Ruby Tuesday, Backleasing and Owning Your Own Real Estate

The well-worn pages on lease-verses-buy in business textbooks makes much of a meal of equipment and motor vehicles but leaves glaringly absent the application to real estate.  Perhaps the omission is the result of the specialised nature of real estate, which makes it difficult to provide simple illustration of principles.  This brings us to Ruby Tuesday. Huh?

 

Depending on your generation or where you live you may know that Ruby Tuesday was a song recorded by The Rolling Stones in 1966. The song, was a number-one hit in the United States and reached number three in the United Kingdom and five in South Africa.

 

But Ruby Tuesday is also an American multinational restaurant chain, named after the Rolling Stones hit,  that owns  and franchises the eponymous Ruby Tuesday eateries. While the name and concept of Ruby Tuesday was founded in 1972, the corporation was formed in 1996 as a reincorporation of Morrison Restaurants Inc. The centre of operations is in Maryville, Tennessee, and from there 800 sites are operated worldwide.

 

Going back a few years, analysts were asking if Ruby Tuesdays was the Canary in the Coal Mine with regards to the World Financial Crisis. Facing default on its loans back in 2008 the restaurant chain looked set to fall off its perch.  Then began a programme of sale leasebacks which arguably saved the day. So what about sale leasebacks? Should companies  own their own real estate to sell and lease back in the first place?

 

Many companies have enormous sums tied up in commercial real estate that it owns and uses for its business, whether that’s warehouses, retail stores, head office or restaurants. In the US, department stores like Dillards and Sears own their own premises. Many restaurant chains like Ruby Tuesdays and Cracker Barrel own their own outlets. Zynga , the online gaming company recently acquired their headquarters building in San Francisco for over $200million. Google bought its new headquarters in New York in 2011 for nearly $2 billion. Microsoft and Wal-Mart also own a lot of their own property; however they are also examples of companies that have made much use of the sale leaseback.

 

Commercial real estate is considered a capital intensive asset and includes, among others: office buildings, retail centres and industrial warehouses. The properties are subject to a lease contract that generally has a base rent, additional ‘rent’ covering the property’s operating costs like rates and maintenance, a term of three to ten years with the option for renewal. The base rental rate varies depending on the credit of the tenant and the location and age of the building.

 

There is an argument that it doesn’t make economic and investment sense for a public operating company to sink large amounts of capital in its own real estate. In fact the argument is that a company should not own, or be in the business of leasing out its own real estate. Companies and in particular public companies should not be tying up capital in commercial real estate. Also, owning real estate may be considered a distraction from what should be the main focus of the business.

 

In fact since the advent of the World Financial Crisis, the companies that have invested in commercial real estate are being encouraged to sell these assets and do a sale/leaseback unless the assets are of a ‘strategic investment value.’ The argument is that capital tied up in real estate should be reinvested into the company’s core business where the rate of return is greater than in a real estate investment. And there lies the rub: The expected return from investing in an operating business is expected to be higher than a real estate investment.

 

So if what the investment firms’ have locked up in property isn’t producing a return other than that which is being saved on rent by owning the property, what is there to show for it? The amount saved is small in comparison to the lost capital investment.  It could be concluded then that to multiply returns there should be a disposal of real estate assets and a reinvestment of that capital in the business to produce growth.

 

Just a reminder as to what a sale-leaseback is:  a sale leaseback option allows a company to sell its assets and lease them back simultaneously. This can be beneficial for businesses that are in need of an inflow of capital.  Unlike a traditional mortgage, which often finances 70% to 80% of the property value, a sale-leaseback allows a company to get 100% of the value from the real estate.

 

Bringing us back to Ruby Tuesday. Although as a covert strategy, purists may argue that the accumulation of real estate as a “rainy day fund” is a somewhat archaic idea, one can’t help admire in hindsight Ruby Tuesday’s desire to own substantial amount of real estate for their locations as forward thinking.  As a ‘rainy day fund’ the idea is a fly in the ointment of the non-ownership school of thought.

 

Ruby Tuesday has announced plans to acquire Lime Fresh Mexican Grill. It has launched a new television advertising campaign and increased projected annualized cost savings to $40million. The company has also begun implementing its sale leaseback plan to raise $50million through the sale and leaseback of nearly thirty outlets ending the first quarter of 2013. By quarter’s end, the firm completed a sale-leaseback deal on 8 properties, resulting in nearly $18million in gross proceeds.

 

So who’s to say, in the midst of sound financial common sense, which is what one might call the school of thought that would have businesses own as little real estate as possible, we encounter a glaringly perfect example of benefits of having real estate assets like Ruby Tuesday. One point is that Ruby Tuesday may not have been able to dig itself out if it were not for sale leasebacks, a potential solution for many medium to large enterprises to acquire much needed business investment capital.

Then again to quote Ruby Tuesday’s own lyrics from a real estate asset point of view:

Don’t question why she needs to be so free
She’ll tell you it’s the only way to be
She just can’t be chained
To a life where nothing’s gained
And nothing’s lost
At such a cost

Brian Jones & Keith Richards 1967 © ABKCO Music Inc

 

 

About Matthew Campaigne Scott

I'm a freelance writer and researcher and life coach. I have written for periodicals and websites, composed speeches and sermons and prepared copy for web advertisements and research papers. I can tailor my work according to your needs. I love a challenge and enjoy building work relationships.

Posted on June 21, 2012, in Commerce, Finance, Property and tagged , , , , , . Bookmark the permalink. Leave a comment.

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