I invest in local NNN real estate. I'm considering investing in out-of-town NNN. Out-of-town NNN would help diversify my portfolio. Also, if I buy the out-of-town NNN at my common vacation spots, then I could deduct travel expenses.
How does one perform due-diligence on non-local NNN real estate?
I am ok with employing a commercial broker who knows the location, but how do I know that I can trust that broker?
Also, if I instead get a strip mall and need a property management team, how can I find a property management team that I can trust?
Thanks in advance!
Numbers, numbers and numbers...and CAP RATE (number), and length of lease remaining (another number), and Rating of parent company (another....), cash flow retained (I think that's another number.).
How does one get a good assessment of the location? Two buildings could have the same lease structure with the same tenant but have different value depending on the location. For example, a Burger King in the growing part of town is worth more than the Burger King in the crime-ridden part of town even if those two Burger Kings have identical lease structures.
As an out-of-town investor, it is difficult to assess the value of a location. I could rely on the local commercial broker's opinion, but that means that I have to trust someone that I don't really know.
Each state is cycling at various points in time. WI has some of the highest cap rates right now.
You have mentioned before what range of cap rates you are looking at. You are mainly in a high cap rate cash flow only state and not a high growth warm belt state.
Depending on your vacation spots there are lots of other buyers willing to take much lower cap rates to take deductions. If anything those areas are more cap rate compressed. Value of the dirt and rent growth tends to be more in the long term but initial returns and overall cash flow tends to be lower.
If you go strip centers then yes management has to come in to play along with many layers of factors ( caps on cam's, mix of gross and NNN leases, staggering of leases, mix of tenant quality,etc.). Cap rate tends to be higher but not a ton. Higher quality areas out of your state are likely trading at much lower cap rates than you are currently buying at.
As far as a broker you can trust it's a 2 way street. Some brokers will try to sell a piece of crap at a high cap because they know the buyer is unrealistic for what they want. The good brokers know what values properties are trading at by quality area and state and will not put time into a buyer that is wanting a return that is not available in the higher quality markets. Buyers tend to accept lower returns to be in quality areas.
For STNL most developers cap rate to cost is about a 9 so after long term capital gains and commissions on resale they have about a 200 basis point spread on the sale. Most STNL in quality areas is about a 5.5 to 6.5 cap right now tops with newly minted quality leases and locations. MTNL strip centers you can find sometimes 6.5 to 7.5 caps for high growth warm belt states. A lot depends on your price range. Sub 2 million price range there are a lot of cash buyers and loan rates tend to be higher. You go up into 4 million and up properties the cap rates and interest rates on loans can get better. So between cap rate and loan rate you might get a 40 to 65 basis points total bump on return but are putting more capital down.
If someone is looking for ultra high cap rate, low price point, newly minted leases with national tenant, great loan terms, and high quality location they are simply dreaming.
A great broker doesn't sugar coat things and tells buyer what the markets are doing whether they want to listen or not. It's a buyer right to say that return is not what they want and it is also a brokers right to not take the business and work with them as they are unrealistic for market returns.
I think that I will rephrase my question using the language of math. Let's assume that I purchase a property with a 10 year NNN lease.
10 year IRR = NPV of cash flows over the 10 years + NPV of Resale value
The net present value of cash flow is easily calculated from the terms of the lease. The net present value of the resale value is highly dependent on the value of the location of the property. A building in a growth region will appreciate more than a building in a non-growth area. But how does the investor determine the location value when the investor is from out-of-town and not familiar with the location?
It's not really that the building is that valuable but the DIRT that sits under the building. The building is simply an improvement upon the dirt.
For my clients I look at population growth, property at red light,stop sign, or none of the above?
Any quality back anchors driving traffic to the secondary site? Does the bank anchor own or rent and how long have they been there? Is the road 2,3,4 lane? Any new construction coming for road widening? Will it affect the land size and site layout with parking of the property?
What are the daily traffic counts of each cross road? Per the state is it increasing over the last 10 years, staying flat, or decreasing?
Who is the tenant? Are they national in nature? Even if national are they BBB- investment grade or better? If national and investment grade they might have set up the lease as a individual sub llc or have a subsidiary of a group of locations. If not national in guarantee then you have to look if large franchisee or small and if they disclose ongoing sales per the lease to monitor the health of the business.
With STNL on a newly minted 10 to 20 year lease the value of the property is tied to the tenant, location, and years left on primary term. As that winds down cap rate usually increases. You have to make sure also that rents are not way above market and developer built in TI over the leases. If tenant does not make it and you paid based on inflated rent then you can have erosion of equity upon releasing closer to market rates for second generation tenants.
Median income is about 56,000 nationally so I tend to look for more affluent areas with higher density and incomes.
There are many,many things to look for. Retail centers are underwritten differently as you have multiple tenants for an income stream with a lender so break even occupancy for the mortgage is different.
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