Capital Automotive Real Estate Services, Inc. of McLean, Virginia provides real estate capital to dealers through the acquisition and leaseback of automotive real estate.
Business is going well for Capital Automotive and the company is optimistic about the next few years, said SVP and Director of Acquisitions, Willie Beck. He spoke with Automotive Buy Sell Report about the benefits a dealer gains from leasing, determining value, and the market in general.
ABSR: Describe Capital Automotive’s business model.
Willie Beck: We provide real estate capital to dealers through the acquisition and leaseback of automotive real estate. We fund 100% of fair market value so the dealer does not have equity tied up in real estate. That allows the dealer to utilize the money that might be used as a down payment for other purposes, such as acquiring additional franchises.
ABSR: Why would someone lease real estate rather than own it?
Willie Beck: It is both a financial consideration and an emotional consideration. The benefit of leasing is the dealer is able to use the equity right now rather than relying on the future appreciation in the real estate and being able to realize that years from now.
ABSR: In the Capital Automotive world what is included in “real estate?”
Willie Beck: The land and the building. For our clients we also fund periodic image upgrades and facility expansions, whatever the requirement is related to the real estate. The client is responsible for all the expenses related to the property such as the cost for maintenance, property insurance, and real estate taxes.
For many of our clients, they negotiate the land purchase and we will close on the land and then fund 100% of the costs to build the facility. If they want to, they can construct the facility and finance it through the bank, but most of our clients prefer we acquire the raw land and fund 100% of the improvements. For example, one of our clients was awarded a Nissan open point, and we purchased land for $3 million and provided $5 million to fund the construction of the improvements.
ABSR: Can you give us an overview of your business this year?
Willie Beck: We have closed $40 million of real estate fundings year to date. We have in our pipeline another $75 million scheduled to close through year end. We have issued letters of intent or are actively negotiating on about $300 million of additional business. And we have about another $700 million of deals in early discussion phase.
ABSR: So, is 2014 a good year so far?
Willie Beck: Our financial target is to acquire between $150 and $300 million in business. We are on track to reach our minimum. Our pipeline is very robust. Business is being driven by a general increase in M&A activity and facility renovations and expansions. It is split between existing clients and new clients.
ABSR: How do manufacturer image upgrade requirements affect Capital Automotive’s business?
Willie Beck: Image upgrades are good for our business to the extent our clients want to comply. That is their decision. We will fund those improvements.
The client needs to make the decision to upgrade. If they own the building rather than leasing from us, they still have to make the decision if that is right economically, then decide how to pay for it. They can do that out of their own pocket or have us fund it and roll it into the lease.
ABSR: Manufacturers claim upgrades are good for a dealership’s business. Do you agree?
Willie Beck: It depends on how much investment the dealer has in their business. An additional million dollars may make a difference whether they should invest that. It is debatable if the upgrade itself does drive more business and profits. Once the dealer makes the decision to upgrade then the dealer has to decide how to pay for it. If they have to build an entire new facility that could drive the decision to sell as well. That could mean selling the entire operation or just the real estate.
ABSR: If a dealer decided to sell just the real estate then what does he or she still own?
Willie Beck: The dealer owns intrinsic goodwill, which is expressed as a multiple of earnings — that value varies based on franchise and location — plus all hard assets. We just become a way to finance the real estate portion of the business through a transaction with us.
ABSR: How does Capital Automotive determine the real estate’s value?
Willie Beck: It is valued at the appraised value. Once that is established we determine what the underlying rent will be using typical industry metrics and our required rate of return.
ABSR: What are the lease terms?
Willie Beck: Our leases are a 20 year initial term with multiple 10 year renewal options. The rent does escalate annually based on changes in inflation.
ABSR: What happens when a brand’s fortunes change? For example, Chrysler is hot now but it sure wasn’t a few years ago.
Willie Beck: The underwriting could change overtime but when we model the proposed rent we want to make sure it can be maintained through changes in market conditions.
ABSR: Whose decision is it not to renew a lease? That is, can Capital Automotive decide not to renew?
Willie Beck: The client has the option to renew or not renew and move. We can’t decide not to renew the lease.
ABSR: Can the client sublet the facility? Or sell the goodwill but keep the real estate? What if a manufacturer decides to exercise a right of first refusal?
Willie Beck: Our leases contain the ability to assign the lease to a buyer and that is subject to our approval. A dealer can keep the lease and sublet the property to a new dealer. They can charge whatever they can get for the lease.
If a client is attempting to sell and the manufacturer exercises a right of first refusal, the new dealer would still have to meet our criteria.
ABSR: How do appraisals determine the value of a property?
Willie Beck: Three methods. The first is the cost approach. If it is a new facility, how much did it cost? That is the value. Number two is the sales comparison approach. What are comparable dealerships selling for? Number three is the income approach. There, the appraiser takes the net rental revenue and capitalizes it based on a rate an investor would be willing to pay. Our lease rates are in the 7-8 percent range today. So for example, if the rental income is $1 million at an 8 percent cap rate the value is $12.5 million.
ABSR: How are real estate values these days?
Willie Beck: They have recovered in most markets. The supply of vacant dealerships has been dealt with. Valuations have recovered. The issue is what are the facility costs compared to revenue and profitability? Is the facility and the related costs the right size for the dealership operations?
Determining value, dealers are very comfortable with having appraisals done, they are comfortable with that approach. The issue then becomes for us, is the appraised value an appropriate value for us to pay based on the cash flow of the dealership? It could be too high; perhaps the underlying land is too valuable and the dealership is not the best use for the land. In that case we are not the best solution.
ABSR: Who is your competition?
Willie Beck: Our competition is really mortgage financing through the dealers’ banks or captive finance companies. We don’t really have direct competitors.
We have deep relationships with our clients. This is not a transaction, it is a long term relationship. We provide value through the initial transaction and follow up transactions; through our industry knowledge; and by funding image upgrades or facility expansions. Call us a tenant-friendly landlord.
When dealers think about doing a transaction with us some may feel like they lose some flexibility with their real estate compared to financing through a bank. However, we have been around since 1997, are 35 employees with real estate holdings in 34 states, have a $3.6 billion portfolio and about 70 dealer groups as clients.
Anything related to the real estate that the dealer might request, we have already figured out how to fund it. We are actively expanding our existing relationships and looking forward to doing business with any other dealer groups where we are a good solution to their real estate financing need.
Willie Beck is SVP and Director of Acquisitions at Capital Automotive Resources Inc. of McLean, Va. He can be reached at wbeck@capitalautomotive.com or (703) 394-1323.
