At a time when real estate capital has become increasingly scarce and expensive, the efficiency of Safehold’s ground lease continues to stand out for building owners. Partner Insights spoke to Tim Doherty, Safehold’s Head of Investments, about the advantages of a modern ground lease relative to traditional financing in any market, the evolution of the industry’s comfort with the product type, and the path to widespread adoption.
Commercial Observer: Safehold recently surpassed $6 billion in modern ground leases and closed over $1.3 billion last year. What are some of the factors that have led to the growing adoption of ground leases as a capital source?
Tim Doherty: The biggest factor is proof of concept – we went from 12 deals in 2017 to over 130 in 2022. We have spent a lot of time out in the market educating the key participants, sponsors, lenders and lawyers, and providing a very consistent, predictable and efficiently priced product. The root of it all is that performance matters and people are seeing how Safehold’s ground lease delivers the most efficient capital in the real estate industry.
Let’s go deeper into the advantages a Safehold ground lease has over traditional real estate capital.
Safehold offers the lowest-cost, longest-term capital in real estate, which allows our clients to generate higher returns. In addition, our modern ground lease structure works alongside all other capital sources. We’ve worked with over 50 leasehold lenders, including agencies, banks, insurance companies, debt funds and REITs. We’ve proven that a Safehold ground lease maintains the liquidity of our clients’ investment and increases returns on their investment by providing a lower cost of capital.
How would you describe the perception of Safehold ground leases now as compared to five years ago?
Simply put, it’s night and day. The ground lease world was beyond fragmented. It was highly localized, utilized by families, universities, hospital systems and municipalities. No two ground leases were alike and people held misconceptions based on a few archaic examples. There was no consistency, the old leases were not tenant or lender friendly, and the economics were difficult to underwrite due to FMV adjustments, percentage rent and uncapped adjustments. When we came along, we turned the structure on its head and said, this needs to be simplified. A ground lease needs to be 1) priced efficiently, 2) have simplified economics, 3) be structured fairly with the client and 4) maintain liquidity for the leasehold owner and the leasehold lender. Consistency and simplicity have helped change the perception – we standardized the product and made it commonplace. And the evidence is there in the quantity and quality of deals; we have executed in over 30 markets within every property type on over 130 transactions.
The past year has seen rising rates and inflation. How are these factors affecting Safehold’s customers and the company’s investment approach?
No one is immune to inflation or higher rates. Everyone has to adjust to fluctuating asset values and changing cost of capital. But everything is relative. Safehold was the lowest cost and most efficient capital in that stack two years ago, when rates were low, and now that rates are higher, we are still the lowest cost and most efficient capital provider. A Safehold ground lease provides long-term efficiency to allow our clients to create higher returns and be better prepared for volatility.
How would you characterize the diversity of Safehold’s customer base?
Our portfolio has client, asset type and geographic diversity. We have closed transactions with clients ranging from international core and core-plus funds to regional and local owner-operators in all assets classes and in the top 30 MSAs in the country. With each transaction, we continue to educate the market and prove with experience and execution that our capital is efficient for everyone and for every capital stack.
Talk about how a Safehold ground lease impacts leasehold liquidity.
Very little. There are two distinct assets, the land and the building. All we are doing is helping monetize those two distinct assets in the most efficient way. Due to our simplified, tenant and lender friendly structure, the liquidity of the building stays the same. With almost six years of track record we have now started to see our clients sell or recapitalize their leasehold positions. The cap rates are on top of the fee simple cap rates.
As an example, a multifamily asset recently traded in Nashville. Our client had done a ground lease with us three years prior upon acquisition of the asset. Fast forward to six months ago, they sold their position at a 4.0%. Looking around the market over the same timeframe, the fee simple assets of similar quality and location were trading between a 4.0% – 4.25% cap rate. Therefore, in this example, the leasehold traded on top of the fee simple cap rates.
How do you envision ground leases reaching the next level of widespread adoption?
Education, implementation and listening to our clients so we can address their concerns. We have a large team in all markets across the country working to grow our portfolio and educate the market on the benefits of Safehold’s modern ground lease. Going from $300 million and 12 deals to $6 billion on over 130 deals didn’t happen overnight. It took five-and-a-half years. We expect that to continue as proof of concept continues to spread. Deals beget other deals, relationships beget other deals. Over 60% of Safehold’s existing customer base have closed, requested, or are currently reviewing another deal with us. We offer the most efficient capital, enhance our clients’ returns and maintain their liquidity. That message has been consistent from day one and with each of our deals we are demonstrating the benefits of our modern ground lease structure.