June 02, 2017
Sale Leaseback: A Complete Guide
Sale Leaseback Definition
A sale leaseback in commercial real estate is defined simply as an owner of a property selling but remaining as an occupant in the property and leasing the premises back from the new owner. The purchase price and lease rental rates will be strongly correlated to each other.
For instance, if the seller only agrees to a short-term lease then this will decrease the selling price that the purchaser will be willing to offer.
That purchaser would not be securing a cashflow for long and therefore would reduce the purchase price accordingly to balance his risk.
In the case of a seller only agreeing to a one year lease term, the purchase price would be much lower than if the seller agreed to sign a 10 year lease term.
Sale Leaseback Agreement
As with an offer to purchase or a commercial lease agreement, there is no universal template that applies to all situations.
Normally a sale leaseback agreement would look very similar to an offer to purchase, with a caveat clause that the purchase is conditional upon both parties agreeing to execute a lease, and that lease would be attached as a schedule to the sale leaseback agreement.
Signature of the lease would then make the sale leaseback agreement firm and binding, unless there are other outstanding buyer and seller conditions.
Why Do a Sale Leaseback?
For the seller, a sale with a leaseback makes sense when the business could use more capital for purposes other than being locked up in real estate equity.
For example, if the business is struggling to meet financial obligations a sale leaseback would infuse the business with cash to manage cash flows and keep the business afloat.
The New York Times did this in 2009.
Facing a huge shift in their industry, they raised $225M by selling and leasing back their headquarters for 15 years.
On the flip side, if a business finds other opportunities that have a higher return on investment than the projected increase in equity of their real estate, it makes sense to cash out and invest those returns into greener pastures.
The leasing back process also allows the seller to keep operations completely intact and there is no need to relocate the business.
For the buyer, a sale leaseback presents an opportunity to invest in real estate with a tenant already in place and familiar with the property.
It also can be an interesting way to find a bargain, as many sale leasebacks are completed through relationships and not transacted on the open market.
Who Pays for a Sale Leaseback
Sale leasebacks are really no different than a purchase transaction or a lease transaction.
They are simply a purchase and a lease transaction baked into the same deal.
The parties can either work directly without the help of a commercial real estate broker or lawyer, but it is advisable to seek outside advice.
The parties can decide on who pays the broker fees, though it is customary in commercial real estate that both the listing agent and buyer agent are both compensated by the seller.
In the case of lawyers, it is customary for them to be compensated hourly, by the parties that they are representing.
Risks to the Seller
The transition from owner to tenant can be difficult for some businesses.
An owner/occupier is used to running the property, and not accustomed to taking direction from another owner.
It would be prudent to carefully examine the lease – the rules and the administration charges. As an owner, there is no administration fee.
A new owner may be looking to run the operating costs of the building as a profit center, or is perhaps looking at ways to reduce
Risks to the Buyer
As a former owner of the property, the tenant may be less obedient than conventional tenants.
They may feel entitled to act a certain way as they “know the building” or “this is the way we have always done it”.
They will also be more alert to services that are cut or administration fees that they feel may not be justified.
There also may be some latent defects or deferred maintenance coming up in the near future, and that was a factor in deciding to sell the building in the first place.
How to Find a Buyer
In order to maximize the sale price as a seller, be sure to have a clear understanding with your stakeholders on two main items:
1) How long of a lease is the company willing to sign
2) What rental rates are acceptable
These two items can be formalized during the broker interview process. Buyers will analyze the investment opportunity based on the longevity and security of the cashflow.
So if you are a creditworthy tenant and you are willing to sign for a long period of time, then it will be an attractive investment.
The process of finding a buyer will be no different than if you were to sell the building and move out.
Simply interview commercial real estate brokers, and in their marketing flyers, they will indicate that the seller has an interest in leasing back the property for the length of years you determine.
Buyers will simply calculate a capitalization rate (cap rate) they are comfortable with (essentially a return on investment calculation).
How to Negotiate a Sale Leaseback Lease
There is no difference in negotiating a lease on a sale leaseback project vs a normal lease.
For instance, if you require a tenant improvement allowance, then ask for one. Be sure to ask for other standard clauses such as a no makegood provision, flexible sublet rights, and rights to renew and no personal guarantee.
Sale Leaseback Timing
There are no hard and fast rules on how long a sale leaseback negotiation or closing should take.
If it is a seller’s market, a reasonable asking price should fetch enough buyers to come to an agreement on price within a week.
Most buyers will want at least a couple of weeks for due diligence on the building, but this could take up to a month, depending on the property.
The lease could be negotiated during this phase.
One month for a lease to be completed is typical, but can vary depending on the size and complexity of the lease, and the nature of the landlord and tenant and their respective legal teams.
Who to do a Sale Leaseback With
As a seller, it is tempting to simply accept the highest bid.
But the buyer will become your new landlord.
Therefore you should be willing to pay a premium for a landlord that has a track record of providing strong customer service.
As with any other supplier, there should be an interview process and references should be checked.
It may be wise to stop by other buildings the shortlisted landlords own and talk to the tenants that occupy those buildings.
Sale Lease Back Questions to ask:
Has the landlord ever been in default of a lease?
How quickly are property management issues resolved?
How responsive is the landlord to requests?
Has the landlord ever overcharged for any item?
Was the landlord difficult in your lease negotiation?
What is the relationship like with your building superintendent?
How Rare is a Sale Leaseback?
Much rarer than leasing transactions and conventional purchase transactions, which combine for likely over 99% of all commercial real estate projects.
Most companies simply do not want to rent a property that they used to own. It is not an overwhelming popular decision – a natural reaction to selling and leasing back is that there must be trouble at the company to not have an ownership stake.
Sale Leaseback With an Option to Purchase
If the property continues to work for your business, it would be wise to put in a right of first refusal to purchase back the building.
You never know…if your new landlord is forced to sell in the near future and the price is right, it may make sense to end up with an ownership stake once again in your property.
You would be logical buyer, and for the right price you could continually buy and sell and leaseback the building – always buying low and selling high.
The decision to sell your commercial building and lease it back is not an easy one. The shift in transitioning from owner to renter seems like a step backwards, but many companies use it as a vehicle to springboard their business, while not interrupting their current operations.
If you are still stuck and are looking for some sale leaseback advice, check out this video which details how Lease Ref may be able to help:
(Blog Photo Credit: AP Photo/Mark Lennihan, file)