Why do commercial developers sell their newly built projects instead of keeping the lease agreement?
For example, there’s a lot of newly built commercial properties such as Chick-Fil-A, Starbucks, etc up for sale in my town. I was wondering why the developers wouldn’t want to keep the project under a lease agreement (like NNN) since those companies has a large consumer base. I’m not an investor,  just a young individual seeking more knowledge on something I plan on doing in the future. Some questions I can’t search up on the internet.
[{"id": "ia8t1xn", "text": "Might be a certain promised return to investors by a certain date.", "replies": [], "depth": 1}, {"id": "ia8ttpw", "text": "think about it from a capital perspective.  they will have to tie up somewhere around 50% of what those properties are worth in equity.  That means for each project they do they'd have to raise capital to keep it (they aren't making those kind of margins).  So most of them sell projects to get their profit out to put back into future projects, then rinse and repeat.  They are construction companies not investment companies.\n\nThough some are both and do hold on to what they build.", "replies": [{"id": "ia8wxtg", "text": "In theory a developer could hold and borrow against in the future right?", "replies": [{"id": "ia8xfxs", "text": "yeah i am assuming they are borrowing to get that 50% number.  national stnl tend to be at very low cap rates and require a lot of equity to hit the debt service coverage numbers.", "replies": [], "depth": 3}], "depth": 2}, {"id": "ia90x8r", "text": "In principle I agree with you. \n\nBut in reality it\u2019s because land prices have increased so significantly. \n\nI\u2019m just using examples on economics:\n\nIf you\u2019re working a Chick fil A deal and the dirt costs $3,000,000 and Chick is paying you $150K on a GL, why would you hold? You really have to sell to make the numbers work (while of course making a profit) and moving to the next one. \n\nThe numbers have just become so tight, unless you can steal dirt, your hands are tied. You have to flip it.", "replies": [{"id": "ia91knk", "text": "i don't think thats inconsistent with what I was trying to say, maybe I phrased something oddly.\n\nAn easier way of looking at this is would the developer buy the same property if they didn't develop it.  For most the answer there is no, they require returns wayyyyy larger than those assets toss off once stable for their investors.  For some its the inverse and they are trying to invest in that type of asset and are frustrated they can't source deals so they are building them to hold.  \n\nJust depends on what their business strategy is and capital requirements.", "replies": [{"id": "ia928dj", "text": "Ya maybe you\u2019re right. \n\nAny argument I\u2019d consider making would be at best semantics. \n\nTouch\u00e9.", "replies": [], "depth": 4}], "depth": 3}], "depth": 2}, {"id": "ia9bu0s", "text": "So like a house flipper. A Flipper builds a house from the ground up or make some improvements to the house , sell it to a buyer and it\u2019s up to the buyer if they want to leave to live there or rent it out. The flipper main goal is to make a profit. \n\nAlso another question ,why do those big franchises rather have a landlord (owner of the property) than own the property themselves?", "replies": [{"id": "ia9e9w9", "text": "&gt; So like a house flipper. A Flipper builds a house from the ground up or make some improvements to the house , sell it to a buyer and it\u2019s up to the buyer if they want to leave to live there or rent it out. The flipper main goal is to make a profit.\n\nthat is a good example.\n\n&gt; Also another question ,why do those big franchises rather have a landlord (owner of the property) than own the property themselves?\n\nHaving a landlord is a bit deceiving on these.  The landlord doesn't really do shit, in a lot of ways looking at them as more of a lender or preferred stock/debt holder would make more sense.  \n\nIt really comes down to the companies business strategy, expansion strategies, and cost of capital.  Just like the above discussion on investor required returns on the re side you are going to have a range of shit from mcdonalds who owns everything and has unlimited capital at very low rates to folks who are trying to go from 30 locations to 300, or 300 to 3000 etc.   If they are promising their investors large returns with lots of risk then tying up capital with low re returns doesn't make sense as they have to pay more in returns to their investors than it generates.  The opposite can also be true, banks are a good example of that.  some are leased, but a lot aren't because they basically have really low stable returns from every perspective from equity to debt, so holding their own branches is frequently a really good way to invest for them.", "replies": [{"id": "ia9eyow", "text": "Thanks", "replies": [{"id": "ia9w13h", "text": "Dude. The only reason these \u201cbig\u201d franchisee\u2019s are GL is because they have no opportunities to buy. \n\n100% of the time FORTUNE 500 retailers prefer to buy!  (Unless they are BTS) The ratio is like 50/50. (50% purchased and 50% GL\u2019s)\n\nThey don\u2019t prefer to have landlords, ever. It\u2019s a necessary evil, if you will. \n\nIf you\u2019re a broker and you\u2019re actually digging, find someone who can buy this dirt. If you\u2019re a developer, and you\u2019re not buying this dirt, find someone who can find it for you!", "replies": [{"id": "iaa43l3", "text": "Sorry, what's GL?", "replies": [{"id": "iabg864", "text": "GL = ground lease \nBTS = built to suit", "replies": [], "depth": 7}], "depth": 6}], "depth": 5}], "depth": 4}], "depth": 3}], "depth": 2}, {"id": "ia9rrir", "text": "There is a big inconsistency in loan underwriting standards for a developer vs a buyer. A lender wants the owner to \"have some skin in the game\" on a great development a developer can sell the property for 150% or more of their cost basis. In comparison they might get 90% of cost basis on that same high valuation.\n\nThe IRR is a lot better to sell off and redeploy the cash on the next development.\n\nIn comparison a buyer will get up to 80% LTV / purchase price of the deal isn't DSCR constrained.. 80% LTV is about 120% of cost basis in the example above vs. 90% of cost basis offered to the developer.", "replies": [{"id": "ia9tb2e", "text": "As a former loan underwriter, bingo, kinda. It\u2019s not an inconsistency, it\u2019s genuinely a loan for a completely different purpose. Most of the time, developers take out interest only notes on the land + improvements to be built. Once the developer sells the property, the loan is paid off in full. \n\nWhat banks totally aware of, but isn\u2019t kosher // what may or may not cause a crash in the future is the fact that we\u2019re completely overleveraging these potentially unmarketable spaces. Think office buildings, unaffordable multi-family, car dealerships (lol, prob not). COVID changed the real estate market and not everybody believes it.", "replies": [{"id": "ia9umap", "text": "I'm talking about the term loan a lender would offer a developer once the building is leased up and stabilized to cash out and pay off the construction loan vs. the same higher leverage loan that would be offered to a buyer that is putting 20% cash down payment. \n\nThe industry standard is to offer more money to the person that has \"more skin in the game\" I find this ironic since this is higher risk offering a higher loan amount on the same property to a buyer vs. a developer so this encourages the developer to sell and buyer to over leverage the property like you indicated.", "replies": [{"id": "iab0w3z", "text": "Wouldn\u2019t it be true that there is different risk during the development phase vs when the project is complete and fully rented? Construction seems like a wild card sometimes.", "replies": [{"id": "iac9oet", "text": "There is significantly higher risk for construction vs. a leased property with a long term lease.\n\nI'm talking about the difference between lending to the developer once the property has been built and leased to pay off the construction loans vs. at the same point in time giving a higher loan amount to a buyer of the building.\n\nIn the example the building is valued at $150 and cost $100 to build. The buyer would get $120 (80% LTV) loan to have $30 equity. The developer would get maybe $95 loan to ensure they keep some $5 in equity in the project.", "replies": [{"id": "iadqfcf", "text": "Gotcha", "replies": [], "depth": 7}], "depth": 6}], "depth": 5}], "depth": 4}], "depth": 3}], "depth": 2}], "depth": 1}, {"id": "ia8ty2z", "text": "Did you check that it is not the tenant themself who is the developer? Often they'll do a sale-leaseback to get the capital out so that they can move on to the next project and keep expanding their store footprint.", "replies": [{"id": "ia90aww", "text": "Chick fil a, Starbucks etc do sale leasebacks? \n\nCome on man. Be better than that. \n\nI can\u2019t think of more than 1 single Fortune 500 retailer who would even entertain a sale leaseback.", "replies": [{"id": "ia9ky7d", "text": "I felt there was mild appetite for leasebacks starting in 2016. I guess I don\u2019t recall the tenants you mentioned specifically, but I know Darden and a few others were looking to redeploy their capital via leasebacks. I think there maybe some tax benefits too.", "replies": [], "depth": 3}], "depth": 2}], "depth": 1}, {"id": "ia8w9xi", "text": "The return on going from an empty lot to an occupied building is a lot higher than the return of holding the building forever. They sell the building so they can reinvest that money into another higher yielding development project.", "replies": [{"id": "iab4cbl", "text": "This is the answer. \n\nApple doesn\u2019t build NAS devices any more (RIP TimeCapsule) because the margins are too low vs. what they can earn on other business segments. \n\nDevelopment has much better margins.", "replies": [], "depth": 2}], "depth": 1}, {"id": "ia92tlo", "text": "For several reasons, the two most important being return of capital expectations which are set going into the deal, and the finding a great time to sell (like they last 24 months). \n\nIf I have an investor funding my$50M deal, odds are good he's an older guy. Odds are good he wants his $50M returned to him (and then some) before he's 100 years old. Selling is often a strategy agreed upon early in the process. The second reason was market strength, which has been extremely high recently. If my project has an NOI of $15M I'd much rather sell out for a 5% cap ($300M) than hang on", "replies": [], "depth": 1}, {"id": "ia93iqw", "text": "Developers\u2026. Develop. Once it\u2019s leased up the value is created it\u2019s time to move to the next one.", "replies": [{"id": "iabarog", "text": "Yeah it\u2019s kind of like asking why don\u2019t residential contractors all become landlords", "replies": [{"id": "iacpiy8", "text": "Who is wealthier?", "replies": [{"id": "ibyugpb", "text": "Both. Development has higher expected returns but also higher risk and its more work. Buy and hold is far easier to get done and capitalize so you can do way more deals at once than a developer can do. Its so case by case.", "replies": [], "depth": 4}], "depth": 3}], "depth": 2}], "depth": 1}, {"id": "ia96y0f", "text": "In the instance you listed, the developer needs to sell to maximise their value in the project.", "replies": [], "depth": 1}, {"id": "ia9958g", "text": "Gotta return money back to investors", "replies": [], "depth": 1}, {"id": "ia9b7nq", "text": "Because they are DEVELOPERS not investors.", "replies": [], "depth": 1}, {"id": "ia9cfaw", "text": "I work for a developer who\u2019s core business is single tenant net lease. Simply put, in this market there isn\u2019t a return from those deals which would make it attractive for us to hold. Our value creation is really in taking the dirt, securing a ground lease from an investment grade tenant, and selling the project to institutional investors. Cap rates for many of these tenants are just so incredibly low.\n\nThere are exceptions. In the past when our land basis was low enough and the timing worked out, we have 1031\u2019d into deals to achieve a mid-teen cash on cash with modest leverage.\n\nHope this helps. Stay curious man!", "replies": [{"id": "ia9d9j3", "text": "Thanks", "replies": [], "depth": 2}], "depth": 1}, {"id": "ia9djrt", "text": "Perhaps they want to shed liability. A lot of deals leave the investors house as collateral long term. Unless they are big enough. They will trap the profit and lessen their personal exposure?", "replies": [], "depth": 1}, {"id": "ia9k70i", "text": "Everything is leveraged, moving with it to higher goals is some people\u2019s job/ status. My kids don\u2019t work. Never will!", "replies": [], "depth": 1}, {"id": "ia9pyil", "text": "Bird in the hand", "replies": [], "depth": 1}, {"id": "iaa1a1j", "text": "Typically, the developer's job is to build the building for the tenant (called a build-to-suit). The developer is paid a fee to do this. They want to realize their profit and move on to the next property. The money today is worth more to them than perhaps refinancing at the new value and keeping the property as a stream of income.", "replies": [], "depth": 1}, {"id": "iaa6ri9", "text": "cost of capital vs risk and return\n\ndevelopment is a riskier business. As an example investors in a development business expect a return of 10% to make up for their risk. whereas long term holds, investors are looking for only 5% return.\n\nalso construction loans are short term loans and have interests of 7-8%, where as mortgages for long term holds are sub 5%.\n\nA single company can have a development arm and a real estate arm, but the source of the funds for each arm are different.", "replies": [], "depth": 1}, {"id": "iab8xmo", "text": "Money.", "replies": [], "depth": 1}, {"id": "iabfrn2", "text": "Noted by others but generally developers do not make much money while projects are going on. They make their money when they finish a project and sell it. They return money to investors and usually make a large lump some, they will go on to use this lump some to leverage larger projects where they have more equity or multiple projects where they have small equity. \n\nI know many multifamily developers and they almost always have the projects sold before they are even finished.", "replies": [], "depth": 1}, {"id": "iac0kwb", "text": "One kind of investor invests in development. A different kind of investor invests in stabilized assets. Two very different risk profiles.", "replies": [], "depth": 1}, {"id": "iac59p7", "text": "They are following their exit strategy. They want to cash out, let someone else handle the struggle of managing the leases. In real estate you learn to stay in one lane. Do something well, and then rinse and repeat. Go build another mall.", "replies": [], "depth": 1}, {"id": "iachzut", "text": "I do Private Equity Fund reporting. Our firm buys, flips stabilizes and sells because it is short term commitment (10 years) verses holding a stabilized property forever to slowly get the rental income out of it. Some other firms would love to hold on to it for a more stabilized return, lower risk too.", "replies": [{"id": "iadon7s", "text": "Thanks", "replies": [], "depth": 2}], "depth": 1}]