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Office Sale-Leasebacks Fall Out of Favor

The sale-leaseback option is looking pretty good to owner-occupiers for many property types these days. For companies that might have invested heavily in amassing their own real estate, or even just acquiring their own headquarters building, the opportunity to offload a property and pocket some cash while staying put in your space under a lease agreement is proving to be a popular alternative in these precarious economic times. Some companies pursue sale-leaseback deals in an effort to go asset-light and extract value from their properties and others utilize such transactions as an alternative to seeking financing in the frosty capital markets.

The numbers tell the story. Looking at the United States sale-leaseback market since 2018, 2022 marked a groundbreaking year for these niche transactions, with sale-leaseback deals reaching a record high, both in volume and dollar amount, according to research from SLB Capital Advisors. However, the chart-topping activity occurred with little thanks to the office sector. Office sale-leasebacks accounted for just 8 percent of all sale-leaseback transactions in 2022, marking a 50 percent drop from the sector’s claim of 16 percent of sale-leasebacks in 2019.

It wasn’t so long ago when the office sector accounted for a substantial segment of sale-leaseback activity. W.P. Carey is a net-least REIT that is widely credited as a pioneer of the sale-leaseback concept in the U.S. They used to have a global portfolio consisting of roughly 30 percent of office properties several years ago, but today their office exposure totals just 17 percent. The company is continuing to divest office properties as it focuses on the industrial sector, which has taken the top spot in the sale-leaseback market, followed by retail.

The retreat in office sales-leasebacks is two-fold, a drop in the supply of owner-occupied assets and waning of investor interest in such opportunities. And like the downturn in the national office sector, the decline in office sale-leaseback transactions can be partially attributed to the COVID-19 crisis. “Real estate investors are generally less inclined to pursue office investments given well-known dynamics such as work-from-home and the resulting space underutilization stemming from the pandemic,” said Scott Merkle, Managing Partner at SLB Capital Advisors.

There’s no questioning that the office sale-leaseback market has lost some steam as retail continues to account for a notable segment of transactions and industrial deal growth persists (industrial properties accounted for 53 percent of all sale-leaseback transactions in 2022 compared to 41 percent in 2019), the decline in office sale-leaseback activity does not appear nearly as dire when putting the numbers into context in terms of the nature of the sector. As Alan Pontius, Senior Vice President & National Director with Marcus & Millichap’s office & industrial divisions, shared with Propmodo, there are two sides to the discussion when comparing office sale-leaseback transactions to those in the retail and industrial sectors, the first being transactional volume. “Office sales-leaseback volume won’t compare to retail and industrial due to supply of product being much lower—less corporate and small business ownership and much less multiple-facility ownership within the office asset class by comparison,” Pontius said.

So, there is an inherent cap of sorts to sale-leaseback deals in the office sector. Still, deals are happening. In April, J&L Realty Partners acquired the nearly 40,000-square-foot office building at 1777 Vine St. in Los Angeles in a $23 million deal with owner-occupant AMDA College of the Performing Arts, which will continue to occupy the corner property fronting the Hollywood Walk of Fame under an 18-year lease with J&L. Earlier in the year, Universal Weather & Aviation LLC sold Gemini Plaza, a nearly 160,000-square-foot office building adjacent to NASA Johnson Space Center in Houston, to JMK5 holdings in a transaction that allows Universal to continue to occupy a portion of the property.

“Opportunity exists in the office sector, and some say it remains just as liquid as other asset classes given the right characteristics,” Pontius said. “Debt may be a challenge for the sector overall, but it remains available for office leasebacks, especially higher-credit, longer-term leased assets.”

It’s still too early in the year to determine in which direction office sale-leaseback transactions are headed. However, industry experts like Pontius and Merkle are confident that there’s still a viable market for such transactions in the office sector. The fact remains that there are still owner-occupants of office properties all over the country and whether they desire to get out of the real estate business or are pursuing a quick cash infusion, they can find investors, albeit not necessarily with ease, willing to strike a deal. The office sector is hardly firing on all cylinders, but there are buyers out there who see the advantage of the steady cash flow from a leaseback or are eager to snap up office properties at lower prices in anticipation of the sector’s rebound.

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