When you're preparing to sell your business, one of the most important decisions you’ll need to make involves your real estate. Whether you own or lease the property where your business operates, your decision about what to do with that property can significantly impact the sale and the future of your business. Should you sell the building along with the business? Or should you keep the property and lease it to the buyer? Let’s explore the factors that go into this decision and how it can affect the sale of your company.
Selling Vs. Renting Your Business Property
When you’re selling your business, you have two main options for your real estate: selling the property to the buyer, or renting it to the new owner. Both options come with distinct pros and cons, so let’s break them down.
Option 1: Selling The Property
Pros:
Immediate Cash Flow: If you sell your real estate with the business, you’ll receive an immediate lump sum from the sale. This can be beneficial if you're looking to retire or reinvest the funds into a new venture.
Simplified Deal: Bundling the real estate with the business sale can make the transaction more straightforward, reducing the number of negotiations and complexities in the deal. It simplifies the buyer’s due diligence process, which can speed up the sale.
Complete Exit: Selling the property allows you to completely sever ties with the business, freeing you from future responsibilities related to the property, like maintenance, taxes, and leasing agreements.
Cons:
Lower Business Sale Price: By selling both the business and the property, you might not get the maximum value for your real estate. The buyer might be primarily focused on the business itself, which could lead to a lower sale price for the building.
Missed Long-Term Income: If you sell the property, you’re essentially giving up any potential future rental income. Selling means losing a long-term passive income stream that could have been a lucrative source of cash flow post-sale.
Option 2: Renting The Property
Pros:
Ongoing Cash Flow: By keeping ownership of the property and renting it to the buyer, you create a continuous stream of income from rent. This can be especially appealing if your business has a good location and demand for the space is high.
Retain Asset Value: Owning the property allows you to hold onto an appreciating asset. Over time, commercial real estate can increase in value, and renting it out could provide both rental income and future capital gains.
Tax Benefits: Owning and renting out real estate can provide various tax benefits, including depreciation deductions and write-offs on expenses related to property management.
Cons:
Management Responsibilities: If you decide to keep the property and rent it out, you’ll still need to manage the real estate or hire a property management company. This ongoing responsibility can be time-consuming and costly, especially if you don’t want to be involved in the day-to-day operations.
Lease Negotiations: Renting the property to the buyer will require negotiating a lease, which could complicate the sale process. The lease terms and conditions must be aligned with both your goals and those of the new owner, which might take more time and effort.
Potential For Disputes: The relationship between you and the new business owner could become strained if there are disagreements about the property or lease terms. A long-term lease may introduce risks, such as the new owner failing to meet their rental obligations.
The Importance Of Market-Rate Rent And EBITDA Adjustments
Another crucial factor when renting out your property during a sale is the rent you charge. If you're currently renting the property to yourself at below-market rates, this could create problems during the sale of your business. Here’s why:
Your EBITDA (Earnings Before Interest, Taxes, Depreciation, and Amortization) is one of the key metrics used to value your business. If you’re paying below-market rent, your EBITDA might be artificially inflated because you’re not factoring in the full cost of real estate expenses. This can make your business look more profitable than it truly is, leading to a potential discrepancy between the buyer’s expectations and the business’s true financial health.
When selling your business, you’ll need to adjust your EBITDA to reflect the market rent that would be charged if the business were to lease the property from a third party. If you're planning to rent the property to the buyer, it’s crucial to ensure that the lease agreement reflects market rates. This will make the transition smoother and give the buyer a clearer picture of the true financials of the business.
Tip: Before you sell, it’s advisable to negotiate a lease agreement between you (the seller) and your building if you plan to lease the property to the buyer. This should be done well in advance of the sale to avoid complications down the line and ensure that the buyer feels confident about the long-term leasing arrangement.
Making The Right Decision: Sell Or Rent?
Ultimately, the decision to sell or rent your property depends on your personal goals, the value of the property, and how involved you want to be in the post-sale process.
Sell If: You want to fully exit the business and are looking for an immediate cash influx. Selling the property is a good option if you don’t want the responsibility of managing the property or dealing with future tenants.
Rent If: You’re interested in long-term passive income, wish to retain ownership of the real estate, and don’t mind the management responsibilities associated with being a landlord. Renting out the property can also be an attractive option if you want to keep a stake in the property’s future appreciation.
Consult With The Experts
As with any significant business decision, it’s essential to consult with experts who can guide you through the process. At Exit Stage Left Advisors (visit esladvisors.com), we specialize in helping business owners navigate the sale of their business, including providing insights on real estate considerations. Whether you decide to sell or rent your business property, our team can help you structure the deal to maximize your financial outcome and ensure a smooth transition.
Conclusion
Deciding what to do with your real estate when selling your business is a critical part of the exit strategy. Whether you choose to sell or rent the property will depend on your financial goals, the type of relationship you want with the buyer, and the long-term benefits you seek. Selling the property can provide immediate cash flow and simplify the sale process, while renting it out can offer ongoing passive income and allow you to retain ownership of a valuable asset.
Regardless of the path you choose, it's important to ensure that the real estate transaction is structured properly, with considerations like market-rate rent and a clear lease agreement. By doing so, you’ll ensure a smoother process and a more transparent deal for both you and the buyer.
