FYI: Borrowing Against Rural Property Investments

Some savvy investors have taken to looking a little further afield, looking to acquire sites in rural growth corridors, ideally where they can add value to the existing site.

Some savvy investors have taken to looking a little further afield, looking to acquire sites in rural growth corridors, ideally where they can add value to the existing site.

The commercial property market is in a frenzy. Prices for commercial investments, in almost all asset classes, is surging - and has been for some time. Intuitively, the most expensive and sought-after properties tend to be those in the largest metro markets such as Sydney and Melbourne. But as the demand (and prices) climb skyward, many investors have simply been pushed out of the race.

Emerging Market Demand

This has led to increased demand for what used to be considered ‘emerging markets’ such as Adelaide and Brisvegas. Consequently, current conditions (in almost all metro markets in Australia) are seeing commercial investments such as retail and industrial premises being sold at yields of between 3-4%, with more attractive assets being secured below 3%. A shining example is the recent sale of a Balwyn (Eastern suburbs of Melbourne) Woolworths for an eye-popping $45,700,000 – a yield of around 2.98%. That’s very, very pricey.

This has left investors in a bit of a pickle. Finding affordable sites is becoming increasingly challenging. Some savvy investors have taken to looking a little further afield, looking to acquire sites in rural growth corridors, ideally where they can add value to the existing site. These sites don’t tend to attract as much attention meaning that they can be purchased at affordable levels, leaving some room to add to existing amenities and create quite a valuable holding.

Rural Property

But – before embarking down this road, there are certain pitfalls that need to be discussed. When considering using debt to finance a rural project, be it a simple acquisition or a development project, it is vital to consider how lenders are going to react. Typically, lenders can be very bullish about metro projects because they are familiar with the (usually low) risk profile of these localities. However, when it comes to rural LGAs, they can start to get a little bit squeamish.

If a lender is not familiar with a particular location i.e. they have not funded many projects in the particular location, their default response can be to reject the proposals. Lenders will consider factors such as population size, distance from a hub, connection to basic infrastructure, growth projections, proximity to existing major commercial tenants, among others. Otherwise, it is up to the borrower to convince them of the viability of the project in that particular location.

Tenant Mix

One way to do this successfully is to anchor the project with well known, reputable tenants. These can include tenants with a strong national presence, ASX listed companies and so forth. By securing pre-lease agreements (or standard leases for existing structures) with the likes of Coles, Woolies, Chemist Warehouse, KFC etc the tables can quickly turn in the borrower’s favour. A key reason for this is that these companies undertake an enormous amount of due diligence in identifying growth locations in rural Australia. The lenders can take comfort in the fact that there is a strong underlying basis for one of these legacy organisations wanting to ‘set up shop’ in these zones and figure, if they are willing to take a risk here, so can we. Not to mention that a guaranteed income secured by a contract (lease or otherwise) to a reliable business helps them sleep at night too.

The diversity among lenders means that there will be a variety of reactions to funding rural projects, depending on which lender is approach. Big banks and larger institutions will have a greater tolerance for rural funding than smaller, niche financiers. LVRs are also more speculative as there are more factors to consider such as vacant land vs existing structure, greater variance in size of land, lease terms etc.

If you’re planning on diversifying your portfolio to include some rural holdings, it’s always a good idea to speak to your broker (i.e. your friendly Capstack professional). They (we) will have a sophisticated understanding of the lending landscape and be well placed to advise you on your options, irrespective of the location.

Happy hunting!

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