1. Sale-Leaseback 101
Brokers who understand these complex transactions can help save their clients’ businesses
By Anna N. Lee, investment broker, Colliers International
I
n today ’s economy, com mer- ■■ To improve the balance sheet: These Also, a real estate transaction’s tax impact
cial mortgage brokers stand an increased transactions can allow sellers to eliminate the can vary substantially depending upon the
chance of working with clients who need asset’s book value and its liability on the com- choice of financing strategy. Sale-leasebacks
help keeping their businesses afloat. For some pany’s balance sheet and to replace it with cash often provide lower after-tax costs and greater
clients, a sale-leaseback transaction can provide received from the sale. This can improve the savings than alternative forms of financing.
a much-needed answer. company’s return-on-assets, return-on-equity,
In a typical sale-leaseback transaction, prop- debt-to-equity and asset-to-liability ratios and Buyer considerations
erty-owners sell the real estate used in their allow the seller to retain certain control over Brokers also will benefit from knowing why
business to an unrelated third-party investor. the property. buyers typically invest in sale-leaseback trans-
They then lease back the property from the ■■ To enjoy the tax-deduction benefit of rent actions. These buyers typically make their in-
investor for a long period — usually 15 to 25 expenses: With property-ownership, only depre- vestment decisions based on whether they can
years — with or without options for renewal. The ciation of buildings and improvements — as well achieve the following three objectives:
lease type often is triple net. as interest expenses — typically are deductible. 1. Securing cash flow through long-term,
If structured correctly, a sale-leaseback When the tax benefits of renting outweigh the steady rent revenue. Buyers can demand returns
transaction can benefit the seller (aka, lessee) tax advantages of depreciation and interest- — often 8 percent or 9 percent — that outpace
and the buyer (aka, lessor). Both parties must payment deduction, as well as the potential the stock and bond markets.
consider the business and tax advantages, dis- benefit of a property’s residual value, mortgage 2. Taking advantage of tax benefits associated
advantages and potential risks involved with financing can become unattractive. with property-ownership.
these transactions.
Mortgage brokers can add value to their
■■ To offset expiring net operating losses: 3. Getting their initial investment back at
client relationships by advising clients on the Sellers may wish to offset expiring net operat- the end of the lease term from the property’s
ins and outs of sale-leaseback transactions and ing losses. residual value. Buyers may believe at the time
helping clients find providers for these transac- ■■ To avoid a takeover: A prime motivator in of purchase that at the end of the lease they
tions when appropriate. certain takeovers may be the unrealized value of could sell the building for at least what they paid.
a company’s real estate holdings. This is because Otherwise, they would have to increase the cap
The seller’s point of view many companies often don’t have a firm idea rate or achieve a lower purchase price.
Each seller will have different incentives or ob- about their real estate assets’ true values. With these objectives in mind, buyers must
jectives for pursuing a sale-leaseback transaction. consider numerous property and economic
■■ To mitigate the risk of declining value:
These may include: factors when partaking in a sale-leaseback
Sale-leaseback transactions can be an attrac-
transaction. First, although a property’s strong
■■ To improve the bottom line: Selling and tive exit strategy for property-owners who
residual-value potential played a critical role
leasing back their property allows sellers to focus may not otherwise be able to sell the property
previously, today’s economic environment makes
on their core business mission rather than on readily. There is a disconnect between basic
it risky for investors to expect to recover their
managing real estate. They also may increase economics and real estate prices in today’s
entire investment through residual value. Rather,
their company’s value by reinvesting sale pro- economy. Unless the economy moves into a
they may rely more on rent recapitalization to
ceeds into an interest-earning asset or by using recovery mode, declining rents and increasing
insulate against potential value declines.
the proceeds to increase productivity; to finance vacancies will continue to affect real estate
Buyers also must remember that the purchase
dividends, stock repurchases or debt payments; values, especially for properties acquired at low
price is typically based on existing market capital-
or for mergers and acquisitions. capitalization rates.
ization rates. The cap rate for a specific transac-
tion will depend on the property size, property
Anna N. Lee, an investment broker with Colliers International, is an expert in property- type, location and tenant financial strength.
valuation, operating-cost reduction and sale-leaseback transactions. Previously, Lee has When considering lease rates, buyers and
been a certified public accountant, a university accounting professor, a hospital chief sellers must keep in mind that the higher the
financial officer, a banker and a commercial mortgage adviser. She is a public speaker, price paid for the property, the higher the rental
trainer and co-author of Commercial Real Estate Investment Tools, available at Amazon.
rates. Sellers cannot assume that they can sell a
com. Visit www.ColliersParrish.com/ALee or contact Lee at (925) 279-4635 or ALee@
ColliersParrish.com.
Continued …
Reprinted From Scotsman Guide Commercial Edition and scotsmanguide.com, September 2009
All rights reserved. Third-party reproduction for redistribution is prohibited without contractual consent from Scotsman Publishing Inc.

2. Sale-Leaseback 101
… Continued
building for a higher-than-market price and pay
a lower-than-market rent.
“Sellers often wait until their companies desperately
Marketable site locations are an important need cash before they consider a sale-leaseback
consideration, as well. The least-appealing sites
are highly specialized properties such as heavy- transaction. This is a mistake, however, because
manufacturing facilities or computer facilities in
small towns. at such times, the company’s financial statements
Major metropolitan areas with strong
economic grow th potentia l t y pica l ly are
often start showing signs of weakness.”
attractive, as are properties near major inter-
Further, for the lease to be considered an a loss equal to that difference shall be recorded.
changes or located in industrial or office
operating lease, answers to the following four There are further stipulations and require-
parks. Freestanding single-user buildings
questions must be no: ments according to the FASB statements as
— including office, warehouse, distribution
and light-manufacturing buildings — often 1. Does property-ownership transfer from the related to buyers’ and sellers’ roles in sale-lease-
are most-desirable. buyer to the seller at the end of the lease? back transactions. The statements can be viewed
2. Does the lease contain a bargain-purchase online (www.fasb.org/st/).
Reporting requirements or bargain-renewal option that is substantially
A sale-leaseback transaction involving real es- less than fair market value or fair market Timing the transaction
tate must qualify as a sale under the provisions rates? Sellers often wait until their companies desper-
of Financial Accounting Standards Board (FASB) 3. Does the lease term, including its renewal ately need cash before they consider a sale-lease-
Statement No. 66, Account for Sales of Real Es- options, equal or exceed 75 percent of the real back transaction. This is a mistake, however,
tate, as amended. Sellers can use sale-leaseback estate’s estimated economic life? because at such times, the company’s financial
accounting only if the transaction meets all of statements often start showing signs of weakness.
4. Is the present value of the minimum lease
the following three criteria: Therefore, it may be difficult or impossible to find
payments at the beginning of the lease term
1. The sellers actively use the property for (excluding executory costs) greater than or a buyer who will offer an attractive price.
their business. equal to 90 percent of the real estate’s fair In the current economic crisis, the lim-
2 . The pay ment terms a nd prov isions market value? ited availability of capital creates incentives
adequately demonstrate the buyer’s initial There are other criteria that sellers and buyers for sale-leasebacks, especially for creditworthy
and continuing investment in the property. must keep in mind in a sale-leaseback transaction, corporations.
Certain minimum downpayment percentages for as well. First, subleasing of a certain portion of a Further, buyers may stipulate in the contract
different types of property must be met. Also, the property is allowed. It must be limited to a minor that a condition of closing is that there has not
buyer must make annual principal-and-interest amount, however — typically defined as the pres- been any significant change in the seller’s finan-
payments that are enough to amortize any seller ent value of the rents from the sublease being less cial condition between the time of entering into
financing over a customary first-mortgage-loan than 10 percent of the fair value of the property at the contract and closing.
term for that property type. the date of the sale-leaseback transaction.
3. The seller does not have continuing Also, the seller must pay the rent payment, ■■■■■
involvement in the real estate other than a which may include fixed rent and contingent If structured carefully and correctly, a sale-lease-
normal lease. rentals that are based on the seller’s future
back transaction can be an effective and cost-ben-
If structured correctly, sale-leaseback trans- operations. The sales terms must also provide
eficial means of financing. Sellers and buyers also
actions are legitimately considered operating for a transfer of all ownership risks and rewards
can realize many other potential benefits. Mort-
leases, per FASB Statements Nos. 13 and 98, from the seller to the buyer.
gage brokers who understand these transactions
both titled “Accounting for Leases,” rather than Further, for the buyer, the leased property
shall be reported in the balance sheet and depre- and their benefits can best help their clients.
capital leases.
If the transaction qualifies as an operat- ciated following the buyer’s normal depreciation Further, representatives on both sides of a sale-
ing lease, a sale is recorded; the property and policy. Rent shall be reported as revenue over leaseback transaction must be intimately familiar
related liabilities are removed from the seller’s the lease term, and initial direct costs shall be with the accounting requirements, as well as the
balance sheet; the gain or loss is recorded and deferred and allocated over the lease term in complexities of sale and lease agreements. It is
amortized in proportion to the related gross proportion to the recognition of rental income. beneficial to have experienced real estate brokers
rent charged; and the leaseback is classified If, at the start of the lease, the property’s fair and accounting professionals involved to ensure
according to FASB rules. value is less than its cost or carrying amount, then these transactions’ success.
Reprinted From Scotsman Guide Commercial Edition and scotsmanguide.com, September 2009
All rights reserved. Third-party reproduction for redistribution is prohibited without contractual consent from Scotsman Publishing Inc.