WALNUT CREEK, Calif. — For convenience and gasoline retailers looking to grow via merger or acquisition, a sale-leaseback can help tremendously. It's another way to generate capital, which is obviously a fundamental part of getting a mergers and acquisitions (M&A) deal done. But sale-leasebacks have some unique attributes that, in many cases, make them a more appealing solution than traditional debt or equity.
First, instead of just borrowing on the new real estate or entering a joint venture with a capital partner to execute an M&A, a sale-leaseback can provide more proceeds. Receiving 100% of the market value of the real estate is not uncommon, compared to a typical bank loan of generally 65% to 75% of the appraised value. Second, there are few, if any, covenants governing how you run your actual business. A standard triple net lease is a less intrusive instrument than a typical loan agreement, by its nature.
Finally, as compared to a joint venture or even mezzanine debt, there are no new equity splits. The operator retains total control and benefits from any upside they generate, and they can use that upside for further growth or improvements, to buy back equity or pay down debt. With joint ventures and mezzanine debt, giving up equity, and therefore upside, is typically part of the program.
The Other Side
There can be downsides, though. The two common objections to sale-leasebacks are the added obligation of rents and foregone ownership of the real estate as an investment. These are not unreasonable concerns, but they need to be weighed against the options.
Many operators simply do not have the capital to get a substantial deal done with cash, which leaves them seeking bank financing, having to partner with someone or needing to pass on good deals because they don’t have the funds. But this is not necessary. A sale-leaseback allows the acquiring operator to decouple the real-estate assets from the enterprise itself and then monetize those assets to generate the cash to buy the business.
In some ways, it is a partnership in the sense of a relationship between a tenant and a landlord. But rather than dividing up future profits by way of an equity agreement or saddling assets with secured debt, the two parties are dividing up the assets upfront and then signing a lease agreement that gives the operator the use of those assets.
And while it’s true that real estate is generally a good investment, operators must remember that annual returns for passive real-estate investments are in the 4% to 6% range. Presumably this is considerably less than the returns generated by growing the business. So yes, there is a benefit to owning real estate, but there is also a cost that should not be ignored.
Conditions today are very favorable for sale-leaseback transactions. Cap rates are still very low compared to historical averages, which means that multiples on rents are still healthy. So while it’s a great time to be a seller in a sale-leaseback, one must have an experienced broker to guide these complex transactions. Convenience and gasoline operators evaluating sale-leaseback options should work with a seasoned professional with a strong track record of success to model a sale-leaseback on their next M&A opportunity and decide for themselves if it’s the right solution.
Chris Lomuto, Matt Lipson and Milo Spector are associate directors based in Walnut Creek, Calif., with Stan Johnson Co., Tulsa, Okla., a real-estate brokerage with expertise in net lease solutions and investments.