REITS ARE BECOMING MORE POPULAR IN THE CANADIAN AUTOMOTIVE LANDSCAPE —COULD THEY WORK FOR YOUR DEALERSHIPS?
With the recent launch of Automotive Properties Real Estate Investment Trust and the purchase of four Canadian dealership properties by Capital Automotive Real Estate Services, real estate holdings of automobile retailers are once again front and centre on everyone’s mind.
Real estate has long been a key ingredient in a dealer’s wealth creation strategy. Dealers that have owned their properties for decades, by and large, have witnessed significant growth in value.
In the current era of dealer consolidation, real estate is once again at the forefront, but for entirely different reasons.
The same way that Gen Y seems more interested in access to kilometers than vehicle ownership, so too are consolidators interested in access to great locations without having the need to own them. Couple this with aging dealers and their need for retirement income, you begin to get a picture that the real estate ownership landscape for automobile dealers is changing quickly.
We all have experienced auto manufacturer facility and image programs. We know how strategic image has become in representing automotive brands in our local markets.
We are also aware of the ever-increasing costs of complying with image programs, many of which have lives less than 10 years before additional reinvestment is required.
Property ownership, though still lucrative to many dealers, can cause issues at the time of certain ownership events, such as image investment, relocation, succession and consolidation.
For many, real estate return on investment is now being compared to dealership operating return on investment and effective deployment of capital.
For others, real estate keeps mom and dad involved in the dealership business beyond their desired retirement age as part of an intergenerational succession plan.
And for others that have chosen to sell their dealerships but retain the real estate and who are now landlords, the stress of the industry’s ups and downs combined with the stress of regular image program reinvestment and other ongoing landlord responsibilities, is making this option less and less attractive to many.
For many, REITs are a reasonable alternative that offers different benefits, depending on your stage of life, organizational objectives and need for liquidity.
In the U.S., Real Estate Investment Trusts (REITs) have been a popular vehicle to handle automotive real estate needs for many years.
Let’s look at William. He owns and operates a four store group in a suburban city, comprising of four brands. We will assume the fair value of his four properties is $40-million.
William’s four operating companies have a combined value of $16-million, of which $12-million is blue sky. William charges his operating companies $2.8-million in annual rent
on a net basis.
ABC Group wants to purchase William’s stores. Although William would really like to remain the landlord, he is concerned that all four of his buildings will require renovation in the next five to 10 years. he has no real desire to manage that process at the age of 75.
Real estate has long been a key ingredient in a dealer’s wealth creation strategy. Dealers that have owned their properties for decades, by and large, have witnessed significant growth in value.
ABC, on the other hand, does not want to use its equity to pay for the $12-million in bluesky, or the $10-million down payment on the real estate. The company believes it can better deploy a portion of its equity to buy more operating companies and increase return on investment.
ABC and William approach a REIT to see if that could help solve their dilemma.
William is concerned primarily about premature income tax erosion, while ABC is concerned about control over the properties.
William was delighted to learn that the value of his real estate holdings can be converted to shares in the REIT that pay out a handsome monthly distribution. In this way William can control the timing of his income tax payments and plan his retirement confidently.
William also learned that it’s not an all or nothing situation. He does not have to sell all four properties. The choice is his.
Also at the time of William’s death, any shortfall in funding his final income tax payments can be funded easily by selling some of the REIT shares or borrowing against them. In this way his spouse, children, grandchildren and great-grandchildren can benefit for generations.
ABC was delighted to learn the REIT will fund any future image upgrades or relocations, and that the company was in control of what happened to the property.
Since the REIT is automotive focused, ABC welcomes working with its tenants as the company in turn works with the automotive brand partners to build a stronger automotive retail presence.
After running the numbers, ABC believes it can leverage an additional $12-million into other operating company acquisitions. Those could generate an additional few million dollars in annual pre-tax operating profits, as opposed to the two per cent potential increase in value of William’s properties should ABC acquire them.
Let’s take a quick look at another opportunity. DEF group owns eight dealerships, eight individual parcels of land and single purpose dealership buildings.
Real estate has been a good investment, where today DEF real estate holdings has a fair value of $55-million, with only $6-million of mortgage debt remaining.
DEF founder, Troy, is turning 75 and wants to exit. He would like nothing more than for his son and the management team to own the business. Troy and his wife Mary have seven children, with only one involved in the family business.
Troy and Mary want to settle as much of their estate as possible and want to trickle some funds down to their children sooner rather than later while their adult children can use the money to pay off mortgages, fund college educations and add additional capital to their respective businesses and family nest eggs.
Troy, his son and the management team have struck a deal whereby six of the eight properties will be sold to a REIT. Troy will retain ownership of the remaining properties to give him something to do.
After running the math and working with the REIT, a deal is struck whereby Troy receives a sizeable amount of cash, his son and the management team borrow funds to purchase the shares of all eight dealerships, some of which is a vendor take back from Troy and others are traditional.
Troy and Mary are delighted, since they believe they are in a better position to be fair and equal to all of their children. Their son and the management team are delighted and eager to get to work to increase the value of their dealership holdings and perhaps expand the group.
REITs are not for everyone but they certainly have a place in the Canadian dealership landscape for many current dealers.
I believe that REITS can provide liquidity when liquidity is needed be that for succession, expansion, acquisition, management buy-out or simply an exit from the business with personal liquidity and tax deferral. They are a financing source that has benefits to both sellers and buyers in a buy-sell, and in intergenerational wealth transfers in succession planning.
Your real estate is front and centre in today’s business environment and you owe it to yourself to understand how REITs might be able to work for you, your family and your group.
