PART 1 • THE COMMERCIAL PROPERTY DECISION
The commercial property decision: Is it right for your portfolio?
CHAPTER 01
Introduction
Commercial property is attracting growing attention from Australian investors. Changes to residential investment settings, affordability pressures, and a sharper focus on income and cash flow are all pushing investors to look beyond houses and units.
But commercial property should not be treated as the next step after residential. It has different valuation mechanics, risk profiles, financing requirements, and tenant dynamics. Each of these can turn a sound-looking purchase into a financially disastrous one.
As Right Property Group founder Victor Kumar says, the more important question is not “what commercial property should I buy?” It is whether commercial property belongs in the investor’s portfolio at all.
This report, the first of a six-part series, sets out the case for and against the move to commercial property. It explains how commercial property differs from residential, why two similar buildings can be worth very different amounts, and what an investor needs before making the transition.
“Commercial isn’t for everyone, and you shouldn’t be jumping into it too early. It comes with a different set of risks and rules.”
– VICTOR KUMAR, RIGHT PROPERTY GROUP
CHAPTER 02
What is commercial property?
Commercial property covers real estate used primarily for business rather than housing. That includes offices, retail premises, industrial warehouses, and a range of specialised assets such as childcare centres, medical suites, and service stations. Part 2 of this series examines these sub-sectors in detail.
For present purposes, the defining difference is what the buyer is purchasing. A residential investor buys a dwelling. The value is driven largely by land, building, and location, and the income is a secondary consideration.
A commercial investor buys an income stream that happens to be secured by a building. That shift underpins everything that follows.
Should I be buying commercial property at all?
The question behind Part 1 of the Smart Property Investment Post-Budget Guide to Commercial Property Investing
CHAPTER 03
Commercial is not the next rung on the ladder
The traditional investment model is sequential. Investors buy residential, build equity, refinance, buy again, and eventually “graduate” to commercial property.
Victor challenges that thinking. Commercial property should not be the automatic next move once an investor reaches a certain portfolio size. It should serve a specific function within the broader portfolio.
The question is not “what should I buy next?” It is “what does my portfolio need next?” The answer might be more equity growth, income, diversification or cash flow.
THE USUAL QUESTION
“What should I buy next?”
Buy residential, build equity, refinance, buy again, “graduate” to commercial
VICTOR’S QUESTION
“What does my portfolio need next?”
More equity growth · Income · Diversification · Cash flow
Under Victor’s framework, residential property can often act as the equity engine and commercial property as the income engine. The task is to understand how each asset class contributes to the portfolio, rather than treating commercial as the inevitable next rung.
“Commercial isn’t the next step for everyone. You need to have, as an investor, earned the right to get into the commercial space. That means having all these safety nets in place and having done the foundational work within your portfolio.”
– VICTOR KUMAR, RIGHT PROPERTY GROUP
The post-budget trap: Commercial did not suddenly become ‘better’
The timing of this series is deliberate. Recent changes affecting residential investment have prompted more investors to consider commercial property. Victor cautions against drawing the wrong conclusion.
“The budget hasn’t made commercial better,” he says. “The budget has made residential different.”
The distinction matters. Investors should not move into another asset class simply because the rules around their existing one have changed. Commercial property carries its own risks: vacancy, tenant failure, more complex finance, lease- and income-driven valuations, lower liquidity, and greater capital requirements.
The post-budget environment may be a catalyst to consider commercial property. It has not removed the need to ask whether the asset belongs in the portfolio.
CHAPTER 04
Commercial property is valued differently
One of the biggest mindset shifts for residential investors is understanding how commercial property is valued.
Residential property is predominantly a comparable market. Value is driven by the building, land and location, and a buyer can look at recent sales of similar homes nearby to gauge a fair price.
Commercial property works differently. Victor identifies four key valuation considerations: the tenant, the lease, the industry and location, and the building.
FOUR KEY VALUATION CONSIDERATIONS
01
The tenant
02
The lease
03
The industry and location
04
The building
“The first valuation pillar is actually the tenant,” he says.
That means two near-identical commercial properties next door to each other can have dramatically different values. One may have a strong tenant on a long lease with reliable annual increases. The other may have a weaker tenant nearing lease expiry. The buildings may be almost identical. The investments are not.
NEXT DOOR • ONE
Strong tenant
Long lease
Reliable annual increases
NEXT DOOR • TWO
Weaker tenant
Nearing lease expiry
“In residential, you’re comparing one house against another and arriving at a valuation. Whereas in commercial, the valuation model has several different facets. The first valuation pillar is actually the tenant. Then you’ve got the lease, the industry or location, and finally the building.”
– VICTOR KUMAR, RIGHT PROPERTY GROUP
Why does the tenant matter so much?
The tenant is not simply the person occupying a commercial property. In many cases, the tenant is the income generator underpinning the asset’s value.
Investors therefore need to understand the business behind the lease:
- its financial strength and industry;
- its reliance on the location and its ability to relocate;
- its lease term and renewal options; and
- the sustainability of the rent it pays.
Vacancy is also harder to manage in commercial property than in residential. A specialised building may have only a handful of suitable tenants, so finding a replacement can take months rather than weeks. The quality, strength and durability of the existing tenant is therefore critical to the investment.
The lease is part of the investment
Residential investors tend to view a lease as simply the rental agreement governing a tenancy. Commercial investors need to see it as something more, because the lease itself can create or destroy value.
Victor highlights seemingly minor provisions that can materially affect returns. Examples include free rent when an option is exercised, landlord-funded capital works, and expenses that could otherwise be recovered from the tenant. These clauses matter because commercial property value is closely tied to the income the lease generates.
That leads to one of the more interesting ideas in the discussion: sometimes you renovate the lease, not the building.
FROM THE SOURCE
Manufacturing value by ‘renovating’ a lease
Victor recalls purchasing a commercial property where expenses such as property management and insurance were being absorbed by the owner, despite being potentially recoverable from the tenant.
When the lease option came up, the agreement was restructured, and those expenses were brought back into the lease. The building did not change. There was no major renovation, and the tenant remained the same. But the asset’s net income improved, and with it the value.
“Same building, same tenant, same area. All we did was change the lease and that increased value,” Victor says.
The example shows a fundamentally different wealth-creation mechanism from residential property. Residential investors can manufacture equity through renovations, extensions, or development. Commercial investors can also create value by improving the quality, security and profitability of the income stream.
CHAPTER 05
How income, yield, and capital value interact
This is the mathematics at the centre of commercial property. Capital value is, broadly, net income divided by the yield the market demands for that type of asset.
NET INCOME
÷
YIELD
=
CAPITAL VALUE
Three consequences follow:
Increase the net income, through rent reviews, better outgoings recovery or stronger lease terms, and capital value rises if the yield holds.
If the market’s required yield falls, perhaps because the tenant or sector is seen as safer, value rises even with unchanged income.
If the tenant fails, income falls, and the market may demand a higher yield for the added risk. Both effects push value down, and they arrive together.
This is why rent, lease security, yield and capital value cannot be considered in isolation.
Commercial growth is different, not necessarily slower
The residential-versus-commercial debate is often reduced to a formula: residential equals growth, commercial equals yield. Victor argues this is too crude. Commercial property can deliver substantial capital growth, provided investors understand what drives it.
The drivers can include rental increases and market rent reviews, stronger tenants and leases, longer terms, better recovery of outgoings, building improvements, redevelopment potential, changing yields and broader land appreciation.
A well-structured lease with annual rental increases, for example, grows the income stream over time. If the market continues to value that income at similar yields, capital value rises with it. In that sense, commercial property can be more mathematical than residential.
This does not mean commercial always outperforms or even matches residential. It means the assumption that commercial grows more slowly is a generalisation, not a rule. The drivers differ, and the outcome depends on the asset, the lease and the cycle.
“Residential is more your equity engine and commercial is your income engine. You still get growth in commercial, but the focus is more on the income and cash flow side.”
– VICTOR KUMAR, RIGHT PROPERTY GROUP
CHAPTER 06
Yield is a price for risk
If value is derived from income and yield, the yield deserves scrutiny. A high yield is not a bargain by default. It is the market’s way of pricing risk.
FROM THE SOURCE
The $240k cash flow property that went to zero
AT ITS PEAK
~$240,000
positive cash flow · eight tenants
THREE YEARS LATER
“Pretty much zero”
one tenant · the debt remained
Perhaps the clearest illustration of commercial property risk from the discussion came from Victor’s recollection of an investor who bought a strip of shops in a mining town during the mining boom.
At its peak, the investment produced approximately $240,000 in positive cash flow. There were eight tenants. Demand was strong, businesses were making money, and everything appeared to work.
Then the cycle turned. The mining boom ended, and businesses left. Eight tenants eventually became one. The cash flow that had looked exceptional effectively disappeared, while the debt remained. The investor was unable to sell at an acceptable price and had to wait years for conditions to improve before re-leasing the asset and exiting.
“Three years later…the $240,000 became pretty much zero,” Victor says.
The lesson is not that regional or mining-town commercial property should never be purchased. The lesson is that the yield was telling investors something. A very high return generally exists for a reason.
“You’re paying for safety,” Victor says. A stronger tenant, stronger sector and more defensible asset will generally command a lower yield because the market is pricing in lower risk.
The question an investor should ask when they see an 8 per cent yield is not “how quickly can I buy it?” It is “what risk am I being paid to take?”
– VICTOR KUMAR, RIGHT PROPERTY GROUP
Alternative use: what happens if the tenant disappears?
The mining-town example points to a related discipline: alternative-use analysis. Investors should not only ask whether the current tenant suits the building. They need to ask who else could use it.
Victor uses childcare as an example. A centre may have a secure tenant today, but if the area is ageing, population growth is weak, and there are few young families, that security can disappear quickly.
If the tenant leaves, the investor needs answers to several questions:
- Can another operator succeed there?
- Can the building be adapted?
- Does zoning allow it?
- What would conversion cost?
- What is the asset worth without its current tenant?
These questions determine whether vacancy is an inconvenience or a financial crisis. A generic industrial warehouse that can accommodate dozens of businesses is fundamentally different from a highly specialised property suited to one industry. The analysis must happen before the purchase, not after the tenant leaves.
CHAPTER 07
The first myth: commercial property is automatically cash flow positive
Victor’s strongest warning is against a common sales pitch: buy commercial and immediately improve your cash flow.
The reality is more complicated. A property may appear positively geared when only the debt attached to the commercial asset is considered, while the way the deposit was funded is overlooked.
DEPOSIT SOURCE 1
If the deposit came from refinancing a residential property,
additional debt has been created elsewhere.
DEPOSIT SOURCE 2
If it came from an offset account,
withdrawing the funds increases the effective interest cost on the loan the offset supported.
The commercial property may look strongly cash-flow positive in isolation, yet produce a very different result across the broader portfolio.
“You’ve got to look at it from a portfolio approach, not in isolation,” Victor says.
The discipline is simple: account for the full cost of the capital used to acquire the asset. The same household services the debt, the same balance sheet carries the exposure, and the same investor bears the risk.
CHAPTER 08
When should an investor move, and how far?
A blended portfolio rather than an either/or decision
For most investors, Victor does not advocate abandoning residential property. Asked whether investors should move completely from residential into commercial, his answer was direct: “Almost never.”
His broad framework is around 70 per cent residential and 30 per cent commercial in the earlier stages of portfolio construction. As an investor moves towards an income-focused phase, the balance could shift to 50:50 or become more heavily weighted to commercial, depending on circumstances, risk profile and objectives.
VICTOR’S BROAD FRAMEWORK
Earlier stages
Residential
70%Residential 70%
Commercial
30%Commercial 30%
Income years
Residential
50%Residential 50%
Commercial
50%Commercial 50%
A total flip
Residential
30%Residential 30%
Commercial
70%Commercial 70%
Not a universal allocation formula. Depends on circumstances, risk profile and objectives.
These figures are not a universal allocation formula. They reflect Victor’s portfolio philosophy. The broader principle is that different assets perform different jobs. Residential can continue to contribute equity growth, commercial can increasingly contribute income, and the balance can change over time.
Diversification is the second benefit. Residential and commercial respond to different drivers: household demand and credit conditions in one case, business conditions and lease structures in the other. Holding both can soften the impact when one market weakens.
“You need to have that balance of residential and commercial. I advocate 70 per cent residential and 30 per cent commercial in the initial stages. As you get into your income years, it could perhaps become a 50:50 split, or depending on your risk and how your portfolios are set up, it could be a total flip.”
– VICTOR KUMAR, RIGHT PROPERTY GROUP
Should investors sell residential property to buy commercial?
A growing argument is that investors should sell residential assets and redeploy the capital into commercial property. Sometimes that may make sense, but Victor argues the decision must be assessed across the entire transaction.
Selling residential property can trigger selling costs and tax consequences, and it sacrifices future growth and rental income. Investors then need to weigh those costs against retaining the property and using equity or other capital to fund the commercial acquisition.
There is no universal answer. The decision depends on the investor’s age, risk tolerance, income goals, existing cash flow and financial horizon.
Do not wait until you desperately need the income
Commercial property is often associated with retirement income. Victor argues investors should not wait until retirement to make the transition. They may need to start moving towards commercial assets several years before they need the income.
“You need to perhaps be five years early to that journey,” he says.
That window allows leases to mature, debt to reduce, rents to increase, values to move and refinancing to occur, and it lets the investor gain experience. In modelling some client acquisitions, Victor says rental income could potentially repay the primary commercial loan over around 14 years, depending on the asset and financing structure.
5 years early
to start the move towards commercial
~14 years
for rent to potentially repay the primary loan, depending on asset and financing
The strategy is about building future income, not chasing immediate yield.
FROM THE SOURCE
From an 80-square-metre warehouse to 2.5 acres
AROUND 2013
80 m² industrial warehouse
Bought for the business
AS THE BUSINESS GREW
The adjoining property
Leased, then bought
LATER
About 2.5 acres, south-west Sydney
Approximately $2 million at the time
Commercial property also shows what can happen when portfolio strategy, timing and business needs align.
Victor recalls working with a business owner from around 2013, who initially purchased an 80-square-metre industrial warehouse for the business. As the business grew, he leased the adjoining property before eventually acquiring it when it came up for sale. The investor later scaled into a much larger industrial asset on around 2.5 acres in south-west Sydney, acquired for approximately $2 million at the time.
The journey evolved alongside the business, the investor’s equity position and changing requirements.
“It can be something really small…and from there we scaled into that two-and-a-half acres,” Victor says.
The example reinforces a central argument of the series: commercial property can form part of an evolving portfolio strategy rather than an isolated acquisition. Victor noted that residential assets within the broader portfolio also supported the investor when commercial conditions or business cash flow became less favourable. That is the blended portfolio concept in practice.
CHAPTER 09
‘Earn the right’ to invest in commercial property
Victor’s most useful description of investor readiness is that investors need to “earn the right” to move into commercial property.
That does not make commercial property exclusive. It means investors need the financial and practical capacity to withstand its risks.
A residential portfolio provides valuable experience. It exposes investors to interest-rate changes, property managers, vacancies, repairs, lending, valuations, unexpected costs and market cycles. These experiences create what Phil described as investor “scar tissue”, which becomes particularly valuable when commercial property magnifies the stakes.
A longer vacancy hurts more. Refinancing can be harder. A poorly structured lease can erode value. A failing tenant can turn an income-producing asset into an expensive holding almost overnight. Investors need to be financially and psychologically prepared before taking it on.
The 6-month rule
One practical test emerged repeatedly in the discussion: do you have enough reserves to carry the full exposure for at least six months?
Victor argues commercial investors need substantially larger buffers than many residential investors expect. It is not enough to cover routine running costs. Investors need to consider what happens if the rent disappears entirely. That means being able to service interest, rates, insurance, management, maintenance, land tax and other outgoings, potentially including leasing or tenant incentive costs, without tenant income.
“If you can’t find six to 12 months of operating cost as a reserve, [you] should not be investing in commercial,” Victor says.
That is far more conservative than simply having enough capital to settle the purchase. The conservatism is deliberate.
Commercial investing requires patience
Commercial property generally moves more slowly. Finance, transactions, due diligence, leasing and selling can all take longer, which is why Victor argues investors entering the asset class should have at least a seven-year mindset.
Residential transactions may commonly settle within a month or six weeks. Commercial deals can take 60, 90 or even 120 days, depending on complexity.
Liquidity is also more challenging. A poorly performing residential property can typically access a large pool of owner-occupiers and investors. A commercial property with a weak tenant or problematic lease may require a significant discount to attract a buyer. Investors who may need their capital back quickly should think carefully about this.
When are you not ready?
The discussion produced several warning signs. An investor may not be ready for commercial property if:
-
they do not have six to 12 months of full operating costs available as a buffer;
-
the deposit consumes most of their available liquidity;
-
they would panic if the property valuation fell by 15 per cent;
-
they need their capital returned within a short period;
-
their residential portfolio is already heavily negatively geared;
-
they are relying entirely on uninterrupted commercial rent to service the debt;
-
they have not accounted for the true cost of funding the deposit;
-
they are purchasing solely because someone else achieved a high yield;
-
they do not understand the tenant or lease; or
-
they have no clear strategy for the asset within the broader portfolio.
The 15 per cent valuation scenario is particularly important. Commercial valuations can move materially when rents, tenants or market yields change. A lower valuation pushes up the effective loan-to-value ratio, which can create refinancing pressure or require the investor to contribute additional capital. Commercial investors need the capacity to survive not just an income shock, but a valuation shock as well.
“If you don’t have a buffer of six to 12 months, or if you’re going to panic if your valuation goes backwards by 15 per cent, you’re not ready. If your residential portfolio is heavily negative cash flow, you need to solve that issue first. You have to look at it from a whole portfolio point of view, not in isolation.”
– VICTOR KUMAR, RIGHT PROPERTY GROUP
So who should consider commercial property?
Commercial property begins to make more sense where an investor has:
- A foundational portfolio. They understand property ownership and have already experienced normal investment cycles and challenges.
- Accessible equity. Victor suggests around $400,000 or more in accessible equity can provide a stronger foundation, although individual circumstances will vary materially.
- Strong liquidity. The investor can settle the acquisition and still retain substantial reserves.
- A long investment horizon. They do not need the capital back quickly and can accommodate slow-moving leasing and market cycles.
- A tolerance for volatility. They understand that valuations and income can fluctuate.
- A reason for owning it. The asset solves a portfolio problem, often income or diversification, rather than simply representing a fashionable opportunity.
- The capacity to withstand vacancy. The investor can carry the asset even if rental income stops for an extended period.
- A willingness to do deeper due diligence. Commercial investing requires significantly more scrutiny of the tenant, lease, industry and underlying property.
CHAPTER 10
Investor checklist: Are you ready for commercial?
Before moving forward, consider: ( Tick each one you can answer with confidence.)
0 of 9
Anything unticked is worth working through before you buy. That’s a useful answer too.
And finally: are you buying commercial because it genuinely fits your strategy, or because somebody told you commercial property is the next big thing?
The answer to that final question may be the most important one.
And finally: are you buying commercial because it genuinely fits your strategy, or because somebody told you commercial property is the next big thing?
The answer to that final question may be the most important one.
CASE STUDIES
Four deals, four lessons
CASE STUDY 1
From an 80sqm warehouse to 2.5 acres
What started as a simple purchase for a growing business eventually became a much larger commercial property strategy.
THE DEAL
An investor bought an 80sqm warehouse for their business, later acquiring the adjoining property as the business grew. The strategy ultimately culminated in a 2.5-acre industrial property in south-west Sydney, bought for around $2 million.
THE LESSON
Commercial property does not have to be a giant leap. It can evolve alongside a business or investor’s changing circumstances, with each acquisition creating the equity and experience needed for the next.
CASE STUDY 2
Same building, but a higher valuation
Not every commercial property improvement requires a renovation.
THE DEAL
Victor identified a lease where the owner was absorbing costs that could have been passed to the tenant. When the lease was renegotiated, the costs shifted to the tenant, increasing the property’s net income and value, without changing the building or tenant.
THE LESSON
Commercial property can create value through the lease as much as through the bricks and mortar. Understanding the income and expenses attached to a property can be just as important as understanding the building itself.
CASE STUDY 3
When an 8% yield turned into a $240k lesson
A high yield can look irresistible on paper. Victor’s experience with a strip of shops in a mining town shows why investors need to understand what sits behind the number.
THE DEAL
During the mining boom, the property had eight tenants and was generating around $240,000 in positive cash flow. But when the mining industry contracted, businesses began leaving. Eventually, eight tenants became one, and the property's once-impressive income effectively disappeared.
The owner was left carrying the debt while waiting for the market and tenant demand to recover.
THE LESSON
Yield is not free money. It is a reflection of risk. A property offering 8 per cent may be doing so because the market is demanding a higher return to compensate for a weaker tenant, industry, location or underlying asset.
CASE STUDY 4
The SMSF deal with no room for error
Buying commercial property through an SMSF can look attractive, particularly for an investor looking for income. But Victor warns against committing almost every available dollar to the purchase.
THE DEAL
Consider an investor who uses the bulk of their SMSF funds to acquire a commercial property. On paper, the deal may stack up. But if the tenant leaves, the fund may suddenly have to cover the property’s costs without rental income. With little cash remaining in reserve, there may be limited options to bridge the gap.
THE LESSON
The purchase price is only one part of the transaction. Commercial investors need to budget for vacancy, unexpected costs and the time it may take to replace a tenant. Victor’s six-to-12-month reserve is not an optional extra. It is part of the investment strategy.
