Answers - Real Estate

In most if not all commercial property listings, you always see their cap rates listed. Investors often use cap rate as one of the main selection criteria for a property as it indicates the investment return. However, the cap rate alone does not tell you the whole story about investment return.

Let’s look at 2 properties: property #1

According to USFDA, a combination product is one composed of any combination of a drug and device; biological product and device; drug and biological product

has 8% cap and property #2 with 7.25% cap:

The first property is purchased for $3M. The lender provides a $2.1M loan (70% LTV) at 7.25% interest.
The second property is also purchased for $3M. The lender provides a $2.1 loan (70% LTV) at 6.25% interest

.......................................Property #1 (

; or drug, device, and biological product and fixed dose combination would include two or more combinations of drug.

Examples of combination products may in

$3M, 8% cap)......Property #2 ($3M, 7.25% cap)
Net Operating Income .......$240,000................................$217,500
Loan amount.....................$2,100,000..............................$2,100,000
Down payment..................$900,000.................................$900,000
Loan interest.................

lude drug-coated devices, drugs packaged with delivery devices in medical kits, and drugs and devices packaged separately but intended to be used together.

....7.25%.....................................6.25%
Annual Interest payment...$152,250.................................$131,250
Income before tax............$87,750...................................$86,250
Investment equity return...9.75%......................................9.58%
Appreciation rate...............1%

here is enormous increase in the number of combination products entering the market in the recent years. Combination products have proven advantages but fixe

er year............................3% per year
Appreciation value.............$30,000...................................$90,000
Total return.......................13.08%...................................19.58%

While property #1 offers higher cap rate than property #2, the return of equity for property #2 is almost

d dose combinations are still in the process of convincing regulatory authority on their advantages over the single ingredient formulations.

Combination pro

the same as property #1. This is due lower interest rate of 6.25%. Why does property #2 get lower interest rate? There are many factors that determine the interest rate:

Loan amount: In residential mortgage if you borrow less money, i.e. a conforming loan, your interest rate will be the lowest. When you borrow mo

ucts have become life saving products for the pharmaceutical companies who doesn’t have many innovative molecules in their product pipeline and have been inc

re money, i.e. a jumbo or super jumbo loan, your rate will be higher. In commercial mortgage, the reverse is true! If you borrow $200K loan your rate could be 9%. But if you borrow $3M, your rate could be only 5.9%! In a sense, it’s like getting lower price when you buy an item in large volume at Costco.

Property type:

easingly used in the product life cycle management. Even the companies having product patents are trying to extend their product life cycle through the combi

the interest rate for a single tenant night club building will be higher than multi-tenant retail strip because the risk is higher. When the night club building is foreclosed, it’s much harder to sell or rent it compared to the multi-tenant retail strip. The rate for apartment is lower than shopping strip. To the lender, everyone ne

nation products and maximize the revenues. But the companies involved in this practice are overlooking that they are burdening the patients both economically

ds a roof over their head no matter what so the rate is lower for apartment.

Age of the property: loan for newer property will have lower rate than dilapidated one. To the lender the risk factor for older properties is higher so the rate is higher.

Area: if the property is located in a growing area like Atla

and physically. They need to rightly judge the benefits of the combination products and they have to even look at the risks involved when combining the produ

nta metro the rate would be lower than a similar property located in the rural declining area of Arkansas. This is another reason you should study demographic data of the area before you invest in the property.

Tenant: single-tenant property with a brand name/national tenant, e.g. Walgreens will get a lower interest than

ts. Some of the combination products were well accepted by physicians while others suffered. Companies involved in development of combination products are fi

local tenant.

Location: the retail center next to Walmart will probably get a lower rate than a retail center shadow anchored by a local furniture store.

Your credit history: similarly to residential loan, if you have good credit history, your rate is lower.

The lenders you apply the loan with.

ding difficulty in defining their combination products and facing various challenges from selecting a combination to marketing it.

Following aspects would a

Each lender has its own rates. There could be significant difference, e.g. over 1%, in the interest rate for the same property. If you apply for a commercial loan yourself, chances are you will pay a higher rate because you apply for the loan at the “wrong” lender. Commercial loans are very different from residential loans. So you

dd to the challenges in developing combination products:

Which markets to tap where the combination products can do fairly well?
Which combination prod

hould work with someone specialized on commercial loans to shop for the lowest rates.

Prepayment flexibility: If you want to have the flexibility to prepay the loan then you will have to pay higher rate. If you agree to keep the loan for the term of the loan, e.g. conduit loan, then the rate could be 1% lower.

cts are meaningful and rational?
Which therapeutic categories to select?
Which Combinations can address unmet needs of the patients?
Do combin

oil Contamination Risks: Loan for a shopping center with a gas station will probably has higher interest rate as the gas station has a high risk of oil leak which could contaminate the soil.

Commercial properties also appreciate at different rates. When appreciation is factored into the return, even at a conservat

tions increase the patient compliance?
What would be the developing cost?
How to tackle the risks encountered during combination product developmen

ive 3% rate, property #2 has almost 50% higher return than property #1, 19.58% vs. 13.08%. The following are some of the factors that may influence the appreciation of a property:

Demographics: in a growing area where more people are moving in than moving out then the appreciation is likely to be high. The more aff

t?

As combination products don't fit into the traditional categories of drugs, medical devices, or biological products, the USFDA is in the process of devel

luent area is likely to have higher appreciation than a low-income area.

Age: 40 year-old property is likely to appreciate slower than 3 year old center.

Rent: if the current rent is $1.25/SF while the market rent is $2/SF, the property has upside potential when the lease is renewed. If the property has strong

ping new procedures for reviewing their safety, efficacy and quality.

Professional from academic institutions, pharmaceutical industries, health care indust

nnual rent increase, e.g. 3-4%, the net income will be higher next year. Higher income will result to higher property value.

Location: a property at a good location, e.g. just off freeway exit, is likely to get a better appreciation.

Demand and supply: in a market where there are more buyers than sellers the ap

y and representatives from various regulatory agencies are working out to design the regulatory requirements for manufacture and sale of combination products

preciation should be higher.

Inflation: construction materials cost more every year due to inflation and strong demand in developing countries. For example cement, lumber, steel and copper cost more now due to strong demand from China. Labor costs also increase due to inflation. Fees for various construction permits also

.

As there is an increasing trend of the combination products companies manufacturing such products should be able to tackle the problems involved in the de

increase for various economic and political reasons. As a result, construction expenses go up.
So it’s important to work with a experienced broker who does business in various states and can provide you a big picture of the market.

Conclusion: You should evaluate the return of investment based on:

elopment. They need to be wiser in analyzing the market trends and the regulatory requirements.

Companies that provide selfless information through particip

Cap rate the property offers,

Interest rate that you will pay, and

Potential appreciation the property generates.

It’s not a bad idea to have a broker with knowledge & experience about both commercial real estate and loan to represent you. Otherwise, you may end up screen out the very best properties

tion in industry events and feedback to regulatory authorities would be able to face the challenges and will be successful in developing combination products

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