When doing investment analysis on a property it’s easy to focus on the numbers relating to the returns on investment or the strength of the tenant(s). However another important factor to consider is how an investment fits into your overall investment goals and your target holding period on the property.
The holding period is the estimated time you expect to hold onto the property before considering selling and reallocating those funds. The holding period may coincide with your financing terms or simply be an investment strategy to 1031 exchange into larger assets. Either way, you should make sure that those goals match up with the leasing terms of your tenant(s).
Let’s say for example that you plan on holding a single tenant property for 5-7 years before trading into something else. The property has a strong tenant that recently signed a brand new 10-year lease with no options to renew. Assuming that the numbers look good, is this the right property to acquire based upon your investment goals? Maybe, maybe not. If you dispose of the property after 5 years, you could have a good marketable property with a healthy 5-years of term remaining that may appeal to certain investors. If market conditions don’t allow for disposition after 5 years and you have to hold onto a property for 7-8 years, then you start getting into a tenuous situation and potentially limit your resale options. The remaining 2-3 year term may not seem appealing to investors and that same term is too long of a hold period for owner/users to consider. You may end up having to hold onto that property until the lease expires. If you are in a strong owner/user market and you have a 5-year holding period with a brand new 5-year lease with that same tenant, then this could be a great investment as they line up well.
The bottom line is make sure you don’t commit a foul. Don’t just look at the investment numbers, but also look at the lease terms and your investment goals. Sometimes the numbers don’t line up and you could hold onto a property longer than you like. This may outweigh the benefits of your yield benchmarks.