Safehold unlocking value with new generation of ground leases

Safehold unlocking value with new generation of ground leases

a large building with a spiral staircase going up the side of it.

Over the past few decades, real estate finance and investment markets have become much more efficient – except in one big area. In an investment world that demands efficient use of capital, why are building owners that are targeting a return of 15 percent or more using their capital to own the underlying land, which returns something closer to three percent? The answer is they shouldn’t be, especially when that land comprises more than a third of their overall investment.

Enter the ground lease.

Historically, ground leases were structured in favor of the landowner, often including one-sided provisions and ambiguous terms that created significant future uncertainty. Older ground leases often impaired the owner’s ability to leverage a building and adversely impacted the overall value when the time came to sell. These impediments made ground leases a challenging source of capital and, as a result, they fell out of favor with sophisticated real estate investors.

The problem was clear: nobody had focused on creating a standardized, leasehold-friendly, value-enhancing ground lease structure adapted to work seamlessly with the modern finance and investment markets.

That changed in 2017 when Safehold pioneered what is now known as the modern ground lease industry.

A new generation of ground leases

Safehold set out to eliminate value-destroying provisions from the ground lease, most notably fair market value resets, an innovation decades overdue. Old ground leases had provisions that allowed the landowner to revalue and raise the rent, usually to the detriment of the leaseholder. Safehold’s structure also removes unnecessary and restrictive covenants that impair the leaseholder’s ability to execute their business plan, such as requiring permission from the landlord when they want to upgrade or sell their building.

Modern ground leases help building owners reduce equity requirements and achieve higher returns with less maturity risk and significant tax advantages, untethered by the land beneath their asset.

“We started by making sure this process worked with the leasehold lending market, sizing our ground leases appropriately, pricing them as low as possible, structuring them in the clearest and simplest way,” explains Jay Sugarman, Safehold’s Chairman and CEO. “When you do those three things, both the leasehold financing market and the future buyer market suddenly take notice and start seeing that this is actually very attractive capital. You can own the building without having to dilute your returns by effectively owning a much lower return, passive land position.”

Safehold’s reinvented ground lease structure has become a tool that commercial real estate owners, operators and developers are increasingly leveraging at every phase of an asset’s life cycle: when assets are bought, sold, refinanced or at initial development.


Addressing the ability to resell assets on a ground lease has been a common theme in Safehold’s market education process.

“A properly structured, properly priced, properly sized modern ground lease not only helps you today, it allows that asset to trade most efficiently in the future, while not impairing your ability to get leverage on the building or sell the asset at a tight cap rate,” says Sugarman.

We know from our 30 years of experience in the commercial real estate world that if you can’t underwrite it, you’re probably going to take a very conservative viewpoint. So, we stripped out all the provisions that made underwriting difficult in the future. When you make underwriting simple, markets can get very efficient and pricing can become optimal.

Unlocking embedded value

The following example compares a fee simple capital stack with a Safehold ground lease for a building with a $100m purchase price, highlighting enhanced cash-on-cash yields and IRRs with less equity required when owners bifurcate their property.

Putting the customer first

Along with standardizing the ground lease and removing its value-destroying elements, introducing a customer-oriented approach was one of the defining innovations of the modern ground lease industry

“We’re always trying to understand what our customer’s needs are and that has never been done before in the ground lease space,” says Sugarman. “We’re creating new ground leases for customers because it is a better solution. It is a better alternative to maximize value and reduce their risk. The more deals we do, the better we get at the business, the more it benefits our customers. We’re in this virtuous circle right now.

“We have been building the foundation brick by brick. On the financial side, getting to investment-grade ratings was a big, important milestone. It’s going to allow us to serve our customers faster with even lower cost of capital to be even more flexible. We’ve also built a terrific team of industry experts who work closely with our customers to share the latest knowledge about how ground leases can work best in their capital structures. We think that’s a material advantage going forward.

“The bottom line for building owners is, Safehold can help you make more money with less risk and help you be much more efficient with your capital. If your IRR goes up and your risk profile goes down, boy, that’s a compelling argument.

Momentum breeds success

Safehold now has more than 50 leasehold lenders comfortable with its structure. Over half of the company’s tenants across a $4.5 billion portfolio have become repeat customers, evidence the industry is increasingly grasping the powerful competitive advantage a modern ground lease provides.

“Much like some other fast-growing businesses, there are network effects,” Sugarman explains. “The more people who know you, the more credibility you have with leasehold lenders, the more high-quality customers, the more markets you’re in – they all feed off each other. The head start we have with all these unique attributes sets us up very well to continue to penetrate the market in a way that I think others will find very difficult to replicate.”

“We think others will find some niches that don’t make as much sense for us to play in. We’re really trying to be the lowest cost, longest term, most efficient capital provider. And we think being the biggest, having the lowest cost structure, and being able to provide the lowest cost capital is ultimately what customers want.”

Looking ahead

Nearly five years after sparking a revolution in commercial real estate ownership, Sugarman believes the future is bright for Safehold and the company’s forward-thinking customers.

“When we created this business, we saw the potential to build something big. And here we are, approaching $5 billion in ground leases. It’s been a very good start, but we feel like we’ve really just begun executing on our potential. We’ve built some real competitive moats and real competitive advantages. I don’t see any reason why we can’t continue to be the dominant player in the industry and continue to expand the market for modern ground leases.”

Unpredictable economic headwinds are creating challenging conditions for owners, lenders and buyers to have conviction in their valuations.

This is leading to a lack of liquidity in the capital markets, where owners are hesitant to sell at higher cap rates. Meanwhile, buyers and lenders are reluctant to execute transactions without a clearer sense of the cost of capital in the near term.

Consequently, the commercial real estate industry is at a crossroads, and building owners that have historically focused on traditional fee simple ownership are becoming increasingly open to more efficient capitalization strategies.

As a leader in the modern ground lease industry, Safehold helps asset owners maximize the efficiency of their capital stacks by providing low-cost capital — all while mitigating development and debt maturity risks and generating a strong return profile, said Tim Doherty, Safehold’s recently appointed Chief Investment Officer.

“Existing owners are facing refinancing at higher costs and potentially lower proceeds,” Doherty told Bisnow’s Studio B. “Developers are also seeing lower debt proceeds and higher pricing, and buyers are struggling to meet the bid-ask spread.”

Bisnow spoke with Doherty to learn more about what he is seeing in the market and the advantages of modern ground leases in all economic conditions.

Bisnow: How would you characterize the mindset of building owners and developers in this market?

Doherty: The volatile market has definitely made it difficult for owners, lenders and buyers to have confidence in their valuations, leading to a standstill in the capital markets. Owners don’t want to sell at higher cap rates, and buyers and lenders are not confident where the cost of capital will be in the near term to execute deals.

But we are seeing market transaction volume increase. People are picking their spots and executing where there is liquidity. They’re going after markets where the valuations have changed, but the fundamentals haven’t. Multifamily and industrial are great examples of product types that continue to have strong fundamentals.

Bisnow: Safehold pioneered the modern ground lease. How has the perception of ground leases changed since then?

Doherty: Pretty dramatically. When we started, the market’s perception was very different from what it is today. Before we created the modern ground lease, they were inconsistent, poorly conceived and overly complicated. We provided consistency and simplicity, taking into account the interests of all participants, including lenders and owners.

We’ve now executed over $6B on more than 135 deals across numerous markets and asset classes for different types of capital needs. This includes development, acquisition and recapitalization. It’s one thing to see the hypothetical concept. It’s another to actually see it working in practice and generating higher returns for owners, operators and developers.

With over seven years of track record, we have seen several round trips and refinancings of leasehold positions, which have demonstrated the liquidity of the leasehold position as well as the increased returns for our clients.

Bisnow: What are the key structural advantages of a modern ground lease relative to traditional real estate capital?

Doherty: It goes back to the cost of capital. We’re a low-cost provider, and cheaper than all other CRE capital available. Simplicity, consistency and a low cost of capital allow us to provide our customers with accretive, passive capital to drive better returns.

Leasehold owners benefit from less equity required upfront, eliminating friction costs throughout the term and significantly reducing refinancing risk.

Bisnow: What is your investment team focused on in the near term?

Doherty: In a volatile market, you’re always looking for sectors and deals that are actionable. You’re going into areas that are impacted on the value side, but not the fundamental side. Office has been hit on both, so that’s a very difficult one for people to peg down. You don’t know what your revenues are or what the valuation method is yet.

Residential, including multifamily, student housing and build-to-rent, is the biggest sector we’re focusing on right now because the fundamentals have not changed, even if certain markets might be seeing near-term deliveries.

Existing owners are facing refinancing at potentially less proceeds than they currently have outstanding. This is creating a capital need that can come in the form of fresh equity, such as cash in from the existing owner or new, high-priced preferred equity.

Alternatively, Safehold’s low-cost, highly accretive capital enables owners to create a more efficient, conservatively priced capital stack that reduces and, in some cases, eliminates the need for additional equity required while driving better returns.

Bisnow: How do Safehold ground leases impact leasehold liquidity when building owners sell their assets?

Doherty: We’ve seen 42 sales and refinancings behind our ground leases, so the proof of concept is there. In these transactions, the cap rates have been very similar to fee simple comparable transactions, both on multifamily and office assets, with a range of no spread on cap rate to about 10 to 15 basis points.

Having a track record on third-party market transactions has been a powerful part of the liquidity story for Safehold’s modern ground lease assets.

Bisnow: How should owners evaluate the option of a modern ground lease structure for their needs?

Doherty: We’re always here to help new clients understand the benefits for their assets as well as the liquidity track record we have seen produced with our existing clients.

In today’s current environment, we are seeing a lot of demand across all property types. The most active market is currently multifamily — acquisitions, development and recapitalization. The ground lease creates a lower blended cost of capital than fee simple stacks for all scenarios.

The added benefit today in the higher-rate environment is in recapitalizations. If an asset was purchased three years ago with 65% leverage, a 100-to-125-basis-point move in cap rates would make the debt now 85%, requiring a cash-in refinance on a fee simple basis of approximately 10% to 25% of the debt balance.

Alternatively, if the same property was recapitalized with a Safehold ground lease and a bank or agency first mortgage, the equity could refinance 100% of the in-place debt and, in some cases, take cash out upon recapitalization.

Overall, we’re still in the early innings of this business with tremendous growth potential for Safehold and our customers.

6 min read

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