Big Box Store Cap Rates Increase as Sector Evolves
Single-tenant net lease big box store cap rates increased 29 basis points between year-end 2017 and year-end 2018 to 7.04 percent, reported Boulder Group, Northbrook, Ill.
Boulder Group Vice President John Feeney attributed the cap rate increase to investor concern about the “evolving” retail environment and the cost associated with filling big box properties if the tenant leaves the building. “Over the past year, a variety of tenant bankruptcies and store closure lists from well-known retailers including Toys ‘R Us, Orchard Supply (a Lowe’s subsidiary that closed all stores in November), Sears/Kmart and Shopko increased the vacancy in the sector,” he said.
Cap rates for big box net lease stores increased more than the overall net lease retail sector, Feeney noted. In late 2018, big box properties priced at a 79 basis point discount to the overall net lease market, up 11 basis points from a year before.
Investment-grade big box assets sold for $10.5 million on average in late 2018, or $176 per square foot. Non-investment-grade properties traded for just $5.4 million on average, or $141 per square foot.
Despite challenges, big box properties in primary retail corridors with strong real estate fundamentals remain in demand, Boulder reported, especially among institutional investors and large 1031 exchange buyers. “Expanding retailers including Burlington, TJ Maxx/HomeGoods and Hobby Lobby, and real estate investors were quick to acquire or lease the more desirable real estate vacancies left behind by retailer bankruptcies in 2018,” Feeney said. “Transaction volume in the net lease big box sector in 2018 reflected a similar pace to 2017.”
Feeney said tenant quality and finances have become more important for big box investors. “Investment-grade tenants including Walmart, Costco, Whole Foods and others are garnering a significant premium over non-investment-grade users,” he said, noting investment-grade tenants in the sector commanded a 68 basis point premium in the fourth quarter, more than double the premium associated with this category one year ago.
The single-tenant net lease big box sector will likely remain active as both individual and institutional investors seek net leased properties to fulfill larger acquisition targets and 1031 exchanges, Feeney predicted. “With higher yields than the overall net lease retail sector, many investors will be targeting assets with strong real estate fundamental after careful underwriting and understanding of local retail markets. However, big box properties with issues related to tenant health and financial strength and properties with irreplaceable rents or tertiary locations will be in less demand.”
