October 2007
VOL. 2 
European Sale-Leasebacks:
Debt-dependent buyers bow out
The uncertainty that has plagued the U.S. capital markets for months has made its way to Europe, significantly changing the sale-leaseback environment across the continent. Highly leveraged sale-leaseback investors have been forced to the sidelines, creating opportunities for buyers that aren't as debt-dependent.
"In Europe, we've seen a lot of sale-leaseback deals done by 'financial engineers' — investors that put 90 to 95 percent debt on the deals and then securitize them," notes Rob Reiskin, managing director and head of investments for Curzon Global Partners/ IXIS AEW Europe, which has a €1 billion fund to invest in sale-leasebacks across Europe. "But, America's [CMBS problem] is affecting the world and those highly leveraged buyers are starting to fall away."
At the same time that many investors have dropped out of the sale-leaseback arena in Europe, more and more companies are looking to do sale-leasebacks. In fact, global brokerage firm CB Richard Ellis estimates that €30 billion ($40.4 billion) of European sale-leaseback transactions will occur per year. That compares to about $11.2 billion in the U.S. in 2006, according to Real Capital Analytics.
Selling the family silver
Not only is the timing right for European companies (the cost of capital has increased from relatively inexpensive levels), but cultural norms regarding real estate ownership are changing. While it may be pass for U.S. companies to own their own real estate — in fact, Wall Street takes a very dim view of public companies that have real estate on their books — that's certainly not the case in Europe.
"Many European companies view real estate like the family silver," Reiskin points out, adding that roughly 60 percent of commercial real estate in Europe is corporate-owned and 40 percent is owned by real estate companies or investors. Compared to the U.S., where only about 20 percent of commercial real estate is owned by corporations, European companies are real estate heavy to say the least."
"For centuries, the European view of wealth is founded on the concept of land ownership," explains Edward LaPuma, president of W. P. Carey International, an active buyer of sale-leasebacks in Europe. "Companies have traditionally been loathe to sell off their real estate because it could be viewed as showing signs of weakness. But many companies have recently embraced sale-leasebacks because they have an appreciation of the financial structure."
LaPuma contends "a lot of product is going to come off the balance sheets of European corporations." German Do-It-Yourself retailer Hellweg Die Profi-Baumrkte GmbH & Co. KG, for example, recently sold off 3.2 million square feet to W.P. Carey for $445 million and leased the space back.
That's just one of many deals the New York City-based company has done in Europe since it entered the market almost 10 years ago. Today, it owns $3 billion worth of European assets, which account for roughly 30 percent of its portfolio.
Track record of success
So, what's caused the change of heart amongst European companies? While some experts suggest that growing awareness of sale-leasebacks has generated more interest, most contend that the sale-leaseback deals completed by several large international companies has paved the way for small and mid-size companies.
Initially, European companies experiencing financial difficulties were the first to partake of sale-leasebacks. For example, several telecommunications companies did sale-leasebacks during the earlier part of this decade including France Telecom, which spun off its real estate in a €3 billion transaction to Whitehall Real Estate and GE Real Estate France.
Cash-strapped manufacturing companies were next to embrace sale-leasebacks, but the financial benefits of these deals were so compelling that global giants with healthy balance sheets started doing them, says Franois Trausch, president of GE Real Estate France.
"Companies are coming to realize that owning their real estate is not required," Trausch says, adding that they're even beginning to believe that not owning it offers far more flexibility. "The trend in Europe moving forward should be toward more outsourcing of real estate."
Most recently, GE Real Estate France completed a €200 million sale-leaseback with Mory Group, a Paris-based logistics company that used the proceeds of the deal to expand into other European countries, according to Trausch.
With well-known European companies such as Paris-based retailer Carrefour closing multi-million Euro deals, small and mid-size companies are following suit. "It's quite unique that these big European companies broke rank and did what made sense in the global markets," says LaPuma of W.P. Carey, which owns most of Carrefour's distribution centers across Europe. "That has provided a window to some of the smaller companies who say, 'If Carrefour can do it, I can too.'"
Seeking smaller, riskier deals
Experts agree that small and mid-size companies, along with those that have riskier credit profiles, offer the most promising sale-leaseback opportunities in Europe today. "We now see some of the mid-size companies adopting the practices of the larger international firms," Reiskin says. "I think we'll see more deals across Europe but the size of the deals will be smaller and investors will have a value-added approach."
And new investors are entering the market every day. U.S.-based Boston-based STAG Capital Partners, for example, recently opened a London office to source sale-leaseback deals with sub-investment grade companies with assets in secondary and tertiary markets across Europe. The firm has several deals under contract, according to Charles Hipwood, president of STAG Capital Partners Europe Ltd. "These are deals that a typical real estate guy would not want to buy," he says.
Fortunately, there's a good supply of deals in the €100 million to €300 million range, Reiskin says, and that's why Curzon's fund is focused on value-added, mid-market sale-leaseback opportunities — deals that are asset management intensive rather than "financial engineering exercises". The fund has a targeted return of 16 percent (after taxes and fees).
However, sale-leaseback deals that are nothing more than financial engineering offer far lower returns. In the United Kingdom, for example, a good quality office building in a decent location with a 15 to 20-year lease has a yield of about 5 percent, according to Chris Jolly, managing director of Jones Lang LaSalle Corporate Finance.
Over the past 18 months, Jones Lang LaSalle has been actively marketing office buildings and bank branches owned and occupied by Barclays. So far, the firm has done sale-leasebacks on 10 administrative buildings and 600 branches for a total volume of ?800 million.
Outside of the U.K., yields are about 50 to 75 basis points higher, and Jolly expects yields to increase across Europe over the next few months. "Because we have lost a lot of the highly leveraged buyers from the marketplace, some of the competitive pressures have been taken off the market," he notes.