Friday, February 19, 2010

Blackstone Betting On Retail Real Estate
Here is a Bloomberg article stating that Blackstone may assist Simon Property in its attempt to acquire regional mall owner General Growth.  The article also states that Blackstone is forming a joint venture with Glimcher Realty Trust for malls in Portland, OR and Tampa, FL.   Retail real estate was hard hit in the real estate downturn and it looks like investors are staring to return.

Wednesday, February 17, 2010

General Growth Rejects Simon
General Growth rejected Simon's $10 per share offer and articles here and here are expecting bidding wars.  I'd like to see an analysis showing the implied cap rate of the deal and what it signifies for General Growth's real estate assets.
National Debt
Here is a good article from the New York Times on the national debt and partisan politics.  It has some good quotes, including this one:
“I used to think it would take a global financial crisis to get both parties to the table, but we just had one,” said G. William Hoagland, who was a fiscal policy adviser to Senate Republican leaders and a witness to past bipartisan budget summits. “These days I wonder if this country is even governable.”
And this one:
“There isn’t a single sitting member of Congress — not one — that doesn’t know exactly where we’re headed,” Mr. Simpson said in a telephone interview Tuesday just before word of his role got out. “And to use the politics of fear and division and hate on each other — we are at a point right now where it doesn’t make a damn whether you’re a Democrat or a Republican if you’ve forgotten you’re an American.”
I think two of the biggest potential economic problems facing the country are spending and the debt.  These two issues too easily get caught in partisan politics, and hard decisions get put off.   The impression is that Democrats want to boost spending and tax the rich, while Republicans want tax cuts.  Republicans have further backed themselves into a corner by pledging not to change Medicare.

Not dealing with these two issues in a serious manner will to higher interest rates and eventually weigh on the national credit rating.   A drop in the national credit rating will really push up interest rates and the economic consequences of this are hard to imagine.
The Slow Return of CMBS
Here is a Bloomberg article on the first potential multi-borrower CMBS since 2008.  The lead lender is Goldman Sachs and it looks to package loans from other lenders.  This is another encouraging sign for commercial real estate.  The Goldman loan will be to Glimcher Realty Trust owned shopping center in Tennessee.  Glimcher owns neighborhood and community shopping centers.  A loan on retail real estate is also an encouraging development.  The Bloomberg article states that there are $28 billion of loans in CMBS that mature in 2010, so I expect to see more lending activity.

Tuesday, February 16, 2010

Simon's Offer For General Growth
Simon Property Group's offer (Bloomberg link) for General Growth is all over the news this morning.  Simon is offering General Growth shareholders $9 per share, of which $6 is in cash.  Simon's total offer is more than $10 billion.  General Growth's unsecured creditors would be repaid at 100% on the dollar.  Both firms have portfolios of regional malls, and I am guessing the transaction would be a boost for retail real estate.

Thursday, February 11, 2010

PDM Stumble
The price of the Piedmont REIT increased today.  (Don't worry, this blog is not going to post daily price updates.)  I think that part of the reason the price is holding up is that the original shares are not yet able to trade.  These shares were sold as a direct investment, and therefore were not in brokerage accounts.  The newly listed shares need a securities number and have to be put in brokerage account before they can be sold.  If you listen closely, you can here the howls of frustration rising from brokerage firms across the country that are fielding questions from anxious investors.  I suspect the shares will start arriving in tradeable form in brokerage accounts late next week.  We'll see how the price holds up then.  Remember, only 25% of the existing share were made liquid on the initial IPO.

Wednesday, February 10, 2010

Ritz Carlton's Lake Las Vegas Sinks
Ritz Carlton is closing its Lake Las Vegas property on May 2, 2010.  It is part of the larger Lake Las Vegas development, which was built around a man-made lake in a hilly area near Henderson, Nevada.  It is about twenty miles from the Vegas Strip, but the drive feels longer than twenty miles.  I am posting this because I went to a meeting there a couple of years ago before the financial world began to implode.  The area around the hotel was a ghost town then, it must be awful now.  The hotel and development have been in trouble for years.  Vegas is the Strip with its gambling, shows and restaurants, not an isolated, quiet hotel.  Building a resort, however nice, that far from downtown was a risky move at best.  What the heck do you do with an empty resort?   An affiliate of the lender, Deutsche Bank, now owns the property.  It's another example of an unsound deal financed with easy money.
Piedmont Trades
Piedmont Office Realty Trust began trading this morning under the symbol PDM.  Last night the REIT priced 12 million shares at $14.50 per share and raised $174 million. The REIT originally had planned to issue 18 million shares at an expected price of $16 to $18 per share.  Piedmont, in early trading this morning, is approaching $15.50 per share, an increase of over 6%.  Piedmont did a one for three reverse stock split before the listing and so $15.50 equates to an price of $5.17 per share based on the original share level.  Investors have a basis of $8.38 without reflecting the reverse split, so the current price reflects a discount of 38%.  The REIT has positive Fund From Operations (FFO).  The yield based on this FFO and the current price approximates 8.5% and an FFO Multiple of 11.75.

Tuesday, February 09, 2010

Retail Cap Rates Over 9%
I saw that cap rates for retail space are over 9% on the Calculated Risk blog.  The chart accompanying the post is amazing, it looks like a snowboarding half-pipe.  Calculated Risk got the information from CB Richard Ellis.  Retail cap rates dropped from over 8.50% in 2003 to almost 7.0% in mid-2007, and is now over 9.00%.  The CB Richard Ellis reports states that strip mall vacancies are at the highest rate since CBRE started tracking vacancies in 1991, and that rent rates are dropping. 

Friday, February 05, 2010

Special Service Surge
Here is an article announcing that the amount of CMBS loans in special servicing is now 10%.  Special servicers are the entities that deal with loans that are late on their payments. 

Thursday, February 04, 2010

Consolidate Now
Yesterday's Wall Street Journal had an article on a failed TIC deal.  It is an interesting read.  I read the article as a blanket indictment of the TIC and CMBS structure.  In the mid-2000s CMBS was pretty much the only game in town as the major banks competed to finance every real estate transaction, and most loans were underwritten to fit into a CMBS.  The competition between lenders and the availability of easy money spurred the TIC business and pretty much all real estate transactions of any meaningful size. 

TIC investors were sold a packaged product where a sponsor acquired the property and arranged the financing (almost always debt headed for inclusion in a CMBS).  TIC deals are a direct real estate investment for tax purposes, but are in all actuality a security.  TIC investors have no say in the management of the underlying property, even though they are owners. 

The article strikes to the heart of the TIC problem. Many TIC investors were small investors who had sold properties and then invested the sale proceeds into a TIC transaction to defer capital gains taxes.  The deals were not structured to have significant reserves for unknown leasing events.  The article highlights a property had only one tenant, which has now vacated the building, and the lender will only extend the loan if investors contribute an additional $2 million.  I would guess that most TIC deals don't have enough investors, in aggregate, that can contribute this level of cash.  It is likely that the property will be returned to the lender.

TIC deals need to be consolidated into real estate investment trusts (REITs).  This is the only way to stave off a long process where properties are returned to lenders one at a time.  The REIT structure, via a 721 exchange, will allow investors to keep their tax deferral.  It will also allow their investment to be spread over a larger number of properties.  The REIT can access additional capital for improvements and leasing expenses.  A REIT would also have the collective leverage to renegotiate CMBS debt, rather than a series of stand alone negotiations that quickly hit dead ends.

In a consolidation and 721 exchange, while investors maintain their tax deferral, they lose their ability to exchange to another property.  In essence, the REIT (via ownership in an operating partnership), is the final real estate exchange.  I do not see this a major impediment, because realistically, how many TIC investors were ever going to acquire another property.  It is my opinion that the TIC investment was the last stop for most investors, so why not consolidate into a larger fund to provide diversification and, possibly, a more reliable stream of income.  It is my opinion that consolidation into a REIT would be better for most TIC investors for several reasons:
  • Investors have a diversified investment rather than one property
  • The REIT has easier access to capital for leasing and improvements
  • The REIT has an ability to acquire additional properties at today's valuations
  • Ability to use the size of the REIT to get better financing terms
  • For estate planning purposes, it is much easier to liquidate shares in a diversified REIT than a fractional interest in one building
There are more reasons while a consolidation makes sense. The logistics are tough, and obstacles would include valuations for the exchange and reluctance of just a handful of investors, and on some deals even one investor, could stop a particular transaction.  It is my opinion, that after a few more events like those surrounding the property in the Wall Street Journal article, TIC sponsors and investors will be looking for ways to preempt problems.

Tuesday, February 02, 2010

Bong Water
I encourage you to read the letter sent to investors in the Inland Western REIT.  It is obscene.  Inland Western has valued itself, for ERISA purposes, at $6.85 per share.  I am going to conclude that the valuation is also part of FINRA Notice to Members 09-09 requiring non-traded REITs to provide a NAV eighteen months after the close of their offering period.  The letter (which I am unable to reprint without retyping it) states that, in general, real estate prices and REIT prices have declined since the start of the financial crisis.  As such, the value of Inland Western has dropped, too.  My question is whether the $6.85 per share estimate reflects enough of a discount.

Where to start, where to start?  The facts are usually the best place to start.  The book value, as of Inland Western at September 30, 2009, was $5.19 per share, a straight calculation of equity divided by outstanding shares.  The REIT is yielding 1.0%.  Its portfolio is approximately 84% occupied.  Its Funds From Operations is $.34 per share, which I annualized based on nine months of operations.  Now, pick an FFO multiple.  Developers Diversified (DDR), a publicly traded REIT specializing in retail properites, is trading at 8.3 times forward FFO.  If you apply this to Inland Western, its value is $2.82 per share, assuming its FFO does not decrease.  If you use a 10 or a 12 multiple, the value jumps to $3.40 or $4.08.  A multiple of over 20 times FFO is needed to arrive at the $6.85 value.  I don't think, even in the REIT frenzy of a few years ago, that FFO multiples ever got too far above 15 for the best REITS.

Inland Western acquired its properites in the middle of the 2000s during a real estate bull market.  As I posted last week, Ray Torto, chief economist at CB Richard Ellis told the New York Times that anyone who acquired commercial real estate in the last six years has had their equity wiped out.  I'll admit that this is an extreme statement, but even Inland Western, quoting the NCREIF property index, tells investors that commercial real estate prices have fallen 27%.  So, if Inland Western had 12% offering costs, and the remaining share value has dropped 27%, this puts the value at $6.42.  But this is false, because if a property is leveraged, equity holders feel the drop in value more than the decrease in property value because the debt obligation is approximately a constant.  For example, if a property or portfolio that is 60% leveraged drops in value 27%, the equity holders lose 68% of their value. 

Inland valued the properties itself using a "combination of different indicators."  It used a direct capitalization approach.  It must have used a forward, pro forma, net operating income with some optimistic assumptions on lease rates, occupancy and lease growth rates.  I wonder whether all properties were valued, or if a sample was valued and then a total value extrapolated from the sample. If this was the case, I bet all those properties with vacant space due to Mervyn's, Circuit City and Linens & Things bankruptcies were excluded. Most important is the admission that Inland Western did not use independent appraisers.

I am not going to value Inland Western's share price, but question its $6.85 per share value. I think investors need to press Inland Western on its valuation and push to get an independent valuation.  I have heard that Inland with its Inland Western REIT valuation is not the only non-traded REIT sponsor valuing its REITs at prices that seem high.  It is time to stop swimming in the bong water and face reality.

Monday, February 01, 2010

Smart Money And All That
I have seen a number of investment opportunities over the past year attempting to raise capital to acquire distressed real estate and real estate debt through the independent broker / dealer market place.  Some of these deals have had attractive business models and may have a chance of making money for investors.  Unfortunately, these deals have not caught on with independent broker /dealers and have struggled to raise capital.  This contrasts with private equity that raised over $40 billion in 2009 for opportunistic real estate investing, which I noted here.   In talking to executives at independent broker / dealers, I am told that their brokers want to sell income, not value or opportunity.  This is unfortunate, as real estate programs with legacy properties - i.e. pre-2008 acquisitions - that are paying more in distributions than their properites are earning are attracting capital from broker / dealers.  To restate, any income is better than opportunity, even if the income is mostly false.  I wouldn't be shocked to learn that some income-oriented investment sponsors eventually talk to the private equity money for help.