Considering a NNN investment - looking for feedback

[John P.]

I am looking at some NNN investment options to hopefully get some mailbox money in my retirement. I was thinking to maybe buy one (NOT the whole portfolio, lol) of these Advance Financial locations that are located in small towns in Tennessee. The 7.25% cap rate is appealing of course. The small towns are not totally appealing but it seems like a somewhat recession proof business. I could see more of this business happening online which could harm their business model. Curious what you experts look for when evaluating an investment like this.

https://www.crexi.com/properti...

[Joel Owens]

Hi John,

I have seen your situation tons of times.

I don't work with buyers doing what you are proposing in that small price range. Buyers tend to have an idea of what is out there but I tend to know from reviewing so many properties weekly.

You have urban core, strong suburban, weak suburban, and rural areas.

My clients invest in urban core to strong suburban areas. Developers typically pay 400k up to 1 million per acre just for the land. After build out costs they sell usually in the 2 million plus price range. They have legal, real estate commissions, and long to short capital gains taxes so their goal is about a 200 basis point profit margin. So if they build it break even for a 9 cap plus and lose 100 basis points in resale costs that makes sale price about a 6 plus cap range to make 200 basis profit spread.

For a newly minted lease with a credit tenant selling at 7 caps makes no sense to them whatsoever unless we are talking 5,6,7 million dollar properties where cost per acre can go down and cost per ft to build can be cheaper so breakeven cap rate is higher. There is some medical stuff in mid to high 1 million plus range but not investment grade tenants so loan is likely low 5's for rate with 20 year amortizations. 

Sometimes you can get sale leasebacks of older buildings for newer lease but even then might be high 1.7 or 1.8 million and up range.

1 million dollar existing building is high chance to be in rural to weak suburban markets. Granted you want no debt as likely might see that as less risky. It's still could go dark and then you are paying taxes and upkeep on a vacant property. As long as you are fine with that and know the risk it might work but no guarantees. A sweet spot for all cash is more value add STNL plays with maybe 7 years and under left on the lease for higher cap rates.

There are properties for 1 million but in markets I would deem too weak to recommend to my clients. You could buy say an investment grade tenant such as Advance Auto or Auto Zone with a long term lease in a good area and then do maybe 50% or 55% loan with no pre-pay penalty around 1.8 to 2 million price. You get more write off with depreciation likely and compounded returns with cash on cash and principal paydown. The loan you could add extra cash to chop it down so in year 10 it could be really small balance left.

It's hard to say which is why I have my clients send me financials. For instance if someone is retired and this is most of their life's savings that is a different discussion than someone worth 8 million and a doctor making 1 million plus a year doing surgery. Each situation is different.

If you want to absolutely stick to 1 million price all cash try to find the best building in the strongest market you can so at least the dirt is valuable. Those tiny towns if the tenant goes out the second generational tenant does not usually pay as much so some equity from initial down payment when the property was acquired is erased whereas a strong suburban location to urban area the rents might have actually GONE UP in that time for that area and you can re-lease at higher rates. Growing stronger markets attract regional to national tenants especially the warm belt states.

You would need maybe a Marco's pizza, a dominos, etc. for small price points or sometimes a ground lease can be cheaper in a more expensive area. An example an absolute NNN in strong suburban might be 2 million plus but a ground lease might be low 1 millions BUT cap rate is usually 5 to 6 with 10% bumps every 5 years and little to no tax benefits.

Have you thought about DST's? You could own part of a 10 or 20 million property in an A location that you might not could afford on your own or want to take debt on to buy. There are downsides to DST's as you do not control the asset or the timing of the exit and fees to buy in are high.

I am just sharing my experience over the decades. Buyers tell me what they want and then I show them the realities of the markets. I try to do the best I can but if the gap is too wide for expectations versus realities then it's a no go.

If you do go for all cash try to see what market rents are and get below market for that area. Personal guarantees even with good net worth for non-investment grade tenant are not worth as much. Tenants can have lenders and landlords chasing them for years in courts with stall tactics. It's better to see business and personal financials and see how they are performing and trending.

At 1.5 to 2 million plus price point there is a chance to find something in a good market. 1 million flat is almost non existent.