Build-to-Suit vs Sale-Leaseback

In a traditional build-to-suit, a developer controls the site, builds to your specifications, and leases the finished building to you long term. You usually do not fund construction, and you do not own the result. Your long lease commitment is what makes the project financeable for the developer, which is why your company's credit is central from the start.

The sequence looks roughly like this.

1. Define the facility you need: size, layout, power, loading, location and timing.
2. Solicit developers or sites, comparing proposed rent and what each proposal assumes.
3. Negotiate the lease and a development agreement, including specifications, schedule and how cost overruns and change orders are handled.
4. The developer builds while you monitor progress against the agreed specifications.
5. The lease begins on completion, typically tied to a milestone such as a certificate of occupancy.

The trade-off is that you are generally limited to sites the developer controls, and the developer's profit is built into your rent. You gain a new building designed around your operation, without tying up your own capital in it.

A reverse build-to-suit flips the roles. The tenant takes on the developer's job, while an investor provides the money. As described in Site Selection magazine, the company selects the site and manages design and construction, usually through a general contractor or program manager. The investor buys the land and funds project costs on a draw schedule, much like a construction lender, and the long-term lease starts when the building is complete.

Think of it as a sale-leaseback arranged before the building exists. The appeal is control: you choose the site based on labor, logistics, power and incentives, and no developer is taking a margin between you and the investor. The costs are less visible:

• The investor earns a return on money advanced during construction, and that return is commonly added to the amount the rent is based on. You pay for it over the lease.
• You take on the work and risk of development. A trade article on this structure cautions that a tenant should have construction or development experience, or strong connections to construction companies.
• The investor needs to be sure the finished building is worth what it has put in, so expect its close attention to budget and specifications.

• Starting point: a build-to-suit or reverse build-to-suit begins with a building you need but do not have. A sale-leaseback begins with a building you own and occupy.
• What you get: a new facility in the first two; cash proceeds in the third.
• Cash at the end: a build-to-suit usually puts no sale proceeds in your hands. A sale-leaseback delivers proceeds, reduced by debt payoff, costs and tax.
• Who carries construction risk: the developer in a traditional build-to-suit, though your agreement decides how far; largely you, operationally, in a reverse build-to-suit; none in a sale-leaseback of an existing building.
• Site selection: limited to what the developer controls in a traditional build-to-suit; your choice in a reverse structure; already settled in a sale-leaseback.
• Time to result: construction schedules in both build-to-suit types. A sale-leaseback closes after diligence, with no construction.
• Investor focus: tenant credit is central in each. In all three you are the party the income depends on.

The three can work together. A company might sell an existing building it has outgrown, lease it back for a short period while a new facility is built, and then move. Or it might use sale-leaseback proceeds for an expansion elsewhere. If you need the same site expanded, that is a question to raise with the investor during lease negotiations.

Start with the real problem. If your current building serves you well and you want capital for something else, a build-to-suit does not solve it, and a sale-leaseback might. If your building is the problem, selling and leasing it back may lock you into the wrong space, so a new facility deserves a look first.

• ✓Is the current building right for the business over the full lease term we would need to sign?
• ✓Do we need cash, or do we need a different building?
• ✓Do we have people who can actually manage a construction project, or a partner who can?
• ✓Does the proposed rent include developer profit or accrued investor return, and can we see how it was built up?
• ✓Who pays if construction costs run over, and who decides on changes?
• ✓What happens to our existing lease or building if the project is delayed?
• ✓Is the facility so specialized that an investor or CPA would raise reuse concerns?
• ✓Have we asked our CPA how the structure would be accounted for before we signed anything?

Because TAG represents occupiers and not landlords or developers, we can compare these paths from your side of the table, including whether you should relocate, build, or stay where you are.

Marketing materials sometimes imply that these structures make real estate disappear from a company's financial statements. Do not plan on that. Under ASC 842, a lease of this kind generally brings a right-of-use asset and a lease liability onto the tenant's books.

Build-to-suit projects add a second question: who controls the asset during construction? According to an EisnerAmper explanation of ASC 842, a lessee is treated as controlling the asset under construction if any one of several conditions applies. They include having the ability to obtain the partly built asset, for example by paying the lessor; legally owning the land and improvements; and certain arrangements in which the lessor has an enforceable right to payment for work done and the asset has no alternative use to it.

If the lessee is in control, it records construction in progress as if it bore the costs, with a deemed loan from the lessor, and it applies the sale-and-leaseback guidance at completion. If it is not in control, there is no deemed loan and no sale-and-leaseback accounting at completion. A reverse build-to-suit, where the tenant leads the construction, is exactly the kind of arrangement to review with your CPA before the documents are drafted.

A completed sale-leaseback has its own test. It must qualify as a sale, and a leaseback classified as a finance lease, or most repurchase options, will result in it being treated as a financing.