Sale and Leaseback: How a Lender Reads One

A business that owns its premises has capital tied up in bricks. A sale and leaseback releases it at the property's market value, usually more than a bank would lend against the same building, and without a loan to repay. The business keeps occupying the site under a lease, commonly long and on terms that leave it paying rates, insurance and repairs as an owner would.

What the business gives up is ownership: any rise in the property's value, the freedom to alter or sell the site, and the certainty that it can stay. It swaps a loan that ends for a rent that, over a long lease, can outlast it, and that is usually reviewed upwards along the way. Whether that is a good trade depends on what the cash is used for. A lender's reading starts there.

Two contracts are signed together: a sale agreement and a lease. The price and the rent are linked. A higher price can be bought with a higher rent, and the international lease standard, adopted as AASB 16 in Australia and NZ IFRS 16 in New Zealand, treats any part of the price above fair value as extra financing from the buyer, not sale proceeds. It also asks whether the transfer is truly a sale. If the seller keeps rights that stop control passing, such as an option to buy the asset back, the deal can fail that test. The seller then keeps the asset in its accounts and records the proceeds as a financial liability.

Where the transfer is a sale, the seller records a right-of-use asset and a lease liability for the leaseback, and recognises only the part of the gain that relates to the rights it has transferred. In the UK, FRS 102 adopts a lessee model based on IFRS 16, with matching sale and leaseback requirements, for periods beginning on or after 1 January 2026. Accounts prepared under simpler frameworks, such as the UK micro-entity standard or special-purpose accounts in New Zealand and Australia, can still show the rent as an expense and the lease nowhere. A lender works from the obligation, not the presentation.

A food manufacturer, constructed for this page like every figure in it, owns its factory, valued at US$14m and carried in its books at US$8m. It owes its bank a US$6m term loan secured by a mortgage over the factory, at 6.5% with US$0.6m of principal repaid each year. Its EBITDA, with no rent to pay, is US$5.2m. An investor offers US$14m for the factory with a 15-year lease back at US$1.05m a year, reviewed every three years, upwards only. The business will repay the bank, spend US$3m on a new production line and pay US$5m to its shareholders. The rates and terms belong to the example.

Cover barely moves, so on a single ratio the deal looks harmless. The changes are elsewhere. A loan that would have been repaid within ten years has become a 15-year rent that can only rise at review. Lease-adjusted leverage has risen from 1.15 to 1.84 times, while the bank's own debt has gone to nothing. The building that secured that debt now belongs to someone else, and US$5m of the proceeds has left the business.

The accounts under IFRS 16 show a gain of about US$1.9m, not US$6m, because the business has kept the right to use the factory for 15 years and is treated as having sold only the rest. In accounts that keep the lease off the balance sheet, the same business reports no debt and EBITDA of US$4.15m, after rent.

The nearest alternative is a mortgage refinance: keep the building and borrow against it. A mortgage raises less, because a lender advances only part of the value, but the business keeps the building, the rise in its value, and the right to repay and walk away. A sale and leaseback raises the full value, and the business pays for it with rent for the life of the lease and the loss of the asset.

That is why a credit desk adds the lease to debt when it reads leverage and the rent to fixed charges when it reads cover, whatever the accounts show. The lease-adjusted leverage page works that adjustment in full, and EBITDAR is the earnings line it starts from.

DEFINED IN ONE PARAGRAPH → · LEASE-ADJUSTED LEVERAGE, WORKED → · FIXED CHARGE COVER, DEFINED →

The bank usually hears about a sale and leaseback because it has to. Facility agreements commonly restrict disposals of significant assets, and the mortgage has to be discharged before the buyer takes title, so the bank's consent and payout figure are part of the transaction. The bank can also require the proceeds to go first to repaying it, through a mandatory prepayment on asset sales.

The credit questions follow from the example. If the proceeds fund growth that earns more than the rent costs, the business may be stronger. If they fund a distribution, it is weaker and less secured. The lease itself is read like a loan agreement: its length, review mechanism, repair obligations, any break clauses, and what the landlord can do if the business fails. For a manufacturer whose plant is fixed in the building, losing the lease can mean losing the business. Where the bank keeps lending, its covenants are often reset on a lease-adjusted basis, so that the next test measures the business it is now lending to.

WHAT YOUR BANK HOLDS AS SECURITY → · LOAN COVENANTS, EXPLAINED →