I'm assuming there are firms/funds that have a specific investment strategy of purchasing land that is ground leased to the owner of the improvements. Is there a specific resource one could use to determine which properties in a specific geography sit on ground leases? It seems it would be a much more specific methodology of trying to locate these types of situations.
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I've never heard of firms only targeting Ground Leased land with improvements, seems like a low hit ratio if this strategy does exist. Typically the ground lessee will be all over the landlord seeking some time of defined path to fee if not explicitly in the ground lease document.
Regardless, CoStar has a filter for ground leased property. Unsure how accurate it is, but the filter exists.
http://www.safetyincomegrowth.com/home/default.aspx
Could be an interesting model for a REIT. Reminds me of the NNN REITs. Buy quality ground leases at 4%, payout a dividend of 3% and stagger the lease terminations. Hope for a default rate of under 25 bps.
This was touched upon in a prior post, not sure if it was answered though. Is there a typical rule when it comes to where the ground lessor sits it terms of payment priority?
As an example, if the property is 50% occupied and generates $1MM in total effective income, opex excluding the ground lease payment is $800K, annual ground lease payment is $100K, and the existing loan has an annual debt service of $250K. Obviously there is a shortfall, but who gets shorted? Would the lender lay claim to any cash flow left over after opex but before ground payment?
And if that were the case, wouldn't the ground lessor have default rights to potentially take over possession of the improvements?
I am pretty sure the lender would require 'cure rights' and state that the borrower would be in 'technical default' of the loan if they defaulted on the ground lease. - so then they would foreclose on the borrower and can make the ground lease current. keeping the rights to the cash flow from the improvements intact..
In either scenario (ground lease default or lender default) the lender would have the right to step in and take control and 'cure' if necessary...
What this is getting at is a subordinated ground lease. Typically, the ground rent is structured as such that it is an operating expense of the building, and therefore comes before calculation of NOI, so would be treated above the line. This depends 100% on the structuring of the ground lease, however. There are some cases where fee ownership gives up subordination in exchange for participation in upside cash flow performance, as one example.
How do ground leases typically impact cap rates?
Also, at what point do people stop considering buying interest in properties on ground leases? How many years need to be left on the ground lease for it to be worth an investment?
They drag down the overall valuation based on the current cap rate. The annual lease payment is an operational expense that's above NOI. To maximize value...you want potential buyers to look at EBIT as the lease payments are 100% deductible. So deals look better on a taxable basis vs a cap rate basis. Regardless, a seller typically will take a haircut on the prevailing cap rates when a disposition occurs.
Think there might also be an alternative valuation model based on the NPV of the lease that takes the lease payments out of the operational expenses.
You will need at least 10 years left on the lease in order to obtain debt in most instances. Think it might actually be 11 years...can't remember. And some lenders will want at least 15 years.
Yeah, I guess as a lender I try to wonder why you'd want to lend with less than 15 years.
But even in that situation, if you lend with 15 years left, what would be your takeout? Wouldn't a potential refi leave the subsequent lender with 10 years or less left? Why would someone want to take them out at that point or purchase the asset with a ground lease?
RE: the NPV point, typically what happens if using this method is a firm looking to buy the building/lessee position is look at the IRR of the hold period remaining and sets a spread over what a fee simple deal would be. So if a normal IRR is 7 let's say, then you'd probably be looking to get to an 8 or 9 if doing a ground lease deal. If there's 50+ years remaining of term, the deal may have legs. Anything under that and there's only a handful of groups in the country that would maybe play on it.
There''s a REIT already doing this: http://www.safetyincomegrowth.com/about-us/company-overview/default.aspx
Saw an article recently about a couple of deals these guys did where Admiral purchased the fee interest in a few properties and spun the land off to Safety & Income with a new ground lease. Interesting financing strategy...
mind sharing it? did a search, couldn't find it
There are a few vehicles in the UK that invest in GR only. Mainly pension schemes' money trying to match scheduled contributions. I am assuming that you are only looking in the US market? PM me if not - I may be able to help you.
BH Properties out of LA buys leased-fee stuff. There's quite a few groups doing this in the UK as well.
I thought that I heard that iSTar has/had a ground lease fund and they just sold all their existing shit to and created ground leases - no new acquisitions. I'm sure they paid themselves a nice promote(s).
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