(Reuters) - The success of Hudson’s Bay Co Executive Chairman Richard Baker’s $1.3 billion bid to take the department store operator private hinges on whether an independent valuator will view the company more as a retailer and less as a real estate owner, corporate governance experts and analysts said.

FILE PHOTO - U.S. flags fly outside of Saks Fifth Avenue in New York, U.S., June 19, 2017. REUTERS/Lucas Jackson/File Photo

Much of Hudson’s Bay’s value is locked up in its real estate. Were the company to sell off some of its properties to raise cash, it could fetch more than what Baker offered, but would then be forced to pay rent to run some of its stores.

Baker’s buyout consortium, which already owns 57% of Hudson’s Bay, has made a C$9.45 per share offer for the remainder of the Canadian company, a 48% premium to where the stock was trading before the announcement.

However, some of the minority shareholders, including hedge fund Land & Buildings Investment Management LLC, say they value the company’s assets at between C$28 and C$33 per share. Hudson’s Bay shares ended trading on Friday at C$9.73, above the C$9.45 offer price, as investors bet on a sweetened bid.

The big valuation gap is due to disagreements over how much of Hudson’s Bay’s prime real estate can be divested while keeping it operational. Selling off property raises cash but also makes it more financially burdensome for the company to rent the space for the stores it operates. As a result, it would likely close stores, and its retail footprint would begin to shrink.

“There is judgment to be exercised on the valuation, which can always be challenging,” said Catherine McCall, the executive director of the Canadian Coalition for Good Governance, an organization representing institutional shareholders in Canadian public companies.

Hudson’s Bay operates 39 stores under its Saks Fifth Avenue brand, 133 stores under its Saks OFF 5th brand, more than 40 stores under the Lord + Taylor banner, 90 Hudson’s Bay department stores, as well as 37 stores in Canada which the company plans to close this year under the Home Outfitters brand.

Hudson’s Bay’s trophy asset is the Saks Fifth Avenue building in Manhattan, which this year completed a $250 million renovation.

Hudson’s Bay’s most recent public estimate for the value of its real estate was in September 2018, when CEO Helena Foulkes pegged it at $28 per share. Baker has offered about a third of that because he argues that the company would have to all but liquidate to achieve all the real estate value.

Toronto-Dominion Bank, which has been hired by a Hudson’s Bay board committee to independently evaluate the take-private deal, will recommend whether the company should accept the offer as fair, or reject it and try to negotiate further.

The board committee excludes representatives of Baker’s buyout consortium and is granted power to prevent any deal, even if the prospective acquirers otherwise control the company. In an illustration of this, a special board committee sank the hopes of Nordstrom Inc’s founding family group last year to take the U.S. department store operator private, after it rejected their $8.4 billion offer.

The methodology Toronto-Dominion Bank uses to value the bid for Hudson’s Bay will be key to the outcome and will be scrutinized heavily by shareholders. The bank will likely be assessing how comparable companies’ shares trade, research similar deals and consider how much a financial buyer like a private equity firm would pay, said Andrey Golubov, a professor of finance at the University of Toronto.

“It’s not done just to justify the offer. That said, valuation is not a science,” Golubov said.

Hudson’s Bay declined to comment, as did a spokesman for Baker’s buyout consortium. Spokespeople for TD Bank did not respond to requests for comment.

CASHING OUT ON REAL ESTATE

Sale lease-back arrangements in which retailers sell their properties and become tenants in their stores have become increasingly popular in the last few years as the downturn in brick-and-mortar retail brought about by the rise of internet shopping has put pressure on retailers to raise cash.

However, some retailers resist them because they view the rent obligation as burdensome, a stance that often attracts investor criticism. Macy’s Inc for example, another department store operator, was pressured by hedge fund Starboard Value LP three years ago to do more to cash out on its real estate.

Even if Toronto-Dominion Bank blesses an offer from Baker’s consortium and the board committee negotiating a deal approves it, the acquisition still faces some hurdles.

A majority of the shareholders who are not affiliated with the buyout consortium have to vote for it, accounting for about 21.5 percent of the company’s shareholder base. Opponents could still challenge the deal in court when the company seeks approval for it before a judge under the Canada Business Corporations Act.

But successful legal challenges of deals that have followed the process for management buyouts outlined by the Ontario Securities Commission, as Hudson’s Bay is seeking to do, are rare.

“Most of these deals get done once they get board approval and a transaction agreement gets signed,” said Jeremy Fraiberg, chair of the mergers and acquisitions group at Osler, Hoskin & Harcourt LLP.