What is the Most Important Criteria to Consider When Purchasing a Single Tenant Net Lease Investment?
Okay, you’ve made the decision you want to purchase a single tenant net lease property, now what? What is the most important criteria to consider when purchasing a single tenant net lease investment? I’ve listed below the primary criteria I use when researching single tenant net lease investment property and I’ve listed it in order of importance. The list considers both the present as well as the future. Your order may change depending on your investment objectives.
1) Location: “Location, location, location” has always been the gold standard of criteria for real estate investments. I’d rather have a property with an average tenant in a great location than a property with a great tenant in an average location. Why? I’m planning for the future as well as the present. What happens if the current tenant vacates? If a strong tenant vacates an average location then I will most likely replace that strong tenant with an average tenant leaving me with an average tenant in an average location. If an average tenant vacates a strong location then I will most likely replace that average tenant with a superior tenant leaving me with a superior tenant in a great location. My vacancy will most likely be filled sooner and I’ll probably be able to command a higher rental rate and better lease terms. All factors which increase my overall value. Is the property located within a major retail corridor? What is the visibility and access? What are the demographics and is it a growing area? Etc.
2) Tenant / Guarantor: who is the tenant and guarantor? What is their credit strength? What is their financial backing to confirm they’ll be able to meet their lease obligations? Is the Guarantor obligated for the whole lease term including option periods? What are their historical sales and how well do they fit into the surrounding uses to ensure their long-term viability at that location? Etc.
3) Lease Term: how many years are remaining on the lease? What renewal options (if any) does the tenant have at their discretion? How does the remaining lease term fit into the loan expiration date? Etc.
4) Rent Increases: are there built-in rental rate increases into the lease? If so, what are they and when do they kick in? How about during the option periods? Many buyers of single tenant net lease property pay the minimum down payment amount so they can maximize the amount of property they can purchase, but this often leads to limited cash flow from the property. Rent increases provide additional cash flow and increase the Net Operating Income (NOI) of a property thus increasing the value of the property.
5) Tenant Expenses: which expenses are the responsibility of the tenant verses the landlord? Is it an absolute triple net lease where the tenant is responsible to pay for all property expenses including roof, structure, HVAC and parking lot? If not, you’ll need to budget accordingly. Also, is the tenant responsible to pay the expenses directly or does the landlord initially pay the expense and the tenant reimburses?
6) Building Construction: is the building “investment grade”? Were metal or wood studs used? Does it have block/stone/brick construction on all four sides or only the front with the sides and rear being metal sheeting? The quality of construction is important when determining future capital expenditures and replacement tenant options. When this tenant vacates, what kind of shape will the building be in for replacement tenant purposes?
7) Building Configuration: if you need to replace the current tenant, does the existing configuration of the building allow you to easily find a replacement tenant or will you be forced to pay a lot of improvement expenses to reconfigure the building?
For additional detail about finding a great NNN property, please visit the Successful NNN Investments page.