by Ray Alcorn
One of the most popular property types in commercial real estate are "triple-nets," also known as "NNN" deals. These are typically single-tenant retail properties leased to tenants with high credit ratings on "net, net, net" terms (hence the NNN acronym), meaning the tenant is responsible for real estate taxes, insurance, and all maintenance.
At first glance these deals appear to be the perfect investment. They are typically new or nearly new, have no management responsibilities, a long-term lease to a quality tenant, stable cash flow, attractive financing, and the unique tax benefits only real estate provides.
The advantages have fueled a tremendous growth in demand from investors on every level. They appeal to part-time investors looking for guaranteed income with no management responsibility, and they provide an attractive exit strategy for those with mature portfolios. As with any investment, there are many factors to consider in valuing and structuring the deal.
First, like frozen food, you "pay" for the convenience of no management duties and stable, long-term income in the form of lower returns than with a more hands-on, high-maintenance project. Prices start in the range of a 6% cap rate for the highest rated tenants, up to perhaps 8.5%–9% for lesser credit quality or those with short lease terms.
[Note: A cap rate is the percentage of return on the investment as if it were bought with all cash. The lower the cap rate, the higher the price. See this article: Deriving Your Cap Rate for more detail.]
Investors who use debt financing can produce leveraged returns in the 10% - 12% range. But as we will see, income is not the only determinant of value.
Second, and often overlooked, is the wide range of risk exposure for NNN properties, even those with investment grade credit ratings. Contrary to popular belief, these are not "risk-free" investments, and in fact require a level of understanding beyond that of more typical real estate investments.
At first glance these deals appear to be the perfect investment. They are typically new or nearly new, have no management responsibilities, a long-term lease to a quality tenant, stable cash flow, attractive financing, and the unique tax benefits only real estate provides.
The advantages have fueled a tremendous growth in demand from investors on every level. They appeal to part-time investors looking for guaranteed income with no management responsibility, and they provide an attractive exit strategy for those with mature portfolios. As with any investment, there are many factors to consider in valuing and structuring the deal.
First, like frozen food, you "pay" for the convenience of no management duties and stable, long-term income in the form of lower returns than with a more hands-on, high-maintenance project. Prices start in the range of a 6% cap rate for the highest rated tenants, up to perhaps 8.5%–9% for lesser credit quality or those with short lease terms.
[Note: A cap rate is the percentage of return on the investment as if it were bought with all cash. The lower the cap rate, the higher the price. See this article: Deriving Your Cap Rate for more detail.]
Investors who use debt financing can produce leveraged returns in the 10% - 12% range. But as we will see, income is not the only determinant of value.
Second, and often overlooked, is the wide range of risk exposure for NNN properties, even those with investment grade credit ratings. Contrary to popular belief, these are not "risk-free" investments, and in fact require a level of understanding beyond that of more typical real estate investments.
Risk is always present
In evaluating any NNN deal, be aware that all
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