Net-Lease Retail

Overview

These are usually single-tenant retail boxes leased long-term to national or regional credit tenants. Think Walgreens, Dollar General, FedEx Ground, Tractor Supply, fast food, auto parts, dialysis clinics. In DSTs, they show up either as a single property or as a portfolio of 5 to 30 buildings spread across multiple states for diversification. The leases are almost always triple net, meaning the tenant covers taxes, insurance, and maintenance, and most have 10 to 20 year terms with options.

Analyst Notes

When you review one of these, focus less on the brand name on the building and more on the dirt underneath. Would the box re-lease quickly if the tenant left? What does the lease term remaining look like compared to your hold period? What are the rent bumps actually worth in real dollars? And watch the cap rate. Credit-tenant retail traded at compressed cap rates for a long time, and some DSTs from 2020 to 2022 paid a premium for credit that has since become less valuable as interest rates moved.

Advantages

• Truly passive income. The tenant handles taxes, insurance, and most operating costs, so the cash flow is clean.

• Long lease terms with investment-grade or near-investment-grade tenants give predictable income for most or all of a typical hold period.

• Easy to underwrite at a high level since the income is essentially a corporate credit obligation tied to a building.

Disadvantages

• Single-tenant binary risk. If the tenant goes dark or files bankruptcy, your income stops, and re-leasing a single-purpose box can take a long time.

• Rent bumps are usually small, often 1 to 2 percent annually or 10 percent every five years, which lags inflation.

• Residual value depends heavily on the underlying real estate, not the tenant. A great tenant in a so-so location is a problem at lease end.

Frequently Asked Questions (FAQ)

Property Type Performance Averages