When looking at a sale-leaseback for a gas station/convenience store, what is the purchase price based on? Is it the value of the business as a going concern, or, since the purchaser wouldn’t actually get the benefit from the business until the end of the lease, is it the value of the real estate alone?

The answer is it’s likely a combination of both, but in the case of a sale-leaseback the most critical factor in determining the value is what the rent will be post closing. What drives the rent is fundamentally the performance of the underlying business and how much it can realistically afford to pay. For example, let’s say that for a gas station the rent/sales ratio shouldn’t be more than 7% (i.e. rent should be no more than 7% of gross sales).

If this gas station, all things being equal, did $1Mil in sales, this would imply that it could afford $70K of rent. If the owner of the gas station wanted to do a sale-leaseback this is likely where the rent (NOI from the perspective of the buyer) would get pegged. Dividing that rent by an appropriate cap rate, determined based upon tenant credit worthiness, length of the lease term being offered and other factors, would give a value.

In the above example, if the cap rate assigned was 8% then the deal would have a value of $875,000.

The one caveat to this approach of valuation is that it needs to be bounded (high and low) by other factors such as what are comparable tenants paying in rent elsewhere in the market, what is the cost of developable land in that market and what is the replacement cost of the building. Said differently, the $875,000 should be tested against these other approaches to see how the answer differs.

Likely, if there is a big difference (say with market rent) you’d adjust your cap rate accordingly to take into consideration the increased/decreased risk of being able to replace the $70K of rent if that tenant went away.