A simple strategy that focuses on positive cash flow commercial properties has paid dividends for Byron Bay investor James Dawson, whose property portfolio generates a net income of several thousand dollars per week. Sarah Megginson reports
A resident of Byron Bay for over two decades, James Dawson has been semi-retired since his late thirties, and it’s all thanks to his savvy property investments.
More specifically, it’s his skill in securing consistent positive cash flow from commercial property investments that has set him up for a lifetime of freedom.
“When I came up to Byron back in 1991 or ’92, I didn’t need to work because I was living off rental income from my portfolio. I got a bit bored and started investing again because I just love property,” James explains.
“I keep involved in developing on a small scale, like the two apartment developments I’m working on now. I’m also doing some renovating at the moment. My days are relaxed – I might just talk to consultants, work with a few clients or do some research online. I usually have a rest in the afternoon and I like to surf as much as I can. My partner and I also enjoy going to Europe for a few weeks each year.”
He may be living the good life now, but that hasn’t always been the case. When he was in his twenties, James was working long hours, putting in six or seven days a week as a real estate agent. He was on the fast track to partnership and his career was progressing at breakneck speed.
But it came at a cost, as he rarely had a moment of time to himself to enjoy it. The money was great, but “the stress”, he says, “could have killed a horse”.
James’s property epiphany
Back in 1982, as a young real estate agent working in Newcastle
, James was earning a good living. Selling came easily to him, and at the age of just 25 he was offered partnership in a local real estate firm.
“I became one of the youngest partners in over 100 years of the company, and I thought I was set, but I realised I was working harder, getting busier and coming in to work earlier than ever before,” James says.
“One day I came in early and saw one of the old partners, Rob, poring over a leather ledger; this was before computers. He said it contained all the properties he owned, which he was going to retire on. He had about 20 commercial and 20 residential homes.”
James was intrigued. He asked Rob how he decided which properties to buy, and Rob said his number one rule was to only buy property that paid for itself and generated positive cash flow from day one.
“It got me thinking. I was not far into my partnership and I was already flat out, on the way to being burnt out!” James says.
At this stage, he had a few residential properties that were costing him money to keep each month.
“I had a complete change of heart. Within six months I sold my partnership and decided to focus solely on buying cash flow positive properties.”
5 reasons to consider commercial property
It begins with a butcher
1. Less competition
“Ninety per cent of people are investing in residential real estate, so in commercial you are only in competition with 10% of the market, which means you can negotiate big discounts,” James says.
2. Long leases
While a residential tenancy can turn over every six to 12 months, a commercial tenant invests much more in the premises, because it’s their place of business. Therefore they are more likely to stick around for the long term. “Longer leases of three to five years are standard, with regular rental increases ‘locked in’ as part of the lease,” James says.
3. Low vacancies
“It comes down to buying the right property in the right location in the first place. If you buy in the right area, there is a very low risk of them being vacant for long,” James says. “To give you an idea of the success you can have in a busy, bustling area, I’ve had a property that was leased 22 years straight.”
4. High returns
James says he enjoys much higher yields now that he invests in commercial real estate. “Residential returns are about 4% if you’re lucky, whereas with commercial property it’s not uncommon to receive a 7–12% return,” he says.
5. More affordable entry points
“If you’re working with a smaller deposit of around $30,000–$40,000, you’ll often be better off putting that money towards a lower-priced commercial property instead of a residential investment in an outlying area. It can be a much smaller upfront investment than most people imagine.”
It was something of a risky move, considering James was still relatively new to investing. Of course, he’d helped others buy and sell property as a real estate agent, but he’d never bought property himself with the intention of generating cash flow from day one.
“My first property was a little old butcher shop in Newcastle. My mate basically bought this property at auction without even seeing it, and he didn’t have time to do it up, so he wanted to sell it to me for what it cost him,” James says.
With a price tag of $33,000, James was keen to proceed. So he asked his mentor, Rob, for advice. Rob suggested he give the vacant shop a quick clean, then ask the shops on either side what they were paying in rent; he could then ask a similar rent.
“Within five weeks it was rented out. I thought it was great, as it was cash flow positive and the tenant painted it and did all the work himself. I couldn’t believe it – it was so easy!”
Around a month later, James met with his bank manager to get the property refinanced. They sent a valuer down and estimated the property’s value at $100,000. James was “gobsmacked” – he’d achieved a whopping $67,000 increase in about six weeks. He was ready to go again.
Commercial property finance @ 80% LVR
Potts Point disaster
According to James, it’s possible to finance a commercial investment at up to 80% LVR.
“Lending used to be capped at 70%, but it’s now possible – especially if you’re borrowing under $1m – to access up to 80% for good-quality, well-leased properties,” James says.
“Banks can also be much more flexible. Essentially what banks do is look at the person who is borrowing pretty hard when it comes to residential. But in commercial property they look at the lease pretty hard. So even if your income isn’t incredible, they’ll focus on the strength of the tenant and lease instead, meaning sometimes it can be easier to get finance.”
His next investment was a mixed commercial/residential property in Potts Point, Sydney. James was very excited to find the single-building investment, which had a shopfront below and two apartments above it. He planned to do a few minor cosmetic renovations before letting the property.
“I didn’t get a building inspection, so when I took possession I walked in the front door and fell straight through the floor to the dirt below, about a 1m drop,” James says. “It cost me about $10,000 to fix, which was a significant percentage of the purchase price at the time. I certainly learned my lesson from that.”
Like most successful investors, James has a handful regrets to do with decisions he wishes he’d made differently. This Potts Point investment is one such example.
“I eventually sold that building and made a huge profit, enough to buy a number of luxury cars – although, of course, I didn’t buy any cars. I ploughed the money into more investments,” he says.
“But one thing I realised years down the track was that I could have strata titled that building into three separate investments. I could have kept the commercial property, or sold one apartment, or spread the sales out over the years. I didn’t have a mentor or someone to help me out, and I’ve kicked myself ever since.”
Fortunately, James has learnt from his mistakes, and he has since gone on to invest in more than a dozen commercial properties that have delivered him a consistent, steady income and strong capital growth.
“Commercial property is much easier than people think,” he adds.
“Everything takes a bit of effort and I’m certainly not going to say otherwise. But because it is ‘based on numbers’, I think it’s easier to focus down on what you need to achieve to get the cash flow return. It really is a matter of finding the right property, negotiating hard and getting positive cash flow from day one.”
James’s top 3 investments
Property 1: DENTAL CLINIC, NEWCASTLE, NSW
Property type: Commercial office (dentist)
Location: Newcastle, NSW
Value when acquired: $400,000
Current value: $650,000
Rental return (weekly): $1,155
Rental return (annually): $60,000 per year (net after outgoings)
Mortgage repayments: $23,000 annually
Positive cash flow: $37,000 per year
“One of the main benefits of commercial property is that the tenants’ livelihood is tied to the property. This means they often spend a fortune fitting out the premises, which creates a huge incentive for them to stay in the one location,” James explains.
Such is the case in Newcastle, where James owns a dental clinic, which was passed on to him through a family estate. It’s currently valued at around $650,000 and returns $60,000 in rent, giving James around $37,000 in positive cash flow.
The downstairs offices and the apartment above have been leased to a dentist for over 20 years. What’s even better about this investment is that the tenant is required to redecorate the property every five years as part of his lease.
Property 2: CAFE, BONDI, NSW
Property type: Commercial cafe
Location: Bondi, NSW
Purchase price: $625,000
Current value: $2.5m
Rental return (weekly): $2,120
Rental return (annually): $110,000 per year (net after outgoings)
Mortgage repayments: $52,000 annually
Positive cash flow: $58,000 per year
For James, cash flow is king, but with his Bondi investment, purchased in 1998, he stumbled on the holy grail of incredible cash flow and huge capital growth.
“When I bought it, it had a concrete and brick extension at the back and an old two-bedroom apartment above. The cafe below was positive cash flow but the apartment wasn’t, renting for only $250 per week,” James explains.
“I wanted to know what I could do with the property, so I asked my architect to engage a private town planner. This was about 2003 and at the time the rules allowed me to extend the existing apartment to make it a luxury two-level residence. It cost $300,000 to do – it wasn’t cheap. But the rent went up to almost $1,000 per week as a result.”
It’s what happened next that really supercharged this investment, however. “In 2011 I found out that the rules had changed in Bondi and I could now build an apartment over the car park in the backyard. We lodged a development application, and last year I got approval for a two-bedroom, three-storey apartment out the back,” James says.
“I felt like I’d won the lottery, as it even had a bit of an ocean view. I realised it wasn’t the best use of the space, so I went back to council to get approval for three studio apartments instead.”
The end increase in value means this property is now worth up to $925,000 more, just for having this plan in place. James is in the process of developing these apartments, which will add around $15,000 cash flow to his bottom line on completion, for each of the three units.
“The next step will be to strata the cafe, the larger apartment and the three studio apartments,” he says. “As time goes on, I can then sell parts of that property if and when it suits me.”
Property 3: MIXED USE, MACKAY, QUEENSLAND
Property type: Commercial (cafe and offices)
Location: Mackay, Qld
Purchase price 2007: $915,000
Current value: $1.35m
Rental return (weekly): $2,500
Rental return (annually): $130,000 (net after outgoings)
Mortgage repayments: $59,000
Positive cash flow in 2012: $71,000
This property quickly became one of James’s star performers.
“When I bought this property in Mackay, I had it fully leased within a month. After borrowing the full 100% of the purchase price, I was on a reasonable return; I wasn’t setting the world on fire, but at $7,650 per annum it was OK,” James says.
“I didn’t plan on interest rates going down so low, nor did I count on rents increasing so significantly. But due to CPI, market reviews, changeover of tenants, and a chance to go in and spruce it up so I could get more rent, my cash flow skyrocketed.”
By 2012, James was getting $71,000 in positive cash flow. While he sold that apartment in 2012 as he wanted to acquire more investments in his super for tax reasons, he says a property like this could “give someone a retirement income that could tick over for decades to come”.
This feature is from Your Investment Property Issue #88. Buy the copy to read more!