The COVID-19 pandemic stirred up uncertainty within the retail sector, but as retail properties begin to rebound from the effects of the pandemic, lenders have returned to quoting and closing loans. The sale of retail properties was up at a double-digit rate in July, but despite this impressive growth, volume was still muted relative to normal trends. There is seemingly no end to capital markets’ reach as funds are granted for both construction and distressed investments. There are clear winners when evaluating performance, specifically grocery-anchored and single tenant net lease (STNL) properties. Still, unanchored retail centers are finding it difficult to attract financing options. In this article, Matthews™ provides a summary of the current financing options for each retail property type.
Many retailers have experienced vulnerability from further e-commerce expansions. The retailers that circumvent this disruption sell essential products, like grocery stores. The pandemic placed a spotlight on the grocery business due to its necessity, adaptability, and performance. Grocery store sales soared in 2020 due to the pandemic, with experts anticipating only a slight decline in 2021. For example, Kroger’s comparable sales were up 14.1 percent in 2020, and the company expects sales to decline only three to five percent in 2021 due to lower at-home consumption activities and less pantry loading. The attractiveness of a retail property is a function of its credit risk, and many grocery stores are in a strong financial position. As such, there’s less credit risk for shopping centers with grocers compared to shopping centers with smaller stores.
Grocery stores have proven to be remarkably adaptable, and therefore lenders have become very interested in this property type. These lenders include banks, CMBS lenders, debt funds, and life insurance companies. The loan-to-value (LTV) for a grocery store is typically 70 percent or more with banks and CMBS lenders. Amortizations of 25 to 30 years are often quoted. Typically, pricing is very competitive, in the low to mid-three percent range, and even sub-three percent at a lower LTV of 60 percent or less. At the lower LTV, CMBS lenders can also offer full-term interest only.
Single Tenant Net Lease
Although the net lease retail market has become highly segmented over the past year, these properties remain very attractive for lenders. The property types in the highest demand include convenience stores, drugstores, grocery stores, quick-service restaurants, self-storage, and healthcare. Typically, pricing movement lags behind other major property types (shopping centers, office, and multifamily); however, capital has flowed into the space over the past two years. This influx can be attributed to limited owner responsibilities, long-term leases, strong credit tenants, and attractive rental increases. Depending on the tenant, location, and length of the lease term, lenders can quote single tenant properties in the low three percent range at 65 percent LTV with amortizations up to 30 years. Life company lenders can offer self-amortizing loans, usually with term and amortization that matches the lease maturity priced in the low three percent range.
Strip centers host a continuous row or strip of retail stores and allied service establishments, none of which are the anchor tenants. While these centers have always been around, they are considered risky as the tenants were highly impacted by COVID-19 and encountered lower lender appetite and interest levels. Historically, CMBS lenders have been a primary lending source for these properties. In fact, from 2017 to 2019, retail properties were the second largest concentration in CMBS loans behind office properties, averaging 23 percent. In the trailing 12 months, retail properties comprised 14 percent of the loans, a 66 percent decline year-over-year.
Unfortunately, other lending sources such as banks and life insurance companies already have a concentration of strip centers in their portfolios and have chosen not to increase their exposure. This has resulted in lower LTV options for these properties, often with higher priced lenders. However, these centers were already moving towards being internet-resistant by offering everyday goods and services. These tenants include restaurants, telecom providers, barbershops, salons, dry cleaners, courier/delivery firms, liquor/wine stores, urgent care providers, dentists, and financial service firms. The lifeline of an unanchored center depends on the market and packing of retail.
As the economy recovers from COVID-19, these retail properties will benefit, and pre-pandemic lending sources should return.