Recently, I’ve spent time with three business owners
who made a decision to own the building from which their companies operate. The
benefits are myriad including - stability of rent the enterprise pays,
appreciation, depreciation, and pride of ownership. But our conversations
focused on a downside of ownership - rent subsidy and the impact this can have
on the value of the company. Therefore, I endeavored to consider other
disadvantages of ownership - which is the subject of this column. Let’s start
with rent subsidy and its impact on a company’s value.
Rent subsidy. Some would opine
this is actually a benefit - the ability to charge the occupant a low monthly
payment. Yes. In fact, one of the reasons to own a building that houses your
operation is to keep the rent steady and avoid the ebbs and flows from a series
of three to seven year leases. But, in my three conversations - the price an
investor would pay for the company was affected. You see, all of the
entrepreneurs are approaching an age where “what’s next” creeps into their
consciousness. Many times this means a sale of the business. But if one of the
cost elements - rent - is understated and the business can’t afford to mark
said rent to market - the enterprise value suffers.
No agreements. Frequently, an
entity is created to own the real estate and another to own the business.
Typically, synonymy exists between the two. Although the real estate ownership
may be Allen C. Buchanan, LLC and the operating company Allen C. Buchanan, Inc.
with a common ownership - they are two separate
companies with tax reporting, business licensing, regulatory and state
registration requirements. Since one “owner” receives payment from the other
and the “owners” have the same underpinning individual - seldom are proper
lease agreements forged between the two. This lack of documentation can be
particularly painful if an owner dies and her estate must now attempt to
assemble paperwork justifying rent.
Maintenance. If an occupant
leases space from an unrelated landlord and not one with an interest in the
company - strict language as to maintenance, repair, and replacements of the
buildings systems is contained in a lease agreement between the two parties.
Sans such an arrangement, maintenance of the roof occasionally becomes an
afterthought. No big deal unless a sale with a leaseback of the premises is
considered - in which case the buyer of the real estate will want an airtight
roof and functioning air conditioning.
Lack of flexibility. If a
company’s capacity outstrips the physical plant of a building - ownership of
real estate may inhibit growth. Should this need for additional space occur in
a down market, uprooting from one building to another will be complicated. If
financing requires the building be occupied by the business - as many SBA loans
do - a real quandary arises. Sure. A move may occur and the former location
leased or sold but it’s more complicated than simply moving at the end of a
lease.
Equity is bridled. With the
amount of appreciation which has occurred in industrial properties in SoCal -
many owners are sitting in mountains of equity which if tapped could be used to
hire employees, buy machinery or inventory, acquire a competitor or expand out
of state. But unless the real estate is sold or refinanced - the equity just
sits idle providing the rent subsidy as described above and a smaller return to
the owner than an alternative investment.
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