The ongoing pandemic is severely affecting many businesses’ revenue, working capital is limited, lending guidelines are more stringent than in prior years and M&A activity likely will increase. Added to which, interest rates are low. “These conditions represent a strong environment for sale-leasebacks,” Newmark says in a new report prepared by Dain Fedora, the firm’s director of research in Southern California.
The Federal Reserve plans to retain low interest rates through 2023, and as of year-end 2020 the 10-Year Treasury Constant Maturity Rate was 0.94%. Under those circumstances, Newmark says a hypothetical SLB of a 100,000-square-foot industrial facility with a 4.6% cap rate and a 15-year lease in place “may be more enticing from a return standpoint than a fixed, sub-1.0% bond yield.”
Newmark cites the example of Kohl’s as a demonstration of the SLB’s value proposition in the current environment. Kohl’s sold two San Bernardino warehouse facilities in Southern California’s Inland Empire market to Brookfield Asset Management for $195 million in May 2020.
Totaling 1.5 million square feet, the properties are second-generation Class A space, collectively situated on 60.8 acres. From a national industrial perspective, they’re located in a Tier I market where vacancy has remained below 5.0% for 34 consecutive quarters.
“The Wisconsin-based retailer has its share of financial challenges, after posting net income of $47 million for the three-month period ended August 1, 2020—an 80% decline from the same period one year earlier,” Fedora writes. “The company’s CEO cited extraordinary change and uncertainty presented by the COVID-19 crisis, and, following moves earlier to streamline management and reduce overall costs, is focused on e-commerce growth.
An SLB gives an owner-occupier the flexibility to retain its space and operations, while also allowing time to restructure, says the Newmark report. That can entail staying at the current property, working to consolidate operations to another location or seeking bankruptcy protection. The building’s sale boosts a company’s financial reserves, and more cash on the balance sheet can be useful as companies reassess their approach to a post-pandemic world.
Fedora points out it’s also worth noting that investors are more motivated to increase their offering price if the seller is willing to lease more space at longer lease terms.
Sellers should look for a well-capitalized and seasoned investor with SLB experience, while being aware of potential downsides. If the existing facility is integral to the company’s operations and is difficult to replace; a tenant may lose its space when the lease expires.
Another potential downside is if the property has a physical or geographic challenge that downgrades the purchase price. “Data centers are one example, since technological needs change quickly; substantial infrastructure investment eight years ago runs the risk of being outmoded and devalued today,” according to Newmark.
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