Do you guys ever model both NNN and FS rent structures to see what the comparative impact is on returns (primarily IRRs), holding all other variables constant? The levered returns on my FS structure are much higher than the NNN equivalent--like 200 bps. I expected to see a smaller bump due to annual rent escalators on a higher all-in rent yielding some larger incremental rents (ie, escalating 2.50% on $50 FS will give you more incremental rent than 2.50% on $35 NNN), but 200 seems like a lot. All I'm really doing is adjusting the rents and reimbursables...seems way off.
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When you mean FS, are tenants paying expenses over a base year, or is the lease an absolute full service gross (tenant only writes 1 check for base rent, which factors in expenses)? What annual expenses are you assuming?
Your scenario could be right. For example, my company was going to sign a lease with a governmental agency that did not want to deal with unknown future expenses. They wanted to write one check, and pay a set x% increases year over year. Because they wanted to structure the lease this way, we baked a higher starting rent for us to take the expense increase burden. So, when we are underwriting / comparing day one, the IRR looked Accretive in what we were offering vs. tenant paying expenses over a base year. However, if for whatever reason operating expenses jumped down the road 5 years or so, this scenario could return a lower IRR / multiple vs. structuring the lease with the tenant paying expenses over a BY.
Cool, thanks for the feedback. I'm assuming the FS deals have a base year, so the expense reimbursement revenues are actually pretty similar in both models. The bucket of expenses (OPEX/tax/mngt fees) is like $16.50 PSF, so reimbursement rev is incremental increase over that number. I just found it hard to believe the escalator on a higher all-in rent could be that Accretive.
If your rent escalations exceed your assumed Opex increases, then you are correct to expect a higher levered return. 200bps does seem high but without specifics of the model it's hard to say what is the cause.
NNN Valuation (Originally Posted: 11/06/2017)
Are there any retail brokers that would care to share how they value certain NNN assets or the underwriting process. Thinking about broadening investment sales offerings.
Rent*12/cap rate
NPV of vacant building after lease expires + NPV of LEASE = Value
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