In an increasingly competitive commercial real estate market, cap rates and initial investment returns have become the buzz words for brokers, lenders and investors.
However, many commercial real estate professionals overlook the importance of fully evaluating their initial cost basis in an asset.
Basis in its most basic form is your original cost to acquire the asset and is an important metric to keep in mind when evaluating your long-range exit strategy.
One of the most simplistic forms of real estate investing is gain through growth of net operating income and appreciation over time.
Often this simple principal is in jeopardy as strong market activity and demand can lead to acquisition of overpriced assets with exposure to changing market dynamics and tenant preferences.
This is especially true in a period of cap rate compression as we have experienced in recent years. As interest rates and cap rates increase, values of some assets will be negatively impacted.
Without a real increase in rents, the resulting net operating income and asset value will decrease.
In competitive market conditions, such as these, the best investors seek to acquire properties at values that are at a discount relative to replacement costs or possess the qualities necessary to produce strong stabilized cash flow even in periods of market uncertainty.
Fully evaluating your initial cost basis in an asset while keeping in mind your exit strategy will help mitigate risk within your investment portfolio.