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To Buy or Not to Buy – that is the question

Wednesday, August 26, 2015

Property is often the second highest business cost after wages yet many companies do not have an effective property strategy or take professional advice when making decisions about their premises. 

Paul Bagust, RICS Commercial Property Director gives his advice on finding the right premises and whether to buy or lease your property. 

The most important part of the process is finding the right premises for your business. Think the process through logically:

  1. Decide on location
    If you get this wrong there is no way of correcting your mistake. If your business is in manufacturing, ease of access to sources of raw materials and to your markets may be essential. If you are running a shop, it should clearly be in a location where the public will notice it and find it easy to visit. For cost reasons you may have to accept some compromise.

  2. Consider your business strategy
    This includes the number of people you will be employing, the processes used in the business and the plant/machinery required. Also consider your ongoing plans. Should you ensure at the outset that there is space for expansion or will you rely on a move to larger premises at a later date as the business expands? Think about the quality of the workspace environment and how this may impact on staff productivity.

  3. Prepare a specification of the premises you want
    Sketch out a plan. From this you can calculate the floor area you need. Do not forget car parking along with loading and unloading facilities, and remember your utilities requirements.

  4. Calculate how much you can afford to pay in outgoings on the premises
    In addition to rent or mortgage repayments you will need to allow for general rates, water rates, service charge for maintenance and cleaning of common areas, and insurance of the building.

Buying vs leasing

The other key decision to make is whether you buy or lease your premises. This is one of the most important decisions a business will face. Sometimes you may not have the choice but it is an important decision which will affect the future development and profitability of a business.

So how do you go about deciding what to do?

Start with your business itself. Is it a mature business already? Is it a young business which you expect to remain roughly at its present size? Or do you expect, if all goes well, that it will expand significantly in the years ahead? Try to build a picture of where you expect the business to be in five years’ time.

Flexibility
Leasing is generally more flexible than buying, at least in the case of a short lease. If your business is currently small but you expect it to grow, leasing might be the preferred option.

You can take a lease or even a licence on premises that satisfy your present space requirements. As your space needs increase you can move on to a larger building. With industrial buildings in particular, design trends change quite a lot and if the building that you lease becomes obsolescent you can move to one that meets current requirements. However, there is always the possibility of buying a building which can be extended or adapted if you find you need more space in future.

Some types of business require a large amount of plant and equipment in the building, with high installation costs. As you will want to write off these costs over many years, you will not want to change premises at frequent intervals. In this case, buying may make more sense than leasing. If you do take a lease, it will need to be a long one.

Freedom of action
Aside from the question of moving premises, you will generally have more freedom of action as an owner than a tenant. You would not need to obtain a landlord’s approval (with the attendant time delays and costs) for changes that you want to make. It is more likely that you would be able to extend the building. You will not be faced with the administrative inconvenience of negotiating rent reviews, of renewing your lease or of arguing dilapidation claims if you move out.

On the other hand, many of the same restrictions will apply whether you rent or lease. You will still need to maintain and insure the building, whether it is for yourself or a landlord. You will still be subject to the same external constraints, like the need for planning permission when the occasion arises.

Financial gain
It is arguable which option makes more sense financially. Many larger businesses consider nowadays that their capital is better employed in the business itself than if it is tied up in the company’s properties. They may tend to lease their buildings rather than own them and even dispose of existing buildings that they do own via a sale and leaseback.

The decision depends partly on the way that you expect the property market to move. If you expect the level of rents to move up rapidly, as a tenant you could face big increases in your rent bill in the future when the rent reviews occur. And if you do not own your property it is the owner, not you, who will benefit from any future increase in their capital value.

If you own your property, you will get the benefit of any capital appreciation and will own an asset at the end of the day. If the building increases substantially in value, you might be able to borrow against the increased value in future, which could extend your financing options. You will not have to worry about big increases in your occupation costs following rent reviews.

Remember, a lease is a binding contract

If you do decide to lease you should understand that a lease is a binding contract in law which sets out the terms and conditions of the tenancy agreement between landlord and tenant. It thus defines the rights and obligations of both parties. It is therefore enforceable – you cannot simply walk away from a lease.

However, certain aspects of the relationship between landlords and tenants are also defined by law. A first draft of the lease will usually be drawn up by the landlord's solicitor as a basis for discussion between the parties.

The pattern of property tenure may be complex – it is not always a simple matter of a tenant taking a lease direct from the property owner. A prospective tenant may be negotiating a lease from the freeholder or taking an assignment of an existing lease or perhaps even a sub-lease.

 

These complexities emphasise the need for professional advice from a chartered surveyor before making any decisions about your property needs and business strategy.

For more advice download the free RICS Small Business Property Guide.