The NNN Cap Rate That's Hiding the Risk

A single-tenant net-leased building is supposed to be the easy button of commercial real estate: one tenant, a long lease, the tenant pays the taxes, insurance, and maintenance, and you collect a check. This one was offered at $5,000,000 on $350,000 of rent — a 7.0% cap rate, marketed as passive, stabilized income. Clean number. Now price the lease, because the cap rate didn't.

Three things the 7-cap doesn't tell you. First, term: there were four years left on the lease, not fourteen. A net lease is only as good as its remaining term — at year four you're facing renewal negotiations, and if the tenant walks you own a vacant, single-purpose building with carrying costs and a leasing assignment. Second, credit: the tenant was a private regional operator, not an investment-grade national. The "guarantee" behind that 7% is one private company's balance sheet, which you have to actually underwrite. Third, the rent itself: at $350,000 the building was renting above what the space would command on the open market, so at expiry the most likely outcome is a mark-to-market down — meaning the in-place income is partly borrowed from the future.

Stack those together and the 7.0% cap rate is really a bet on one non-credit tenant renewing a short, above-market lease. That's not passive income; that's concentrated lease risk wearing a cap rate.

The lesson: a NNN cap rate prices the building. You have to separately price the lease — remaining term, tenant credit, escalation structure, and where the in-place rent sits versus market. A 7-cap on a 15-year lease to an investment-grade tenant with 2% bumps is a completely different asset from a 7-cap on a 4-year lease to a private operator paying above market, even though the headline number is identical. The whole game in single-tenant net lease is that the cap rate compresses the lease into one number and hides everything that actually drives risk.

Pressure-test the lease before you trust the cap rate with the NNN lease analyzer and how to underwrite small industrial. For the structure itself, see the sale-leaseback entry.