10/20/2003: CIA Commercial Investment Advisors

By Kenneth MacFadyen
October 20, 2003
Buyouts

The scourge of the senior lending market in recent years has forced many in the buyout community to get creative when it comes to financing. This call for resourcefulness has led some to the sale-leaseback market, which in some deals is functioning as that all-important last piece of financing puzzle.
“It allowed us to pay more,” says Caxton Iseman Managing Director Stephen Lefkowitz, whose firm has used the strategy multiple times. In 2000 the New York-based private equity firm acquired Buffets in a $643 million going-private transaction, financing it with $340 million in senior debt and a $20 million sale-leaseback from W. P. Carey & Co. LLC. While seemingly minor, the extra $20 million allowed Caxton Iseman to narrowly top rival bids and also enabled the firm to reduce the equity stake to a more manageable $280 million.
“We needed to come up with $650 million, and [the sale-leaseback] was $20 million of that,” Lefkowitz recalls. “Since we had tapped out al of our other debt sources our only other option was to come up with more equity.”
Through a sale-leaseback, buyout firms will sell a piece of real estate from a portfolio company to a sale-leaseback firm, freeing up capital for an acquisition, recapitalization, or even just to restructure the balance sheets. The company then leases the property back from the investor.
Firms that go the sale-leaseback route often employ the strategy to take advantage of its balance sheet flexibility, allowing companies to clear debt off the books, while at the same time maintaining a long-term financing arrangement. Companies with an eye to the public market often pursue a sale-leaseback with a capital lease. And even as off-balance sheet accounting has been frowned upon after the Enron and WorldCom debacles, investors generally hold no qualms with companies pursuing this kind of financing. “It’s very transparent,” Lefkowitz says. “We asked ourselves about that, and they’re so transparent and so accepted that it wasn’t even an issue.”
While the cost of a sale-leaseback still does not beat traditional senior financing, it can be better than the other alternatives out there. “It tends to run about 1% of the overall transaction size,” says Benjamin Harris, executive director of sale-leaseback firm W. P. Carey & Co. LLC. But he ads that given real estate’s regional differences, that number can fluctuate. Typically though, “We are cheaper than mezzanine or equity,” he says.
Additionally, with sale-leasebacks, buyout firms are able to get their hands on a long-term financing solution. “You can procure financing that can be stretched out from a 10-to-20-year window, as opposed to bank money that’s five to seven years or high-yield and mezzanine, which are maybe a little bit longer than that,” Lefkowitz says.
One of the more notable sale-leasebacks arranged recently was put together to assist in the financing for the potential acquisition of U.K. retailer Debenhams. Both buying groups involved – one led by Permira and the other by CVC Capital Partners and Texas Pacific Group – are said to have included a sale-leaseback financing as part of their bids. Royal Bank of Scotland, Legal & General and Land Securities have reportedly already agreed to buy more than 15 stores and properties for nearly $500 million, which would represent nearly 20% of the anticipated purchase price.
It is deals like this that have spurred the sale-leaseback market recently. “The bank market is still tight and now we’re starting to see a bit of a pickup in the M&A market,” says Harris. “We’re seeing more action from companies where we serve as the acquisition financing or when we come in immediately following the transaction to fill in for revolvers and provide more permanent financing.”
To be sure, sale-leasebacks aren’t just employed in acquisitions. Caxton Iseman went back to the well two more times after the initial financing arrangement for Buffets, and pursued sale-leasebacks on certain restaurants in the portfolio. “We did a sale-leaseback in two other trances because our loan documents would not let us put on any incremental debt, and this let us borrow as much as possible,” Lefkowitz says. Further, while the initial sale-leaseback was used to buy the company, the ensuing arrangements allowed the firm to give money back to their LPs.
One sale-leaseback that has been getting a lot of press, at least as far as sale-leasebacks go, is Questor Management’s arrangement to sell the former U.S. Steel coal mines to Natural Resource Partners LP for $58 million. In this deal, Questor retained the right to mine the coal and agreed to pay a royalty on what’s extracted. Only a couple of months prior to the arrangement, Questor had acquired the mines from U.S. Steel for $50 million, $8 million less than the firm was able to sell the property for, and Questor will still have its hands on any profits extracted from the mines.
“We try to be open and creative in our financing techniques,” says Robert Denious, a managing director with Questor. “We’ve done this with real estate, too. It’s part of your arsenal of tricks you can deploy and when you’re looking to finance a company today, you have to look at it creatively.”