Understanding commercial real estate asset classes -- from Class A to Class B to Class C -- can help shape your investment decision and execution plan.
Whether you're an investor, asset manager, lender, broker or other real estate professional, understanding commercial real estate asset classes can help optimize your investment decision-making. Each class including common classes such as Class A, Class B or Class C – represents a different level of investment risk and return. These classes reflect both the physical and geographical conditions of a property, while also allowing real estate professionals to communicate easily about properties using a standard rating system.
In this comprehensive guide, you will learn:
While there are multiple ways to classify a real estate property, including sub-classifications, the standard classification includes Class A, Class B and Class C ratings.
Here is a breakdown of the three most common real estate asset classes:
Class A buildings represent the highest-quality buildings in a real estate market. They are typically newer assets (less than 10 years old), are located in desirable areas, and offer top amenities, design and finishes. Class A properties are considered turnkey; they don’t require any major renovations. With low vacancy rates and premium rent, a Class A building is considered a highly-desirable property. Class A buildings have professional asset managed and typically attract top-quality tenants.
Class B properties are older than Class A properties, may not have a professional asset manager, and tend to have lower rents. Investors
identify Class B as “value add” investment opportunities because they can be renovated to improve physical appearance, amenities, common areas and finishes. Post-renovation, a Class B property could become a Class B or Class A, for example, depending on the amount of renovation. In contrast to Class A properties, Class B properties typically offer a higher cap rate because they are considered riskier assets. That said, Class B properties can still be in good locations and represent solid investments.
In contrast to Class A and Class B buildings, Class C properties are typically older (e.g., more than 20 years old), are located in less desirable areas, and often require significant capital expenditures for
renovations. With Class C buildings, vacancy rates are typically high, and tenant income is typically low. Due to the condition of the properties and less desirable locations, Class C properties tend to be considered highest risk to investors. As such, like Class B properties, Class C properties often are sold at higher cap rates.
Asset classification of a property exists across multiple types of buildings in commercial real estate. For example:
Office: From urban skyscrapers in New York City to small office buildings in suburban Chicago, asset classification can be driven by quality, location, and infrastructure.
Multifamily: Brand new apartment buildings with high-end amenities might be classified as Class A, while older apartment buildings that need value-add improvements may be considered Class B.
Retail: Retail stores on Rodeo Drive in Beverly Hills are classified as Class A properties while older strip malls in less desirable locations may be characterized as Class C.
Hotels: High end, luxury hotels in New York are considered Class A properties, whereas rundown motels in rural areas may be considered Class C.
If you’re wondering what are the key characteristics of each asset classification, here’s a helpful snapshot.
Why should investors, asset managers, lenders and brokers care about asset classification? There are several reasons why, including:
For shrewd real estate professionals, understanding the differences among Class A, B and C assets in commercial real estate is essential to make informed decisions about risk-reward, investing, asset management, tenant base, capital expenditures and long-term positioning.