Limitation on Sale and Leaseback: Definition

Limitation on sale and leaseback is a bond covenant that restricts the issuer and its restricted subsidiaries from selling an asset and then leasing it back, unless they could have borrowed an equivalent amount as secured debt or they use the sale proceeds to repay debt.

What it means

In a sale and leaseback, a company sells a building, plant or piece of equipment and immediately leases it back from the buyer. The company keeps using the asset but pockets cash today in exchange for a stream of future lease payments — economically, much the same as borrowing against the asset.

Because the deal mimics secured borrowing, an issuer could use it to sidestep the covenants that cap secured debt, such as the limitation on liens. The limitation on sale and leaseback closes that loophole. A typical clause permits the transaction only if the company could have incurred a lien securing the same amount of debt under the liens covenant, or if it applies the net proceeds to repay senior or secured debt within a set period. Investment-grade indentures often pair this covenant with the negative pledge as one of their few protective clauses.

Why it matters for bond investors

Every sale and leaseback removes an unencumbered asset from the pool available to unsecured bondholders in a default, while adding a lease obligation that ranks ahead of them in practice. The covenant preserves the asset backing that investors priced when they bought the bond. When comparing two bonds of similar yield, the one whose indenture includes this protection leaves fewer ways for the issuer to quietly erode recovery prospects.

This definition is for general information only and is not investment advice. Bond investing involves risk, including possible loss of principal.

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