Texas Real Estate Business

MAY 2016

Texas Real Estate Business magazine covers the multifamily, retail, office, healthcare, industrial and hospitality sectors in Texas.

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38 • May 2016 • Texas Real Estate Business www.REBusinessOnline.com H unger for yield and still-low in- terest rates, the dynamics that have fueled a robust net lease investment market for retail proper- ties over the past few years, remain in place so far in 2016. However, emerg- ing signs suggest that prices are near- ing their peak as recession worries continue to mount. Institutional, high net-worth and foreign investors make up a good chunk of net lease buyers, who are plowing money into Family Dollar stores, Walgreens properties, quick- service restaurants, convenience stores and similar retail properties that are geared to provide steady in- come from stable long-term tenants. But 1031 Exchange buyers, who roll the proceeds from a property sale into a similar property for tax benefts, have increased their appetite for net lease properties over the last six to nine months to become some of the most active buyers in the market. "The market is red hot; there's a tre- mendous amount of money want- ing to get into net lease real estate," says Ralph Cram, president of North- brook, Ill.-based Envoy Net Lease Partners, a private lender focused on ground lease, construction and bridge loans for net lease properties. "Investors want stable cash fows and non-volatile assets." David Sobelman, an executive vice president and managing partner with Herndon, Va.-based net lease broker- age Calkain Companies, says that his frm has generally served two cat- egories of buyers over the last several months: 1031 Exchange buyers and institutional investors "starved for a passive, stable and above-market" yield for the long term as an alterna- tive to bonds. In turn, feisty demand is maintaining low capitalization rates, states Sobelman, who operates in Calkain's Tampa, Fla., ofce. Well- located properties housing credit ten- ants like Walgreens and McDonald's in major markets with longer lease terms are commanding typical cap rates from 4.5 percent to 5 percent, he says. For example, in Janu- ary, Calkain brokers oversaw the sale of a newly constructed Taco Bell with a 20-year lease in Pompano Beach, Fla., at a cap rate of 4 percent. Mean- while, assets with more risk — those leased by non-credit tenants, those that have shorter lease terms or those in secondary and tertiary locations — are generally trading some 100 to 250 basis points higher, Sobelman says. "Until there is an investment, real estate or otherwise, that ofers the sta- bility, growth, passivity and/or yield that today's net lease properties pro- vide, then cap rates will stay in the lower ranges," Sobelman says. Higher cap rates typically found in the Heartland have also stimulated the appetite of buyers, says Randy Blankstein, president of net lease brokerage Boulder Group. In early 2016, the Northbrook, Ill.-based frm arranged the sales of a Walgreens in suburban Kansas City, Mo., for $6 mil- lion and an LA Fitness in Chicago for $9.5 million. The deals featured cap rates of 5.86 percent and 5.63 percent, respectively. The LA Fitness property was sold to a 1031 Exchange buyer. "Investor demand in the Midwest is strong, as it has historically been a market with higher cap rates than that of the coasts for similar assets," Blank- stein says. In some cases, however, sellers are pricing net lease retail assets too ag- gressively and have begun to encoun- ter resistance, especially for properties in less-than-premier locations, with lease terms of fewer than 15 years, or that lack reasonable rent bumps, observers acknowledge. By way of example, a Walgreens landlord may hear that a Walgreens property in the area traded for a cap rate of around 5 percent, and so he decides to test the waters and seek the same cap rate, re- ports Joey Odom, a director with Stan Johnson Co. in Atlanta. "But those prop- erties they're trying to sell may have only fve years left on the lease, and not 20 years like the one that sold at the fve cap," says Odom, whose team recently handled the sale of 25 Dol- lar General stores in the Midwest at a cap rate of less than 7 percent. "People are bringing properties to the market with unreal- istic pricing, and I don't think they're trading." Some investors worried about a possible recession and tightening credit have in general become more cautious, adds Ian Schroeder, a senior vice president specializing in net lease properties with CBRE in Newport Beach, Calif. Last year it was com- mon to put assets up for sale at prices higher than market to take advantage of demand. Early this year the phi- losophy shifted to asking for a price closer to market to create a bidding war, ideally between fve to six par- ties, he says. "I believe right now we're in the middle of an adjustment on aggres- sive capitalization rates. I'm getting a lot of email blasts about price re- ductions that we just haven't seen in the last four years," explains Schro- eder, whose team closed 65 transac- tions valued at $200 million in 2015. "There's a feeling that the market is going to correct, and nobody wants to be the guy that paid too high a price just before the correction." Exchange Trade Frenzy Boulder Group research indicates that cap rates for net lease properties continue to compress, but more stub- bornly than in previous quarters. Me- dian asking retail net lease cap rates dropped 25 basis points to 6.25 per- cent in the frst half of 2015 and then remained at that level in the second half of the year. In the frst quarter of 2016, asking cap rates ticked down seven basis points to 6.18 percent, the brokerage said. The slight drop in cap rates in the frst quarter occurred despite the Fed- eral Reserve Board's decision in De- cember to raise the target range for the federal funds interest rate to 0.5 per- cent from 0.25 percent, and net lease NET LEASE INVESTMENT SALES ACTIVITY MAINTAINS BRISK PACE 1031 Exchange buyers and private investors looking for yield drive demand, but stabilizing cap rates suggest this cycle is nearing the top. By Joe Gose Ralph Cram Envoy Net Lease Partners David Sobelman Calkain Companies Joey Odom Stan Johnson Company see NET LEASE page 40 YOUR SHARE OF $620 MILLION * IS WAITING IN GREENVILLE, TEX AS Ho usto n Austin Little Ro ck Shrevepo rt Oklahoma City h Dallas RETAIL HUB DRAWING FROM 300,000+ POPULATION IN RETAIL TRADE AREA NORTHEAST TEXAS 60% OF RETAIL SALES COME FROM OUTSIDE OUR 5-MILE RETAIL ZONE UNDER CONSTRUCTION greenvilletxedc.com • 903.455.1197 • gsims@ci.greenville.tx.us • jdickson@ci.greenville.tx.us *5-mile radius retail sales (esri 2015)

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