Written by Alysha Webb
Understanding the Stakes
Many aspects of negotiating a buy-sell are fairly straightforward. Even with Blue Sky, which represents an intangible asset, there are reports available for guidance.
Real estate, on the other hand, may seem straightforward but can be very difficult to value correctly. Going into a buy-sell negotiation without a clear understanding of the value of your dealership’s real estate is a recipe for trouble.
The Challenge of Accurate Valuation
Valuing a dealership’s real estate incorrectly can result in leaving “millions of dollars on the table when you do a deal,” explained James Mitchell, EVP of CBRE Auto Dealership Capital Markets.
The real estate value represents up to half the price of a dealership, yet the data used can be very opaque, he noted, adding that “you can have one property appraised by five different guys and they’re all going to come up with a different number.”
There are few comparables for auto dealership real estate, so appraisers must rely on a significant amount of guesswork, Mitchell remarked. CBRE has completed the largest volume of appraisals in the country over the past two decades, he added, but even its appraisers “have a tough job” when it comes to identifying reliable, comparable data, meaning from the past year or two.
Inexperienced appraisers may include some Blue Sky value in the real estate valuation, explained Erin Rice, vice president of CBRE Auto Dealership Capital Markets. As a result, even when comparable information exists, they may be using the wrong numbers to derive the property’s value.
Other professionals in the buy-sell space agreed that real estate can be particularly challenging in negotiations.
The real estate appraisal process, or due diligence in a purchase negotiation, is always “fraught with distrust,” said James “JT” Taylor, managing partner at Accrual Equity Partners. Each side thinks an appraiser chosen by the other side could be influenced, he explained.
One way around that, Taylor noted, is to have the buyer’s or seller’s lender conduct the appraisal. The risk, he added, is that bank appraisals are “always low.” However, he emphasized, that is endemic to the whole appraisal industry.
Market Rent Matters
At Kerrigan Advisors, a sell-side advisory to dealers, “one of the first things we need to do is get the real estate appraised by a reputable appraisal firm, typically a firm that has a national reputation, not simply a local firm,” explained Erin Kerrigan, founder and managing director of Kerrigan Advisors.
When they have that appraisal, Kerrigan Advisors adjusts the rent the dealer charges themselves to a market rate. “Right now, seven percent is a good capital rate for the market,” she noted.
A dealer doesn’t have to charge themselves the market rate, so the adjustment may impact earnings, Kerrigan explained. In any case, the adjusted earnings reflect what an investor can expect to earn, and those are the earnings Kerrigan Advisors uses to analyze a dealership’s Blue Sky value.
Taylor noted that his firm always advises dealers to charge market rent because “that’s just fair.”
Often, the reason for not charging market rent is “altruistic,” he commented, meaning the owner doesn’t want to affect the pay plan of a long-time employee or “stress out” a son or daughter who is part of the business.
If you charge yourself market rent, Taylor noted, there is no addition or deduction from your annual income.
Owning vs. Leasing
In Kerrigan Advisors’ experience, most dealers own their real estate, and most buyers want to own, Kerrigan pointed out. Manufacturers generally require investment in a dealership’s real estate every five to ten years, she added, and “if you don’t own the dirt, the financing of that improvement is expensive and the ability to retain the value is unclear.”
Franchise value is also tied to location, she emphasized, and it can be difficult to find another location if the dealer doesn’t own the real estate.
There are alternative forms of real estate ownership available to dealers, however. A sale leaseback arrangement, in which another firm buys the real estate from the dealer who then rents it back, can be beneficial, Taylor explained. Real Estate Investment Trusts, or REITs, are one type of investment entity that engages in sale leaseback transactions.
On the buy side, using a sale leaseback is a good option to fund a large goodwill number for a prime dealership, he highlighted.
If you want to learn more about sale leaseback strategies, check out our previous webinar featuring guest speakers from Surmount and Capital Automotive here.
Investor Perspective
As car dealerships are very low-risk commercial investments, Taylor explained, they “are great vessels for investors to aggregate a lot of real estate.” Even with a seven percent cap rate, “that’s still a pretty good return,” he added.
Manufacturers seldom have restrictions on the real estate side of a deal; they just want to make sure the dealer is paying a fair market rent, Taylor noted. Nonetheless, investors without good knowledge of the retail auto market tend to avoid dealership real estate because they consider the market too volatile, he explained.
Most don’t understand all the different “triggers and levers” a dealer can pull to maintain profitability, Taylor highlighted. “They just watch General Motors stock go up and down because of market demand and don’t understand that the dealers are riding the top of the story.”
Real estate is often the single largest asset in a dealership transaction, and its proper valuation can significantly impact the outcome of any buy-sell deal. Whether it’s understanding market rent, choosing the right appraisal method, or evaluating ownership options, dealers and investors alike benefit from a clear, data-driven approach. By carefully considering these factors, you can protect value, reduce risk, and set the stage for a successful transaction. In the end, mastering the real estate component is not just about numbers, it’s about making informed decisions that shape the entire deal.