Anyone ever invested in Sonic Drive in NNN property?

Question

I found a sonic drive in with an 8% cap rate thats NNN. Its only a real estate purchase. The business is owned and operated by the renter.

Does anyone here have experience with these investments? Pros/cons? Is it something to consider even though its single tenant? I have no idea how stable a typical sonic franchise is.

Thanks

Mike Dymski · Answer

But you don't have tater tots and chili cheese dogs...

William Thresh · Answer

I have not had any experience with Sonic specifically, but most of my portfolio is NNN leases and they are great. We have warehouses and lease to Fortune 500 companies. Very little management, they always pay rent on time, and even do their own improvements to our properties. Especially with a long term lease you cannot go wrong.

Kevin Sellers · Answer

Sonic is a good brand and a 53-unit operator indicates a decent sized tenant.  Make sure tenant is required in the lease to provide annual financial statements and store sales for the specific property so you can evaluate tenant financial strength.  Biggest drawback to Sonic properties is the specialty nature of the land improvements.

Joel Owens · Answer

There is some more value add in retail then multifamily currently. Retail for sure is a less intensive asset to manage than the multifamily sector. I know because before getting into retail over a decade ago I was selling the bigger apartment buildings to clients. 2009 was a very different time in the markets. You could buy and sit on it and let multifamily cap rate compress converting from a buyers to a  sellers market and occupancy and rents were rising.

Now with multifamily you have tons of investors buying multifamily at the top trying to squeeze yield and hoping their optimistic projections pan out top of the cycle for that asset class. I am sure you already know this which is why you are searching for yield and deals in other asset classes.

I work with clients one on one but I require exclusives. I stay busy around the clock so only have time for exclusives.

Joel Owens · Answer

Hi Tim,

I look at tons of STNL a week nationally. It's my specialty.

Retail STNL is a specialty niche.

Sonic typically has a specific use footprint and very hard to re-adapt. I have seen them go vacant and if they sit for awhile unless location is really strong and a tenant or developer wants to scrape the site and parcel size and layout with access is good. Ones that stay as they are I have seen turn into car rental places such as Enterprise or Hertz. They park the cars in the old drive up ordering sit and eat stations.  You would have extra costs scraping the land with building instead of having it entitled and ready to go.

I am sure you were drawn in by the 8 cap. It's typical for buyers new to the space not to understand how these properties are financed. Financing is tied to location of the property (demographics, traffic counts, income levels,population levels,etc.), strength of the borrower, and guarantor on the lease.

Developers on new STNL projects for retail typically have a cap rate to cost of a 9. Once you take out short to term long term capital gains on resale for a developer, commission broker costs, legal costs,etc. breakeven is about an 8 cap and then developer sells for a 5 to 6 cap typically for a 200 basis point profit spread with a newly minted lease in place.

If it's Chick fil a or Mcdonald's those can go for 4 caps. Who buys 4 caps? UHNW investors with tens of millions in cash wanting to beat out government bonds long term, and CD's but want to own hard real estate assets that are not as volatile as other investments (stocks,etc.).

I care nothing about the 53 unit operator. I care about WHO is backing the lease.

Parent company could own 1,000 locations but if they set up a single unit entity LLC then they can remote bankrupt the property and walk away from the lease. Even if they have a few stores attached the stores could all be sub-performers that are worthless for the lease. You want to see if it personally guaranteed and net worth of the operator and how their assets are structured ( example if their worth is protected in retirement accounts and hard to access if you need to go after them with the guarantee etc.).

You want to look at rent to sales ratio, EDITBAR, sales trend last 3 years, when store was last re-imaged,etc.

Most STNL if under 10 years left on the primary lease term are very hard to finance. Lender look at appraised as-is value and dark value when lending. They want to know when primary lease term ends and building is vacant that value of building and land exceeds or matches mortgage balance. In worst case scenario lender wants to breakeven on the mortgage if it becomes non-performing instead of taking a big loss.

As STNL primary lease term winds down cap rate tends to rise as financing is difficult and more cash buyers needed. If you are looking at a property with just say 4 years remaining on primary you would be likely looking at a high amount down like 75% or all cash purchase. I have seen a few instances where lenders will go against this BUT the purchaser is very strong like they are buying a 2 million property with 3 years left and put 40% down but they make 1 million a year income and net worth is 10 million and loan is FULL unlimited recourse against the borrower.

In that case the lender might agree to a loan like that because borrower is so strong and can float the vacant property until released making the mortgage payments.

Now when you get into MTNL the banks underwrite differently as you have multiple income streams and businesses cash flowing the property against the debt verses one with STNL.

Hope it helps. It's all situational. I have clients nationally some with 1 million and others over 100 million.

Tim Rainey · Answer

Joel, you are right. I was browsing online for strip centers, etc and searching by cap rate and stumbled across this 8 cap which got my attention. I am no real estate professional , but I invest with a group that syndicates multifamily.  I understand multi pretty well but this special purpose thing is not what I know but it sounded interesting because of the NNN and cap rate obviously.

Deals are not as plentiful currently and I always wanted my own commercial property, the difficulty for me being locating it. From what you are telling me about this, it sounds like something that I would pass on and look for something else that is not such a specialty structure that would be hard to rent to a different tenant should this one move out.

Thanks

Joel Owens · Answer

Forgot to mention that lenders like to accelerate the mortgage pay down with short term remaining on the lease. So the 8 cap you think you are getting is negated with financing for cash flow by a 10 year amortization and tons of amount down on the loan.

That is one part buyers typically do not understand with STNL. The best financing is on the newly minted 15 to 20 year leases. One option post closing is to try to get the operator to extend the 2 options to now make a more long term primary lease. The operator if they agree will want something in return so you have to look at if you get more out of it than you give. Also need to see if rents are at, above, or below market so if that operator and the owner of the real estate cannot agree to new lease terms you can get a new tenant in who will.

Example if I buy an 8 cap but vintage rent when lease was orginated was 25 a foot and now it's 33 but market rate is 20 then cap rate could drop to 7 with new tenant at less rent.

William Thresh · Answer

We usually ask for min of 3 years but we have all the way up to 10. For tenant like sonic I would ask for 5-10 years easy. definitely look at their finances make sure they do well enough to stay for a while.

Jay Hinrichs · Answer

I have no empirical knowledge or data on this.. but I have had a lot of my clients or others ask me about dollar generals and dollar stores.

and then I read an article that one or the other is shutting 50 to 100 of them..  Don't know if they default at that point or how the leases look.. but at the end of the day I suspect you have to look at the what ifs.

one the post with the warehouses I suspect those would be easy to find another user for compared to a single purpose building like you mentioned.. or a dollar store built out in some now where place in the country were they are the only users for that type of space..

Anyone ever invested in Sonic Drive in NNN property?

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