Our company operates out of a commercial building that I personally own through a separate LLC, and I currently charge the business above-market rent. How do we normalize this lease arrangement and clean up our balance sheet before we begin conversations with potential buyers?

Question

Tyler Smith · Accepted Answer

To a buyer, your real estate and your operating business are two completely distinct investments. Charging above-market rent is a common way for owners to pull cash out of a business, but it artificially depresses your operating company EBITDA and will ultimately lower your business valuation. You must normalize this arrangement immediately before you begin the marketing process.

Start by commissioning an independent local commercial real estate broker to perform a market lease rate assessment. This assessment gives you the objective data needed to draft a new, arm's length lease agreement between your real estate LLC and the operating business. The new lease must reflect true market rates and terms, such as a triple net lease or gross lease, that are typical for your industry and geography.

When you adjust this rent downward to market levels, the difference flows directly to your bottom line, instantly increasing your EBITDA. During due diligence, the buyer will review your normalized financial statements to verify this adjustment. You should also decide if you want to sell the real estate with the business or keep it as a landlord. If you keep it, a buyer will require a long term lease, typically five to ten years, to ensure operational continuity. Address this lease structure now so it does not become a sticking point that stalls negotiations later on.