| What Is a Sale & Leaseback? | | | | get |
| Sale & leaseback is a commercial real estate | | | | - A reasonably long term lease, e.g. 10-25 years so |
| transaction in which the owner sells his property and | | | | you don't have to worry about finding a new tenant |
| signs a long term lease with the buyer to become the | | | | for a while. |
| tenant at close of escrow. The seller retains the | | | | - Triple net lease in which the tenant pays for all |
| building for his business and receives the proceeds of | | | | operating expenses. This will minimize your investment |
| the sale. While restaurants are common sale & | | | | risks as you don't have control over the property |
| lease back properties, almost any owner-occupied | | | | taxes, insurance and maintenance expenses. |
| properties, e.g. Jiffy Lube, car repair shops, banks, | | | | - Some kind of periodic rent increase, preferably 2-4% |
| dental office, medical clinic, etc. can become sale | | | | annually to keep up with inflation. Besides, the rent |
| & lease back properties. When you see the | | | | increase also ensures the property will go up in value |
| phrase "new lease to be signed at close of escrow" in | | | | when you sell it. |
| the listing or property's brochure, it's likely to be a sale | | | | - Rent at or below market. This motivates the tenant |
| & leaseback. | | | | to stay there for a long time. Should the tenant vacate |
| Why Sell & Leaseback? | | | | the property, it's always easier to find a new tenant |
| As an investor, you might wonder if the sale & | | | | for the property when the rent is below market. |
| leaseback is a sign that the owner is in financial trouble | | | | Tenant's business track records: you want to find out |
| and thus he has to sell his most valuable asset. It's a | | | | how long the tenant has been in the business, and how |
| valid concern because a financially-strapped tenant | | | | many locations he has so far. So business experience |
| may not be able to pay the rent down the road and | | | | really counts. |
| you end up with a vacant property. However, there | | | | Lease guaranty: the tenant often provides some kind |
| are many good reasons why the owner of the | | | | of lease guarantee that if the tenant defaults the lease |
| property wants to sell the property and lease back: | | | | then you can go after the guarantor's assets to |
| | | | recover lost rental income. The long term lease is only |
| 1. Finance business expansion: for example Joe, a | | | | good if the entity that guarantees rental payments has |
| restaurant operator, has constructed 5 build-to-suit | | | | strong assets and/or good credit rating. A seller with |
| restaurants. All 5 restaurants are now open and have | | | | multiple locations may structure his company such that |
| been running smoothly for the last 2-3 years. He now | | | | each location is owned by a single entity, e.g. Limited |
| wants to build 3 more new restaurants in the next 12 | | | | Liability Company (LLC) to limit his liabilities exposure. All |
| months. However, Joe will need capital for construction | | | | the single entity LLC's are then owned by the parent |
| as the restaurant chain has its own unique building | | | | company. In this case, the guaranty from the parent |
| design such that he cannot lease just any buildings. He | | | | company is better than the guarantee of the single |
| can apply for construction loans at 9% interest (or | | | | entity LLC. If the guarantor is a public company then its |
| Prime plus one) in which if lucky he can obtain 70% | | | | S&P credit rating is a good indication how likely |
| financing of the total costs of the projects. | | | | you will receive the rent checks in the future. |
| Alternatively, he can sell some or all of the existing | | | | Ability to get favorable financing: it does not make |
| restaurants at market value and sign 20 years NNN | | | | sense to get a good deal on a property and have to |
| leases to the buyers. That way, he can cash out 100% | | | | pay an arm and a leg for financing. Of course if you |
| of his equities in the 5 restaurants. So sale & | | | | buy a property in Detroit or in a tiny city at the middle |
| leaseback is a very smart way for Joe to raise capital. | | | | of nowhere, you will have problem finding a bank to |
| In the best case he may be even able to sell the | | | | loan you money and/or have to pay very high interest |
| property for more than what he spends for | | | | rate. If you buy a property with a non-franchised |
| construction costs and thus makes a profit! | | | | tenant with weak or unavailable financial statements |
| 2. Pay down debts & improve balance sheet: real | | | | then you will have tough time borrowing money. Please |
| estate owned by a company is a depreciable asset | | | | refer to "What Investors Should Know about |
| which means it has lower & lower book value in | | | | Commercial Loans" written by the same author. |
| the balance sheet. By selling its real estate at higher | | | | Do's & Don'ts |
| market value, it can cash out all the equities. The | | | | |
| money can be used to pay down debt to make the | | | | 1. Hire a CPA to review financial documents: some of |
| balance sheet stronger, or to expand business or to | | | | the financial information may be very complex. The |
| be used for research & development. This may | | | | tenant may have a very good accountant to prepare |
| have positive impact on the stock value. On a lean | | | | its tax returns to show to the IRS that its taxable |
| year, some public companies may sell its real estate | | | | income is low so it does not have to pay lots of taxes. |
| assets to meet projected performance expected by | | | | The revenue of a franchised tenant is probably more |
| analysts. Sometimes major shareholders may demand | | | | accurate due to contractual obligation to the franchise |
| a company to sell its real estate assets to make the | | | | for royalty collection purposes. For non-franchised |
| company more profitable in a short term. | | | | tenant, the reported income may be lower than actual |
| 3. Cut down income taxes: Walmart sells to and | | | | income as the tenant may not report cash income. |
| leases back many stores from a real estate | | | | The CPA should be able to give you an opinion about |
| investment trust owned by Walmart (it's not a misprint!) | | | | the tenant's financial strength. |
| as a way to reduce its income taxes. | | | | 2. Look at tenant/seller's background: since you will |
| What is important to investors? | | | | have a fairly long term business relationship with |
| Besides location and various other factors, there are | | | | someone you don't know much about, it's probably |
| other financial aspects you should look at to determine | | | | prudent to do a back ground check on the owner for |
| how risky your investment to this sale & | | | | business and even criminal records to see if there are |
| leaseback property is. As a rule of thumb, the higher | | | | any red flags. A simple Google search should be the |
| the risk the higher the returns you should demand or | | | | minimal. You can find out a lot more about a person |
| expect from the seller. | | | | for less than $100 on the Internet. |
| 1. Tenant's financial statements: the seller may provide | | | | Out-of-the-box Thinking |
| you with previous 2 or 3 years of income tax returns. | | | | Currently most if not all of the sale & leaseback |
| Ideally you want a tenant with a profitable business | | | | transactions involve with properties owned by |
| after paying rent and other rental expenses. You also | | | | individuals, private and public companies. However, |
| want to see higher & higher revenue profits year | | | | there are no good reasons why public properties, e.g. |
| after year. This will minimize the risk that the tenant | | | | libraries, schools, governmental office buildings cannot |
| may not have money to pay the rent. However, this | | | | be structured as sale & leaseback transactions. |
| may not be possible for a business, e.g. restaurant | | | | This can be a way for cities, counties, states and even |
| especially in a new location to be instantly profitable in | | | | federal government to raise money for critical projects |
| the first few years. In this case, the risk is higher. | | | | without raising taxes. After all government is a major |
| 2. Lease terms: In a sale & lease back transaction, | | | | tenant everywhere in the US. |
| the lease terms are negotiable. You normally want to | | | | |