Real estate valuation (discount?) in M&A deal

December 17, 2024

by a searcher from Vlerick Business School in Zürich, Switzerland

[I searched a bit here but didn't immeadiately find the answer to my question - please do point me in the right direction if I missed a previous relevant thread]

I'm looking at a (stock) deal with a signficant component of real estate on the balance sheet - call it 40% real estate / 60% "company" for the overall valuation. Obviously this makes it a capital-heavy deal, constraining financeabiltiy and weighing on returns.
The seller has a strong preference to sell the real estate for a clean-cut rather than somehow retain it / carve it out and then lease it to the company.
Sale-and-leaseback with 3rd party investor could obviously be option in theory - but it feels tricky in this case given the quite specific nature of the real estate (significant costs would need to be incurred to convert the real estate for general commercial real estate purposes (not to mention fiscal implications of carving the real estate out of the company e.g.) - similarly, the company would face substantial costs in switching to another property).

The seller has provided what look like credible and reasonable valuation reports, based on a customary cap rate based methodology etc. But in my view these are very theoretical given the deep linkage between the real estate and the business highlighted above.

I thus see myself as a "forced buyer" of the real estate, to provide a clean solution for the seller.
In my view this means:
1 (EBITDA-based company valuation (adjusting for theoretical rental cost of course))
+
1 (theoretical real estate value)
Should not equal 2
Whether it's 1.8, 1.6, etc - I don't know and obviously there will be no rule here but rather it's a negotiation topic.

I'm wondering what the right way to approach this / build a line of argument is.
Anybody with experience in similar situations / any advice would be much appreciated.
Also pointers re investors who could actually be interested in a sale-and-leaseback deal in such a context, specifically in Switzerland.

Reply by a professional
from Bentley College in Miami, FL, USA

This is a tricky, but not uncommon situation where the deep integration of real estate and operations complicates valuation. Your instinct to adjust the theoretical real estate value downward when combined with EBITDA-based valuation makes sense — after all, you're not buying the real estate as a standalone investment, but rather as an operational necessity. Here are just a few points you could consider:

Adjust EBITDA for Rental Costs: Model a pro forma scenario where the business leases the property at market rates, even if it’s theoretical. This helps isolate the “core business” value and gives you a baseline for negotiation.

Apply a Real Estate Discount: You’ve already identified that you're a “forced buyer,” which supports the argument that the real estate value should reflect its operational specificity (lower liquidity, high conversion costs). Investors or lenders familiar with these dynamics might accept a lower effective valuation.

Sale-Leaseback Feasibility: While the property's specialized nature makes a traditional sale-leaseback harder, there are niche investors who work with operationally integrated assets. Their valuation criteria may differ, and they could still provide a clean-cut solution.

Here are a few articles that may be helpful:

-- https://www.duedilio.com/pre-loi-real-estate-valuation-strategies-for-small-business-buyers/
-- https://www.duedilio.com/when-does-buying-the-business-and-real-estate-make-sense/

Note: This response was generated using a combination of custom AI and my own internal data, research and experience in the industry to ensure it’s both comprehensive and accurate.

Reply by a searcher
from Vlerick Business School in Zürich, Switzerland

Thanks all for the very helpful feedback here. I‘ve learned a bit more about this in the meantime, also from speaking to a specialized broker locally. I was indeed thinking about this incorrectly to start - with the specificity of the real estate seemingly being as much a pro as a con for a sale-leaseback investor. The bigger hurdle seems likely to be size - with their being finite interest from investors for sub-10mish deals, at least in Switzerland. Based on my initial discussion, it felt like there was a reason chance of getting a deal done though, by selling at an above-market valuation, with a corresponding above-market rent. There are however of course non-trivial issues to be considered regarding capital gains on real estate and burdening the company with a future long-term liability and higher ongoing cash drain vs. a mortgage. Overall, I do feel it makes sense to be open-minded around acquiring real estate going forward, given - as per Kevin's point - it puts you in a better negotiating position / makes for less competitive deals, with some investors seemingly be unwilling to deal with the associated complexity. I'm no longer looking at the deal which initially triggered this post, but it remains topical in new deals I'm looking at.

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