Academic journal article The Journal of Real Estate Research

Sale-Leaseback Transactions: Price Premiums and Market Efficiency

Academic journal article The Journal of Real Estate Research

Sale-Leaseback Transactions: Price Premiums and Market Efficiency

Article excerpt

Abstract

Sale-leaseback transactions are ubiquitous in real estate markets in the United States with annual volume estimated to be greater than $7 billion. However, there is no evidence concerning the price impact of such transactional arrangements. Using a data set of sale-leaseback transactions, this study examines the price impact on commercial property transactions across seven markets. The findings reveal that transactions structured as sale-leasebacks occur at significantly higher prices than market transactions. In addition, after accounting for income differentials, buyers and sellers are appropriately pricing the transactions resulting in no undue advantage to either party, that is, the expected price premium is accounted for in the sale-leaseback prices.

The notion that real assets trade at the present value of the asset's discounted cash flows is a fundamental model of commercial property markets. However, within this framework transactional attributes can cause deviations from the "equilibrium" market price. This paper examines the impact of sale-leaseback arrangements on the transaction prices of commercial properties and determines if either buyers or sellers realize a comparative advantage or an excess return.

In a sale-leaseback transaction, the owner-occupant of a commercial property sells the asset and retains long-term operating control through a simultaneously executed lease. Sale-leaseback transactions have a number of potential advantages for both the seller and the buyer. Assuming that the pre-transaction owner has a book value below the transaction price, at least five benefits accrue. First, the gain realized on the transaction by the seller can be amortized onto the seller's income statement thus increasing reported earnings (Moyer and Krishman, 1995). The earnings impact will improve the firm's financial ratios/margins as the firm increases the use of off-balance sheet financing. Second, the asset is removed from the seller's balance sheet potentially leading to further financial ratio improvement. If the real property is low-yielding, the disposal of low-yielding assets may also increase the return on assets (Martinez, 1999; Barris, 2002). Third, the seller avoids debt restrictions associated with borrowing and effectively obtains favorable financing on the property. Fourth, the seller releases capital/borrowing capacity for use in core operations (Horn, 2000; Barris, 2002). Fifth, the seller may transfer latent tax benefits to the buyer due to differentials in cost basis, remaining deprecation term, and tax rates.

The buyer also benefits from the transaction. The buyer in a sale-leaseback transaction obtains an asset occupied by a long-term tenant. Obtaining the property and tenant simultaneously has at least three advantages. First, the search costs associated with leasing the property are eliminated. Second, the buyer is able to evaluate the quality of the tenant before obtaining the property. Third, given the typical triple-net underlying lease (tenant pays all operating costs), the purchasing firm acquires an asset with characteristics very similar to a high-quality mortgage bond. Uncertainty associated with operating expenses and vacancies are muted increasing the investment value of the property to the buyer. Hence, the buyer may be acquiring an asset with superior characteristics when compared to many non-leaseback transactions.

Given the potential sale-leaseback advantages to both parties, an examination of the impact on transaction price and whether the transaction is "appropriately" priced is the purpose of this paper. Using a large data set for seven property markets in the Southwest United States, this article empirically estimates the impact of sale-leaseback structured transactions on commercial property prices. The data show that sale-leaseback transactions occur at significantly higher prices and that the pricing structure is efficient. Specifically, sale-leaseback transactions sell for a premium of about 13% relative to comparable non-sale leaseback properties. …

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