What Does Barriers to Entry Mean in Commercial Real Estate?

In commercial real estate, an investor can encounter barriers to entry in their investment.

With the competition in the real estate market, the entry of new businesses can bring many challenges. Existing businesses can take advantage of these barriers, such as economies of scale, implementing vertical integrations, and maintaining strong customer loyalty. Let us take a closer look at what those mean and see if they make a better investment.

Economies of Scale

If the business has been in the area for some time, they are at an advantage. They would have grasped a better understanding of the existing economy. They have learned most of what they need to know to stay on top and be more effective. They can better manage the resources based on the season to save on cost reductions. Other factors can also include their purchasing power from suppliers, whereas newer businesses may have difficulty getting lower prices. They could get better deals even on loan terms based on their existing credit standing.

Vertical Integration

Vertical integration is another barrier to entry. These are a combination of two or more businesses operating separately but owned by one entity that complements each other. They could be sports drink businesses that also own the manufacturing plants that bottle the drinks. They may also have several gyms in the community promoting their drinks. A famous example is “McDonald’s,” which owns the properties where their stores operate. For these companies, these integrations reduce their costs and expenses that come with dealing with landlords or leasing fees.

Customer Loyalty

New companies will also find it difficult to penetrate the existing market if barriers to entry such as brand proliferations are protecting the dominant businesses. Add to that the loyalty that consumers have with the products they are used to.

With businesses able to lower their prices, newer businesses can find the prices difficult to compete with. This is referred to as a limit pricing tactic with companies going as low as possible to push the competition out. Another tactic, but is illegal, is referred to as the predatory tactic. Like the pricing tactic, but they set even lower prices, to the point that they have no profit or even at a loss, intending to kick out and damage the competition.

Barriers to Entry as Real Estate Investments

There are other entry barriers such as patents, franchises awarded to the State, licenses to operate in the market, and controlling the import of goods. All of these can strongly contribute to the growth of investments. Patents laws, for example, protect not just the legal rights to the products. There are also advantages of being the first to patent a certain technology such as voice, touch, or face recognition. With all the barriers to entries mentioned, better investments can be made in commercial real estate. With enough knowledge and research of the market you are planning to invest in, the possibilities are limitless.

For questions regarding Barriers to Entry, and how you should use them to assist in underwriting your investments, you can reach out to: [joe@joekillinger.co](mailto:joe@joekillinger.co)

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