Retail Solutions Forum: Should you own or lease your retail space?

All industries can interact and communicate to help out each other — ours are no different. The Retail Solutions column in our new Expert Network section is designed to be your personal retail advisory sounding-board with retail owners, managers, buyers and merchandisers from our retail advisory partner, Grassroots Outdoor Alliance, available to answer your questions. The format for this, as with other Expert Network sections, will not be unlike a “Dear Abby” for business. Together with our panel of experts, SNEWS® will offer a forum for readers to discuss a topic, chime in with their own ideas, and suggest different recommendations to a variety of business concerns or issues. Fire off a question about any topic specific to the retail business by email to retailsolutions@snewsnet.com. Our experts are standing by.

Q. I am currently leasing a space for my store, but thanks to the current economy, a nearby property has become available to buy that looks ideal in terms of location and building size. Are there advantages to buying over leasing space? Disadvantages?

A. Eight specialty outdoor retailers chimed in with various views, but weighted heavily, it appears, toward owning with a number of caveats (all responses are summarized):

Tom Jones, Wilderness Sports – A sales rep once told me, “The only retailers I deal with who are really excited about outdoor retail are the ones who own their own real estate.”

It makes total sense if you can get the payments close to what you would be paying for rent anyway. We were able to move from a ’70s-era building to a new construction, add 10 percent square footage, and start making payments on a mortgage that is only 5 percent higher than what we paid in rent. CAM (common area maintenance) fees decreased since we control them. Plus, the payment is fixed over the life of the mortgage you negotiate (probably 5 or 10 years, unless you can get it fixed for 20), so there are no surprising rent increases. As your business grows, the percentage of gross that you pay for occupancy just keeps going down as a result.

Beezer Molten, Half Moon Outfitters – In Half Moon’s opinion, buying is always better. We have found that we actually have more control on every aspect. There are better options and more flexibility if you want to move or close a store. In growing markets, there is the hope of appreciation, and you feel better about up-fitting in a nicer way if you own, which further enhances appreciation. You also have better control over things like efficiency and sustainability. It is rare to have a landlord make a decision in favor of green construction over getting it done quickly and cheaply. However, if you own the building, you can make those decisions and source building materials correctly. Too, a building stands a better chance of being a gift to a neighborhood, town or city if it is owner-occupied.

Lillie Gilbert, Wild River Outfitters – I pay taxes on a building I do not own. I pay for repairs on a building I do not own. Now, my air conditioning system needs replacing and the landlord just wants to do minor repairs. He will split the cost of a new unit as per our lease. I pay CAM fees but get little in return. If I owned this property, I would have maintenance agreements on the HVAC, etc., and would definitely take better care than the landlord does of the interior and exterior. If you can afford it, buy it!

Nat Love, Nat’s Outdoor Sports – I think the best thing I ever did was to own my own location. I was careful to locate in an up-and-coming central area that had 20+ years of foreseeable future. I also had a location that I owned in a declining area that worked, but had no future for property appreciation. My answer would be to make sure you do your homework and get into an area that has a future.

Ed McAlister, River Sports Outfitters – In the end, what does one have after 20-plus years of work? Years ago, there was lots of equity in the brands, but now there is product in any and all stores that halfway resemble the outdoors. Yes, the reps will come to your final funeral with tears in their eyes, but behind these tears, they are looking up and down the street as to who to open next week after the flowers are removed. So when you sell a business, there is some goodwill and equity, but the real estate is the real value. While maybe you are not in the latest and greatest area, if you have done your job, you are a destination store. 

Scott Brown, Base Camp – Owning our buildings has been very positive. Our building value could exceed our business value. Our buildings are held outside our retail corporation. Our rent payments, in turn, become building mortgage payments and our rent is in line with market rates. Additionally there are depreciation expenses that lower taxes. It is a good way of diversifying and protecting assets. Rather than having all of your eggs in one basket, i.e. retail, some of your eggs are in real estate. Thanks in part to strong lobbying by the National Retail Federation — in October 2008, legislation was passed that reduced the depreciation period from 39 years to 15 years on leasehold improvements. This applies to buildings purchased for retail operations. At this point, it is set to expire in January 2010, but it is hoped that it will get extended.

Scott Crook, Pack Rat Outdoor Center – My experience was that renting was more desirable for starting my business, but eventually owning made sense for the long term.

As far as leasing goes, I can think of two advantages. First, you don’t have capital tied up in real estate that could be better used on more productive things like inventory, fixtures, computers, software, etc. This could be a real benefit for a start-up business or one strapped for cash. Second, if the location proved unsuitable for whatever reason, it’s simple to move out at the end of the lease’s term, without having to worry about the cost and trouble of selling one property and purchasing another.

In spite of the above advantages, I have found that there are far more advantages to owning your building if the situation is structured correctly. First, by setting up a corporation “LLC” (preferred) or “S” type, or even a proprietorship, to own the property, and to rent it to your business, the property can be depreciated over 40 years. If it is ever sold, you only pay taxes at the capital gains tax rate, which is usually lower than the normal income tax rate. Plus you get a tax deduction for the normal repairs and maintenance of the property, taxes, insurance and other expenses that are typical to owning rental property. Think about it — your landlord is making a profit off renting the building to your business, why can’t you get the same profit? And the really good part is that income from the rental property is not taxable for Social Security purposes, saving you the 7 1/2 percent tax that you would ordinarily have to pay in Social Security tax (unless, of course, you really think Social Security will be around when you retire). And you also have the ability to customize your building and land to suit the nature of your business, without having to deal with a landlord sticking his nose into everything that you do.

Tom Valone, Great Outdoor Provision Co. – The reasons to own or rent your retail locations are many but one strategy is not necessarily better than another. It all depends on your goals. When your banker accesses your debt ratio, he takes into consideration all of your exposure, including real estate. Therefore, you can have a million dollars to spend on the necessities of running your business (inventory, fixtures, computer systems, etc.) and you have to determine if real estate is part of that equation. My goal was always to grow my business with multiple locations, so owning the real estate was not my priority. Most large retail chains operate this way so they can focus their resources on the nuts and bolts of opening new locations. I will also say I think it is important for retailers to have a diverse portfolio of revenue generation, which includes real estate and stocks/bonds.

About Grassroots Outdoor Alliance

Grassroots Outdoor Alliance unites independent outdoor retailers as a strong voice to protect and promote the experience of outdoor enthusiasts across the United States. We enable access to best business practices for our retail members, to the best equipment and apparel brands for the public, and to the backcountry for all. For more information, visit www.grassrootsoutdoors.com.