Small-bay industrial tenant concentration and collections

Small-bay industrial investors often describe a property as diversified because many tenants occupy it. That description can be incomplete. Several leases may be signed by related companies, several businesses may depend on the same project, and several apparently current accounts may rely on the same guarantor. The underwriting task is to connect the rent roll to the parties and economic dependencies that actually produce payments.

Use three separate views: legal payment obligors, business dependencies and collections. Combining them into one concentration percentage can be as misleading as ignoring them. A related-party group and an industry group may overlap, so adding their percentages can count the same rent twice.

Rebuild the rent roll around payment responsibility

Record the tenant’s legal name, lease signatory, parent or affiliate relationships, actual guarantor and annual rent. Verify relationships from documents and available business evidence; similar names do not prove common ownership. Likewise, separate companies may share a payment source without being legally consolidated.

The federal banking agencies’ CRE concentration guidance identifies tenant concentrations and tenant industries as useful dimensions of bank portfolio analysis. Applying that distinction to a property’s rent roll is an analytical adaptation, not a regulatory requirement that every owner calculate the metric below.

Do not count a guaranty as cash. Identify its scope, limit, duration and provider’s financial capacity. A guarantor supporting several bays can create common exposure instead of three independent protections. The legal effect belongs in counsel’s review; the financial dependence belongs in the stress case.

Worked exhibit: ten equal bays become eight obligor groups

Assume a hypothetical property has ten tenants, each paying $36,000 annual base rent. Three tenants share one payment-support group for this analysis; the other seven are independent groups. Total rent is $360,000.

A simple rent concentration index is the sum of squared rent shares. Ten equal independent shares produce 10 × 10%² = 0.10. Grouping the three related tenants produces 30%² + 7 × 10%² = 0.16. The reciprocal, sometimes used as an effective-count illustration, falls from 10 to 6.25 equally weighted groups.

This index measures concentration, not default probability, credit quality or legal recovery. It cannot tell you whether six strong groups are safer than ten weak ones. Its purpose is to expose the change hidden by counting bays. The eight actual groups are not literally six and one-quarter tenants.

Add dependencies without inventing probabilities

Suppose four tenants, including one member of the related group, derive material business from the same construction project. They account for 40% of scheduled base rent. That is a separate stress group, not another 40% to add to the 30% obligor exposure. Keep a membership list so the intersection remains visible.

Ask what evidence supports the dependency: tenant financial disclosures, public customer information or a direct, appropriately authorized discussion. If evidence is incomplete, label the exposure as unverified. Do not claim knowledge of tenants’ private customer contracts from industry descriptions alone.

Use the map to design plausible joint scenarios. It is reasonable to test four tenants weakening together without asserting that their defaults are statistically independent or perfectly correlated. A probability-weighted expected loss is a different exercise and requires stronger assumptions than this property cash test.

Translate the shared shock into debt coverage and cash

Assume base operating cash flow before debt and leasing capital is $240,000 and annual debt service is $180,000. Base coverage is 1.33×. Now model the four project-dependent tenants producing no rent for nine months, while the others continue paying. Lost base rent is 4 × $36,000 × 9/12 = $108,000.

Assume $6,000 of operating savings and $24,000 of separate reletting capital. Stressed operating cash flow before leasing capital is $138,000, giving 0.77× coverage. After the reletting cash use, cash available for debt is $114,000, leaving a $66,000 annual cash deficit against debt service. The two coverage layers must not be mislabeled as the same NOI measure.

A generic 5% annual vacancy allowance would be $18,000 of base rent in this example. It does not represent the specified $108,000 joint loss. Do not deduct both the generic allowance and the entire scenario loss if the scenario already replaces the same vacancy assumption; rebuild the base consistently.

Use collections to identify the stress before leases expire

Prepare an aging schedule by obligor group as well as tenant name. Separate new charges, unapplied cash, disputed reimbursements, payment plans and write-offs. If three affiliates pay from one account, identify the application to each lease so a large payment does not make every bay appear current.

Track whether arrears are becoming older, whether partial payments cover current rent, and whether security deposits are being assumed available. The lease and applicable law determine how deposits may be used; a deposit balance is not recurring income. An expected recovery from a departing tenant belongs in a separate dated scenario until supportable.

Present the lender with the grouped rent roll, dependency map and scenario cash schedule. Explain what would reduce the uncertainty: additional tenant evidence, diversified replacement demand, committed liquidity or a debt structure sized to the downside. The goal is not to reject small tenants collectively, but to ensure that the loan’s apparent diversification survives an examination of who pays and what could interrupt several payments at once.