There are some downsides to real estate ownership that can make leasing desirable.
In the mid-2000s, many dealers were "coerced by the manufacturers into overbuilding" new stores or making store improvements, says Mike Issa, California managing principal of financial advisory firm GlassRatner Advisory & Capital Group in Irvine, Calif.
Generally, dealers got a new mortgage for a major renovation or new building, Issa says. For smaller projects, many just added a second mortgage to the existing first mortgage loan.
Then the recession hit and several dealers had to file for bankruptcy protection because they could not afford the mortgage payments when sales tanked, Issa says.
For those who survived, Issa says, in many cases, "the real estate is not worth their original cost and in some cases isn't even worth the note balance, making the extension or refinancing of the loan a real challenge."
Another downside to ownership can be location. Issa says he is working with a client whose dealership is in an economically declining market.
"There would be no market for his real estate other than as a package sale with his franchise," Issa says. "And a buyer would likely conclude that the economics favor leasing in a declining market versus owning, with the attendant hassle associated with financing a substantial real estate buy in a declining market."
Dealers who have done big renovations might be stuck with a building that's hard to sell, says Jay Ferriero, COO of Capital Automotive REIT in McLean, Va. Capital Automotive owns $3.6 billion in dealership real estate in 37 states, leasing it mostly to dealers.
"The upgrades have made the building worth more, but it's also more risky," Ferriero says. "The more expensive the building is, the harder it is to find a tenant."
Ferriero has long leases for that reason. "The reality is: Who's going to pay the most for it besides the guy with the current brand?" Ferriero says. "Nobody fits better than the current tenant."