Buy or rent: a simple question with some intricate answers
Owen Holland, general manager for property investments at Business Partners, has a simple rule of thumb when it comes to the question of whether to buy or rent your business premises: when you are planning to stay there for more than five and especially ten years, rather buy.
But, says Holland, be careful of the simplicity of the property industry. It draws you in because it looks so uncomplicated, but one small mistake or oversight can have material cost implications. The five-year rule is merely a starting point of what should be a process of careful consideration.
Generally, in the current economic environment, renting premises for more than five years will probably work out to be more expensive than buying it and paying it off. A straightforward financial calculation done with the help of any good accountant can establish this basic financial advantage of buying over renting.
And once the business owns its own premises, a host of other advantages kick in. The business has an asset against which it can borrow money in future. The building can form a tangible nest egg even when the business itself does not have much life beyond the retirement of their owner. The business is no longer beholden to a landlord, which means alterations and extensions to the property can be made without having to get permission first. More importantly, there is no annual rental escalation or the sword of non-renewal of the lease hanging over the business owner’s head.
The advantage of this security of tenure is especially acute for businesses that find it difficult to move, namely manufacturers with heavy machinery for whom the cost of a move can run into hundreds and thousands of rands. Retailers who trade from convenient, high-traffic premises are in a similar conundrum. After a few years, much of their goodwill is tied to the fact that their clients know them to be situated in a particular, convenient spot. If the shop moves, its turnover can fall precipitously.
Holland says landlords can capitalise on the hold they have over such tenants, and may try to ratchet up the rent to way above market rates. In many cases when a tenant in such a situation finally breaks and moves out, the landlord replaces him with a new business at the prevailing market rentals which would be less than those paid by the outgoing business, simply because the market rates are much lower and he does not have the same hold over the incoming tenant yet. As unfair as this may seem, it is a reality of the rental market and is the result of certain property owners maximising the return on their assets, says Holland.
Few choices in business are straight-forward, and the question of buying versus renting is complicated by a set of disadvantages of ownership that can be considerable. As much as owning a property can set you free from landlords, it can tie you down when you need to move. You may find it hard to sell the building first, or rent it out if you want to keep it. If you are going to outgrow your premises, especially within the next five years, the argument for renting becomes stronger than the one for buying.
Ownership can also put you at the mercy of interest-rate escalation if you finance the purchase with a variable-interest bond. The risk has to be weighed up against rental escalations that are at least predictable if you have a favourable lease. If your cash flow can afford it then the benefits of ownership usually outweigh the rental option.
Financing a building usually requires a deposit that can put a serious strain on the cash reserves of a business, and even in cases where the cash may not be all that vital to the survival of the business, the owner has to consider carefully whether the money for the deposit could not be used more productively in the business.
Business Partners has developed a finance package designed specifically to take the cash-flow sting out of buying a business premises. Unique among business financiers, it provides 100% finance – no deposit required, which opens up the option of buying for many businesses that do not have enough cash to put down a deposit.
By far the biggest disadvantage of buying a property, however, is the risk that something may be wrong with it: the building may have a latent defect, it may have been built without approval, access to and from the property might be problematic, the degradation of the area may diminish the value of the building, the very soil of the site may be unsuitable for the building you have in mind.
One small oversight can cost a business a lot of money to fix, if it can be fixed at all – this is why it is the biggest disadvantage of ownership, says Holland. Fortunately, the risk can be minimised through a thorough due diligence process that every business owner must apply to any property they want to buy, ranging from making sure of the zoning to checking up on the quality of the building to even commissioning a geo-tech report on the ground to find out if it can carry the structure you want to build.
As part of its financing process Business Partners completes an intensive due diligence on the property to mitigate the above mentioned risks. This due diligence covers many aspects from scrutiny of the legal documents to a range of technical checks on the building and the site. The added value from this property risk assessment in addition to the 100% finance considered is a major advantage of considering Business Partners as the financier of your property investment.