Re: NNN question - Posted by ray@lcorn
Posted by ray@lcorn on June 06, 2005 at 21:53:34:
Chadd,
This is one of those sticky questions that the answer actually raises more questions than you started with.
First, you have to determine exactly what governent entity you’re dealing with. I’m assuming we’re talking about the federal government here… state governments have additional quirks). Very few of the government leases (excepting the post office) have stable and predictable funding. Most state and federal leases contain language that says–in effect–that at any time the agency or entity does not receive funding (usually tied to an annual budget allotment by whatever legislative body has jurisdiction aver the agency or entity), then the lease is cancellable by the tenant with minimal notice. This has the effect of owning a multi-year lease, renewable annually.
Assuming you get comfortable with the long-term prospects of the agency being funded, the next consideration as to an appropriate return has to take into account the lease terms. The length of the lease, services required, repair and refurbishment clauses, etc. can all vary widely from one location to the next. Don’t evaluate the deal based on anything except the actual, signed, lease in force, and read every word.
Then you’ve got the normal “dirt” issues about the real estate itself. In short, a poorly located building in a bad part of town is made only marginally better by a gov’t lease. I always assign some weight to the “dark” value of the property, and given the state of gov’t finances right now I think this is more important than ever. Regardless of political rhetoric, deficit spending is not a viable strategy over the long term. Either taxes have to go up or spending has to come down or, most likely, a lot of both. And the less we do of one, the more we will have to rely on the other to balance the ledger. But I digress…
Last but certainly not least, it depends on what you’re trying to accomplish with the deal. If you’re looking for something to stick in your portfolio and forget about for five or more years, then you’ll probably be okay assuming the cash flow meets your minimum return criteria. If you’re trying to build a portfolio by generating cash from a short-term flip (3 years or less), then the cash flow has to cover about 10% transaction costs (commissions, recording fees and taxes, financing fees, etc.) on both the acquisition and sale in a relatively short time period. The appreciation from valuations at 7% cap rates (the current market for post office deals) is not going to be enough to cover that, and as the lease matures the income stream eventually loses value. That makes them unsuitable for short term plays, and brings us back to the dirt questions for long-term holds.
So do you see what I mean about creating questions? Depending on the market, location and your own investment goals and holding period, you may or may not want to assign a premium value to the deal based solely on the tenant.
That’s the long version. The short version is the one-size-fits-all answer to every real estate question… it depends!
ray