In a growing majority of cases, Banks who hold master lines of credit for corporate clients are now inserting Covenants that greatly restrict, or even prohibit, Sale/Leaseback transactions. Frankly; it’s surprising it has taken this long. After all, the Bank’s instinct is to write their borrowing agreements in a way that claims all forms of the company’s assets as collateral, including real estate.
It’s natural that they would not let real estate collateral escape their grasp without their involvement and the long history and robust transaction volume of the Sale/Leaseback market has now prompted the Banks to impose restrictions that may come in one of four potential forms:
- The “No Way, No How” clause. No Sale/Leasebacks allowed, period, end of story. I recently saw this Covenant on a corporate client’s Master Borrowing Indenture written by a very enterprising attorney for the Bank. No Sale/Leasebacks. No transfer of properties to joint ventures, no bringing in equity investors to purchase a portion of ownership, etcetera, etcetera. Locked every door and shut every window.
- The “Go Ahead, but Pay Us” clause. Sale/Leasebacks are OK, but you need to use 100% of net sale proceeds to pay down your debt. This clause effectively negates the whole purpose of Sale/Leasebacks, which is to re-deploy trapped capital in real estate to higher/better uses in the business.
- The “Materiality” Clause. Sale/Leasebacks are OK, as long as they aren’t “material” financially, i.e. they are below a stated amount of dollars, like $5 Million for instance.
- The “Mother May I” Clause. Short and sweet. If you want to do a Sale/Leaseback, you need to come to us, tell us about the deal and ask permission. We will tell you then what our pound of flesh will be.
Why is all of this important to know? A few years ago, I was invited to meet with a major national fast food client (who shall remain nameless) whose CEO stated in an investor earnings call that “Sale/Leasebacks will be the backbone of our financial strategy in the coming year”. They wanted me to quarterback this massive portfolio Sale/Leaseback initiative. Unfortunately; after asking to see their Master Borrowing Indenture Covenants, their Bank’s smart attorney had inserted the “No Way, No How” covenant. Their CEO was humiliated and lasted 10 months before getting fired by their Board.
So….for those of you active in Sale/Leaseback transactions, asking to see the client’s Bank Covenants should be part of your early due diligence process. You would be surprised how many Real Estate Directors and even Senior Managers will not know what is in these Covenants before launching you on the Sale/Leaseback assignment.