Understand your tenant's strengths and weaknesses before signing the lease
When you start the leasing process, you essentially start the process of finding another business partner. Their business opportunity becomes your business opportunity in that they provide the income to successfully run your real estate property. Investors put a lot of time and energy into doing due diligence on a property during the acquisition phase, but put a dismal amount of energy into understanding the businesses that generate the income.
Has the business been in operation or is this a startup? Are they expanding into a new location or downsizing? Does the operator have experience in this sector or are they starting something new? Are there opportunities in the market for this type of business or is it saturated? What other market shifts are occurring to make the business successful or not? Is there a clear and coherent business plan in place?
It's astonishing to me that not only do investors not ask these questions of their prospective tenants, but most don't even take the time to interview or speak with them other than perhaps redlined lease items, and even that is typically done through a representative. Tenants are the lifeblood of your income-producing property and we don't even take the time to find out if they have a viable business venture.
Hopefully by now I at least have you thinking about your tenant leasing processes, but there's another strategy to help determine your retail tenant's potential business success with 'gap analysis'. Gap analysis separates the different retail industries into their specified trade groups through the NAICS (North American Industrial Classification System) codes and determines in a given trade area if there is surplus demand or leakage into other areas. We can calculate the retail potential (demand) within a given area and then calculate the retail sales (supply) to come up with the retail gap. From there you can determine if the market can sustain additional supply in that sector. (Btw, this process is also helpful for tenants looking for a new location). If supply outweighs demand, the next question should be how the prospective tenant plans to compete in a very tight marketplace. Perhaps they have an innovative or disruptive product/service, or maybe they have a strong, loyal customer base and brand recognition. Either way, it's important to understand their strengths and weaknesses. Eventually this can either lead to increasing traffic to your property or another empty storefront.
Retail defaults and evictions are costly and time-consuming. Imagine the downtime, marketing and vacancy/credit losses that can pile up quickly if you're not careful. Therefore take the time to understand your tenants and their businesses. Stop in and say hello. Be a good landlord. Remember, their business ultimately decides the success of your business.
About the author:
Michael Hironimus, CCIM is the Certified Investment Advisor and Principal Broker for Duckridge Realty Advisors specializing in commercial real estate investment portfolios and asset management for high net worth private clients, with focuses in market, financial and risk analysis. He is also a faculty instructor for the CCIM Institute, teaching professionals globally in the CI-102 Market Analysis Core Course. For more information, reach out to michael@duckridgerealty.com.