The pharmacy sector has tracked closely with the Single Tenant Net Lease (STNL) average. Pharmacies have typically been considered steady investment properties. The medicine they sell keep customers coming back to refill prescriptions. Recently, Rite Aid has been struggling, Walgreens has been expanding, and CVS started the process to acquire Aetna.
The Walgreens/Rite Aid merger discussion has been ongoing since October of 2015. In June of 2017, the Federal Trade Commission approval for the merger looked bleak, and instead, Rite Aid agreed to sell some of their locations to Walgreens. In September of 2017, the new deal was approved. Walgreens bought 1,932 stores for $4.375 billion.
CVS has recently announced plans to acquire the insurer Aetna. They hope to expand the role of their pharmacy locations and become “health hubs” for the communities they serve. CVS will have a greater reach into their patients’ health.
CVS, Walgreens, and Rite Aid have many aspects that make them very attractive assets for net lease investors. The two largest players in the sector, CVS and Walgreens, have great credit, BBB+ and BBB respectively, both investment grade. Rite Aid has lower credit, B, but can be acquired for a discount. All three tenants sign long leases, commonly 20-25 years. These long term commitments provide security for investors, but will have flat rent during the primary term (except for Rite Aid). The pharmacies offer a mix of NN and NNN leases, sometimes leaving investors with some landlord responsibilities, such as roof and structure. The locations pharmacies tend choose have many attractive aspects, including being in highly visible, corner locations that hold a high value for any retail tenant. As the US population ages, the entire healthcare industry will see increased demand. Pharmacies are well positioned
for the future.
The pharmacy sector has averaged about 20 bps below the STNL over the last few years. In 2017, this trend was shaken up with the rising Rite Aid cap rates pulling up the sector average to be right in line with the STNL average.
Cap Rate by Tenant
The tenant has a large effect on cap rates. Rite Aid has traded at a significant discount to the two largest tenants in the pharmacy sector. This discount is due to numerous things including a non-investment grade guarantee behind the leases, and a merger that turned into a sale of 1,932 locations to Walgreens. CVS and Walgreens had nearly identical cap rates to match their nearly identical credit ratings (BBB and BBB+ respectively).
Cap Rate by Lease Type
Double and triple net leases are the most common leases for net leased pharmacy properties. Double net leases leave the investor with some form of landlord responsibility, such as roof and structure. Triple nets will trade at lower cap rates but make the property a management-free investment for the owner. The average cap rates for double and triple net leases are very similar for CVS and Walgreens while Rite Aid had significantly higher cap rates on both types of leases.
Average Pharmacy Cap Rate by Term Remaining
The number of years remaining on a lease can have a major impact on the cap rate of a property. Investors will pay a premium to own a property that has a large number of years left on the lease.
Average Pharmacy Cap Rate by Region
California and the West Coast have the lowest average cap rates in the last 12 months. These regions have been experiencing a high demand for net lease properties that has kept cap rates low. This high demand has pushed cap rates in the western part of the country to below 6%.