The current economic climate has been difficult, with Federal Reserve interest rate hikes chasing inflation. Even as some of the pressures might be reaching a plateau, the Fed has made clear that further rate increases are still planned. That has led corporate lenders to become more cautious. They've been tightening their standards and lowering the amount of leverage available.
"Typically, a mortgage lender will provide 75% to 80% of the loan-to-value of the property," says Gordon J. Whiting, managing director and head of net lease real estate at Angelo Gordon. "In today's macroeconomic conditions, it's much harder to get access to capital, it's harder to get a loan, and you're only getting 60%."
Even as the corporate lending market has become less liquid and more expensive, capital remains available for sale-leasebacks at very attractive terms. Even as property values have been dropping — though they're still largely at or above pre-pandemic valuations — the return to a company is still better. "They're able to get 100% of the value today," says Whiting.
The Advantage of Renting
There's rent to pay, yes, but unlike interest on a loan, it's completely deductible as an operating expense. The seller can also typically negotiate control for 20 years with options to extend. "The rental will be lower than what they'd have to pay in financing," Whiting adds. And the longer the lease term, the better the value to both the buyer and the seller, making negotiation of that point easier.
With the future uncertain and rates potentially going higher, there is also value in locking down a strategy with certainty. "You're better off doing a sale-leaseback and paying off some of the more expensive or floating rate debt," notes Whiting. "Cash is king." The more liquidity on hand, the easier it is to deal with unforeseen circumstances.
Why Working Capital Now Is King
Sale-leasebacks are also a great source of acquisition financing, particularly in the current market environment, where distress may drive opportunities for strategic add-on acquisitions. Companies can use sale-leaseback proceeds to help fund new acquisitions or expand upon existing platforms. A vertically integrated company might decide to buy a supplier. Sponsors can do the same, using proceeds of a sale-leaseback done at the time of an acquisition to lower their capital costs for the deal. "Now sale-leasebacks are another arrow in a CFO's quiver," Whiting says.
From Whiting's view, the market uncertainty and potential for ongoing rate increases are also a source of danger, with a sale-leaseback being an option to consider sooner, not later. "Time is not your friend," he says. "In our view, we're headed into an environment where you're going to be glad you did it the day before and not the day after."
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