As Corporate America continues to focus on core strategies, the trend line to sell off real estate holdings, then lease back the space as it is needed, accelerates. This has attracted a host of new players on all sides of the market, from institutional investors to real estate investment trusts to large real estate service firms.

In October, CB Richard Ellis LLC unveiled a $500 million investment program to be administered by its Corporate Partners fund that intends to acquire net-lease properties in what it calls "disownership" transactions.

While the field of specialty companies in the net lease or sale-leaseback arena seems more crowded today than ever before, there is no lack of dealmaking opportunities.

For example, the Los Angeles-based investment management arm of CB Richard Ellis says it plans to acquire $500 million in property during its first year of operation.

When Fred Berliner joined Miami-based United Trust Fund back in 1982, the 10-year-old company, which specializes in the acquisition of corporate real estate under long-term net leases, faced two competitors. Now, Berliner, who is senior vice president and director of acquisitions at UTF, says "we have a lot more competition than we used to and they all are doing business."

In 1988, UTF and Metropolitan Life formed the United Trust Fund LP, the acquisition vehicle for UTF which has completed more than $2 billion worth of transactions. This year it will do about $300 million to $350 million worth of deals, slightly more than the year before. Although it does consider strong private companies, UTF focuses on nationally listed public entities with a minimum net worth of $50 million. Among the many companies that have done sale-leaseback deals with UTF are Shell Oil, Best Buy, Dana Corp., Firestone, General Foods, Younkers, Bank of America and Eckerd Corp.

"We are the barometer of the industry," says Berliner, "and I would say there are more sale-leaseback deals being done now than ever before."

Even CB Richard Ellis Investors' Corporate Partners has jumped out to a fast start. Along with the unveiling of the Corporate Partners investment program, it announced the acquisition of a 715,000 sq. ft., six-property net-lease portfolio that involves national retailer The Limited.

"We see opportunity in the marketplace and we see an accelerating trend by corporations seeking solutions to their real estate," says Scott Tracy, executive managing director of the fund. "In increasingly competitive markets, companies are finally beginning to develop strategies to align real estate with their core businesses."

According to Gary Ralston, president and chief operating officer of Orlando, Fla.-based Commercial Net Lease Realty Inc., the advantage to companies in using a lease is that users can control and habitate properties without actually owning them. In general, this refers to a sale-leaseback arrangement where a property owner sells the real estate to an unrelated third party and then enters into a lease for the property.

Typically, adds Ralston, the lessee enters into a net lease for a long period of time, often consistent with a typical mortgage loan term. These net leases can come in a variety of packages, such as single-net, double-net or triple-net. These variations are derived from who pays for taxes (single-net), insurance (double) and maintenance (triple).

Also, there are two primary classifications of net leases: bond and credit. The bond lease requires the lessee to perform all obligations related to the leased premises, while the credit lease leaves a small set of landlord obligations or real estate risks.

A company such as Commercial Net Lease focuses on triple-net lease structures. Nearly 60% of its rental income is derived from tenants who are investment grade or implied investment grade, and its average lease term of nearly 15 years satisfies a basic component of risk analysis theory in that the leases are in excess of a decade and therefore bridge economic cycles.

Commercial Net Lease remains a specialist in just one asset class of real estate, retail. "This sector has really come to fruition and leases have been an emerging trend," says Ralston. Currently, Commercial Net owns about 300 stores (Eckerd, OfficeMax, Wal-Mart, Barnes & Noble and Borders) in 35 states. The company boasts a valuation of just over $700 million. It also does build-to-suits at the rate of about 50 stores per year.

Commercial Net Lease's approach to business is a bit different than The Alter Group, which is a private company, as opposed to publicly traded, and specializes in office and industrial instead of retail. Located outside of Chicago in Lincolnwood, Ill., The Alter Group does one thing similar to Commercial Net - it creates a lot of new development. It builds stores and then leases them to the tenants. "We are more ground up than structured deals," says Michael Alter, president of the company that bears his name.

"Operations that own a lot of real estate, that are carrying real estate on their books, do so usually at a low basis and earning no return," says Alter. "They can make better use of that money instead of sitting in a building and getting no return. They can do a sale-leaseback, take the money out, reinvest in the business and generate a good return. They don't need to be in the real estate business and might as well let someone else deal with property issues."

Credit grades of tenants are key factors in the business of sale-leasebacks mostly because investment grade-tenant deals get better loan pricing, resulting in lower leases. However, some lenders might prefer to deal with non-investment and non-graded tenants simply because there is greater upside. In the basic law of economics, returns are bigger when risks are greater. Investors that acquire net lease properties either specialize in investment- or non-investment-grade, or prefer to balance portfolios with both types of product.

Buying non-investment-grade deals requires a blended analysis between the quality of the real estate and the quality of the tenant, cautions Joe Owen, director of acquisitions for Dallas-based Net Lease Properties.

"At the highest credit levels the spreads are getting thinner," reports CB Richard Ellis' Tracy. "As that market gets more and more efficient, there are increasing opportunities in the lower investment grades and sub-investment-grade arenas. The higher the credit, the more of a finance transaction; the lesser the credit, the more of a real estate transaction."

About eight months to a year ago seems to have been the most active time for new companies entering the sale-leaseback business, observes Owen. "That corresponds with the more lenient underwriting of the lenders as a lot of capital was in the marketplace. Since then there has been a continual process of stronger underwriting from lenders on these non-investment grade transactions. Even a BB, which is historically a good tenant, hasn't been able to benefit from the same type of financing that investment grade, BBB or A- credit enjoyed."

In some regards, it's difficult to limit deals to investment-grade-rated companies since, by one estimate, maybe only about 5% of all U.S. companies hold such a rating. A company like United Trust Fund does about 50% of its deals with non-investment-grade companies.

On the other hand, Lexington Corporate Properties Trust, a New York-based REIT, prefers investment-grade clients. Its average tenant rates BBB and as Richard Rouse, co-chief executive and vice chairman of the company, points out, the credit strength of Lexington's tenants, and the strategic importance of its properties to its tenants, significantly reduces the risk of vacancy.

Lexington provides real estate financing services to corporations and builders principally through sale-leaseback transactions and the acquisition of single-tenant net-leased "build-to-suit" properties and structures tax deferred exit strategies for owners of net-leased properties. As of the end of 1998, the company owned 65 properties located in 29 states, totaling approximately 10.9 million square feet. Its total market capitalization stands above $650 million. Lexington has been selling properties, mostly its retail stores as the corporate focus shifts to office and industrial.

Last year, the company completed $200 million in acquisitions. This year, it will probably hit the $150 million range.

The difference between this year and last - capital has become a bit dearer. "Business is very good and we are seeing plenty of deals," says Rouse. "It seems like more and more corporations are focusing on improving their returns on assets and returns on equity. One way to do that is to shed real estate. On the negative side, of course, our capital continues to be quite expensive because of the REIT market in general and the competition for deals seems to be increasing which is driving returns down."

One year ago, the 10-year Treasury, an interest-rate benchmark, hit 4.24%. At the beginning of October, it rose to 6.03%. Real estate spreads a year ago sat in the 125-250 range, while at the beginning of October they shifted to a 210-325 range.

"Given this uptick in interest rates and widening spreads, companies should expect to pay slightly higher occupancy costs versus a year ago," notes Net Lease Properties' Owen. "However, from a historical perspective, occupancy costs are still near their all-time low."

In an interesting move, Lexington is moving to the model exemplified by United Trust Fund and Metropolitan Life. It created a joint venture with a large state pension fund and the focus going forward will be to purchase properties for that cooperative effort.

Generally, this is the same model used by National Lease Properties, which is a partnership between the Westbrook Partners pension fund advisory firm and the Staubach Co. "We are part of a $1.3 billion fund of which there are over 40 investors," explains Owen. "We are solely focused on doing corporate sale-leaseback, single-tenant properties leased to non-investment grade tenants." National Lease has another entity with Wolverine Holding Co., which focuses on investment grade transactions. "We really have tried to expand the box of tenants that have been able to benefit from Staubach Co. principle business lines," Owen says. "And it was important for us to go out and acquire a partner in this business because there was a heavy need for equity."

National Lease's one-year anniversary was in October and at the time it could claim completion of nine transactions involving 14 properties valued at $110 million. The company intends to acquire in excess of $200 million in the coming year, more of it corporate than retail facilities.

"If you are a CFO of a company and your goal is upward movement in your stock price, one of the easiest ways to generate cash to be reinvested is taking non-core assets such as real estate and put them into working capital," says Owen. "A lot of people have come to realize they are not in the real estate business, that they are a manufacturer. When you can take that money and reinvest it in your business at a higher rate after tax, that is what it would cost you to do a sale-leaseback. You can look at it as a way to raise capital."

The business model of a net lease real estate company joint venturing with a capital source, such as a pension fund, was taken to the extreme in the case of Boston-based Corporate Realty Investment Co. (CRIC).

Nassau Capital, which manages Princeton University's $5 billion endowment fund, owns 50% of CRIC.

Ethan Nessen, CRIC's executive vice president says the firm is Nassau Capital's arm to invest in single-tenant, net-lease properties. "We acquire for our own account and single-tenant, net-lease properties are what we do exclusively."

While 1998 had been a "gang-buster" year for CRIC, the credit crunch played havoc with the market in 1999. Although the company expects to do about $300 million to $350 million worth of deals in 1999, Nessen says, it was a difficult market. "There had been a tremendous amount of upheaval in the debt market and you had people on the sidelines trying to figure out what exactly it is they wanted to do in the debt marketplace."

After a slow start in 1999, the net-lease market picked up in the second half of 1999, which should bode well for 2000. "By the second half of the year, the people who had been sitting on the sideline began to play," says Nessen. "When more people got involved, it added more stability to the market. The bottom line is, you got to put equity in these deals, but it is really going to be much more driven by debt because everyone leverages."

Capital Lease Funding LP (CLF) of New York is different in that it is a debt provider for net-lease deals. "The events of autumn 1998 really shook out a lot of the capital market space," says Paul McDowell, senior vice president with CLF. "There were a number of capital market competitors from Wall Street that tried to get into this business as an adjunct to CMBS, but they found out it was very much a specialty type business. Now there is one steady source of competition and that one will remain. That's life insurance companies and they have always favored this product."

One attraction for companies looking at sale-leasebacks is cost. Although interest rates have spiked upward, rates for these types of deal are still much lower than they were five to 10 years ago. "What you see are significantly lower rates," says Brant Bryan, president of Staubach Financial in Dallas. "That has been propelled by Wall Street which has gotten much more attuned to the value a lease can carry as a credit instrument."

One result is that the debt being provided to those who underwrite credit leases is more attractive than it was in the past. In addition, lenders and investors are assuming more residual risk or residual value in the properties, which has lowered the cost of funds to the tenant. Those two factors, combined, have caused rental rates to drop some 200 basis points.

More recently, the interest-rate picture has not been pretty, adds Dan Raffe, managing director of Cushman & Wakefield's Financial Consulting Group in New York. "That is having some impact but it is also important to know that although these are long-term deals, the extent that you have strong real estate and you can show residual value is strong, a lot of buyers of sale-leasebacks will give you credit for that residual value."

The amount of sale-leaseback activity today is greater than it was several years ago, says Bryan Burba, vice president in the Financial Services Group at Northbrook, Ill.-based Grubb & Ellis, "because companies like ourselves are better organized to handle it. Also, Wall Street, the opportunity funds, pension plans and foreign investors are more accepting and knowledgeable about the market so there are more buyers and investors."

Burba adds that, "It has also been a slow education process for Corporate America. CFOs in the United States were not quite as savvy to the sale-leaseback market as they are today. Shareholders are demanding that all the equity in these corporations be applied at the highest rate of return. Real estate failed to meet that challenge."