By James A. Schnur, CCIM
President and Designated Managing Broker
Integrated Real Estate Solutions
LinkedIn
Introduction
Outsourcing real estate ownership and management through partial and full sale-leasebacks is now a proven business strategy for banks to increase Shareholder Value by:
1) Reduce operating expenses, thereby increasing EBITDA and stock price.
2) Increase non–dilutive capital
3) Redeploy capital tied up in operational real estate to the next generation banking model which primarily utilizes large investments in technology for remote/virtual banking customer experiences.
Physical vs. Virtual / Web-Based Banking: Avoid a Binary Decision on Closing Branches
Historically, banks have had to make a binary decision regarding their bank branches, “Do we keep a branch open or do we close it?” However, there is an alternative to this approach. A bank may consider a sale-leaseback wherein the bank sells its branch but only leases back a smaller footprint. This allows the bank to maintain a presence in the community at large while downsizing and can use the capital to improve their Next Generation banking capabilities.
The benefits of downsizing are numerous. The bank can eliminate redundancies, adapt to changes in demographics, and maintain a continued presence in a market while eliminating excess space and expenses. Additionally, the ability for banks to downsize will allow for other businesses to lease the vacated space which results in more foot traffic and potential customers.
Increasing EBITDA & Stock Price: Outsourcing Real Estate Operations and Management Can Result in Cost Reduction and Efficiency
Outsourcing management of the corporate real estate is an effective strategy for national, regional, and community banks to focus their personnel on bank-centric activities. Tightened regulation, coupled with the increasing need to expand IT capabilities, creates a narrow window for cutting non-interest expenses.
Larger institutions can save up to 10% on non-interest expenses by outsourcing real estate functions and with smaller banks, outsourcing can reduce operating costs up to 20% if strategically approached.1 In addition, third-party management companies, specializing in property management, can often reduce third-party costs under economies of scale.
The outsourcing of management will also allow banks to focus on their core business. Real estate companies are equipped and prepared to adapt to market necessities and facility issues – such as hiring third-party vendors, building repair and maintenance issues, utility problems, and property taxes – quickly and efficiently.
Increase Stock Price: Reduced Expenses Can Improve Key Metrics Used to Evaluate Bank Performance
For banks, the efficiency ratio is non-interest expense divided by revenues. This ratio shows how well the bank controls its overhead. An efficiency ratio of 50% or under is considered optimal. If the efficiency ratio increases, it means that the bank’s expenses are increasing and/or its revenues are decreasing. Given historic low net interest margins, banks are very focused on reducing non-interest expenses.
After employee compensation, IT, and compliance costs, real estate is the largest non-interest expense for banks. Ideally, a bank’s goal is to have a percentage at or below 1.1% of Average Assets. Utilizing the partial sale-leaseback approach provides banks with a tool to reduce real estate and related equipment expenses, thereby having a positive effect on the average asset metric, with minimal to no disruption of essential bank activities.
Increasing Non-Dilutive Capital: Recent Changes in FASB Result in Sale-Leasebacks Being More Strategic to Banks
One major catalyst for embracing this New Approach is the issuance of the 2016 FASB (Financial Accounting Standards Board), FASB Standards update 2016-02, Leasing (Topic 842) ASC (842) and ASC (606), Topic 842, Leases that enables banks to recognize immediate non-dilutive capital that can be used to meet strategic goals, provide additional lending capacity, and offset lending losses, etc.
FASB regulation ASC (842) and ASC (606) states that if a bank sells a branch and there is a gain to the transaction, the bank can recognize that gain immediately instead of the previous rule which required the bank to amortize the gain over the term of the lease. This non-dilutive capital can improve the balance sheet. Newly realized capital can be repurposed for bank-centric activities such as increasing capital required for bank growth, both organic and/or through mergers and acquisitions compliance costs, information technology (“IT”) investment, and offsetting anticipated COVID-19 loan losses.
1 Hidden in Plain Sight: Real Estate’s Untapped Potential to Move the Efficiency Ratio. JLL
Integrated Real Estate Solutions, Inc. provides clients with the in-depth knowledge and experience that is critical to determine the right path to your next move, lease renewal, or strategic re-positioning of your real estate portfolio. Contact us or call 847.550.0160 today about your needs, and put our success to work for you.
