The Sale Leaseback Transaction - YOU DON’T HAVE TO OWN YOUR REAL ESTATE, JUST CONTROL IT!
The sale-leaseback strategy originally was used as a financing transaction when the real estate market lacked adequate access to capital at reasonable rates. Providing the opportunity for a company to cash-out the equity in its real estate and converting it to cash to finance its core business activities, reduce debt or expand operations.
Now, companies are capitalizing on the increase in equity and the demand for real estate investments by using the sale leaseback strategy. Companies with large amounts of equity in their real estate holdings, are converting the equity into cash for reinvesting back into the business, acquiring a competitor through a leveraged buyout or a merger & acquisition of another company
With a typical sale-leaseback structure, a company sells its operational real estate to an unrelated private investor or an institutional investor. Simultaneously with the sale, the company leases back the property from the investor typically for 10 to 20 years.
From the perspective of the company, converting the equity in the real estate into cash, could generate a higher return than keeping the equity in the real estate. The elimination of mortgage debt on the real estate can also improve the financial statements.
From an accounting standpoint, depending on the book value, the true market value of real estate is not reflected on the balance sheet. The sale leaseback transaction places the cash received from the sale on the books as a short-term asset and removes the long-term capital asset at the book value (typically below market value) from the balance sheet. This conversion of the equity into cash would reflect the true value of the asset, now cash. This could have a dramatic impact on the balance sheet and financial ratios.
There are some drawbacks to the company; the sale of real property may trigger a capital gains tax. Under GAAP the lease will be “booked” as a long-term liability. The company’s decision to complete a sale leaseback transaction may be based on a variety of after-tax analysis. For instance, the return on the deployment of capital, the impact to the financial statements and the after-tax impact on the sale of the property.
The sale leaseback strategy provides an alternative to ownership, which is leasing. You don’t need to own your real estate but control it through a well-structured lease. A sale leaseback may provide an owner with an exit strategy to sell the business and the real estate separately. By partitioning the real estate from the business, the parts may be worth more than the whole allowing for the sale of the business individually.
The investor benefits from having a financially bankable tenant that already occupies the space enjoying the security of a stable, long-term income stream. The lease may be structured as an absolute net, which provides the benefit of eliminating most of the property management responsibilities and capital investments. This is negotiated at the outset.
The evaluation of the sale leaseback transaction has many integral parts, when properly structured, it is a win-win situation for both the company and the investor. Of course, it is important to have an experienced and knowledgeable commercial real estate team working with you.