Thursday, July 13, 2006

I am impressed with the investment firm Bailard. It offers a variety of institutional products, including two institutional real estate investment trusts (REITs). It has an intutitive method of looking at real estate that has several factors. One part of Bailard's method transfers well to Tenant-In-Common (TIC) analysis and can be used to help determine whether a TIC transaction has a fair risk/return expectation.

Bailard classifies real estate as Core, Value-Added or Opportunity. (Bailard did not create this model. It is widely used and CNL went into it in detail at a meeting I attended in April, but I found Bailard's presentation succinct and straightforward. The goal for any Value-Added or Opportunity property is to make it a Core property, which commands a higher resale price. A detail of the three classifications is below:

  • Core properties have the lowest risk and lowest return expectations. Core properties have stable tenants and need little capital improvement and should provide long-term income. Examples of Core properties include fully leased Class A office buildings, single-tenant net leased properties with credit tenants and community shopping centers with one, two or more national or regional anchors.
  • Value-Added properties have more risk and should have higher return potential than Core properties. Value-added properties should produce income but it will likely be variable. Examples include aging properties that need capital improvements or a properties with near- and short-term lease expirations.
  • Opportunity properties have the highest risk and highest return potential. These may be development projects, existing properties with significant vacant space or properties that need major capital improvements. Income is unlikely until the opportunity issues are resolved.
A TIC transaction's property classification and return expectations need to be determined and compared to similar classification transactions. A Core TIC offering should have a return expectation similar to other Core transactions and a Value-Added TIC transaction should have returns comparable to other Value-Added transactions. Value-Added transactions should have higher return expectations than Core transactions.

I do not have a return expectation ranges for each classification, but will start one now. It will be interesting to see how this evolves. Sponsor resistance will also be interesting, especially when a transaction is Value-Added and has Core-like return expectations.

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