Colorado-Real-Estate-Journal_400264

Page 6 — Retail Properties Quarterly — May 2024 www.crej.com SALE-LEASEBACK F or business owners that also operate out of the buildings they own, a sale-leaseback is a critical strategy to under- stand. If an owner-operator needs access to capital, whether to grow or sustain its business, it may literally be standing inside the answer – its commercial property. A sale-leaseback can help it unlock equity and acquire the capital it is seeking. This is also an important con- cept for active real estate investors to grasp, considering this type of transaction can potentially provide attractive yields and hassle-free, long-term lease structures. Before we get into the benefits (and risks) of sale-leasebacks and when they might be useful, it is important to first understand the concept. n What is a sale-leaseback? Basical- ly, sale-leaseback transactions are ones in which the seller becomes the tenant, and the buyer (investor) becomes the landlord. The seller unlocks and uses the building’s equity as working capital (cash or other current assets) instead of leaving that capital tied up as illiquid real estate. In addition, it can stay and continue operating its business out of the building, typically by negotiating a long-term lease with the buyer. On the other side of the transac- tion, the investor who isn’t general- ly interested in operating out of the property simply benefits from being a landlord with a tenant already in place and the ability to generate immediate cash flow from lease payments. Everyone wins with a sale- leaseback, and the seller’s business can hopefully grow more quickly or have a higher like- lihood of success with increased liq- uid assets. n Are sale-leasebacks worth it? To better understand the concept and potential benefits of a sale- leaseback, a recent example may be helpful. In fourth-quarter 2023, we arranged the successful sale-lease- back of Tide Cleaners in Houston. This benefitted Tide, as the business had more capital to operate. The property was acquired by a Colorado-based private buyer in a 1031 exchange, which required it to identify a prime replacement prop- erty within 45 days and complete the transaction within 180 days (all- inclusive) of the sale of its previous property. Tide not only offered the yield the buyer was looking for, but, as a sale- leaseback transaction, the sellers demonstrated their dedication to running the business successfully. By perhaps selling its most valu- able asset in order to reinvest the capital in effectively and efficiently operating its business, Tide showed a significant commitment to the long-term success of the deal. For this reason, as well as our tar- geted marketing and sales process- es, Tide Cleaners actually received seven qualified offers for its com- mercial property. n What are the disadvantages of a sale-leaseback? While there are numerous benefits of a sale-lease- back transaction, there are a few risks to consider. One is that the seller’s business might not oper- ate as well as it did before the sale. For this reason, buyers (landlords) should carefully underwrite the business and evaluate its ability to remain successful in the future prior to acquiring the property, which should mitigate this risk. Another downside is that a seller will no longer benefit from appre- ciation in property value, and they won’t be able to depreciate the property for tax purposes going for- ward. A seller should therefore take into careful consideration if there’s a greater benefit in unlocking the property’s equity before moving for- ward with a sale-leaseback transac- tion. n Other considerations for sellers. A business owner contemplating a sale-leaseback needs to keep in mind that the deal must provide him with enough capital to operate successfully after closing and pro- vide the yield that investors in the business will expect. In addition, he will need to propose a beneficial lease structure that incentivizes buyers to acquire the property. To help navigate this complicated process and advise a seller on how to structure the lease, it’s crucial to work with an experienced broker- age. With Tide, the seller signed a long-term (15-year) absolute net lease with no landlord responsibili- ties. This is often the exact lease structure that 1031 exchange buyers are seeking. They earn a yield that aligns with their investment strat- egy, without taking on any landlord responsibilities. Another consideration in the cur- rent economic climate is the navi- gation of the capital markets envi- ronment, which can be tricky and requires guidance from a broker familiar with its intricacies. With regard to lease structures, one of the most important factors is providing a net operating income (and as a result, a cap rate) that purchas- ers find attractive. While some 1031 exchange buyers may have the proceeds to acquire the property outright without debt, others will Sale-leaseback & unlocking equity for growth Trevor Scannell Associate at Blue West Capital Please see Scannell, Page 22