A triple net lease, often called a net-net-net (NNN) lease, is a commercial real estate agreement in which the tenant agrees to cover the net real estate taxes, building insurance, and maintenance fees in addition to the agreed-upon rent. Every triple net lease is different, however, and typically has unique scenarios and parameters. Accordingly, an investor, landlord or tenant must perform a thorough assessment of the agreement before proceeding. Below are the most applicable considerations regarding triple net lease investments.
Unit economics outline the direct revenue and cost associated with the business model within the space. A proper unit-economics assessment enables the investor to determine the relative likelihood of lease renewal as well as predict potential profits. The type of tenant and operational expectations will greatly affect the unit economics, and thus the parameters and considerations of the NNN lease. A Starbucks has different operational expectations than a Mattress Firm, for example, and may want to negotiate a different NNN lease structure. Unit economics analyses are also helpful in comparisons between similar or neighboring locations.
Tenant quality in commercial real estate refers to the expected reliability, character and performance of an occupant. Low-risk tenants are typically favorable, primarily because NNN leases often involve single-tenant properties. An investor cannot risk the possibility of losing all forms of cash flow to cover expenses if a high-risk tenant fails and declares bankruptcy. High-risk tenants, however, offer the potential for higher cap rates and higher cash-on-cash returns, and different investors may prefer different levels of risk.
Rent and Term Length
Long-term triple net leases provide stability and longevity, but an investor must pay careful attention to ensure adequate stipulations and predetermined rent raises to account for inflation. Neglecting to account for the gradual decrease in the value of the dollar can cut into profit margins or offset them entirely, depending on the length of the NNN lease. Additionally, triple net leases can include renewal options, which provide investors, landlords and tenants with a viable alternative to a long-term contract. Triple net leases with renewal options are worth considering for less-proven business models.
An early termination clause gives the tenant the ability to sever ties before the lease term is completed and results in a severe risk of cash flow loss in an investment. A tenant is typically required to give ample notice of early termination accompanied by a lump sum payment.
A co-tenancy clause is a provision of a retail NNN lease agreement that specifies terms for the potentialities of neighboring businesses. Co-tenancy clauses offer the tenant some form of protection against a major competitor moving next door, or if an anchoring, adjacent business ceases operation or relocates. These types of scenarios can result in a significant change in consumer traffic and tenants may negotiate a co-tenancy clause as a precaution.
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