 exchange, an Internal Revenue Code that allows owners to swap one investment property with another.

Other tax incentives include deductions for insurance, repairs for upkeep, utility costs, property maintenance, professional fees, or any cash outflows used strictly for business purposes.

Transparency and Communication

Strive for clarity in the written business plan, any feasibility studies, the market analysis, and all financial statements. And be sure all documents are detailed and organized.

Having an open flow of discussion and dialogue is extremely important too. Always provide regular updates on the progress of the project and all financial performance. When developers commit to regular communication, they engage their current, and future, stakeholders by fostering open communication on both sides. Better yet, include tenants, potential tenants, and local town or city councils in the communications plan as well.

Risk Mitigation Strategies

Another good practice is to identify possible risks for investors. Be transparent about potential market downturns and construction delays and be open about mitigating them, and outline the contingency plans and financial reserves to handle unexpected challenges.

A developer should also highlight insurance policies, warranties, and guarantees that protect the investment and offer a full picture of their risk- and its mitigation.

Strong Value Proposition

A strong value proposition will align with the values of the investor and detail why they should choose one project over another. Since younger investors are more likely to value sustainability, green building practices, green certifications are attractive. Consider seeking the most well-known rating system, LEED (Leadership in Energy and Environmental Design), and the internationally recognized Building Research Establishment Environmental Assessment Method, or BREEAM. Younger investors also prioritize social responsibility and innovation, so illustrate the positive economic and social impact the project will have on the community.

Include unique selling points and benefits of the project such as location, amenities, design, sustainability, technology integration. But selling points need to be practical too. Investors must know whether there is a strong occupancy trend, so provide evidence of tenant demand through pre-leases, letters of intent, or expressions of interest.

Educational Resources and Support

And finally, experience and advisement are vital.  Guiding and educating new investors on the benefits and risks of commercial assets will result in a happy investor who is eager to hear the next proposal.