Key Factors to consider explained by Service Station Investment Specialist Kieran Bourke of Burgess Rawson Sydney.
While service stations can offer high profile investment opportunities, most passive investors approach these buys with a higher degree of caution than they would for other retail/commercial properties – and rightly so. With location and critical infrastructure key to the site’s operations and therefore influencing potential investment yield, the wrong choice can seriously harm your portfolio if one is seeking a no fuss long term passive investment, says Burgess Rawson Associate Director, Kieran Bourke.
“You need to look beyond the usual elements like tenant, location and the age of the building to consider the environmental factors too,” said Bourke. “The basics are still key – like long term leases to strong trading tenants who will stay the term of the lease, minimising potential future management costs of having to re-list; and capital expenditure considerations.”
But there are a number of other important red flags that the experts keep an eye out for when considering a service station investment, such as:
1. Who is the covenant behind the lease? Is it a company head lease (such as Caltex) or a franchisee? A company-head lease is a stronger covenant and will attract a lower yield (higher sale price) than a franchisee.
2. How much rent is the tenant paying? If the site is over-rented the tenant may not be able to afford the lease long term leading to a drop in future rent or the tenant moving out before the expiry of the lease leading to re-leasing costs.
3. Is the site in a busy commercial location that can sustain operations? What is the access like? Can customers easily enter the service station to use the facilities?
4. What competitors are nearby and are they competing for the same flow of traffic? particularly if they are located on the same side of the street and before your property.
5. How old are the fuel tanks and what are they made from? If the service station is older it is likely the underground fuel tanks are made from steel, rather than the modern alternative with fibreglass-lining. Over time steel tanks corrode and can leak fuel into the ground causing contamination. This can become a huge cost for the landlord if underground tanks and lines need to be replaced and remediation of a contaminated site is required. “When purchasing a service station, it is very important that any purchaser requests a copy of a valid ESA (Environmental Site Assessment) report which will detail any contamination issues with the site and its equipment. These reports are valid for up to 12 months,” said Bourke.
Balmain Commercial’s Gavin Drummond, who has sourced finance for a number of service station loans, urges sellers to ensure they have an up-to-date ESA report of the site available to provide potential purchasers ahead of time.
“Lenders tend to regard these properties as specialised securities. Notwithstanding the strong lease covenants that may be available from major oil companies, credit tends to limit loans by lowering the Loan to Value Ratio (thus increasing the equity required) or imposing loan amortisation either fully or partially reducing the loan over the approved loan term (thus reducing the net rental income after loan commitments),” said Drummond.
“Lenders will prefer that the tenant be liable for all environmental risks and will ask for a current ESA and may insist annual ESA’s.”
In order to optimise the sale price, developers/vendors looking to sell their service stations should seek attractive lease terms, such as:
• Long term leases with option periods.
• Minimum 3% annual rent increases (feedback from the majorty of investors is that the current rate of CPI is not attractive).
• Net Lease with tenant paying all outgoings including council rates, water rates, land tax (on single holding basis), and insurance premiums.
• Tenant responsible for repairs and maintenance of above and underground fuel systems and ongoing monitoring of the fuel systems.
• Remediation clause ensuring the tenant is responsible for any contamination caused by the tenant since their occupation.
“Investors shouldn’t be deterred by the risks as service stations can be a solid investment option. Just be sure to do your homework first,” said Bourke.