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Banks won't party

Posted On Thursday, 06 October 2005 02:00 Published by
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Low interest rates and rising rents make owning small offices attractive. But not to lenders - yet
By Ian Fife

Low interest rates and rising rents make owning small offices attractive. But not to lenders - yet
Owning sectional title offices could be the next big thing for small businesses and property investors.

They give better returns than residential property and are simpler to manage, but the banks' ultraconservative lending policies are making investment difficult.

Take these two scenarios:

A bank will grant an investor earning R500 000/year a 100%, 20-year bond at 1,5 percentage points below the prime overdraft rate on a 140 m?, R1,4m sectional title residential unit. The unit in, say, Illovo, Johannesburg, would sell at R10 000/m? and provide an initial yield of about 6%.

The investor would pay R12 500 a month on his loan. Net rental income would be about R7 000/month, leaving a cash deficit of R5 500.

However, Nedbank property lending chief Frank Berkeley says that on a R1,4m, 175 m? sectional title office unit around the corner, a bank would probably grant only a 70%, 10-year bond at prime, even if it were sold at R8 000/m? and gave a yield of 9%.

The bond repayment would be R13 000/month and the net income R10 500/month, giving a deficit of R2 500/month. But the investor would also have to inject R420 000 cash into the property. If the bond conditions were the same as those for the residential unit, the investor would pay R12 500/month and have a deficit of R2 000 on a 100% bond.

Lost opportunities

The banks seem to be missing an opportunity. The market is potentially enormous. More than 60% of office users occupy less than 250 m?. Yet typical office floor areas are 500 m? and more, and small tenants usually pay higher rents.

Potential tenants have increasingly become interested in owning much smaller offices as SA's chronic office over supply is mopped up and rents start rising.

Johannesburg-based Barrow Construction began building sectional title offices four years ago. It has sold 120 units at an average size of 250 m?. Director Paul Barrow says most of his buyers have been "mature" partnerships of lawyers, architects, doctors and other professionals who bought the units for their own use.

Owner-occupiers usually arrange the property finance with their banks as part of their overall facility. But Barrow says investors are put off by the large amount of equity they must invest, the short repayment period of 10 years and the high interest rate.

Also, banks grant a bond only if the investor has signed a lease. But investors can't find tenants to sign leases when they must commit to buying a year before the property is ready for occupation.

The main finance problem is that sectional title offices fall under the banks' commercial lending divisions and not under home loans. Commercial property staff are geared to deal in large loans and apply the same criteria to a R1m sectional loan as a R100m one. Berkeley says R1m is usually the minimum loan a bank will grant.

"We haven't designed products specifically for small sectional title offices," he adds.

But a breakthrough could come when two major new developments are launched soon.

Pace Real Estate, which recently launched a number of office and industrial projects in Gauteng, will be selling a 10 000 m? sectional title building at 1 Sandton Drive in the Sandton CBD with units as small as 300 m?. Prices will be about R15 000/m?.

Barrow launches sectional title offices at Melrose Arch soon at R15 000/m?. A 100 m? office will cost R1,5m, including four parking bays.

Melrose Arch owner Property Partners says rents are currently R115/m?. "But we have a waiting list for tens of thousands of square metres," says director Stuart Chait.

Investors can expect minimum rents of R130/m? by the time the Barrow offices are completed towards the end of next year. Add R350/bay monthly parking income, deduct a monthly levy of R25/m? and the investor will get R142 000/year net income - a 9,5% return on investment. This is twice the yield on the Melrose Arch residential units next door.

Certainty of income at Melrose Arch would make it easy for him to grant a loan without a lease being signed, says Berkeley.

"But it does depend on who the borrower is," he adds.

Financial Mail
Publisher: I-Net Bridge
Source: I-Net Bridge

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