Diversifying by varying the location of the assets you own is a common strategy that NNN investors use. Some investors create a diversified portfolio by purchasing properties in primary or secondary cities; others invest in different areas of the same region, state, or city (NNN net lease investors). This is helpful not only in terms of market differences, but also to avoid being hit by a natural or man-made disaster, as well as a local economic downturn.
Primary markets offer premium properties with high-profit potential but little appreciation, but the competition in these top cities is stiff. Secondary markets offer numerous opportunities for investment. But investors need to ensure they are investing in the right type of property for the city in which they are interested.
For this strategy to work, investors need to have extensive knowledge of the area they plan to invest in. And they need to spend some time before, during, and after the purchase to inspect and manage the property.
If an NNN property investor is looking at QSR properties for investment for example, then, first of all, it might behoove the investor to invest in the region they are present already. Market knowledge, access to expert advice and intra-regional relationships, a past track record of successful investing and sheer experience, all are hard to beat. However, net lease investors will go outside their preferred geography for diversification, or simply to chase yield or returns or cap rates, or for retirement reasons or family reasons, or to take advantage of favorable changes in states’ tax laws. Using the mechanism of cap rates can give a triple net lease property investor an edge on their decision-making when making decisions on investing in NNN properties across states (national tenant NNN investor, NNN advisors).
The state or region in which a NNN property is located can have a huge impact on its traded cap rate, due to the intrinsic real estate markets and economies of each region. Some studies report that cap rates for QSR NNN properties in the South and South East (6.18% and 6.12% respectively) are significantly higher than their counterparts in the West at 5.43%, Mid Atlantic at 5.66%, Florida at 5.48% and Mid-West at 5.95%. California’s QSR NNN properties trade at the lowest cap rate with an average of 4.59%.
However, cap rates can also vary by type of net lease, in addition to varying by state or region. Depending on how much a net lease investor is responsible for the structure and maintenance of the property can have a major effect on the price via its cap rate(NNN advisors, NNN property portfolio). This is why a recent study pointed out higher cap rates due to QSR NNN leases at 5.80% overall and 5.65% with 10+ years remaining versus double-net, NN leases that average 5.69% and 5.57% respectively. (Note that ground leases totally absolve the owner of maintenance or upkeep which is more of a premium, causing those cap rates to be lower, hovering below 5%.)
Further, it would appear that the number of years remaining on a lease also has a direct impact on the cap rate BUT this correlation also depends on the specific QSR tenant. Another national tenant NNN investor study pointed out that the Bojangles cap rate was 6.11% no matter the remaining term. Chick-fil-A actually increased with longer terms with 4.32% compared to 4.30%. This is most likely a result of a higher premium and value on Chick-fil-A compared to other QSR tenants. Burger King had the highest cap rates and McDonald’s came in a close second when considering years remaining on the term.
Call on your trusted NNN advisors and brokers at the Triple Net Investment Group for further nuance on building and diversifying, across states, your net lease NNN property portfolio.
