The Retail Pharmacy Sector

The Retail Pharmacy sector has been a safe and solid investment for investors and 1031 exchange buyers for many years. The two companies dominating the retail pharmacy investments are Walgreens (NYSE: WBA) and CVS Pharmacy (NYSE: CVS). Walgreens and CVS both have investment-grade credit rating of BBB. These companies have both been very active with mergers, acquisitions in an effort to enhance their stance in the pharmacy sector. Just last year, Walgreens closed on its acquisition/merger of 1,932 Rite Aid stores. Of those 1,932 Rite Aid stores involved, they will either be transformed into a Walgreens store, closed, or still operate as Rite Aid with a Walgreens pharmacy. Last year CVS finalized a major acquisition of Aetna, a healthcare company, aiming to offer more accessibility to lower cost and higher quality healthcare, as well as a more integrated healthcare experience.

These acquisitions and mergers are just one of the many strategic steps Walgreens and CVS are taking in an effort to look toward the future and stay Amazon proof. This term has been getting thrown around a lot lately in the net lease retail world by brokers and investors as Amazon seems to have a hand in every business sector. However, the success of these pharmacy companies also come from the attractive real estate locations they occupy. Usually always located as a stand-alone store at a busy hard corner intersection or on a pad site shadow anchored by a large retailer or shopping center.

Investment Fundamentals

Aside from the attractive real estate location and high visibility of the retail pharmacy also comes with a safe, long term and steady return on investment. The longevity of the investment comes from the 20-25-year leases that Walgreens and CVS sign backed by the BBB investment-grade credit of the well-known national companies. The leases from both tenants are either double net (NN) or triple net (NNN) leases. The double net leases are riskier purchases as the landlord is then typically responsible for the outside roof and structural maintenance and repair. The rent for these two tenants is generally flat throughout the primary term, however there can be some exceptions in which there are rental increases every 5 years.

The price points for retail pharmacy also offer a variety of different price points which vary depending on location with some investments reaching as low as $1 million and as high as $37 million. The varying price points work especially well for 1031 exchange buyers who are under time constraints to place their money and close on a solid investment property.

Retail Pharmacy Sector Performance

The retail pharmacy sector has averaged around 20 basis points (bps) lower than single-tenant net lease (STNL) investments the past few years. This is especially true for 2017, as Walgreens and CVS investment properties were achieving aggressive cap rates and sale prices. After 2017, the cap rates have leveled out to be more in line with the national average for STNL retail investments.

California and Florida are two markets still demanding premium cap rates and sale prices. These two states are consistently fetching some of the lowest cap rates across the country for their attractive locations and densely populated demographics. One of the reasons for the lower cap rate trend among Walgreens and CVS across the country is due to investors buying these retail pharmacy properties in desirable real estate markets and getting very particular with the physical location of the stores. Due to the thousands of locations that Walgreens and CVS stores, there is a constant amount of product on the market, however the downside is that there are many retail pharmacy investments that are in less desirable, tertiary markets that sit on the market for months and months.

Looking Ahead

There is still a high demand for retail pharmacy investments due to a number of factors. A major positive for the pharmacy sector is the aging American population and the amount of prescriptions this demographic receives. The aging population mixed with a great return on investment, the lease structure, the desirable highly visible locations and the crediting rating guaranteeing the lease.

The buyer pool has shifted for the retail pharmacy sector. There has been a slow down in larger institutions and REITs buying the pharmacy net lease investments as they have typically been the largest buyers and owners of Walgreens and CVS. The smaller private capital companies and 1031 exchange buyers are now the most active investors in the pharmacy net lease sector.

This change is due to the larger companies looking to diversify their portfolios as retail is constantly changing and can be unpredictable at times. Walgreens and CVS have also looked to stay ahead of the changing landscape for the retail world and trying to stay steps ahead of their online competition with Amazon. As tenants they have become more focused on the store sales and the rents they are paying looking to reduce any excess costs to increase profitability.

The more profitable the store, the more likely a pharmacy store will have increased success and longevity. Both Walgreens and CVS tenants have been taking measures to help boost their in-store sales and increasing their healthcare services and efficiency. CVS just recently announced that they would be incorporating new HealthHUBs to 1,500 of their stores. The HealthHUB will take up to 20% of the space that CVS operates and will be feature three to four exam rooms, health kiosks, chronic care management services and in-house dietitian and nutrition counseling. Overall, the retail pharmacy sector is one of the safer investments in the STNL market and provides a steady return on investment, desirable real estate for its buyers, and innovative tenants.

Sources: Globe Street, Calkain Net Lease, Net Lease Advisor

About the author:

Drew Olson is part of Lee & Asssociates, Inc. - NSDC and works with Ryan Barr and Ryan Bennett on the Barr & Bennett Net Leased Investment team. He specializes in net lease investments nationwide.

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