Qualifying tenants - part 2
You are familiar with qualifying tenants and administering leases if you own investment real estate. Whether your rental property is a house or a big box STNL (single-tenant net leased) property occupied by an Office Depot or Whole Foods you have qualified a tenant and executed a lease.
In part 1 of our focus of discussion was for a residential tenant, which is usually an individual or several individuals. Qualifying a tenant of this type is a simple process where you have the applicant complete an application, and as the landlord, you obtain credit, eviction, and criminal reports as well as contact their employer, past landlords and references.
The process is not foolproof and speaking from experience you can occasionally make a mistake. Even if an applicant meets your guidelines, you never know what may happen down the road or if intentions are all but noble.
The “smart” cannabis grower
Years ago when I had rental houses (now I only have commercial investments), I leased to a husband and wife that met all my guidelines. Jump forward a year; my tenants soon learned that I performed annual inspections upon renewal of their lease. Shortly after my inspection, the tenants decided to venture into the agricultural business growing cannabis inside the house.
Unfortunately, they were good at hiding this, and when I did discover their business, it was too late. The electrical system of the house was in shambles as well as the flooring among other issues. My recommendation to you if you own residential rental property is to perform inspections more than once per year.
And then there’s Orchard Supply Hardware
With commercial real estate, you either have rated or non-rated companies as tenants. A rated company is one usually listed on a stock exchange and is easy to qualify because all the information is readily available and you have companies like Moody’s already providing you ratings generally for a fee.
It can get complicated when you consider subsidiaries and parent companies, but overall a landlord can be reasonably secure when dealing with “national credit tenants,” which is what we often call these corporate tenants.
However, consider Orchard Supply Hardware (OSH), a subsidiary of Lowe’s recently shut down by its new CEO after a month on the job. Reasons for the shut down were for sluggish sales and the need for Lowe’s to focus on its core home improvement business. What happens to the store leases is unknown at this time, but Lowe’s could be on the hook for a period to continue paying the rent.
When Lowe’s purchased OSH in 2013 from bankruptcy, all the leases may have been updated, and provisions could have been included allowing Lowe’s to terminate a lease under certain circumstances.
The non-rated company is not all that bad
A non-rated company could be a sole proprietor, limited liability company or a corporation; the difference is they are private companies. Therefore, information on them is not public knowledge.
A landlord will need to thoroughly vet a tenant during their due diligence by obtaining a lease application along with several year’s financial records, payment track record, and rental history. It would also be prudent to examine their service or product thoroughly and the industry as a whole to determine if it is growing and thriving or has the potential for imploding.
Finally, there are the more subjective aspects of tenant qualifications we look at, which is their business acumen, attitude, determination and willingness to work with you.
Just because a company is rated or non-rated should not be looked at negatively. We could argue the many attributes both negative and positive for each, but it comes down to who as the landlord you feel best fits your strategy for your investment property.
Burt M. Polson, CCIM, is an active commercial real estate broker. Reach him at 707-254-8000, or firstname.lastname@example.org. Sign up for his email newsletter at BurtPolson.com.