From a small northwestern observatory…

Last week, I talked about one value-added proposition for real estate investing — looking for 1 + 1 = 3 opportunities. Today, I want to take that theme another step with the idea of looking for Class “C” properties in Class “A” locations. First, though, a little terminology may be in order. There are no hard and fast definitions for Class “A”, “B”, and “C” properties. One can generally think of a Class A property as the top of the heap (perhaps even including Trophy Properties). Considering an office building, these will usually be very large, have top-tier security and decorated lobbies, more than sufficient elevators, and attract the top-tier tenants. Class A properties will almost always be large, and located on major arterials in the central business district (“CBD”) There are of course exceptions, but this is the norm in major cities. Corner locations (or even full city blocks) are preferred. Class B properties in the CBD will be located near Class A, but will not feature the same caliber of amenities. Lobbies will be smaller, and the building services will be somewhat reduced. These buildings will usually (but not always) be located on interior lots on main arterials, but not on corners or full city blocks in the CBD. Of course, in secondary neighborhoods, where there are no Class A buildings, the Class B building may occupy what would be a Class A spot if it was downtown.

From a location perspective, the Class C properties are usually located in secondary or tertiary neighborhoods. These are bare-bones properties, often smaller, plainly built and decorated, and with very few amenities. However, there are important exceptions to the rule, and this is what we’re seeking today. Consider a small, plain building located on a side street in the CBD. First, from a purely theoretical perspective, why is it there? Among office buildings, there are often tenants who need close access to Class A tenants but do not want (or need) to pay Class A prices. In the retail sector, there are many businesses that want benefit from the traffic generated by the top-tier retailers on the corner. Of course, in any CBD there will be a need for small lunch counter-type restaurants, bank branches, and the like.

It’s axiomatic that no one wants to invest in a declining market (although there are exceptions!). However, in an improving market, these “C” properties may get overlooked. After all, serious investors want to snatch up the “A” properties and plaster their names on the big signs, right? However, an improving market probably sees an increase in class “A” tenants, and as such an enhanced demand for the sort of spill-over tenants that occupy the C properties. Class C properties are more likely to be owned by individuals (rather than institutions) who may not have the resources to properly maintain them or keep abreast of technology. As such, they can be very likely candidates for the sort of 1 + 1 = 3 strategy I talked about last week.

Consider apartments, for example. Older apartment complexes may look the part, with older appliances, tired landscaping, peeling paint, and worn out carpets. Even the parking lot may look tired and worn. However, these are cheap things to fix. An older apartment complex in a good neighborhood can be a very real investment opportunity, given the resources to fix-up and modernize. Smaller rental units in great neighborhoods — duplexes and single family residences — can also fall into this category.

The lesson last week was to look for tired properties that need some repair or rehab. The lesson this week is to look for those tired properties in great locations. I discussed a lot of this in Real Estate Valuation and Strategy. As I mentioned last week, over the course of the next few blog posts, I’m going to share some ideas that work in the real market, at a variety of value points such that even the most fledgling investor can find some opportunities.

As always, if you have any questions or comments, please reach out! I look forward to hearing from you.

John A. Kilpatrick, Ph.D., MAI — john@greenfieldadvisors.com