What is a Sale And Leaseback?

Published by Thomas Herold in Corporate Finance, Investments, Laws & Regulations

'Sale And Leaseback' is explained in detail and with examples in the Laws & Regulations edition of the Herold Financial Dictionary, which you can get from Amazon in Ebook or Paperback edition.

A Sale And Leaseback is also known as a simply leaseback. This arrangement involves an asset seller who first sells the asset or property in question then immediately leases it back exactly as it is from the buyer. These types of deals are fleshed out and contracted immediately following the asset in question’s sale. The precise amount in payments and the specific time period to be covered are both set at this point. It amounts to the asset seller personally becoming the lessee while the buyer becomes the actual lessor under such an arrangement.

Many owners of small to medium sized enterprises (SMEs) find that they require a great deal of fresh capital in order to expand their operations. There are a number of different ways in which they can come up with such capital. Two of the more popular and better known ones are surrendering equity in order to obtain funds or taking on debt either as bonds or secured loans.

With equity, it does not have to be repaid to the provider. The cost for this is that a portion or even all of the ownership of the enterprise is surrendered. The tradeoffs for debt are that it has to be repaid one day (or in regular periodic payments). It also appears as debt on the balance sheet of the company, which may impact future opportunities for financing, debt purchases, or obtaining fresh capital via an equity offering.

Hybrid arrangements which are not either equity or debt are these Sale And Leasebacks. Instead they function more as a hybrid form of debt arrangement and product. The firm entering into the deal will not grow its debt load, yet it still manages to achieve the goal of accessing capital by selling assets. Some have referred to this as a company variation on the consumer-entered pawn shop arrangement.

Extrapolating on this example, the company in question goes down to the pawn shop and provides them with a valuable piece of property or asset. In tradeoff for this asset, the company receives an agreed upon amount of cash. The only point where this comparison breaks down concerns repurchasing the asset in question. In a sale and leaseback, no one expects that the company will attempt to repurchase the property or asset, only that they will make periodic payments in order to utilize the asset.

Consider the following example. The fictitious company Johnny Appleseed Orchards requires more funding to pay its increasing numbers of contractors and employees. It is unable to obtain funding from banks thanks to a downturn in the lending market brought on by the Great Recession and Financial Crash of 2007. The company decides it will sell half of its orchard acreage to an investment company which wishes to become involved in realizing an income stream from the sale of produce. The acreage is instantly leased back to the owner-operators of Johnny Appleseed. This benefits them if the cost to lease back the acreage is less than the interest rate and total interest payments on higher interest loans they would otherwise be forced to seek.

The most typical type of a sale and leaseback occurs with builders and those firms that have many expensive and fixed assets. This is useful when they require cash which is tied up in their costly assets to utilize for other capital needs or investments, yet they still require use of the equipment or assets so that they can continue to run their business.

Such sale and leasebacks and their arrangements also give the seller of the asset some beneficial tax deductions. The lessor gains the advantages of a stable payment and guaranteed lease arrangement which continues for a predetermined and contractually pre-set amount of time.

Such sale and leaseback deals do come with a whole different set of regulations for accounting purposes than do debt arrangements. Despite this, they are not called financing in most of the cases. This keeps them as off-balance sheet arrangements. Some analysts will therefore add on capitalized leases such as these to the category of longer term debt. They do this especially as they are attempting to gain the bigger picture view of the firm in question’s aggregate debt obligations.

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The term 'Sale And Leaseback' is included in the Laws & Regulations edition of the Herold Financial Dictionary, which you can get from Amazon in Ebook or Paperback edition.