Buying or selling a landscape company is complex enough on its own, but one element that can easily be overlooked early on is the question of who owns the business’s real estate after the transaction is complete.
How Real Estate Affects the Deal
In this industry, it’s very common for landscape company owners to either own an office space for their headquarters, a yard for their fleet or both types of property.
Aaron Kroll, partner at Sterling Point Advisors, says that while the value of the business is completely separate from the real estate’s value, how you charge yourself rent will affect your overall profitability and valuation. Sellers also need to consider how the different expenses fall if they have a separate entity that owns the real estate.
“The separate real estate entity is not paying expenses that are going to be passed through to the business in the future,” Kroll says. “Sometimes they’ll pass through insurance or maintenance or real estate taxes in the real estate entity. You want to make sure that’s how it’s going to be going forward because we can’t at the very end say, ‘Oh no, the business is now going to pay for all those,’ because it lowers your valuation. It lowers your profitability.”
If an owner doesn’t want their valuation to be lowered, they can opt to pay the taxes and insurance as the landlord moving forward.
As for the businesses that do not own their property, sales can be delayed by third-party landlords who are not part of the deal.
“We have found through a lot of deals that third-party landlords are notoriously difficult to deal with,” Kroll says. “As you can imagine, a lot of them don’t care because, for them, the real estate’s still there, so they don’t need to respond in a timely manner.”
Kroll recommends forming a relationship with your landlord and making them aware of the potential sale early on in the process to ensure it goes smoothly.
In some cases, the buyer can opt to purchase the property before closing on the business just to eliminate this third-party landlord. Kroll says this does add complexity to the deal as you’re purchasing real estate at the same time.
Leasing Land Post-Acquisition
Retaining ownership of the company’s real estate post-sale can be appealing to sellers as it provides a form of steady, stable income, especially since the buyer is typically a larger landscape company or a private equity firm.
“It can be a good investment in the long run and it’s something that you can keep as a separate part,” Kroll says.
Kroll says if you decide to lease your property, you need to have a very good understanding of what rent you’re going to charge and what the market rent is.
“We’ve had owners in the past who have just, for whatever reason, charged almost nothing for rent, and they get through this deal, they get through the valuation, they get to LOI, and they’re like, ‘Oh, they’re only paying me blank rent, and we say, ‘Well, yeah, that’s what’s in your financials.’”
Kroll says the biggest risk of retaining the property is when owners don’t truly understand what the lease involves.
“People throw around the word triple net, and a lot of people think triple net means owning a Walgreens, which is where you just own the land and you get a check every month, and that’s not usually the case,” Kroll says. “Usually these almost always are what are called modified triple nets. That means they have the same idea of a triple net where they’re paying, but there are requirements of the landlord to still pay for certain things.”
These elements that a seller could still be responsible for include repairing the parking lot, roofing or the HVAC system.
“What we would hate to see is you think, ‘Hey, I’m never going to have to worry about any repairs,’ and then year two they say, ‘Hey, the parking lot’s bad and it’s $202,000 to repave and restripe.”
He says another red flag that potential landlords should be mindful of is if the acquirer puts revenue thresholds in the lease.
“If I sold my company, but I kept the building, then my company going forward has to achieve a certain amount of revenue for that new buyer to keep paying that lease,” Kroll says. “It’s very hard, and we see it more and more across a lot of industries.”
For instance, if your revenue is $1 million, the acquirer will say the company has to hit $1 million for them to pay the full rent. If you hit $900,000, the rent goes down, and if you go below a certain amount, they can then leave with extremely short notice.
“I’m not saying you can never do a deal that way because if you’re really confident, if the number’s low enough, there’s still probably ways to work around it,” Kroll says.
If you choose to keep your real estate post-acquisition, Kroll says you can typically get 10-year lease terms with three- to five-year extensions. He recommends working with a lawyer to ensure the extensions are structured so the tenant must provide sufficient notice if they are moving, so landlords know whether to try to find a new tenant or ultimately sell the land.
When to Sell Your Real Estate
Selling the land alongside the business can provide a clean exit, but spacing the two transactions out can provide additional flexibility and financial benefits.
Kroll cautions against doing an acquisition and real estate transaction at the same time as it can become very convoluted as you navigate buying or selling both simultaneously. He recommends owners take a beat after the acquisition before regrouping to address the real estate.
“One thing we’ve seen that solved a lot of that is ROFR, a right of first refusal, which is saying, ‘Hey, we aren’t going to close it now, but we get the ability to buy it in some form or fashion, one year, two years, three years, or if you get an offer, we get the ability to match the offer, and if we match it, we can buy it,’” Kroll says. “That’s an ability to give yourself some protection of, ‘Hey, they’re not going to sell it out from under me if I want to purchase the future date, but I don’t have to buy it right now.’”
He adds that another benefit of waiting and selling the real estate later is that it lets sellers spread transactions across different tax years.
“A lot of owners do just because it’s one easy transaction and you’re done,” Kroll says. “You can be out of it. But I think being able to break it apart helps defer that planning even farther down, and the value can increase once you have a good tenant in place.”
Waiting can also open the property up to a different pool of potential buyers thanks to the surge of modified triple net buyers in the M&A space.
“These companies will come in after a transaction has taken place and purchase that real estate because it has a better lease,” Kroll says. “Obviously a lot of these owners have very well stabilized businesses, but they’re not these large private equity funds that have a huge fund behind them. There is a huge network of buyers who will come in and say, ‘We want to buy that lease out from you.’ There’s a huge amount of those all over the country, so there’s a lot of opportunities there to get some different bids from those companies.”
If you do opt to do the sale of both the business and property at the same time, Kroll says it’s best to try to stick to a timeline, as inspections and appraisals can easily cause delays.
While the business and real estate have separate valuations, what happens to the property post-close should not be an afterthought. Take the time to consider which route makes the most sense for both parties early in the M&A process.
