Top 3 Financial Strategies for CFOs to Fund Business
While equity and debt are viable options, sale-leasebacks may be the best approach in the prevailing economic environment
Inflation is currently at 8.2% year to year, way above its 2% benchmark. The Fed has increased interest rates three times in a row to try and keep inflation under control, with promises of further interest rate increases to achieve a terminal target of 4.6% in 2023. Higher interest rates have a direct impact on your funding efforts. Increasing rates reduces spending power, causing stock prices to fall almost immediately while increasing the cost of debt.
In an ideal world, you would be able to make all the money you need by simply selling goods and services. But the general business strategy is that you need money to make money, which means getting external funding. Finding affordable funding can be a difficult strategic decision for any chief financial officer, especially in the current economy. While equity and debt are major sources of business funding, a sale-leaseback is a good option to consider when you are looking for more affordable financing. Here's a closer look at the pros and cons of debt, equity and sale-leasebacks and why a sale-leaseback may be the best financial strategy for your company in the prevailing economy.
Public markets capital raise (equity and debt)
One of the ways to raise funds is through debt or equity financing. With debt financing, you issue corporate bonds to the public and pay back the full loan amount plus interest upon maturity of the bond. Corporate bonds attract a higher rate of interest than government bonds because of the perceived higher risk, meaning more costs for you.
Equity financing involves selling company shares in the stock market and paying the equity holders a dividend or return should the stock value appreciate. Your obligation to pay earnings to equity holders will depend on the types of shares held. Preferential shareholders receive payments first, while common shareholders get paid after creditors and preferred shareholders.
Pros
- You can raise large sums of money from the public.
- Interest rates paid are typically lower than bank interest rates.
- Stock issuance does not require you to pay investors. Payments are based on business performance.
- Interest on debt financing is tax deductible but there are limitations.
Cons
- The current rising interest rates have caused a general fall in share prices, making equity funding a less ideal way to raise funds.
- Equity raises dilute stocks since each shareholder owns a small piece of the company.
- The current economic slowdown makes it harder for businesses to get debt financing. Even when you do, the cost of debt is high and you have to pay lenders regardless of the performance of your business.
- While you do not have to repay equity, shareholders are entitled to a share of a company's earnings.
- Dividends paid to investors are not tax-deductible like in debt financing.
- Investors are a huge part of your company's decision-making. Outside funding can cause tension between your company and investors.
Loans
A loan can be handy when you need working capital or funds for short-term needs, especially when you are running a high-growth business. In this case, you can borrow money privately, for instance, from a bank.
Pros
- The market has a variety of lenders you can chose from.
- Interest on debt financing is tax-deductible but there are limitations.
- Private borrowing can help boost your credit score.
Cons
- Interest rates are rising, making it difficult to find a good rate for your loan.
- Banks are increasing their lending restrictions.
- Refinancing a loan can be more expensive as interest rates keep rising.
- You have to repay lenders even when your company isn't doing well, which can result in bankruptcy or litigation.
Debt and equity finance can be risky. Failure to repay public debt or a loan can result in default or bankruptcy which affects corporate credit scores. Equity financing also has its downsides since you miss out on tax benefits and also risk ownership dissolution since new and old investors expect a share of corporate profits. These cons are a great reason why sale-leasebacks are the more attractive option.
Sale-leaseback
What is a sale-leaseback?
A sale-leaseback, also called a sale-and-leaseback, is an agreement between you and an investor where you sell your real estate for 100% of the value of your property and simultaneously enter into a long-term lease for the same property. A sale-leaseback is not classified as debt or equity but as a hybrid debt product. You can access much-needed capital when you sell your real estate within a sale-leaseback agreement without increasing your debt. A sale-leaseback is the best financing option when you have cash invested in your property or land that you could use to better your cash flow or invest in profitable business projects while maintaining operational control of your asset.
A sale-leaseback is one of the best financial strategies for CFOs to fund business as it can improve your financial statements. By enabling you to pay down debt and improve cash flows, sale-leasebacks can improve your company’s balance sheet health.
Pros
- Rental payments from a sale-leaseback qualify for tax deductions.
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You transfer the volatility risks of owning your real estate to the new owner.
- The agreement involves a long-term lease at your agreed-upon rental rate, providing stability for the future.
- Sale-leasebacks generally fetch a lower rate in the current environment when compared to debt financing.
- You get a long-term capital partner who can fund future expansions, renovations and build-to-suits to help grow your business.
- If you're not in the business of owning real estate, you can unlock 100% of cash in illiquid real estate at market value and reinvest it in profitable areas of business.
- You can maintain operational control of your real estate after selling it.
- A sale-leaseback gives you immediate access to capital to reinvest in your core business operations compared to a loan or equity financing which may take some time.
Cons
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If you've never done a sale-leaseback, you may not even know how to start. W. P. Carey can help. We specialize in acquiring real estate and creating custom sale-leaseback structures to meet your unique needs.
- You need to own your real estate assets to pursue a sale-leaseback, so this type of financing may not be possible for some businesses.
We're here to help with your sale-leaseback needs
If you are looking for more cash flow for your business, you could take the traditional route with capital raising or a loan or go for a sale-leaseback. A sale-leaseback may be the more attractive strategy to secure the financial flexibility you need to pursue your strategic business goals. Learn more about sale-leasebacks and how other companies use them as a powerful capital solution to fund business growth.
Think a sale-leaseback is right for your company? Contact our team!
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Three Ways CFOs are Leveraging Sale-leasebacks to Prepare for a Recession
The U.S. economy has hit some major roadblocks in recent months. Sustained high inflation, supply chain disruptions and rising interest rates have all signaled to economists that we are either in or on the verge of a possible recession. While there is no universal playbook on how to prepare for a possible recession, for companies that own their real estate, a sale-leaseback is one lesser-known, value-extracting method savvy CFOs should consider. In a sale-leaseback a company sells its real estate to an investor for cash and simultaneously enters into a long-term lease. Proceeds from the sale-leaseback can then be used to bolster a business’ balance sheet and provide the financial flexibility to help navigate a volatile economic environment. Here are three ways CFOs are using sale-leaseback proceeds to grow their businesses and prepare for an uncertain future: Pay down debt and improve credit The last thing businesses want to deal with when a recession hits is mountains of debt to pay down with limited cash flows. By pursuing a sale-leaseback now, companies can unlock capital to reduce leverage and improve their balance sheet health. The reduction in leverage helps improve both a business’ debt / EBITDA ratio in addition to debt / capitalization. As a result, companies will have less debt obligations to worry about and may even improve their credit – leaving them better positioned to weather an economic downturn and secure loans at attractive rates in the future should they need to. Redeploy capital to higher ROI business segments It is almost always the case that businesses can earn more by reinvesting the capital locked up in their real estate (an otherwise illiquid asset) into their core business operations. This makes sale-leasebacks an attractive capital tool for almost any business with owned real estate. Common uses of sale-leaseback capital that can boost a business’ returns include, acquiring new equipment, funding R&D, launching new product lines as well as growing their market share in existing business lines through acquisitions. Improving the efficiency of a business while increasing profits will not only help companies endure a short-term recession, but also position the business for long-term success. Unlock financial flexibility for future growth Sale-leasebacks are a unique financing structure as they give a business the opportunity to convert a non-earning asset into growth capital. Sale-leasebacks also typically have no more restrictive financial covenants than a traditional bank loan – providing CFOs with significant discretion in determining the best use of their company’s cash. In a recessionary environment when companies typically struggle with dwindling cash flows, having the extra capital from a sale-leaseback could offer companies the financial flexibility to take advantage of growth opportunities as they arise, setting them apart from their competitors who may be struggling just to stay afloat. Conclusion For many companies, sale-leasebacks are a cost-effective strategy to unlock capital which can help improve balance sheet health and enable companies to invest in growth, positioning them for longevity and success even amidst an economic downturn. Given the rising rate environment, it’s also advantageous for a company to pursue a sale-leaseback now to lock in an attractive long-term rental rate before interest rates likely rise again in the fall. Ultimately, preparing for a recession comes down to preparation. By making strategic business choices now, CFOs can prepare for an uncertain future.
Leveraging corporate finance to unlock real estate capital
Economies and markets have grappled with a succession of enormous challenges in the wake of the pandemic. Healthcare and geopolitical crises have cascaded into the fiscal, financial, supply chain and monetary realms, with inflation rearing its head and interest rates rising in its wake. Rising interest rates will, in our view, cause commercial real estate values to correct significantly over a two-year timeframe. Some investors are taking to the side-lines in this period, subduing overall activity. Others are seeking opportunities. Many of these opportunities will emerge among corporates seeking to monetize their property assets in order to release capital. This will be for both defensive purposes (for instance, to service or pay down debt), or to explore new growth opportunities of their own. Written by Colliers Corporate Capital Solutions and featuring contributed content from Christopher Mertlitz, Head of European Investments at W. P. Carey, this 24-page whitepaper seeks to educate the reader on the macro-outlook of the global real estate pricing reset and evaluates a range of lesser-known capital-raising options for corporates to consider as traditional lenders grow more risk averse and bond issuance looks less attractive. Given the current market dynamics, sale-leaseback strategies appear to be emerging as the preferred solution for many corporates, particularly sub investment-grade organizations seeking to strengthen balance sheets. Find out why in this latest report.
The Ins and Outs of Sale-leasebacks
What Is a Sale-Leaseback? In a sale-leaseback (or sale and leaseback), a company sells its commercial real estate to an investor for cash and simultaneously enters into a long-term lease with the new property owner. In doing so, the company extracts 100% of the property's value and converts an otherwise illiquid asset into working capital, while maintaining full operational control of the facility. This is a great capital tool for companies not in the business of owning real estate, as their real estate assets represent a significant cash value that could be redeployed into higher-earning segments of their business to support growth. What Are the Benefits? Sale-leasebacks are an attractive capital raising tool for many companies and offer an alternative to traditional bank financing. Whether a company is looking to invest in R&D, expand into a new market, fund an M&A transaction, or simply de-lever, sale-leasebacks serve as a strategic capital allocation tool to fund both internal and external growth in all market conditions. Key Benefits Include: Immediate access to capital to reinvest in core business operations and growth initiatives with higher equity returns. 100% market value realization of otherwise illiquid assets compared to debt alternatives. Alternative capital source when conventional financing is unavailable or limited. Ability to retain operational control of real estate with no disruption to day-to-day operations. Potential to gain a long-term partner with the capital to fund future expansions, building renovations, energy retrofits and more. Who Qualifies for a Sale-Leaseback? There are several factors that determine whether a sale-leaseback is the right fit for a company. To be eligible, companies must meet the following criteria: Own Their Real Estate The first and most obvious criterion for qualification is that the company owns its real estate or have an option to purchase any existing leased space. Manufacturing facilities, corporate headquarters, retail locations, and other forms of real estate can be potential candidates for a sale-leaseback. Unlocking the value of these locations and redeploying that capital into higher yielding parts of the business is a key driver for companies pursuing sale-leasebacks. Be Willing to Commit to Operating in the Space While the term of the lease in a sale-leaseback can vary, most investors will want a commitment from a future tenant to occupy the space for a 10+ year term. Assets critical to a company’s operations are often good candidates for a sale-leaseback because a company is willing to sign a long-term lease for those locations. This makes it a more attractive investment for sale-leaseback investors as they have more security that the tenant will stay in the facility for the long term. Have a Strong Credit Profile Companies do not need to be investment-grade quality to pursue a sale-leaseback. However, some credit history is typically required so the sale-leaseback investor knows that the business can make rental payments over the course of the lease. Sub-investment-grade businesses are still eligible as long as they have a strong track record of revenue and cashflow from which to judge their creditworthiness; however, they may need to find an investor who has the underwriting capabilities to assess their business. Minimum revenue and profitability requirements will vary based firm to firm, so it’s best to ask about this upfront before engaging with any particular sale-leaseback partner. Qualities to Look for in a Sale-leaseback Investor When considering a sale-leaseback, finding the right buyer is critical in order to ensure a company is maximizing the value of their real estate. Here are some of the key qualities to look for in a sale-leaseback investor. Experience A knowledgeable investor can offer more flexibility and guide sellers through the process, creating customized deal structures to meet all of a company’s unique objectives and avoid potential pitfalls. Additionally, experienced investors can typically navigate all market cycles and offer certainty of close (some in as little as 30 days), ensuring the deal closes in a timeframe that works for the company and their fiscal requirements. An All-Equity Buyer When looking for a sale-leaseback partner, finding an all-equity buyer is important, particularly when dealing with timing constraints. All-equity buyers don't have to worry about third-party debt or financing contingencies, meaning there’s less likelihood of a re-trade in the late stages of negotiation. All-equity buyers can also typically close faster as they do not need to wait on approval from banks or lenders, providing a smoother process overall. A Long-Term Real Estate Holder Finding a long-term investor is vital. Sellers don’t want someone who is simply looking to flip a property for a quick profit. Instead, look for an investor who will remain a committed partner to you over the long run and one that can provide capital for future projects such as expansions, renovations, or energy retrofits. Diverse Knowledge and Experience Different industries, property types and locations require unique expertise to efficiently and effectively partner with sellers to structure a deal that address the needs of all parties. Working with an investor with experience in the company’s specific industry, property type and/or country ensures that all potential risks and opportunities are considered before entering into a sale-leaseback agreement. For example, if you are considering a cross-border, multi-country transaction it’s critical you look for an investor with local teams in those countries who speak the language and understand the local rules. What is a Build-to-Suit? When looking into a sale-leaseback, another term companies may encounter is a build-to-suit. In a build-to-suit, a company funds and manages the construction of a new facility or expansion of an existing one to meet the specifications of a prospective or existing tenant. Upon completion, the company enters into a long-term lease, similar to a sale-leaseback. For companies looking for a brand-new property, this is a great solution that requires no upfront capital. The Main Benefits of Build-to-Suits Include: Development of a custom-built facility in a location of the company’s choice. No upfront capital required, enabling the company to preserve capital for its business. Ability to retain operational control of the facility post construction. Potential to gain a long-term partner with the capital to fund future expansions, building renovations, energy retrofits and more. Conclusion While sale-leasebacks may seem intimidating for companies who have never pursued one, working with an experienced and well-capitalized investor can make the process easy. When working with an investor like W. P. Carey, sellers can ensure they are working with a partner that can understand the unique requirements of their business while having the added option of closing in as little as 30 days and the added advantage of gaining a long-term partner who can support its tenants through flexibility and additional capital should they wish to pursue follow-on projects such as expansions or energy retrofits as their business and real estate needs evolve. In all market conditions, sale-leasebacks are a great financing tool to unlock otherwise illiquid capital that can be reinvested into a company’s business to support future growth. Think a sale-leaseback is right for your company? Contact our team today!