With dealer consolidation in Canada at fever pitch and the topic of succession being a focal point, sale and leaseback arrangements are finding their way into the Canadian dealership landscape
You might be asking yourself that in a world where dealers have largely made their millions of personal wealth from real estate, does a sale-leaseback really make sense? The short answer is that it might not in all cases, but for some dealers it is definitely an option worthy of consideration.
Traditionally, many dealers looked at their dealership property as a pension plan. Historically, they can move from operator to landlord and collect risk-free rent cheques for many years into the future. Although this is still true, what is changing is that more and more dealers are assessing the risk of real estate ownership that is supported by a single purpose auto retailing business with shrinking margins, brand volatility and greater OEM control.
Dealers traditionally have found themselves in one of two distinct camps. The first is where succession is a real possibility with a high probability for achievement and the second is an outright sale to a third party as their only realistic means to exit the business.
REALISTIC OWNERSHIP SUCCESSION
In an ownership succession and transition many family dramas often surface between active and non-active siblings and their parents. Often, the bulk of the nuclear family wealth is tied up in the dealership land and buildings. Significant pressure is therefore thrust upon those siblings running the dealership.
They often carry the burden of managing the family’s crown jewel without the benefit of truly realizing the full rewards for their efforts. Non-active siblings might disagree with that last comment but the fact remains that active siblings tend to feel a tremendous, family-driven burden. Money has a way of affecting years, and in fact, generations of family harmony and can often cause relationships to fracture.
How could a sale-leaseback work to alleviate family tension? Mom and Dad could sell the real estate through a sale-leaseback transaction. The active sibling could then lease the property from an independent third party financial partner while Mom and Dad would receive a significant amount of cash to do with as they please.
As a result, the parents could divide some of that cash during their lifetime and the balance toward their wills as they see fit. Most importantly, the operator sibling would then not be tied to Mom and Dad to support their retirement (except perhaps through dealership operation share purchase plans) and in no way tied to non-active siblings for real estate value realization and the resulting cash flow demands.
This could promote family harmony for Mom and Dad for their remaining years and certainly after their passing. Many dealers I have spoken to believe this could be a clean and significantly less stressful approach to ownership transition and estate liquidation.
DEALERSHIP BUY/SELL
How could a sales-leaseback work in a dealership buy-sell? In situations where the dealer principal has decided to exit the business and enjoy life, a sale lease-back partner could form part of the transaction. Again, I am going to break this up into two channels. Firstly, for dealers that want to retain ownership of the dealership lands and buildings and secondly, for those who do not want to.
Where dealers want to continue to own the real estate and live off the rent as a worry-free pension, unlike in the past, today’s brand environment presents some uncertainty. Faith and trust in the brand and its management, local market evolution, and new dealer/operator continued financial strength all present uncertainties.
OEM image and facilities programs also present a significant risk for former dealers that find themselves as new landlords. Many former dealers do not want to be saddled with the possibility of incurring debt to renovate dealership buildings to meet the demands of the brands represented by their dealership tenants.
Sure, lease agreements can be structured to address this, but no retired dealer wants to be holding the bag at the end of the day. Most are looking for worry and stress-free real estate ownership. How will future bricks and mortar investment affect the profitability of their dealership tenant? What if the OEM demands dealership relocation. What then?
In this situation, the sale-leaseback becomes a trade off between certainty and uncertainty.
USEFUL TOOL
Where a selling dealer has decided to sell the dealership land and buildings at the same time as the dealership operations, a sale-leaseback could become a very handy financial tool. In situations where the purchaser does not want to purchase the real estate but wants the store, a sale-leaseback partner can step in to purchase the land and buildings and act as the landlord for the new operator.
The benefit to the new operator is that a significant amount of capital is not tied up in unproductive real estate equity. It also means that when it comes time for an image upgrade, the operator might not be using their own financial resources. The landlord could pay for the upgrade and charge additional fair value rent. The benefit to the selling dealer is that they get all their money upfront and remove a significant amount of risk to future personal involvement and future family net worth.
DEALER GROUPS
In today’s consolidation environment many dealer groups are in fact questioning the need to own 100 per cent of the real estate attached to their dealership investments. How can consolidators make use of sale-leaseback financing? Firstly, in situations where dealer groups find themselves with millions of dollars locked up in real estate equity, they could enter into sale-leaseback transaction for one or more properties.
Assuming they have the need for additional free cash, they could use that cash to facilitate future acquisitions. With their newly found liquidity they could expand their brand footprint, thus increasing the opportunity for additional profitability and return on investment. Secondly, they could utilize sale-leaseback financing at the time of acquisition, where their sale-leaseback partner acquires the real estate and the dealer group acquires the operating business. The two transactions would close simultaneously.
Again, the group’s use of its own capital resources is minimized. We all know the Canadian dealership environment is changing. With fewer and fewer single point dealers, intensifying ownership succession issues, factory image and facility programs, and increasing dealer group acquisition activity, perhaps the time has come for sale-leasebacks to become a more visible part of the Canadian auto retailing landscape.
In the U.S., sale-leasebacks are very entrenched within publicly traded dealer groups, privately held dealer groups, and even privately held dealers. This movement has significant momentum south of the border and although currently in its infancy in Canada, I believe it will gain momentum up here over the next few years as well.
Owning the dirt has been a remarkable investment for many dealers and could continue to be for years to come. However, with the changing business environment, the sale-leaseback presents an option to both finance succession and facilitating the expansion of operations. For some dealers, it’s definitely worth a look.
