Net Lease Cap Rates – All Markets Are Not Equal

What happened to cap rates in 2010?

Rick Fernandez: The year started strong with investors returning to the market as interest rates fell and debt became available to a larger pool of investors. Unfortunately, the financial crisis in Greece and the potential for instability within the European Union quickly cooled the New Year’s optimism. The net lease market changed again in early July in part due to another drop in lending rates and a lack of quality supply of NNN properties. A more positive lending environment and improving market fundamentals along with the volatility of the stock market drove investors to look for more predictable and stable returns. In a few markets, cap rates began to compress dramatically. Sellers in these markets suddenly saw offers 50-100bps below the caps recorded at the beginning of the year.

What markets were particularly strong?

Rick Fernandez: Professionals in the net lease community agree that, from an investor’s perspective, first there is New York and Washington DC with Chicago and San Francisco trailing behind and then everywhere else. Those eager to invest quickly discovered that NNN properties in these markets were in short supply and properties of real quality were rarer still. The DC metropolitan region in particular is an extremely stable economy and investors from around the world have turned to the area for net lease investments. These investors viewed the DC metro area as one of the most stable markets in the world. International investors closed on bank and pharmacy deals in the DC metro area in 2010. The lease structure provided long initial terms with regular rent increases that, along with the investment grade credit rating of the tenants, offered a secure, stable and solid return on investment for the investors. The forecast remains strong and ULI in Emerging Trends In Real Estate 2011 predicts the DC area to be the top market for investing in 2011.

Rick Fernandez is Managing Director of Calkain Urban Investment Advisors.

You can read the full report here.

Chick-fil-A: Private Company Trades like Investment Grade

Although Chick-fil-A is a private company, there is great demand for their free-standing stores as net lease investments. The properties are well located near major shopping centers, university and college campuses, and business centers. More than half of Chick-fil-A’s 1,500+ locations are stand-alone restaurants, which meet customer demand for convenience and access in high-traffic areas.

Chick-fil-A is notorious for have strong franchised restaurant operators, proven by the fact that Chick-fil-A maintains a franchisee turnover rate of less than 5% per year. For net lease investors, it is reassuring to know that the Chick-fil-A triple net leases have a corporate guaranteed by Chick-fil-A, Inc. Many investors are becoming more comfortable with this top QSR brand and recognize that they carry a certain implied credit-worthiness. Chick-fil-A net leases properties provide a long-term investment with no property management responsibilities in the form of a 15 to 20-year primary term nnn ground lease. Also, it should be noted that the contracted rent typically increases 10% every 5-years throughout the lease and option periods.

When purchasing a Chick-fil-A ground-leased property, investors are buying the real estate upon which the Chick-fil-A restaurant sits. These ground-leased properties provide additional investment security given the nature of the real estate investment made by Chick-fil-A’s real estate team, which generally pays for the design, construction, and equipment for all new stores. Finally, from a real estate fundamentals perspective, knowing that store locations and developments are chosen based on corporate goals for target markets; it is not surprising that new stores are typically located in high-traffic areas and are often found as out-parcel/pad sites at major shopping centers.

Pros

• Excellent operators and exceptional, growing sales and market presence
• Strong real estate fundamentals
• NNN ground lease structure with rent increases

Cons

• Private company
• Franchised Operators
• Ground lease provides no depreciation on land

Read the full profile and many others here.

Part 2: A Chat with Cole's Micera on Office and Industrial

Cole Real Estate Investments (“Cole”) is a commercial real estate investment management firm founded in 1979 by Chris Cole. Cole’s investment programs are built on a strategy of acquiring income-producing, singletenant properties that are net leased to creditworthy tenants.

Robert J. Micera is the Chief Investment Officer of Office and Industrial for Cole Real Estate Investments.

HIPP: What (if any) regions are you focusing your investment activity in?

MICERA: Cole pursues acquisitions throughout the United States. Currently we own properties in 46 states. Our acquisition criteria focuses efforts on long-term, single-tenant assets (office, industrial and retail) net-leased to high-quality, creditworthy tenants. We look at assets in major markets, as well as secondary and tertiary markets, especially if the asset is strategically important to the growth and operation of a company. For smaller markets, we typically require 15 to 20 year triple net leases with annual rental increases.

HIPP: What types of property are you focusing on?

MICERA: Cole focuses primarily on acquiring single-tenant office, industrial and retail assets that are leased to creditworthy tenants under long-term net leases. Cole also acquires multitenant retail, such as power centers and grocery anchored centers, where the majority of space is leased to one or more creditworthy anchor tenants. Our current portfolio of properties maintains approximately 20% allocation to the office and industrial sector, and the remaining properties are retail assets. Our typical deal size ranges from as low as $5 million to as large as
several hundred million dollars.

Read the full interview here.

A Chat With Cole's Micera on Office and Industrial

Cole Real Estate Investments (“Cole”) is a commercial real estate investment management firm founded in 1979 by Chris Cole. Cole’s investment programs are built on a strategy of acquiring income-producing, singletenant properties that are net leased to creditworthy tenants.

Robert J. Micera is the Chief Investment Officer of Office and Industrial for Cole Real Estate Investments.

HIPP: How do you view the current climate in relation to office and industrial investing today? One year?

MICERA: Current valuations, combined with improving market fundamentals, create a solid buying opportunity that we believe will continue well into 2011. More office and industrial product came to market the last six months of 2010 and we expect volume levels will increase in 2011 based on the following key factors:

»» Sellers, who had been holding off bringing product to market, are now encouraged by the current “compressed cap rate environment” and by the brokerage community to bring their assets to market;

»» The low interest rate environment is facilitating buyers’ ability to acquire quality assets at lower cap rates;

»» More readily available debt, particularly CMBS, is allowing more buyers to return to the market; and

»» A slowly improving economy will allow corporations to grow which should result in increased build-to-suits, saleleasebacks, corporate acquisitions and refinancings, mergers, and expansions – all of which contributes to increased commercial real estate sale activity.

As more commercial product comes to market and diminishes the “2010 scarcity premium,” it would not be surprising to see cap rates stabilize, or even increase, especially if mortgage interest rates continue to increase or remain somewhat volatile. While the overall economy continues to improve and we see more evidence of consistent job growth, companies will consider expansion opportunities. This will lead to an increase in build-to-suits and sale-leasebacks. We have already started to see evidence of this increased build-to-suit activity in 2010. Also, manufacturing production has been increasing which means companies are building inventories again to address increased demand.

Read the full interview here.