NEW YORK CITY—Hudson's Bay Company has announced plans for a $1.25 billion, 20-year, interest only mortgage on the ground portion of its Saks Fifth Avenue flagship store at 611 5th Ave. The transaction is expected to close in early December.

An independent appraiser valued the entire property at $3.7 billion based on the assumption that the entire property is net leased by Saks Fifth Avenue at an estimated current fair market rent.Morgan Stanley Bank, Goldman Sachs Mortgage Co. and the Bank of Nova Scotia, independently commissioned a leading international appraiser to provide appraisals of the land and the building. 

In a conference call regarding the mortgage, governor and CEO Richard Baker said, “As we worked to advance and realize value from our real estate portfolio, it became obvious to us that this property is unique and should be treated differently than our other properties.”

He continued, “A $250 million renovation of the store that will start in the first half of 2015 is intended to significantly enhance the store's productivity and EBITDA, which we believe will significantly grow the value of the asset.”

Further, says Baker, “This mortgage transaction allows us to capitalize on the value of this asset today, but also provides structural flexibility to capture additional value creation in the future.”

All proceeds from the financing, net of associated cash expenses, will be used to permanently pay down approximately $1.2 billion of HBC's first lien term loan, which currently bears interest at a floating rate of 4.75% and matures in 2020. 

With an expected fixed interest rate of less than 4.40% on the Saks ground mortgage, this transaction will result in a reduction to annualized cash interest expense of at least $5 million (in Canadian dollars).

The Saks ground mortgage is interest-only and does not require any principal amortization over its 20 year term. The transaction will result in approximately $76 million of one-time expenses, including about $33 million that are non-cash and will be reflected in finance costs in the fourth quarter of fiscal 2014. 

The remaining $43 million of expenses, which includes a mortgage recording tax of US$35 million, are expected to be capitalized and amortized as finance costs over the term of the loan.

Following this transaction, approximately 80% of HBC's debt will be backed by high-quality real estate, inventory and receivables, allowing it to benefit from attractive debt pricing, with limited or no recourse to HBC's other retail operations. 

Additionally, the company's capital structure is greatly enhanced through securing 20 year money. Prior to this transaction, the weighted-average term to maturity of HBC's funded debt was 5.3 years compared to 11.5 years pro forma this transaction.