Sale and leaseback in Norway: Freeing up capital in difficult times

For many, a sale and leaseback transaction can free up much needed liquidity for financing the enterprise.

A sale and leaseback structure is characterized by a transaction structure whereby an enterprise sells its property to a third party, often professional investors, and then enters into a long-term lease agreement in which the property is leased back from the buyer to the seller. The lease agreement is normally entered into using terms similar to a triple-net-lease or so-called bare-house terms.

This structure enables the release of capital tied up in what has traditionally been considered illiquid assets: real estate. For many companies, this model is an attractive alternative compared to more traditional financing solutions, provided certain conditions are met.

The Norwegian market

In line with Norway’s housing market, many Norwegian enterprises own the properties used for their businesses. In light of the economic impacts of COVID-19 and that the favorable economic schemes temporarily established will be phased out, the need for long-term financing will grow. It seems likely that enterprises will look at opportunities to divest some of their assets to free up capital that can be used for other purposes, i.e. payment or reduction of debt, financing new investments or merely securing necessary liquidity. It can be argued that the binding of capital in fixed assets such as real estate is an inefficient placement of capital for many enterprises.

Despite the coronavirus, Norway’s real estate market still appears to be relatively strong and enterprises will probably be able to secure strong returns on their property values by carrying out sale and leaseback transactions. We believe the volume of such transactions in Norway will increase in the near future.

Sale and leaseback could also be attractive to foreign investors interested in long-income investments, since the need for local manpower is limited due to the fact that the leases leave most of the obligations pertaining to the property to the tenant. Furthermore, the Norwegian real estate market is often considered a relatively safe investment by foreigners due to the country’s political stability, a solid economy supported by oil, and rising population numbers. Risks pertaining to the Norwegian krone currency and relatively low property yields have however limited the number of foreign investments in Norwegian real estate in the last year.

Sale and purchase agreement and lease agreement

Since the sale of commercial real estate is usually based on well-established Norwegian market templates, sale and leaseback transactions are fairly easy to negotiate. There is no separate standard contract for such transactions, and they are carried out based on established standard contracts for the sale of the property (asset deals) or the sale of 100% of the shares (share deals) in a single purpose company (SPV) owning the property. Since the sale of shares in a holding structure does not trigger latent capital gains tax, most transactions are carried out through the sale of shares in the SPV. Where the property is not already owned by a separate SPV, this is by the property being demerged into a separate SPV through a so-called drop down demerger, before the SPV is then sold.

The lease agreement entered into as part of the transaction is usually based on the available Norwegian market standards. There are separate standards for leasing of premises and buildings, as well as separate standards based on bare-house conditions. Indeed, most sale and leaseback transactions are based on bare-house terms, where the tenant is responsible and covers all costs associated with maintenance, replacements, operations and taxes related to the property.

As a result of the Norwegian market being largely based on standardized contracts, a sale and leaseback negotiation usually focuses on the commercial conditions and transaction-specific issues, not the document package as a whole.

It is critically important in sale and lease back transactions to avoid tax and VAT effects that are not intended. To avoid such unnecessary negative effects, the transaction structure and documents should be assessed by tax specialists before being entered into.

Key considerations for tenant and new owner

A concern for many who consider a sale and leaseback transaction is that the seller loses the right to dispose of the property after the sale. This is easily mitigated through detailed regulations in the lease agreement by ensuring the seller (i.e. the tenant after the completion of the sale) is granted extensive options to request extensions of the lease term or by granting the seller the ability to buy back the property at the end of the lease term.

From a seller/tenant point of view, it is also crucial to secure business as usual after the sale has been completed. This means the tenant is given the flexibility and option to use the property as they wish. The tenant will usually accept a more comprehensive responsibility for the property itself through its tenant covenants as a consequence of the increased flexibility: for example, having repair responsibility for both the internal and external parts of a building. Since the tenant usually has prior knowledge of the property, this responsibility is usually acceptable.

From a buyer’s perspective, a sale and leaseback transaction is often favorable since they it be structured as a long-income investments providing predictable long-term returns. For example, rent reviews in the leases will normally be pegged to an index to ensure that rent will rise with increases in inflation levels.