It is very easy to say that sale/leaseback structures with REITs are dead, especially if your leases are dead in the water. But then you have to ask, why are they dead in the water, and why did you enter into long-term leases in the first place? You could have always financed your properties with debt at 70% to 80% loan-to-value, but the odds are you wanted to recapture some of your equity for growth (or your retirement), and there is always a price you pay for essentially leveraging your property 100%.
The real benefit of a sale/leaseback, in addition to the cash you take out, is that everything above the lease payment is yours. The REIT gets its fixed lease return, plus those now-demonized escalators, but that is it. If you really believe in your operational abilities long term, and if you use some of those cash proceeds for operational, as opposed to real estate, enhancements, then you should like the opportunities presented with the structure.
One thing that would make the structure more palatable and with a better alignment of interests, would be to have more purchase options at year 10 above the original price with the REIT, so that if the operator really knocked the leather off the ball, both the REIT and the provider would benefit, and both would have an interest in seeing that value increase substantially. REITs used to hold their real estate for a long time, but as we are seeing with Welltower, opportunistic selling, when the price is right, has become fashionable. Why nor prune, take a profit and reinvest it in newer properties?
And because it is a long-term relationship, and 10 years plus renewals is a long time, you had better like the REIT you are working with. One criticism is that once an owner sells the real estate, their interest in investing in that real estate diminishes. While true, if they really believe they can enhance operations and profits, and some CapEx fixes are necessary to do that, and they are in for the long term, it could be foolish to not make some investments. But again, you are in a partnership with the REIT, so that should be discussed at the beginning.
There are several REITs that still like sale/leasebacks and plan to grow using them, including Omega Healthcare Investors, National Health Investors and LTC Properties. In fact, even though it is smaller than the other two, LTC just announced a sale/leaseback for two communities in Michigan, a 76-unit assisted living and memory care community and an 80-unit memory care community. And you thought LTC wouldn’t do standalone memory care again. The purchase price was $19 million, or $121,800 per unit, and the initial cash yield is 7.4% with escalators at a relatively low 2%.
Sale/leasebacks are not for everyone, but if you still think your community will succeed, and maybe even get better, then why not own the excess profit. The alternative is the RIDEA structure, where most of the excess, and recently, the not so much excess, goes to the REIT partner. Both can work for the operator/manager, but you really have to understand what your long-term goals are.