How to release capital from real estate without impacting operational control

Sep 30

3 min read

The most common objection to releasing capital from property is losing control of a building the business depends on. It is a reasonable concern and usually a solvable one — but only once a business is specific about which kind of control it is actually worried about, because they are not the same thing and different structures protect different ones.

‘Control’ gets used as a single word for at least three different things, and conflating them is why the conversation usually stalls before it starts.

The frameworks this article introduces are:

operational control (can we use the building the way the business needs to?),
residual control (do we get the asset back, and on what terms?),
disposal control (can we exit, sublet, or assign if things change?).

Typically a business that says it cannot give up control almost always means one of these three specifically.

a visual looking at control differences between leasehold and freehold

Operational control

This is the one businesses worry about most and lose least often. Day-to-day use of a building is governed by the lease, not by who holds the title — a well-structured lease preserves the ability to operate, alter, expand and maintain the site largely as before.

The only real place where ownership and leasing differ is in the alterations that can be made to site. Landlord’s do not want you to do anything that will negatively impact on the residual value of the site. Structural works of this nature can usually be agreed on the proviso that they are removed at lease expiry.

For most businesses, operational control is not what a sale and leaseback actually impacts them. There are more sophisticated products available to businesses of scale (such as insurance backed finance and debt ground leases) that explicitly address these concerns.

Residual Control

A traditional sale and leaseback transfers ownership permanently — the business exits at lease expiry or renews on terms available then – these terms are usually agreed in the lease unless there are overriding statutory protections.

There are structures that are built specifically to preserve this. Some retain a call option allowing the business to reacquire the asset at the end of the term; others are structured so the business retains beneficial ownership throughout while still raising capital against the property. An OpCo/PropCo separation retains ownership entirely, because nothing is sold to an outside party.

Structures that preserve residual control generally raise less, cost more to arrange, or require greater scale but are available. The reality is that an investor needs to amortise their returns over the length of the lease which has an inherent cost.

Disposal control

The ability to exit, sublet or assign if the business changes shape generally matters most in the situations nobody plans for — consolidation, restructuring or a site becoming surplus.

Long leases with no break options and restrictive assignment provisions are where businesses actually lose flexibility. This makes them one of the areas that we would always focus on when drafting a leaseback. When looking at the comparison betwween leasehold and freehold, there is an inherent cost in owning a site and a freehold sale is not necessarily more liquid than an assignment.

Leasehold or Freehold?

A lease or freehold ownership are not two ends of a control and flexibility spectrum. There are a number of areas where both give you the same level of control and liquidity. Investors focussed on the net lease market actively don’t want to inherit property – they are acquiring it to take the long term income stream generated from the rent.

There are an increasing number of financial products that are purposefully addressed at corporates who want to maintain control – there is a cost associated with this and businesses need to weigh up whether the cost is justified for something they need or just something they want.

The final word

If a capital release via sale and leaseback is of interest and it falls down on the ‘control’ element – analyse what the control that is required is. In our experience there is usually a way to address a business critical requirement.