LearnGetting loans and thinking about buying an office

Ryan
writes on May 8, 2007

We just hired our fourth employee! (Six total, counting Gill and I). Her name is Jo and she’ll be starting next Monday.

It’s so exciting to be growing, but our office is really starting to creak at the seams. We’re just getting too big for the space and when we add a web designer, we’ll have to move.

Right now we spend £500+VAT (17.5%) for rent, which is a fricken bargain. However, we’re technically throwing our money away on rent, instead of investing in property.

We’ve found an amazing office right in the middle of Bath and we’re going to meet with our accountant on Thursday to discuss our options.

You can only get a commerical mortgage for up to 80% of the value of the property (unless your willing to get hammered with a really high interest rate), so we’ve got to come up with a way to secure the 20% deposit. It’s just beyond the cash we can afford, so we’ve got to get creative.

There’s all sorts of clever ways to buy property. I think Gill and I might actually form a Partnership and have it buy the property. Then we’ll rent it to the company which will make selling the property much tax efficient.

However, I could be wrong – after our meeting with Nick (our accountant), we’ll know more!

If anyone has experience buying an office, please feel free to share your experiences. Tips are welcome!

0 Responses to “Getting loans and thinking about buying an office”

  1. Instead of owning the property, you could lease more space than you presently need (3x or 4x), and then “sub lease” the space. It would let you get your feet wet with property management without actually owning a mortgage (and a leaky roof, leaky old pipes, asbestos, etc).

    If you buy more footage than you need, you might be able to negotiate a lower price per sq ft — then turn around and try to sublease it for a profit. If you’re sucessful, take over more space in the building.

    the trick, as always, is to get in on favorable terms.

  2. Really interesting post and some insightful comments. We have 500 sq ft of office space in the City (London) and your £500 pcm is a bargain in comparison to what we pay. However, our location is part of the business model and our lifestyles so I don’t resent paying rent and high rent at that.

    I agree with John’s comment about your misperception of ‘throwing money away on rent’. As a growth company renting gives us flexibility, saves me from the 101 hassles that come with building management and is just another row in the overheads spreadsheet like everything else.

    I think John’s comment about obsession with property in Britain as true. Napoleon called us “une nation de boutiquiers” (a nation of shopkeepers) and over 200 years on, his quote still holds true to some extent when it comes to attitudes to property.

    I also couldn’t let this slip, a four day week and you run your own ‘growing business’? Hmm.

  3. DDias on May 12, 2007 at 2:22 pm said:

    I’m with Aaron. We’ve been in business 11 years and although we have the resources to buy business premises outright, we’ve never considered it a sensible use of capital. £500 pcm rent for 5 people is cheap – you should be thankful you don’t have the overheads of London based businesses!

    Managed offices are generally expensive compared to leasing in my experience.

    I have a few rental properties in the north of England, and it’s becoming such a distraction and headache for me that I’m looking to sell up in the next few months. Running a high growth web business + raising a young family (I’m guessing this is on your agenda at some point) + running property business = does not compute.

  4. Damon on May 11, 2007 at 2:47 pm said:

    One more thing – You better be getting a LOT more than 4-5% on your money in real estate. Levered, we look for 12-25%, depending on the risk in the deal.

    By comparison, 3 month US treasuries are making 4.7% now – risk free and almost perfectly liquid.

  5. Er.. £500+VAT over what time period?

  6. Damon on May 11, 2007 at 1:25 pm said:

    Buying would almost certainly be a big mistake. Are you ready to start another business? That’s what you’d be doing. Owning/managing a property is not as simple as collecting checks and calling contractors. Real estate is not a passive investment. And if you think you’re throwing money away on rent, wait til you see what happens to your investors’ money in a market downturn when you can’t cover your interest because you levered yourself to your eyebrows. Another thing – if the UK market is anything like the US market, be prepared to wait months or years to find a property priced appropriately. And when you want to sell, you’ll find it harder because you have no real rent to show them (only what you are paying yourself, which is bogus). I could go on, but you get the point. Do not understimate the expertise and experience needed to find, purchase, operate, and sell commercial real estate. It is a full time job.

  7. Buying a property is an investiment. So you should consider it like so. There is a easy little formula called “Net Present Value”, “NPV” (you could find it also in Oo spreadsheet), that could help you. I try to expain it in a easy way:

    You should consider:
    – initial investment
    – cash flow
    – cost of opportunity
    – years for break-even

    Cost of opportunity is the value of how much you are good to make money. In your case is the Return on Equity of Carson Systems. Ex: If you invest 10k every year on CS, is the percentage of how much you gain(5%, 15%, 40%, etc..).

    You should calculate Cash Flow like this:
    Income (if you rent half office) “less” month rate(new loan rate “less” old rent rate).
    Easy Example: Possible Income: £600; Old rent rate £500; New loan rate £700. I’ve not considered VAT for simplicity.
    Cash Flow = 600 – (700-500) = 400

    You have to decide also in how many years you want to end your investment.

    The formula is in this link.
    http://upload.wikimedia.org/math/3/8/2/3824d93f9d472d3ba000c290ddaa5bf3.png

    If your NPV is positive, buy your office. I Hope to have explained it simple and sorry for my english.

    http://en.wikipedia.org/wiki/Net_present_value

  8. andrew on May 10, 2007 at 11:03 pm said:

    Buying a property makes no sense & neither does a 4 day work week, unless as you say “it’s a quality of life” mindset rather than a “grow our business, get rich and retire” mindset. Neither mindset is right nor wrong.

  9. I think you have sold this to your self, and try as you can, you are well into cognitive assonance mode. However it does seem to me that you may have succombed to the British disease, which is a cancer in their economic system, of thinking that property is a one-way bet on future prosperity. You think you are “throwing” your money away on rent – what about money you throw away on webhosting? on staff? on X, Y, Z? By all means get a good or better deal on the office, but don’t get seduced by the British obsession with the paper profit of rising house prices (and office space). Good luck.

  10. I’ll give ya’ll an update after I talk to Nick. (Can’t believe I said “ya’ll”. You’re going to think I’m from Alabama or something!) 😀

  11. Ryan -would be keen to know what your accountant suggests. I’ve been renting a small office unit for 4 1/2 years now and have thought about doing similar. I was thinking it might be a good *long term* investment (considering my lack of pension) to buy some space and rent out part of it.

  12. … and if you get an office you can post lots more pics. And update the blog more often. 😛

    Ok I’m sold. Buy that building!

  13. Hey Ryan,

    I think a strong case can be made that it’s not a good *business* decision given the probable distraction and opportunity cost of capital BUT I don’t think it’s about that.

    You and Gillian *want* to own a building. It’s an emotional thing and once it crosses over into that realm, sometimes you gotta play your own hand and ignore the rest of us on the sidelines.

    Despite how much we all want to think of ourselves as purely rational beings, much of business is about playing out our dreams writ large in the sky, as big as we can make ’em.

    If this is part of your dream go for it mate. 🙂

  14. How do CSâ€s growth projections and fit with buying premises? Does buying mean you will struggle more with investment in CS?

    I always use a pessimistic outlook on our cashflow. Thankfully, even with this model, we can easily afford the office and continue to reinvest back into CS

    @Brendan, Steve, Aaron and Bill
    As I mentioned above, we can afford the office and continue to reinvest back into the business. In fact, we just hired another employee and will be hiring a designer as soon as we can find one.

    This isn’t just a financial decision. It’s also about quality of life. By owning our own beautiful office, it’ll be that much nicer to work at CS (in addition to our 4-day workweek :D)

    However, after I chat to our accountant tomorrow, I might have a different perspective. We’ll see …

  15. I’m with Aaron and Brendan on this. I think it will be a distraction and a couple of years from now will be an unwanted constraint.

    Good to see some new posts from you and thanks for sharing your CEO thoughts – obviously generating some good discussion.

  16. I don’t know the ins and outs but the SIPP option is worth looking into, one of my customers does this; they have several businesses, so the building is under one company which they rent out to one of the other businesses.

    On another note the same customer rents me an office for basically next to nothing, under a £1K a year, they benefit because I’m on site to do web work for them I benefit because I get a great office and get to share their facilities! Lucky me.

  17. By the way, I forgot to add that your blog is brilliant, and I really enjoy this new direction you’re taking it in. Thanks for being so open about your business decisions. It’ll help so many people who want to build a business.

  18. I’m with Aaron and Brendan. You could use the cash you have, or available debt finance, much more effectively to grow your business.

    Landlords typically get yields of about 4 to 5% annually on their properties – could you beat that return in other businesses you run?

    I think it says a lot that HSBC, one of the biggest mortgage lenders, has decided to sell their HQ at Canary Wharf, and rent it back on a long term lease. They figured that owning property wasn’t their core business, and that the returns weren’t good enough.

  19. I agree with Aaron, if you can’t deploy your business capital in your company with a better return than commercial property capital growth rates then why not shut down the web business and be a landlord instead.

    Cash is king in any business really and sinking a lump of it into an asset like property is what mature non growth businesses do or landlords, not high growth Internet ones 🙂

    The only reason it makes sense is if you think the mortgage interest payments and the yield you would be getting on the deposit you have just sunk into the office, combined together, would equal more than the rent you would pay for the same office.

    I know you can turn £40k cash into more than £44k cash in a year in the web business if you invest it properly. And 10% capital growth on your new office is about the best you could expect on a commercial property. But what if property starts dipping? Turning 20k cash into 36k or even 32k in a year and locking yourself in to an asset class that is probably at its peak is not too smart. After all how well do you know the commercial property market? I would bet not as well as you know the web market.

    We looked at this recently and went for a 6 year lease on our office instead. We made sure the lease was inside the Landlord and Tenant act rather than excluded from it which most landlords prefer and specify.

    If you do this you can get a similar security of tenure to Freehold because you establish the right to renew the lease under the act at the end of the agreed term. This is normally subject to rent reviews every few years. The right to renew is exercisable in all but the most exceptional of circumstances and the net result is you have the option to leave after x years or to stay if that is what suits your business.

    It also gave us a feeling of ownership and meant we felt we could invest in the building a bit even though we are still technically “renting”

  20. sheesh, £500 + VAT is a bargain. We pay much more than that, though the space is lovely.

    I was thinking about this the other day. My thought was to buy a house in the centre of Reading and run the business from that. There are a lot of victorian terraces here which, with a little modification, would be usable. Plus the rent money we pay now would go towards the property. There would need to be a change of use I guess, though I may need to check that out. The only problem is finding the initial large deposit!

  21. Ryan, I’m really interested in your thought processes on this one. We’ve considered buying office space but felt that the market was changing too much and that capital gains tax was too considerable to make the enterprise as worthwhile as it first seemed.
    I think buying would certainly mean you are a lot less flexible as a business, but as you say, renting is just throwing money away for no reason.
    How do CS’s growth projections and fit with buying premises? Does buying mean you will struggle more with investment in CS?

    Glad to see you’re writing again, I find your blogs really ineteresting, you often pic topics which are close to my own thoughts, so I’m always keen to read what you and others have to say. Don’t worry about the negative crap people say, there will always be people like that where ever you go and what ever you do. I say it’s their problem don’t make it yours. You seem like you’re a good businessman, running a good business by trying to do the right thing. I think sharing your experiences is a really positive gesture and I personally have learnt a lot from the stuff you post. By the way, do you have the results of the “how much money should you have in the bank” survey, yet?

  22. Aaron,

    You’re missing the fact that Ryan is already in like 5 businesses!

  23. @Mark
    Thanks for the heads up. My business mentor actually mentioned this yesterday and we’ll definitely check it out. Thanks!

    @Aaron
    Thanks for the honesty. It’s always welcome. We’re actually going to purchase (hopefully!) an office that’s twice as big as we need. We anticipate Carson Systems growing to around 20 people. Initially, we’ll rent the other half, which will cover the mortgage nicely. Then we can expand as needed. Perfect!

  24. Ryan, buying as a Partnership is a good idea, although buying as individuals might also be an option as you can put a commercial property into a SIPP (Self Investment Personal Pension Plan) – I’m not sure, you might be able to do this as a Partnership also.

    SIPPS are flexible enough to take advantage of all sorts of investment opportunities, including commercial property (but not residential). Just another option you may want to discuss with your accountant.

  25. Exciting as it would be, I think it’s a big mistake for a few reasons. I’ll break it down into premises leading to that conclusion, and hopefully one of them will be wrong. 😛

    Premise 1. You’re going to continue growing. And as you grow, even if you’re growth rate stays the same (let’s say doubling every year or 1.5 years) the absolute number of employees starts going up very fast.

    ==> Conclusion: Therefore you’ll soon enough outgrow this space and have to move.

    If that’s true, you get into a situation where you’re now a landlord to someone else, and that means…

    You’re in two businesses. One of them high-profit, high-potential, fast-moving, what-you-want-to-be-doing, what-you’re-already-an-expert-at… etc. You see where I’m going.

    Being a landlord means now you have to be a landlord, or have an empty building, and once you’ve moved out of the building you own, you’re now managing TWO relationships/situations.

    a) the new place that you’re renting.
    b) the old place, where you’re seeking tenants, worrying about insurance, fixing things, etc.

    You already have a business. Stay focussed.

    Sorry to be a downer. 🙂

  26. Forming a legal business structure to purchase property with the intent to rent to another business is fairly common here in the States.

    An added benefit (beyond the tax implications) is that in the (unfortunate) event of a lawsuit, the property is separate from your business assets. Of course, I have no idea what the ramifications are in the UK. But I know this happens here a lot.

  27. Just make sure it’s not the same Nick the accountant from Black Books, he’s a fugitive apparently.

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