A company that owns its building is holding an asset that produces no return and secures a loan for a fraction of its value. A sale-leaseback converts it to cash at full value and turns the mortgage payment into rent. Whether that is a good trade depends almost entirely on three terms in the lease, and not much on the headline price.
What is a sale-leaseback?
A sale-leaseback is a transaction in which a company sells an asset it owns, usually real estate or heavy equipment, and simultaneously leases it back from the buyer under a long-term lease. Operations do not change. Ownership, and the obligation, do.
The buyer is generally an investor pricing the transaction as an income stream, which is why the tenant’s credit quality matters as much as the property does.
How is the price set?
On real estate, by capitalising the rent. The investor picks a capitalisation rate reflecting the property, the location, the lease term, and the tenant’s credit, and the value follows from the rent and that rate.
This produces an unusual dynamic: the seller has real influence over the sale price by choosing the rent. A higher rent supports a higher price and a larger cheque today, at the cost of a heavier obligation for the next fifteen years. Overpricing the rent to maximise proceeds is the single most common way these transactions go wrong.
A worked comparison
A manufacturer owns a building appraised at $4,000,000, unencumbered. Two ways to raise cash against it:
| Mortgage | Sale-leaseback | |
|---|---|---|
| Proceeds | $2,600,000 (65% LTV) | $4,000,000 |
| Annual cost | $251,345 debt service | $320,000 rent |
| Terms | 7.5%, 20-year amortisation | 8.0% cap rate, long-term lease |
| Ownership at the end | Retained, debt repaid | None |
| Balance sheet | Asset and debt | Lease obligation |
The sale-leaseback produces $1,400,000 more cash today at $68,655 more annual cost, and gives up the residual value of the building along with any future appreciation.
That is the whole trade, stated plainly. It is not obviously good or bad. It depends on what the $1.4M does.
When does it make sense?
Three situations where the arithmetic usually works.
- The cash earns more inside the business than the building appreciates. Funding an acquisition, a plant expansion, or paying down materially more expensive debt.
- The property is not strategic and the company would not choose to buy it today.
- Conventional debt is unavailable or capped, and the real estate is the largest unencumbered asset on the balance sheet.
And two where it usually does not: funding operating losses, which converts an asset into a fixed obligation without fixing anything, and cases where the residual value is a meaningful part of the owner’s retirement plan.
What are the three terms that decide it?
The rent, and its escalators. A 3% annual escalator compounds substantially over a fifteen-year term. Model the rent in year fifteen, not year one.
The lease structure. Most of these are triple net, meaning the tenant pays taxes, insurance, and maintenance, including structural items an owner would have capitalised. Budget for a roof.
The renewal options. How many, how long, and at what rent. Options at a fixed or capped rate protect you. Options at “then-prevailing market rent” leave you negotiating from inside a building you cannot easily leave.
What does it do to your other financing?
Two effects, both worth checking before signing.
The lease payment is a fixed charge, so it enters the coverage calculation directly and can consume covenant headroom, as shown in DSCR, FCCR, and the coverage ratios. And existing credit agreements frequently restrict asset sales and sale-leaseback transactions outright, which means lender consent is required rather than optional. That restriction is standard covenant language, covered in loan covenants explained.
Accounting and tax treatment depend on the structure and on whether the transaction qualifies as a sale under current standards. That is a question for your accountant before signing, not after.
Does it work for equipment?
Yes, and it is common where a company has bought equipment with cash and wants that capital back. The pricing is set against the equipment’s value in the market rather than its book value, which is usually a much lower number than owners expect, for the reasons in forced liquidation value.
Equipment sale-leasebacks tend to be shorter, priced closer to a loan, and less advantageous relative to conventional equipment finance than the real estate version is relative to a mortgage.
The short version
A sale-leaseback converts an owned asset into cash at close to full value, at the cost of the residual and a long fixed obligation. It works when the cash has a better use inside the business than the asset has sitting still. Negotiate the escalator and the renewal options harder than the price, because those are what you live with.