Building small retail shopping center on 0.8 acre land

[Rao Mu]

I'm thinking about developing a small strip center in a 0.8 acre land. The land is flat and square and no issues. Need to demolish two houses. Environmental seems clean. Demographics are excellent for central New Jersey with median income more than 100k and VPD more than 20k. There is a 50k sqft shopping center next door charging around 22-24$ NNN. I'm trying to estimate what is the best use of this piece of land? I'm thinking like 9k sq ft small strip cemter with 36-40 parking. 150$ per sft construction including demolition and buildout. Any thoughts? I'm reverse engineering to find the cost to buy land. A block away I see McDonalds closer to interstate highway. Any other best uses biggerpocketers can think of?

[Jessica Zolotorofe]

Good morning Rao Mu ! Assuming you can get necessary approvals, is it on a corner or mid-street? I think you're probably thinking along the right lines. I would feel out the tenant market before finalizing how many units you want. What is in the center next door? Sounds like a neighborhood that a coffee tenant might be interested in, like a Starbucks or Peets, although parking sounds light. You may be best off with 2-4 smaller tenants, but national names, if possible, like a Jersey Mikes or Jimmy Johns, for example, or a Verizon or AT&T type tenant. Salons are usually good tenants for small centers in those neighborhoods, too or a small bank branch that doesn't require a drive-thru. I would stick to higher end uses, so no mom and pop convenience or bookstore type uses, although that's totally just a matter of preference. For a small center with others next door, I would definitely make sure you have some strong clean signage on the facade and you get a favorable signage approval for a monument or pylon. Hope that helped some! I have a weird affection for strip centers, so feel free to email me to chat further, and best of luck!

[Rao Mu]

It's not a corner but visibility is very good because to the left it's already an apartment complex which has enough setbacks. Hence, it's all grassed out. Next door strip center has a big Indian grocery store, Indian take out, Verizon store, child care, Chinese restaurant, and Dunkin' Donuts. yes, approvals need variance because it's in office professional zone. Retail is not permitted but it's all retail over there.

[Joel Owens]

The national tenants take awhile to do anything. Some on the strip centers want your building built before they go look at an inline space.

This versus a single tenant building who can do a lease in advance of construction. All of this is important  how you take down the land. i have found the local mom and pop tenants or regional brands can give you a quicker yes or no for a site.

It's key to know what tenant you can put there. Example a Chick Fil A you could sell for maybe a 4.5 cap rate but  a Steak N Shake should be in the 6's for cap rate and they pay less rent even though building size is close to the the same. Mcdonald's is a low cap rate resale also.

That is why you need to get the land as cheap as possible. A site I have now on a corner has been tougher as many of the great tenants in the area are already there as it is the last undeveloped corner. So you have to find then the tenants that want to be in the area but are not there yet.    

[Rao Mu]

How cheap is safe bet? 400k?? of course, subject to approvals.

[Joel Owens]

You need to see how flat the land is for development. Have an engineer for a few hundred drop possibly some initial site layouts to see what is possible for development. If the seller has a survey with the CAD file already that would help. If survey but no CAD file and engineer has to do more work the cost can go up.

Once you decide on MTNL or STNL property you need to look at actual rents for your area that are leased up and NOT asking rents. Landlords can ask anything but actual rates tenants are agreeing to pay and the terms are key.  

[Jessica Zolotorofe]

A lot of what @Joel Owens said is very valuable, especially about the engineer and architect putting some preliminary plans together. You'll need them for the approvals anyway, so it's never a waste, and fully worth the money. And also making sure you are not looking at listings with asking rents, but to find out actual rents being paid for different types of tenants. Very good advice.

The parts of his comments that I do not necessarily agree with are that "national tenants take awhile to do anything." I work with almost exclusively national and international tenants, and there is no difference other than the franchisee tenant has to get franchise approval. In a small strip center it is highly unlikely anyone taking 1500-2500sf is signing a lease now before you even have approvals. It could be a year or 2 easy before there is a building there ready for a tenant to take occupancy. Actually, national tenants are probably more likely to commit to a space in advance of building than a mom and pop.

As for the land itself, the rule of thumb for parking is typically 4-5 spaces per 1000sf (you can check the zoning requirements for your location for the exact number), and then typically something like 5,000sf building per half acre, so if you are going to try to get a single tenant with a drive through, you’re talking about probably a max of 2,500sf building when you factor in ingress and egress, landscaping and setback requirements, parking, etc. So you’re looking more toward the Starbucks or maybe a bank if you want to do single tenant. A tenant like McDonalds typically looks for an acre to an acre and a quarter with a 4,000-4,5000sf building, so this property is probably too tight.

If you do go with the strip center, any tenant will likely want you to build to suit, or offer some tenant improvement allowance, which is why I always suggest you don't completely finish the space. Some tenants have prototypes that they need to match, so they need to run wiring or plumbing or have shelving in certain areas, certain flooring or ceiling, etc. so vanilla box is the farthest I would go, but even interior walls might be smart to keep on hold until you know the size units the tenants you can get will want. For a strip center, though, all of this is a ways down the line.

As far as mom and pop tenants, I would be shocked if anyone is signing now and waiting 2 years to take a space, so I wouldn’t depend on that. And even when they do commit to a lease, their guaranties are worth far less than any national tenant and especially being next to a center with big names like Verizon and Dunkin, if you want prestige for your center, you want in some big names, too. You're also far more secure with those types of tenants that have proven track records, do studies to ensure the site is conducive to their business, and you often have a corporate or a franchisor backing up the lease.

Also, a lot of the large retail tenants love when competitors are nearby. So, even with a Dunkin next door, a coffee tenant could still be interested, don't let that deter you. Same with Verizon, a TMobile or AT&T might actually find the proximity appealing. With an apartment building next door, you have another attraction for tenants.

Unfortunately, a lot of this is really just a rolling of the dice. You can get an idea of what types of tenants you can possibly get, but getting firm commitments right now will be tough, if possible at all.

My best advice at this point is to try to speak to the town in advance of spending any money and feel them out as far as what they would allow and even encourage as far as development in that area. Another thought is to check online and see if you can find footprints and/or spec requirements for some different types of tenants, like a bank, fast food, etc. and see if you could work within those numbers to get a better idea of what might work there.

[Joel Owens]

A lot of it is area dependent by state.

A friend of mine has about 25 centers he developed and has been doing it a very long time. He did some in Colorado and entitlements took forever so was years and years on the projects to eventually build and sell off.

He does most of his stuff in Texas where he lives and can go a lot faster. He can build and lease up a small center in 1 to 2 years but is very efficient at what he does.

I live in GA so you can go from raw land to finished project on STNL in about 6 months time. MTNL takes longer.

I would imagine in New Jersey it is longer because of the weather with construction delays etc. In GA you do not have that as often.

What I meant by tenants taking longer is when you contact national tenants they have expansion plans. If your site is not on their plans or the area it takes longer to consider. Some only use tenant rep brokers for the site scrubbing process. The tenant will do preliminary on the site and then a committee might come down for a tour to look at further. This process can be many months versus I have a tenant now for STNL where he is renting month to month down the street and his business is busting at the seams. He needs a larger building and is ready to do the lease today to build him a new restaurant.

The other national tenants are looking the site over but will take awhile to make a decision yes or no. It's much more red tape with the bigger companies to weed through.

As for land requirements recently Mcdonald's and other restaurants have been automating restaurants with touch screens etc. and they have been wanting to reduce physical space in the stores. I have been hearing this from Dunkin Donuts as well. The reason is their research points to most of the sales happening through drive thru. They can still generate sales with less rent space per sq ft.

On the flip side as a developer the tenant wants a smaller building but a larger parking lot. The problem as a developer is if I get a small building for rent and a larger parking lot then it is eating up developable land versus the rent I get because they are paying on the size of the interior building space including exterior patio but not parking spaces.

I have seen 4,000 sq ft building on .5 acre and then 1 plus acres.

So it is a dance between the return you get and how long it takes to get there. I like building STNL versus MTNL because of the forward commitment to a lease by a tenant. Banks also want to finance STNL development. MTNL they shy away unless so much pre-leasing has occurred  unless you already have a very long track record then they might not require it.  

So what I am saying is I would rather have 2 or 3 projects going building  a Racetrac gas station and then a Mcdonald's or Starbucks somewhere then a small retail strip center building and waiting for the lease commitments from the tenants. The years it takes to do that I could already do these single one off projects and be much further ahead in return.

The larger projects tend to take longer and have more downside risk if the economy changes. If a strip center gets to 50% occupancy that is new and then stalls with a down turn I am stuck treading water versus if a Starbucks I have cap rate to cost of 10 and market changes I can simply hold for years until the economy comes back again to sell.

I saw a developer one time build a Publix shopping center in 2005. By the time it was half way leased up in 2007 the downturn happened. He treaded water for 7 years before economy came back so he could lease up the rest and start developing again. Those projects if everything goes right takes about 4  to 5 years or more.           

[Joel Owens]

I would also like to say I have been around the land assemblage with developers for awhile and also heavily on the transaction side with clients.

The area I am getting into more and learning is as a developer myself with projects now.  

[Ash Patel]

Thanks for the education @Joel Owens. A lot of CRE investors want to become developers but rarely do they get the tough love you just dropped!

[Jimmy Klein]

@Joel Owens

What are you seeing for yield on construction cost for STNL? I am curious how much profit exists for the developers. For example, a NNN Starbucks I have seen usually go for around a 4.5-5.5% cap. Mcdonalds are usually much lower around 3%-4%. Are there good margins for the developers?

[Joel Owens]

Jimmy it is area dependent. For STNL about 120 a foot for parking lot and road improvements with exterior and interior walls etc.

Starbucks generally wants about 40 a foot interior TI credit.

A developer usually wants to build for a 10 cap rate to cost and sell for a 5 cap with a Starbucks.

So a 2,500 sq ft store might be 300,000 for exterior,walls,parking lot. Another 40 TI = 100,000 interior.

400,000 in. Then you have legal, engineering, other site work, loan or partner carrying costs, etc. so maybe 250,000.

650,000 in plus cost of the land might be 600,000 so 1,250,000.

Sell for a 5 cap at 2,000,000

2,000,000 X .05 = 100,000 commission and another 20,000 legal to sell.

1,870,000 - 1,250,000 = 620,000 gross developer profit.

This is just a loose example. Key is how much the land will cost for the best locations and also how much site work and land grading will cost. You have to find the land before the tenants do. Sometimes sellers will sell directly to the national tenants and they have a preferred developer build for them. They put back on the market once finished and sell to get all the money. CVS is know to try this sometimes.

The preferred developer on the build out is just getting a development fee of say 100k to 150k to construct it. That kind of return is not worth my time for the hassle. With that spread I would just buy land and then resell it for that fee. If I develop I want a certain return for committing to 6 months to 1 year of time with a project.

You have to get the right location at the  right land price. If you pay too much for the land in wrong location and only certain tenants want the site for lower rents then your return goes way down. If you overpay for the right location with land then it is hard to get the tenants to pay those rent levels to make the project pencil.   

[Shital Thakkar]

Hi @Joel Owens  & @Jessica Zolotorofe

Thank you for sharing great info about development in this thread...

• I was talking with few bank and they are looking for pre-leasing before loan approval. Is this common practice?
• How can we get Pre-leasing before construction?
• How to contact Natioanl tenant for leasing property or to find out what area they are interested in?
• Single tenant / Multi tenant, what is better model for retail development?
• as it takes around 1-2 years for development, you recommend still it is good time? based on RE cycle...

Thanks

[Joel Owens]

The best dirt parcels at still in demand no matter the cycle. When cycles slow down the B and C type locations is where tenants can pull back one expansion plans. In down turns businesses get more conservative and open less locations and put resources into pumping more sales at existing stores, streamlining processes, and doing some re-imaging.

If you are a new developer then yes on retail strip centers lender want to see some pre-leasing percentages ahead of time to show demand before construction happens.

Experienced developers with deeper pockets and more experience with a track record some lenders will waive it.

[Michael Fanoni]

What is a general requirement for pre-leasing? I'm about wrapped up with engineering/design and it's time to get the bank involved and I have the same situation. Need a loan for round $500k construction cost and $70k on the land (got most of it paid for in cash). 

One bank said 50% has to have leases in place, but does that mean under a signed contract or more like a LOI? What's industry standard?

[Kumar Y.]

@Joel Owens thanks for all the insight.

How can we get pre leasing with national tenants? Are there specific big brokers that have that kind of influence to get national tenants.? If I am doing my first retail construction, is getting national tenants impossible?

[Joel Owens]

National tenants take more legwork.

Unless your location is superior they try to exert more leverage then local tenants to pick your spot to lease from.

If your site is a maybe site instead of a definite for them then usually try to extract more concessions out of you.

LOI is not concrete. You want a lease execution with non-refundable down. That's multiple tenants for a strip center.

Single tenant you want the forward commitment for the lease.

A lot depends on how much you pay for the land. If you pay XX based on a Walgreens going in  and it doesn't happen then you might not get the value out of the land you thought with a lesser quality tenant.  

[Girish Patel]

Hi! I would be interested to know more about the land. You tell me what would you like to do with land. May be I can help. And if we can meet at the land location.

[Bradley S Long]

We have 1.4 acres of land in the Concord NC area and are considering pursuing a 10 unit retail space. Land is free and clear. Our next step is to speak with a developer and start inquiry. If we are to build 10 units of 1500 sq ft and perhaps 2 on the ends as drive thrus that would attract the national brands, how would we be able to understand what the approximate cost would be to build this out including parking? Land value approximately 300-350k. Would we be able to use the land value as a down payment percentage? Thank you.