Articles“Commercial property specialists Scott and Mina O’Neill from Rethink Investing take us through the pros and cons of investing in shopping centres” – API magazineAdding a shopping complex to your portfolio can be a game-changer, but it’s not without risk. Dive into the pros and cons of investing in neighbourhood shopping centres.Over the last five years, we’ve purchased half a billion dollars worth of shopping centre investments for our valued clients (out of a total of $1.5 billion in purchases), and the demand is only going up.COVID has supercharged commercial property; markets are tightening following yield compression, resulting in significant increases in capital growth for assets we’ve purchased just a year ago.This, combined with strong yields and the solid passive income stream that shopping centre complexes have demonstrated throughout the pandemic, has created a surge in interest from prospective buyers looking to get their hands on these lucrative assets.Adding a shopping complex to your portfolio can change things up massively.But don’t think it’s all positive, there are many risk areas with the retail asset class one must be aware of.So, let’s take a look at the benefits at play and some important things to look out for before making your first purchase. Why we like them Recession proof: Neighbourhood shopping centres have generally performed well throughout COVID. Medical tenants, numerous car spaces, and a supermarket as the ‘anchor tenant’, bring non-discretionary spending to these assets, allowing them to perform consistently regardless of consumer confidence and wider economic performance.Lockdowns and the localisation of the workforce have meant that people are spending more time in their local area versus in the central business districts.High-quality shopping centres can be a great example of an asset with a defensive income profile. These are the types of high-quality commercial investments that we like to purchase for our valued clients.High yields: The convergence of the above events has meant that we are still seeing yields of more than 6 per cent for large-format retail properties in capital cities well into 2021.This, combined with the lure of a multi-income investment at $5 million-plus price points, is an attractive prospect to a high net worth investor looking to take their portfolio to the next level.Maximise your returns: We personally like to purchase shopping complexes with value add opportunities, in particular, to reposition shops with longer leases, by undertaking renovations at the complex or improving the tenancy mix to drive more traffic to the centre.Long leases: With this type of asset, you can expect long leases — three to 10 years in most cases — and tenants are very sticky once they are established.This is because the ecosystem established within large-format retail assets is totally unique. Shopping centres traditionally orbit around one or two quality ‘anchor tenants’, for example a well-known supermarket brand which has enough appeal to attract customers to the centre independently.This anchor tenant then attracts the smaller ‘supporting tenants’ (hairdressers, liquor shops, medical centres, chemists), which complement the larger anchor tenants.Secure tenants: A high-quality shopping complex boasts well-established tenants who are likely to renew their leases (with long-lease and strong covenants in place).Because retail property fitouts can run into the hundreds of thousands of dollars, such investments will mean that tenants, once established, will be reluctant to leave even if they find cheaper rent down the road. It’s in their vested interest to stay long-term.Multiple income streams: Now take the above point, and multiply it by five or even twenty tenants.The risk is minimised because you’re highly diversified, as opposed to owning one stand alone retail store, for instance.If you have a vacancy in a shopping centre or a few leases coming up for renewal, it’s not the end of the world because the other successful tenants will continue to keep your investment afloat.Potential risks to considerDiscretionary reliant businesses: These businesses are subject to shifts in consumer confidence and the wider economic climate, which means retail property owners often struggle with extended vacancy periods if the economy is not performing well.These businesses may include travel agents, fashion stores, high-end restaurants and electronic goods stores.A centre with a high proportion of these businesses might pose a greater risk throughout COVID or recessions for instance. Make sure you complete your due diligence in order to mitigate any potential in this area.Management: Some centres are poorly managed and have tenancy arrears. This must be identified in your due-diligence.At Rethink Investing we do due diligence for every tenant in the centre, in order to get a thorough understanding of their financial position before securing the asset for our valued client. It’s a long and time consuming process but well worth its weight in gold. Age of the centre: The price tag might look good, but what’s the reason behind it? If it’s an older centre will you have to fork out more capital to pay for repairs for roofing, air conditioning, or electricals?Or, is it worth locking in the lower price and investing in repairs and value adds in order to raise the rents and raise the overall value of the asset? This in effect, could have a huge effect on the portfolio, as it increases your cash flow and capital growth. Multiple tenancies: Dealing with multiple smaller tenancies is sometimes not a preferred option for high net worth clients as it is time consuming. The upside is that they’re all under the same roof and you can easily outsource this to rental managers.Crunch the numbers: And then do them again. Make sure you have a good understanding of all of the outgoings because sometimes they can be underestimated. For example, some things to consider are: cleaning, insurance, air-conditioning, pest-control, gardening, rental management, repairs and maintenance, land tax.Location: If the centre is in an area with poor access or too much competition, it might not be a star performing center like those that are better located. Things to consider are: is it visible from a main road with access to ample parking? Is it positioned in an affluent area as wealthy people have more disposable income? Is it located in an area with a growing population?Extras: What is the potential for zoning, multi-tenant uses, or the potential for future development of the property?Cap rate: As with any commercial investment, it’s important to understand the fair value of the property.The quickest method is checking the capitalisation rate (cap rate) for similar recent sales.In this case we want to find the yields that other shopping centres have been selling for. We like to target shopping centers with yields of 6-8 per cent net because these high yielding numbers still exist when you know where to find them.August 16 2021SHARE View media article >In The Media Let’s discuss your property investment goals. Speak to one of our property experts today.