Growing wave of sale-leasebacks

Citigroup, Deutsche Bank use deals to unlock value of major assets

Mar.March 04, 2008 08:00 PM

Companies seeking to free up capital and investors looking for stable sources of income to support commercial acquisitions have unleashed a wave of sale-leaseback deals in an indication that real estate remains a flexible industry adapting to shifting markets.

Under pressure to restructure their struggling businesses and raise capital for developing their core assets, firms like Citigroup and Deutsche Bank have turned to sale-leaseback deals to unlock the value of their major assets.

In a typical sale-leaseback deal, the tenant sells the building to a real estate investment group or other owner and agrees to lease back the building under a long-term agreement, usually 10 to 15 years. In addition, some tenants opt to sign triple-net leases, which require them to be responsible for all taxes, insurance and maintenance costs. However, in return, they often get a break on the monthly rent.

Citigroup in December entered a $1.58 billion deal to sell its investment and corporate banking headquarters at 388-390 Greenwich Street to a joint venture of SL Green and Canadian investment firm SITQ.

As part of the agreement, Citigroup agreed to lease back the 2.6 million-square-foot headquarters, but will exit the property in stages over the lease period, leaving SL Green with one of the most lucrative spaces in Tribeca. The building is the former headquarters for the Travelers Group, which merged with Citigroup in 1998.

Citigroup, which began a massive restructuring in April 2007, has sold and leased back space at two of its Manhattan buildings in recent years, including 333 West 34th Street for $183 million and 250 West Street for $142 million.

“There’s been a perfect storm for them to say, ‘We’ve got a very valuable asset that we don’t need to have on our books,'” said Ken Zakin, senior managing director at Newmark Knight Frank.

The brokerage represents Group Health Inc., which wants to sell and potentially lease back its 441 Ninth Avenue headquarters. GHI, which has operated as a non-profit health maintenance organization for decades, is awaiting approval from state regulators to convert into a for-profit corporation under a merger with Health Insurance Plan of Greater New York.

The company is located in a potentially lucrative location on the far West Side of Manhattan, where real estate values have skyrocketed based on whether plans by the city to rezone the area for commercial development come to fruition. For example, SL Green in November sold 440 Ninth Avenue for $160 million, or $472 per square foot, after buying the property for only $31.7 million in 1998 and spending $24 million to upgrade the property.

Officials at Newmark and GHI would not comment on 441 Ninth Avenue other than to confirm they are exploring the potential value of the property.

“We have over a period of time received unsolicited bids for the building,” said Ilene Margolin, senior vice president at GHI.

The former warehouse was converted into office space in the 1980s by developer Harry Macklowe and sold to GHI in 1994 for $30.7 million. Published reports stated the building could go for as much as $250 million. Newmark Knight Frank president Jimmy Kuhn, who is taking the lead on the sale, declined to comment on the property.

Jay Koster, managing principal of Staubach Capital Markets, who was not involved in the agreement, said he expects to see an increase in sale-leaseback deals over the next 12 to 18 months.

“There is still a relatively deep base of real estate capital out there,” said Koster.

One of the most lucrative sale-leaseback deals in recent years was the May 2007 sale of 60 Wall Street to Paramount Group for $1.18 billion, the single largest sale of a building in the history of Lower Manhattan.

Deutsche Bank has operated its North American headquarters from the building since late 2001, and held firm during a period when many other financial institutions fled for Midtown. The agreement calls for Deutsche Bank to lease back the 1.6 million- square-foot building for 15 years.

Deutsche Bank put the building up for sale in early 2007 at a time when real estate values were skyrocketing in Lower Manhattan due to an influx of luxury retail, residential and hotel development.

The deal provided Deutsche Bank with a handsome return, as the investment bank had purchased the 47-floor tower in 2001 for only $610 million. The agreement provided Deutsche Bank with a pre-tax gain of about $435 million.

Ben Harris, managing director and head of domestic investments at W.P. Carey, said sale-leasebacks are popular with businesses, like banks, retailers and restaurant chains, that may own a lot of individual buildings in different locations.

Sale-leaseback agreements can also help recoup costs incurred when banks or retail chains expand into new markets — for example, if an offshore company opens branches in a new country.

In 2007, San Juan, Puerto Rico-based Popular Inc., a financial services conglomerate, sold a portfolio of five Banco Popular branches in the Bronx, Harlem and Flushing, Queens, to MLM Partners for $26.3 million. Under the agreement, Banco Popular will lease the buildings back for 20 years. The bank operates 26 branches in the New York and New Jersey area.

“There are more and more companies looking at alternative ways to raise money,” said Harris, whose firm provides net-lease financing for companies around the world. “It’s a whole lot harder to get financing from other places.”

Harris said, however, that sale-leasebacks will be limited in New York because of commercial rent taxes and the fact that many New York companies do not own their own real estate because of the high cost.

Manufacturers that are downsizing or outsourcing production can also benefit from a sale-leaseback. Standard Motor Products, a Long Island City-based auto parts maker, entered a $40.6 million deal in late December to sell its 300,000-square-foot headquarters to an out-of-state pension fund, and lease back 20 percent of the property over 10 years.

Standard Motor, which had owned the property for more than 40 years, is outsourcing its manufacturing to Reynosa, Mexico, and Independence, Kan., and hired Greiner-Maltz to do a comprehensive search for a buyer. An agreement was reached after evaluating more than 15 offers over a nine-month period.

“They gave us the assignment of giving them an appropriate investment operator so they could keep their offices on the property,” said John Maltz, president of the Long Island City-based brokerage. “They wanted to be sure there was no question they got the best value.”

Once the deal closes, the property will probably be upgraded into a Soho-style loft space with a retail component. However, Standard Motor will continue to use 20 percent of the building as its headquarters.

Sale-leasebacks should not be considered a cure-all for a company’s ills, particularly if the asset being sold has some symbolic value to its shareholders. The case of Sotheby’s should serve as a cautionary tale.

Sotheby’s, the Manhattan-based auction house, sold its 493,000-square-foot headquarters at 1334 York Avenue to RFR Holding Corp., a commercial real estate partnership led by Aby Rosen, for $175 million in 2002 to help pay off a series of regulatory fines for antitrust activity. Under that agreement, Sotheby’s agreed to lease the building back from RFR for 20 years.

RFR Holding had retained Jones Lang LaSalle in February 2007 to sell the building, but Sotheby’s fought the move, claiming a sale would violate an agreement between the firms that required the auction house to have the first right to buy the property back.

Last month, however, Sotheby’s reached a deal to reacquire its headquarters from RFR for $370 million.

Sotheby’s, in a regulatory filing, said it will finance the deal by assuming a $235 million mortgage that bears interest at 5.6 percent, using available cash resources and potential future loans.

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