Why Investment Property is not All About Yield
The term yield is often used very loosely in general conversation, with investors frequently focusing their attention solely on this metric to measure the return on their investment property”. This is according to our investment property director, Andre Theron, who is of the opinion that acquisition yield is often overemphasized in the short term resulting in negative impacts on medium/long term returns. He continues by adding that “whilst yield is of course still a key indicator, investment property inherently remains a long term investment, and investors lured by very appealing acquisition yields can often land themselves into various pitfalls later on”.
Andre identifies some of these pitfalls in the following scenarios:
1) The investor does not properly assess the long term vacancy rate of the investment property
Often, investors are lured by a very attractive acquisition yield, for example at 12%, when the average market rate currently is 9,5%. In this case, it is important to properly assess the long term value of the building’s current tenants and their financial standing, especially in the case of specialized tenants such as a gym. “For example, if a gym with a highly specialized fit out incurs financial difficulties and vacates prior to lease termination and that vacancy is not filled quickly, one’s yield is soon eroded and an apparently attractive yield then becomes very pedestrian”. Therefore, it is important to have an investment broker assess the property’s tenant , flag potential concerns, and incorporate these into the property’s evaluation.
2) The investor underestimates the long term maintenance or costs associated with the property
Maintenance costs are often underestimated by potential investors, especially in the case of old or heritage buildings. “Investors may find the character or charm of an old property highly appealing, but tenants will inevitably start complaining about common issues such as uneconomical fittings or old fashioned configurations. Landlords also tend to incur more expensive tenant installation allowances on such properties. In the end, a quality tenant will demand the property be modernized or remodeled, or they will seek an alternative business solution.” Therefore, it is important to assess and investigate all the potential upgrades or maintenance costs associated with the property from the start and factor this into its investment potential.
3) The investor does not evaluate the location’s long term prospects
Often property investors will buy on yields based on certain economic factors in the short term, but the value of a property can quickly decline because of certain economic or geographic factors.
“For example, we witnessed this in the late 1990’s when the Cape Town CBD was significantly affected by “grime and crime’. Aggravated by unprecedented high interest rates, properties for sale flooded the market, prices plunged and initially attractive acquisition yields soon became very unattractive. This all changed in later years as the Cape Town City Centre is now being one of the best performing property markets (both residential and commercial) in the country with the help of local government and the Cape Town Central Improvement District (CCID). More recently, Woodstock is showing great strategic future growth potential due to its accessibility to the highway and convenient proximity to the Cape Town City Centre.”
Woodstock is seeing various conversions of old buildings, as well as other new developments such as The Boulevard Office Park with tenants to the likes of Medscheme, Alexander Forbes and BDO. Andre uses this premium development as example to substantiate his argument: “The Boulevard Office Park in Woodstock is a great example, where quality tenants signed leases back in 2008 at an average of R80 per square meter. That has escalated to around R130 per square meter today, with parking at R1200 per bay. The long term value of the investment has increased substantially.” Conversely, areas that have little future growth potential will see the opposite effect.
Author: Andre Theron