The Role of CRE Portfolios in Corporate M&A
Joe Pelayo, SIOR, CEO and founder of Total Real Estate Consultants, Inc. in Coral Springs, Fla., has been in real estate for 36 years, but he has never encountered anything like the market conditions of today, in which inventory shortages, inflation, stock market volatility, and limited land opportunities for development have increased the appetite for real estate assets. Has this enthusiasm spread to entities outside of real estate? Brokers who have worked with sellers and buyers in corporate mergers and acquisitions (M&A) give us a glimpse into the answer.
THE ACQUIRER PERSPECTIVE
In some cases, an acquirer perceives clear value in an asset. For example, an industrial property owned by a corporate seller might appeal to an acquirer like Amazon. But in other cases, when an asset has no link to an acquirer’s business needs, it might be perceived as a nuisance.
Business owners selling their business frequently oversimplify the real estate piece, convinced that the acquirer wants the facility or is willing to do a long-term leaseback.
Grant Pruitt, SIOR, president and managing director of Whitebox Real Estate in Dallas, has been involved in transactions that reflect both scenarios. That is why he warns that when it comes to M&A, “real estate can often present a hiccup.” He reports that business owners selling their business frequently oversimplify the real estate piece, convinced that the acquirer wants the facility or is willing to do a long-term leaseback. But acquirers may not want to do the leaseback, and it may be difficult to find someone to lease or buy the facility. He adds: “Furthermore, if the building goes vacant, this asset is depreciating, requiring maintenance…and then there are the taxes.”
The key question, from Pruitt’s perspective, should be whether the acquirer wants or needs the real estate. If the assets are “accretive” to the acquirer’s business, they increase the value of M&A transactions. If they don’t, “what was once an asset can become a liability.”
Some experts believe that sale-leaseback transactions are wise strategies for many acquirers. A 2021 article by Middle Market Growth states that private equity firms that are not taking advantage of sale-leaseback strategies “could be leaving money on the table.” Yet the same article also notes the potential downsides to seller-tenants: “They essentially forfeit the right to receive any appreciation on the property’s value. And if they can’t make payments, they would have to renegotiate the lease or risk getting evicted.” Such considerations could create reluctance for sellers to agree to a sale-leaseback arrangement.
The cleaner the financials, the better, smoother, and, most often, more lucrative the process can be for the seller.
As an alternative, acquirers can sell a real estate asset outright. This is a familiar scenario in Germany, says Tobias Schultheiß, SIOR, managing partner of Blackbird Real Estate in Königstein, Germany. He points out that such sales make financing easier for the acquirer. But he adds the caveat that both parties—the acquirer and the company being bought—need to have a mutual understanding of the property pricing.
THE BROKER's ROLE
To promote that mutual understanding of pricing, potential sellers should present a complete picture of their real estate portfolios, warts and all. “The cleaner the financials, the better, smoother, and, most often, more lucrative the process can be for the seller,” says Pruitt. Ernesto Gamboa, SIOR, who handles corporate transactions at Remarks in Quito, Ecuador, agrees. As he states: “It is important for companies to understand CRE portfolio value related to their operation.” He also advises that they consider different value methodologies for real estate so that they optimize their negotiation strategy.
On the flip side, a lack of clarity puts sellers at a disadvantage in negotiations. Schultheiss warns that when sellers are unprepared to answer questions, investors might walk away. And any unpleasant surprises discovered during due diligence could lead to “a pretty severe reduction in price,” according to Pruitt.
Enter brokers, who can increase the clarity. Gamboa states that CRE professionals are key to developing successful M&A transactions when real estate portfolios are involved. Pruitt views brokers as important members of advisory teams for companies that wish to be acquired. In his opinion, these teams should include attorneys, investment bankers, bankers, accountants, and “definitely a good real estate broker—preferably an SIOR.”
CRE professionals are key to developing successful M&A transactions when real estate portfolios are involved.
Tripp Guin, SIOR, principal and broker in charge at TRIPP Commercial in Charlotte, N.C., suggests that M&A firms partner with SIORs to determine the value of buildings. Such work can also help to offset the loss of business when a client is the seller. “You could have a long-term relationship with somebody and then you just lose it simply because they got acquired,” Guin points out, noting that due diligence efforts for one acquisition may lead to future disposition and acquisition opportunities with acquirers.
Although property portfolios are not the driving force of most corporate M&A outside of the real estate sector, they can nevertheless exert significant influence over the price—and even the completion—of an acquisition. And that influence is likely to grow. Gamboa observes an increasing awareness of the relationship between real estate portfolios and income flow from business operations. Guin believes that more people are looking at real estate as a long-term play to counter inflation and stock market volatility.
Meanwhile, the fast pace of M&A transactions for corporations persists. PwC reports that 2021 was the best year on record for global M&A. In its 2022 mid-year update on global M&A industry trends, the firm acknowledges recent headwinds, but contends that “M&A will play an increasingly important role in corporate strategies.” EY, in its analysis of the first half of 2022, cautions against future shocks, but states that “M&A is continuing apace, with a particularly strong flow of private capital driving activity.”
Brokers who want to position themselves for success in the future should familiarize themselves with M&A trends and keep private equity firms in mind for networking and business development. As the appetite for—and understanding of—the value of commercial properties rises across industry sectors, so do opportunities for brokers. In any M&A transaction that involves real estate, their expertise is an undeniable asset.
Ernesto Gamboa, SIOR
Tripp Guin, SIOR
Joe Pelayo, SIOR
Grant Pruitt, SIOR
Tobias Schultheiß, SIOR