Tom Poynton, Partner at Knight Frank Surveyors, explains the merits of freehold and leasehold property, specific to this sector.
Our research indicates that approximately 75% of franchised UK dealerships are held freehold, with 25% leased. Fundamentally, freehold has broad appeal, adding secure and typically appreciating assets to the balance sheet whilst offering the ability to secure debt finance.
The low rate mortgages available from both high street banks and manufacturers’ in-house finance arms clearly adds to this appeal in the current market. Then there is the added flexibility for freeholders to invest in refurbishments or redevelop without requiring a landlord to consent, whilst amortising the capital outlay on such projects over an extended period.
But leasehold clearly does have its place, principally as it frees up capital. Raising funds to buy property outright may not be so easy for some operators, whilst acquiring new businesses on a leasehold basis, paying only goodwill as opposed to a combined figure including bricks and mortar, means writing out a far smaller cheque. Equally, many dealers view a mixed portfolio, with both freeholds and leaseholds, as the optimum real estate set-up. Indeed, we are now witnessing several instances of dealer groups, especially the majors, looking again at sale and leaseback as an effective means of balancing their property stock, whilst at the same time raising far more capital than could be achieved through bank lending.
With a sale and leaseback, 100% of the investment value of the property (which may be 25% higher than current value) is realised. Conversely, raising equity through conventional means would limit lending to say just 60-70% of the (lower) existing value. The combined effect of these factors could mean only around half the amount of equity being unlocked with bank debt versus a sale and leaseback.
Historically, attracting investment funds to automotive property was challenging. However, a decade ago the nature of the stock was far removed from the impressive purpose-built ‘brand centres’ that typify the landscape today. Investors increasingly appreciate the positive investment credentials of these assets, including the strong locations, quality of build (at significant cost) and attractive large plot sizes.
The sector is now far more widely understood by the institutions, and over recent years the car dealership investment market has gone from strength to strength. Recent months have seen prime yields compress to c. 4.5% as investors have demonstrated extremely strong appetite. Average dealership lot sizes have also increased significantly; ten years ago the typical investment lot size was £2-£5m, however, the £8m+ bracket is now well populated.
As merger and acquisition opportunities continue to present themselves, there is a strong argument that now is an opportune time for dealer groups to release this untapped capital, to either pay down debt or look to expand. It can also be an exceptional means of financing new developments (by committing to a lease on completion of the build). Groups such as Lancaster, Vertu, Motorline and others have undertaken sale and leasebacks of late, and we expect to see several more announced before the end of 2017.
This route may not be for everyone, but then again business and property strategies vary. Essentially, the question for dealers to ask themselves is whether their money can generate a better return invested in property, or in the operational business?