The sale-leaseback is the King of off-balance-sheet financing.
One way that corporations seek to raise funds, improve the amount of money they earn and increase liquidity is through the release of capital held in their massive real estate portfolios. If a greater rate of return can be earned through their core businesses rather than through the ownership of the real estate, many of these companies are using leaseback agreements to transfer capital from real estate into their core operations, including oil refineries, banking or even the sale of books and shoes.
In the traditional sale-leaseback arrangement corporate model, the company will sell the property it owns for cash and then lease it all or a part of it back to the investor, thus releasing the bulk or all the capital.
As the owner of a U.S. corporate headquarters building comprising 1.36 million square feet of rentable space, only 25 percent of it is occupied indirect ways; British Petroleum (BP) recognized that it looked too much like a tenant. While it once had 100 % of the building’s area but the company had cut back its usage over time and started leasing some of it to tenants who have other leases.
The executives at the Cleveland headquarters decided that BP could better utilize its assets by taking profits tied to the building, converting them into cash, and using it to fund their primary business.
The company performed an in-depth internal analysis of its options, but it wanted an outside view. CB Commercial was one of six real estate companies contacted by BP concerning a possible sale-leaseback arrangement. Six of them were required to decide whether and when it is right for BP to sign an arrangement to purchase the property as well as a lease back a small portion or space. “We were called in during what I term an `advisory phase,’ with no knowledge that BP would proceed with the transaction,” writes John Stanfill, president of CB Commercial’s investment property group. “We informed BP about our research findings and presented an extremely thorough and comprehensive market study.
COMMERCIAL NET LEASE REALTY
One method to handle a leaseback sale is via split funding. This is the way Commercial Net Lease Realty (CNLR) which is a real estate investment trust with its headquarters in Orlando, Fla., assisted Barnes & Noble of New York expand to Daytona Beach, Fla.
As per Gary Ralston, president of CNLR, Barnes & Noble had identified the 2.1-acre site they wanted to build a super-store located at Daytona Beach and approached CNLR about the possibility. In the two firms’ partnership, CNLR crafted a tandem procedure where CNLR performed due diligence and a review of the property. At the same time, Barnes & Noble did due diligence and reviewed the retail business and the development of the new store.
What is off the balance sheet?
Off-balance-sheet financing is an accounting technique that companies employ to shift certain liabilities, assets, or transactions off the balance sheet. It can be used to attract investors or when they are in lots of debt but require borrowing more capital to finance their business.
- Examples of items that are not on the balance sheet
Off-balance-sheet activities include items like loans, commitments to lend as well as letters of credit and the revolving underwriting facility.
- The difference between financing on the balance sheet or off-balance sheet funding
On the balance sheet, financing is shown as an asset, as well as it is a liability. Equity and debt items are listed on balance sheets. However, companies that use off-balance-sheet financing don’t count these as liabilities. This means that they aren’t listed as liabilities on balance sheets.
- The advantages of financing off-balance-sheet benefit of off-balance-sheet financing
Off-balance-sheet financing is a method of accounting that allows companies to keep certain liabilities and assets from being included on their balance sheets. This helps businesses keep leverage ratios and debt-to-equity ratios down, which leads to less expensive borrowing and the protection of covenants from being violated.