No. The buyer of Alder Point paid 7,619,048 above the building's market-rent value and receives 520,000 a year of over-rent for twelve years. Undiscounted, that stream totals 6,240,000 — a shortfall of 1,379,048 before the time value of money is considered at all. The over-price was set by capitalising the over-rent at the property yield of 5.25 per cent, which treats a finite income as perpetual. It runs for twelve years and then stops.
The rent is chosen, not discovered
In an ordinary letting the rent is discovered. A landlord owns space, a tenant wants it, and comparable transactions set the range within which the two negotiate. In a sale-and-leaseback the seller is also the tenant. The same party chooses the rent it will pay and receives the price that rent supports, and because price is a multiple of rent, choosing a higher rent produces a higher price. Nothing is hidden and nothing is improper. It simply means the price is not evidence of what the building is worth.
Northgate sold Alder Point in 2022 and took a twelve-year lease back on it. Market rent for space of that specification, in that location, at that date was 5,900,000. Northgate chose 6,420,000 — 8.8 per cent above market. On the gross-to-net basis used throughout, the market-rent value of the building is 112,380,952. The buyer paid 120,000,000. The difference, 7,619,048, is the over-price, and what it buys is 520,000 a year of over-rent for twelve years.
The nominal test comes first
Before any discounting, add the over-rent up.
Item
Amount
Over-rent, a year
520,000
Over-rent received over the twelve-year term
6,240,000
Over-price paid
7,619,048
Shortfall to the buyer
1,379,048
Every extra euro of rent, undiscounted, comes to 82 per cent of the premium paid.
Most people meeting this for the first time assume an error. There is none. It follows directly from the yields involved.
Why the capitalisation overstates it
The over-price is the over-rent capitalised at the property yield. 520,000 divided by 0.0525 is 9,904,762, which on the same gross-to-net convention gives the 7,619,048 actually paid. Capitalising at 5.25 per cent treats the over-rent as perpetual. It is not perpetual. It runs for twelve years and then stops, and a perpetuity formula applied to an income that terminates overstates it by a factor that depends on the term.
Valued as what it is — a twelve-year annuity — the same stream is worth far less, at every plausible rate.
Discount rate
Value of the over-rent
3%
5,177,000
5%
4,610,000
7%
4,130,197
9%
3,724,000
11%
3,378,000
A twelve-year annuity of 520,000, against an over-price of 7,619,048. The error is not in the discount rate.
Seven per cent is roughly what an unsecured obligation of a solid but unrated logistics operator costs, and the over-rent is exactly that: an unsecured promise rather than a property income, because it exists only while the tenant keeps the lease. At that rate the annuity factor is 7.9427 and the stream is worth 4,130,197. Fair price is therefore 112,380,952 plus 4,130,197, or 116,511,149, against 120,000,000 paid — an overpayment of 3,488,851. Expressed on passing rent, that is a yield of 5.35 per cent paid where 5.51 per cent was fair. Sixteen basis points, which is why over-rented long-income transactions look so tight when priced by the market convention: the convention builds the error in.
Turn the trade round and it becomes plainer still. The over-price is a loan from the buyer to the tenant, repaid by the over-rent, and the loan is never repaid, so the implied credit spread is negative. For the advance to earn 7 per cent, the over-rent would have had to be 959,260 a year — a rent of 6,859,260, or 16.3 per cent above market rather than 8.8. The buyer is compensated at 54 per cent of the appropriate rate.
A longer lease does not rescue the arithmetic, and a weaker covenant makes it worse. Meridian Works, a specialist facility sold on a twenty-year lease at a passing rent of 4,480,000, carries perhaps 900,000 of over-rent. Capitalised at the 7.0 per cent entry yield that supports 12,857,143 of price; valued as a twenty-year annuity at a credit-appropriate 8 per cent it is worth 8,836,290. The overpayment is 4,020,853, or 6.3 per cent of the 64,000,000 price — proportionally worse than Alder Point despite the longer term, because the annuity factor is far more sensitive to the rate than to the term once the term passes about fifteen years. With over-rent, the credit assumption matters more than the lease length. Buyers habitually do the opposite.
What to do with it
Establish market rent from independent evidence, not from a valuer instructed by the party that chose the rent, and state the over-rent in euros and as a percentage. Above 15 per cent, the transaction is primarily a financing and should be underwritten as one.
Value the over-rent as a finite annuity at a credit-appropriate rate. Never capitalise it at the property yield.
Compute the ratio of price to vacant possession value. At 120,000,000 against roughly 91,500,000, Alder Point is 1.31 times, which is defensible for a strong covenant on a well-located asset. Above 1.5 times the building is incidental and what is being bought is corporate credit.
Model the tenant failing. If it goes in year five, the buyer has collected 2,600,000 of over-rent in nominal terms, about 2,132,000 in present value, against an over-price of 7,619,048 — a loss of roughly 5,487,000 on the over-price alone, entirely separate from any movement in the property market.
What survives that exercise is an honest description of the transaction. The buyer of an over-rented sale-and-leaseback has not bought a secure long income at a modest yield. The buyer has bought a market-rented building, plus a badly priced unsecured loan to the tenant, plus a requirement for rental growth of about 0.26 per cent a year above what is already priced in to close the gap. That may still be a good trade. It is not the low-risk proposition the structure resembles, and the remedy takes fifteen minutes.
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