Single Tenant Net Lease Activity Rebounds in Q3

After slumping in the second quarter, single-tenant net lease sales rose 13.8% in Q3, according to the U.S. Capital Markets Net Lease Group Cap Rate Report from Avison Young.

In all, 329 trades occurred in Q3, which was an increase compared to the 289 posted in Q2. Q3’s sales figure was still well below the 416 transactions posted in Q1.

While sales increased from Q2 to Q3, the average cap rate across sectors rose 20 basis points, as the average remaining lease term dropped by half a year, according to Avison Young. However, if an asset had 10 or more years remaining on its lease, the cap rate decreased 14 basis points to 5.97%.

“The fact that cap rates have risen only minimally in 2020 is likely explained by investors’ increased focus on the handful of tenant sectors considered to be the most stable,” according to Avison Young. According to Avison Young, the best performers in Q3 were stores inhabited by automotive, quick service restaurants (QSRs), pharmacies and dollar stores.

The average cap rate in the automotive sector rose 21 basis points to 6.50%, while the number of trades in the sector rose from 21 to 37. For QSR, cap rates fell 11 basis points to 5.61% despite a two-year decrease in average remaining lease term. Trades jumped to 91 after hitting just 49 in Q2. Cap rates for pharmacies stayed around 6.30%, while the average lease term fell half a year. Trades increased from 41 to 56 quarter-over-quarter.

Dollar Store cap rates fell 18 basis points to 6.93% despite a 0.4-year drop in average remaining lease term. In Q3, 75 trades occurred versus 77 in Q2.

Assets tenanted by banks, convenience stores and medical users saw activity continue to decline, and volume in the education and big-box sectors was near zero.

“Casual dining and even some big box stores concern me,” says Jonathan Hipp, principal, U.S. Capital Markets and head of U.S. Net Lease Group at Avison Young. The recent announcement that Burlington will lower its retail footprint is one reason for Hipp’s concern with big boxes.

“It [reducing footprints] is a trend you’re going to see a lot of,” Hipp says. “It’s no different than the office market. I don’t see Costco or BJ’s probably doing anything, but I think that some people are going to start to rethink if they need the square footage that they currently have.” But this doesn’t mean that these companies will exit retail stores altogether.

“Stores might continue to lower the square footage on their boxes, but continue to grow their brick-and-mortar business,” Hipp says.

Apartment owners weren’t the only ones who felt the exodus from urban areas. Hipp says that migration also showed up in net lease.

“Urban markets suffered, even if they were essential businesses, because people shied away from them,” Hipp says. “There was a big exit from major cities during COVID. Certain tertiary markets that had a good quality of life and were close to an urban area did well.”