In pursuit of a cash infusion, an increasing number of businesses across L.A. County are selling their largest assets — the buildings they occupy — then signing long-term leases to remain in those spaces.
These so-called sale-leaseback deals have been prompted by last year’s changes in federal tax law, which allows companies to continue operating as usual while unloading assets that no longer hold tax benefits.
In the last four quarters, there were 29 sale-leasebacks in escrow or under contract in L.A. County. That’s up from 15 such deals in the previous four quarters, according to data from CoStar Group Inc.
“Operators are becoming more and more aware of the benefits of sale-leasebacks,” said Reed Melillo, a senior director with Westwood-based James Capital Advisors Inc., which has represented chains nationwide in sale-leasebacks of numerous locations.
Electric vehicle developer Faraday & Future Inc. sold its Gardena headquarters at 18455 S. Figueroa St. to Atlas Capital Group last month for an undisclosed sum. The distressed company is now leasing the building. Faraday didn’t return requests for comment on the deal.
Covenant Care Inc. sold a portfolio of four nursing facilities, including one in Huntington Park, to CareTrust REIT Inc. for $43.9 million earlier this year. The Orange County-based health care services provider is now leasing back three of the four buildings, according to CoStar.
And fast-food chain Del Taco recently sold 8,800 square feet of commercial land out from under one of its locations in Santa Monica to a family trust for $5 million. It still owns the building and signed a 20-year lease for the grounds.
“They didn’t want to have a lot of capital tied up in the real estate,” said Peter Deltondo, senior vice president of investments at Marcus & Millichap Inc., who represented Del Taco in the deal. “They make their money out of their business,” he said.
Prior to 2018, business owners could deduct all interest expenses related to the purchase of a building. Now, companies with annual gross receipts of more than $25 million can deduct no more than 30 percent of earnings before taxes, depreciation and amortization.
“For certain operators who had a large benefit from interest deductibility, they lost that benefit, which makes owning the property and having debt on that not as attractive,” Melillo said.
Sterling Champ, an executive vice president at CBRE Group Inc., said an update to federal accounting standards this year also encourages sale-leasebacks. It used to be that if a business sold a property for a profit, it recognized the gain over the time it leased the property back. Now, Champ explained, some businesses can take the full value all at once.
Cashing in
Selling a property and leasing it back is a way for companies to get capital quickly.
It’s a good time for operators to do these deals because real estate values are high, and interest rates are low, said SRS Real Estate Partners Managing Principal Matthew Mousavi. “They are saying, ‘Why don’t we sell this real estate and lease it back, so we still control the property, and now we have millions of dollars or even billions to do other things?’”
Mousavi said selling a property that’s already leased usually increases its value.
Some companies build their own property and then sell it to free up capital and expand. That way they get a building that was tailor-made for them without having too much money tied into real estate.
Del Taco bought the Santa Monica building when it was a Jack in the Box. It converted it into a Del Taco and sold the land to get “a good amount of their money back from the acquisition,” Deltondo said.
“Companies don’t want to be in the real estate business,” said Champ, who has done deals for several fast-casual restaurants as well as CVS Pharmacy Inc. For restaurants, which tend to run very lean operations, selling and leasing back a property allows them to “free up the capital that they have tied up in the real estate to spend in their business,” Champ said.
A solid investment
For buyers, sale-leasebacks are investments that can be almost as secure as a bond. Most sale-leasebacks are long-term leases — some for as long as 20 years with renewal options.
Scott Holmes, senior vice president and national director of retail at Marcus & Millichap, said investors immediately have leases in place with “good, long-term tenants” with a strong track record.
In negotiating sale-leaseback deals, buyers often try to lay out rental rates that are below market, which keeps the overall sale price of the property down. That way, they pay less up-front while locking in steady income over time.
Higher lease rates in a sale-leaseback deal drive a higher price for the property, brokers said.
Buyers are basically “buying an income stream from the lease,” Mousavi said, adding that there are a lot of buyers interested in sale-leasebacks right now.
Earlier this year, West L.A.-based Safco Capital Corp. spent $25.3 million to purchase a retail lot with a Gelson’s Market from an operating company that owns Gelson’s Markets Inc. real estate. Gelson’s leased back the store front as part of the deal.
The Gelson’s deal was what’s known as a “triple net lease” where the tenant manages the property, and the landlord is not on the hook for things like maintenance, said David Swartz, a partner with Crosbie Gliner Schiffman Southard & Swanson, who represented Safco in the sale and lease. Triple net leases are common in sale-leaseback arrangements.
“The landlord has nothing to do but collect rent,” Schwartz said. “He has a great tenant that’s paying him money every month, and the tenant has a good situation in that they’ve monetized their property and don’t have to worry about it.”
Crystal Lofing, a partner at Allen Matkins Leck Gamble Mallory & Natsis, said some developers will buy properties in sale-leaseback deals with plans to renovate the property. The baked-in tenants allow developers to collect rent while those plans come together.
Some buyers “use the leasebacks as more of a timing mechanism to wait out the market,” Lofing said.
Melillo said he expects to see more sale-leasebacks moving forward, because the market is still “in the early stages of figuring out exactly what the implications are of the new tax law.”
