Where to put building capital? Seen vs the Unseen

When an HVAC system needs significant investment to continue to function reliably, there are often two opposite reactions.  The building engineer and property manager see an opportunity for less maintenance, higher efficiency, and generally smoother operations.   Conversely, an asset manager thinks of all the other things that capital could be used for to improve the value of the investment.  Is there a way to get both behind the project?


The Seen vs the Unseen

Commercial buildings, like many of our homes, what we see captures our attention, and often our capital.  A lobby renovation can have an immediate, and visual, impact that any tenant or prospective tenant can see.  It’s easy to see, though it may be hard to attach a particular return on that capital invested.


HVAC systems have the distinction of helping create a comfortable space through mostly invisible means, mainly air movement.  HVAC is often in the same boat as IT, if it works, no one notices.  If it doesn’t, everyone notices.


These systems are also fairly robust and forgiving, handling system degradations and changing conditions without too much complaint, other than higher energy bills (which are also not easy to see).


So, when competing for capital, visual investments like a lobby renovation often win out over “unseen” investments like HVAC retrofits.  This can often make sense financially, as the return is easier to understand and see with the lobby renovation.  And, as long the HVAC system is working reasonably well and not causing too much of an operational risk, the only downside is a not immediately obvious increase in maintenance and utility costs.


Predictable Returns

As an alternative way of looking at this comparison, how easy is it to predict the return on investment for the lobby renovation?  Surely there are metrics that are used to evaluate aesthetic upgrades, and I will leave that to the professionals in that field.  That being said, it would be hard to be definitive on the estimates as there are a variety of variables affecting this return, most of which are not controllable.

What about a comprehensive HVAC retrofit?  All the data is available to be quite definitive:

  • Current HVAC and utility performance
  • Cost of improvement
  • Measurable results with metering and utility bills

The question is a compelling investment.  Below are a couple financial returns of recent projects in Atlanta.


Project 1 (Owner Financed)

Project Cost $2,400,000
Sunk Cost (“Have to” Cost) $1,100,000
Net Additional Capital Cost $1,300,000
Op Ex Reduction/NOI Increase $460,000
ROI on Additional Capital 35%
Asset Value Increase* $6,950,000


Project 2 (Third Party Finance)

Op Ex Reduction/NOI Increase $240,000
Annual Lease Cost $205,000
Asset Value Increase* $4,300,000


*Each building does have unique financial circumstances that affect asset value.  This is based on a 8 cap and a 60% reduction in deduct based on HVAC project cost.


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About John Bracey

Website: https://www.mckenneys.com

Email Address: john.bracey@mckenneys.com

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