This article is part 1 of a 3 part series on commercial property and unlisted property funds in Australia, provided by Cromwell Property Group’s Head of Retail Funds Management, Hamish Wehl.

Many Australians see property as a key tool in achieving their financial goals. While residential property has historically been the go-to choice for investors, the commercial property sector should not be overlooked.

Why Property?

Substantial wealth has been built on the back of the increase in value of Australian property over the last 30 years, and many Australians see property as a key tool in achieving their financial goals. 

Commercial property has caught the attention of savvy investors who recognise its potential to provide both income and capital returns. The relatively low volatility of Australian property compared to shares is another strong attraction for investors. But how do you know if a commercial property investment is right for you?

What is Commercial Property?

Most Australians achieve their exposure to property solely through residential property, with a comparatively small number holding commercial property investments. 

If the term ‘commercial property’ conjures up images of dusty old warehouses, think again.

Commercial property is a broad term covering all kinds of property from offices and retail outlets, to industrial sites, doctor’s surgeries, and even car parks.

In Australia, only a small portion of investors have exposure to commercial property, yet it is an asset class that yield-hungry investors cannot afford to overlook. 

As of June 2019, the Australian Commercial Property sector delivered a 12-month return of 8.3% (PCA/IPD Australian All Property Digest (Source: MSCI) as at 30 June 2019). Over five years, the sector has delivered annualised performance of 11.3%, offering investors attractive and stable monthly income, especially in today’s low-rate environment, and outpacing most residential markets.

Unlike residential, commercial property investment is often centred on the basis of yield or income. Yield is the rent-to-value rate for a property, which is often higher for commercial properties than residential. 

Commercial property generally comprises four main categories – retail, office, light industrial and logistics, and specialty.

Retail Property

Retail is a broad sector covering small suburban shopping centres through to large malls, and generally produces the lowest yield. 

Significant capital expenditure may be necessary to maintain a high-quality offering and attract customers. Additionally, retailers tend to be impacted by economic factors, location and tenant mix issues. Globally, shopping patterns and attitudes towards traditional retail are shifting, which can be detrimental to operators who are unwilling to adapt, and therefore impact rental income.

Office Property

From a yield perspective, office property sits between retail and industrial. Within the office sector, yield varies significantly depending on the building’s features. The Property Council of Australia (PCA) grades buildings on a scale of premium-grade, which generally carries a low yield, through to D-grade, which carries a higher yield. 

A premium-grade building, which has greater amenity and sustainability features compared to a D-grade asset, tends to attract more financially secure tenants, hence the lower risk profile and corresponding return for investors. 

It’s important to understand the supply and demand characteristics of the area, location, length of leases, tenants and their changing needs. As an example, government and blue-chip tenants have increased demand for newer, environmentally-sustainable office buildings in recent years.

Industrial Property

Industrial property is usually quick and relatively cheap to construct and located outside major capital cities with limited capital growth potential. For these reasons, industrial property generally provides the highest income yield. The risk of obsolescence when a tenant vacates a purpose-built facility means it’s especially important that detailed due diligence is undertaken. 

Specialist Property

Specialist property includes hospitals, storage centres, pubs, hotels, retirement villages and childcare centres. These types of assets tend to require intensive management by a specialist operational manager. Investors need to have confidence in management and the business model.  As these properties are purpose-built, there is significant risk if the existing tenant vacates the premises. 

Continue reading part 2 on investing in commercial property here.

Hamish Wehl – Guest Contributor

Hamish is responsible for overseeing Cromwell’s retail funds management business, which includes all of Cromwell’s syndicates and funds. Hamish has over 15 years’ experience as a property and financial services professional in both Australia and the United Kingdom. He is a chartered accountant, holds bachelor degrees in Business Management and Commerce, as well as a Master of Philosophy in Real Estate Finance from Cambridge University.

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