Today, cash is king. And if you want cash quickly, sale-and-leaseback of your warehouse premises could be the answer.
Last month Next, the ubiquitous high street and online fashion retailer, sold three UK warehouses to Aviva Investors. They also sold their head office in Leicestershire for £48 million.
The sales followed the costly closure in late March of its high street and online operators and a hit to turnover which could total 30-40% this year. Next is by no means the UK’s most damaged or endangered retailer – on the contrary, it looks relatively strong – but Next is the first substantial retailer to opt for sale and leaseback since the coronavirus pandemic began
Next followed recent (pre-pandemic) examples including B&M Bargains, who completed a £154 million sale and leaseback of their 1 million sq ft Bedford distribution centre to German investor Deka Immobilien.
These high-value transactions come as something of a surprise because the days of sale-and-leaseback were supposed to be long gone. The fundraising technique flourished, spectacularly, in the first decade of the century when rising property values and unbounded optimism meant many businesses found themselves sitting on a small fortune in property. Back then Debenhams, Marks & Spencer and Boots all indulged in sale-and-leaseback ventures. Today, in a very different world, could the cash-for-your-covenant property deal be back in fashion?
John Sullivan is North West director for industrial and logistics at real estate advisors Colliers International. He said: “Next are pioneers, not outliers, and we will see more looking at their real estate as a way of sourcing funds for re-investment,” Sullivan says.
“Today investors have money to spend, and an appetite to spend it on industrial and logistics property which looks relatively strong compared to other types of property. If those investors think they are buying a lease with a strong business, with perhaps the option to push up the rent a little in a few years, then this is a good moment to think about selling.”
A safe bet
Of course the difficulty is that any business that turns to sale-and-leaseback has admitted to an appetite for cash. In June 2020 can any business be regarded as a safe bet? But those concerns aside, Sullivan says there are plenty of potential buyers.
Property developers can also see the upside. Tom Leeming is development director at Tritax Symmetry, one of the UK’s largest speculative big shed developers. Buying existing, occupied, warehouses is not their game – but they can see the appeal for others. Yet as Leeming points out, deciding whether or not to sell is a complex decision.
“This won’t necessarily be a straight-forward yes or no answer for many businesses looking at sale-and-leaseback. It will depend if the business is privately owned, or if the property is owned separately by a major shareholder, or perhaps the property is in the company pension fund?” Leeming asks.
The result is that some warehouses may simply not be available for sale-and-leaseback. And if the property is available, could be company pay rent on it?
Struggling retailers obviously have questions to answer, which is going to effect the value a buyer puts on the deal, all of which might mean the deal just doesn’t stack up for anyone.
“If the business selling the warehouse is looking vulnerable then buyers will be scarce. And if a buyer did appear, they would expect a discount price to reflect the risk they are taking,” Leeming says.
On the more positive side of the equation, property owners should not be deterred by the thought that their warehouse is too old, or too shabby, or just not up to it. Like the good house-buyer who learns to ignore the furniture and the junk in the garage, investors have other things in mind. Not the least of these is the value of the land the warehouse (even a shabby one) sits on.
Ben Taylor is a specialist at planning consultant Barton Willmore explains: “Investors are looking at the long-term development potential of the site as much as at the income a tenant could provide. They are looking at a long-term play. For them the long-term benefit is redevelopment, and short-term benefit is some rental income.”
“For sale-and-leaseback to work the warehouse does not have to be of Grade A quality if the site it sits on is good. A lot of 1980s and 90s warehouses are no longer fit for purpose so a buyer might thing it is useful to have a tenant, the former owner, who is content to occupy them. And if they didn’t want to occupy that warehouse any more, then the investor could redevelop a good site.”
Yet Taylor, like every other advisor who spoke to SHD, confesses sale-and-leaseback may have drawbacks for some occupiers.
“Essentially sale-and-leaseback is something you can only do once – you can’t sell your warehouse twice,” he says.
For occupiers who expect further economic shocks, losing the buffer of a warehouse on the balance sheet might be a serious consideration.
Tom Scott, director in the industrial investment team at Savills, says that both buyers and sellers have risks to consider.
“We’re advising several vendors who want to sell their Midlands warehouses, they are definitely motivated, not least because they have these assets on their balance sheets but it does them no good because they can’t use them as security for borrowing because the lenders aren’t open for business at the moment. And government grants are uncertain. So a sale-and-leaseback can deliver for them fairly rapidly,” he says.
Scott agrees with Taylor that the quality of the tenant is more important than the quality of the building. “There are many investors who will look at older buildings, particularly if they are on good sites, if the vendor is a strong occupier. We had a 350,000 sq ft warehouse in the Midlands, not a new building, and it attracted over a dozen bidders for a £10 million deal. Although the building was dated, the occupier was good, and that mattered,” he said.
For the lucky vendor, this sale-and-leaseback represents rapid access to a very large pot of capital. And others could benefit, too, because the balance sheet valuation of premises rarely represents their value to a canny investor.
“Some warehouse owners have their premises on the balance sheet at historic valuations which are 10-15 years out of date and are often surprised how much they could be worth with them as a tenant, which is often double the value of the property if it were sold with vacant possession,” Taylor says.
The final question is one of timing: if a warehouse owners wants to sign and sale-and-leaseback deal will they get a better price today, or if they wait until this time next year?
Some business will have no choice: they need cash now, and with alternative funding sources unavailable, a sale-and-leaseback is their only viable route. But for others, who face less distress, is waiting wise?
According to Taylor the moment to act is probably now because investors are smiling on industrial property, and because other sources of capital are scarce.
According to Tritax’s Leeming the best time may be in the future: “Today is difficult trading for everyone, so vendors might find their tenancy is more attractive in 6-12 months when they can show they are performing well and buyers can see less risk. And there should also be better flows of capital in 6-12 months which means more potential buyers.”
Sale-and-leaseback is all about maths. With interest rates low it might be more attractive (and cost effective) to borrow at 3-4%, than risk annual rent rises that could be considerably higher. Only Mystic Meg and a first class accountant can help answer these questions.
So far the logistics sector has had a relatively good pandemic. The rent is still being paid on existing warehouses (something you cannot say about shops, restaurants, hotels or some offices), and there have been few corporate collapses (again, not something you can say about other sectors). But retailers and the third-party logistics providers who support them still have some headaches to confront, and one way to make them go away could be sale-and-leaseback.
Selling your brand
The sale-and-leaseback deal is essentially a way for business to make money out of their good name.
If premises are owned freehold, then they can be sold to an investor who simultaneously grants the former owner a lease on their old building. The investor will pay more if the site is potentially good for redevelopment, or ideal to be re-let to someone else or if the occupier has what property people call a “strong covenant.” This means the business is judged sound and reliable and therefore likely to pay its rent on time.
The rent payable on the deal may turn out to be less than the interest payable on a similar size loan. It also comes with the advantage of providing premises, as opposed to loan repayments which are a pure loss.
The downside is that the rent goes on for ever, and the chance of buying freehold premises again is slim.
Paying the rent
Barely one third of retail tenants paid their quarterly rent in March. Industrial and logistics tenants did better, but still missed payments.
Data released today by cloud-based commercial property management platform Re-Leased reveals that for industrial assets, only 49.6% of rent due was received within 10 days of the March quarter date. This contrasts to an average of 64.8% collection from the last two years, representing an overall decline of 23.5%.
Re-Leased’s analysis is based on live rental collection data from over 10,000 properties and 35,000 leases on its platform.
Tom Wallace, CEO of Re-Leased, said, “Covid-19 has impacted the UK property market quickly and deeply with landlords experiencing a significant curtailment in the collection of rent for the March quarter. Our analysis reveals just how considerable the challenges will be for landlords, many of who own or manage small portfolios, family trusts or charities for example, and won’t benefit from the security some of the bigger operators can depend on in the weeks and months ahead.”