Bought a suburban office deal for the income and got thirty months of none

The private office demolition part is real and nobody budgets it. On the construction side I've priced a lot of those conversions. Ripping out 14 private offices in a 12,000 sf suite, dealing with the ductwork that was branched for all those rooms, redoing lighting because open plan needs a different layout entirely. That's not a paint and carpet number. And you pay it before you have a tenant, or you show them a maze and they walk.

So the renewal showed up as a renewal on paper. That's the part I want to make sure I understand, marlow. The sponsor could truthfully write "tenant renewed" in an update and you'd read that as good news?

What's throwing me is the rate cap. Was that disclosed anywhere you'd have seen it before you invested, or is it one of those things buried in the loan documents that only comes up later?

juniper, it's usually in the offering document, sometimes in one line about the financing terms. The cap expiry date is the number to look for. If a cap runs out before the projected sale date, someone is assuming they'll refinance or buy a new cap, and both cost money that may or may not be in the model.

marlow, the part that would have flagged this for me is 19 percent of the building expiring in month 14. On office right now I'd treat any single tenant over 15 percent with a near lease expiry as the whole deal, not a detail.

I'd push back slightly on where you're putting the cause. The rollover and the office demo were foreseeable and you've named them correctly. But a deal with 76 percent occupancy and 19 percent rolling in year two isn't a cash flow deal at all. It's a lease-up deal wearing an income label. The distribution projection starting in month four was the tell. There was no stabilized rent stream to distribute from, so those first two payments were coming out of either reserves or the acquisition proceeds. That's not the same as income.

If you want office exposure for income, you're looking at prime, well-leased, long-WALT buildings, and the yields there are much less exciting because everybody wants them. The high projected number was compensation for exactly the risk that showed up.

sextant put it better than I could. Every time I've seen a return projection with distributions starting almost immediately on a partly vacant building, the money was coming from somewhere other than operations.

marlow, on the dilution, did the docs spell out the dilution formula for a declined capital call, or did you find out the multiplier after the notice?

I've been carefully planning a first purchase for a year and this thread is the reason I keep pushing the date. The idea that "cheap per foot in office isn't cheap" is the sentence I needed. Thank you for writing it without dressing it up.

halyard asked the right question. Renewal language in a sponsor update can cover a tenant taking half the space at a lower rate, which is a rent decline reported as a retention. The number that would have told the truth is annualized base rent before and after, per tenant. If updates only give occupancy percentage and a narrative, you can't see a downsizing at all.

$85k in, $3,100 out, thirty months. That's a hard number to look at. What I take from it is that low price per square foot pulls people in for exactly the reason it shouldn't.

marlow, question about the capital call since I'm trying to decide how I'd handle one. Was the $9k call to fund leasing costs on that returned suite, or to cover debt service? Because those feel like different decisions to me. Funding a tenant improvement for a signed lease is buying something. Funding a shortfall isn't.

Also, did declining put you at a fixed dilution or does the multiplier keep working against you on future calls?

I own small multifamily and the equivalent lesson there is much cheaper, which is the only reason I still have money. A bad tenant in a two bedroom costs me a few thousand and a month. A bad tenant in 12,000 sf of office costs a demolition, a year of downtime, and a leasing commission.

The scaling of that cost is the thing beginners don't see, marlow, and you've explained it well. The distress numbers in office right now are heavily concentrated in older secondary buildings, and your building sounds exactly like that category. That doesn't mean nobody should own one. It means the reserve has to be sized for two full retenants, not one.