Friday, September 28, 2012

Friday Reading - Archstone IPO

An article from Bloomberg on Archstone Inc.'s potential $3 bilion IPO, the largest IPO since Facebook earlier this year.  The article discusses Archstone and Lehman Brothers, and has performance information on various REIT sectors:
The companies (apartment REITs) have been the worst performers this year among all other publicly traded REITs that own commercial property, according to data compiled by Bloomberg. Retail landlords have returned 25 percent, compared with 12 percent for owners of office buildings.

Apartment stocks surged after REIT landlords increased rents by 19 percent between the market bottom at the end of 2009 through the second quarter of 2012, according to Dallas-based Axiometrics Inc. While rents are projected to keep climbing through 2017, the rate of annual growth peaked in the second quarter of 2011 at 5.1 percent. Rents are on pace to rise about 4 percent nationally this year, Axiometrics said.

Thursday, September 27, 2012

I'm Not Dead

It's been a few weeks since my last post.  More immediate work has superseded blogging, but I'll be back soon.  In the meantime....

Thursday, September 06, 2012

Realty Income / ARCT Links

Here are some links to articles on Realty Income Corporation's acquisition of American Realty Capital Trust:




In a disturbing development, if you view the ARCT news on, you'll notice that multiple law firms have initiated "investigations" into the Realty Income / ARCT transaction, trying to drum up litigation business.

ARCT Acquired By Realty Income Corporation

American Realty Capital Trust (ARCT) announced today that it is being acquired by Realty Income Corporation (O).  Realty Income is buying ARCT with stock at a fixed ratio of .2874 shares of Realty Income for every share of ARCT.  According to this morning's press release, the transaction is worth $2.95 billion, or $12.21 per share to ARCT investors, based on Realty Income's closing stock price yesterday of $42.48.  The combined market value of the two companies is approximately $7.5 billion.  None of the current ARCT management is moving to Realty Income Corporation.

The transaction is expected to close in the fourth quarter of 2012, or early in the first quarter of 2013.  Upon the close of the transaction, current ARCT investors will receive Realty Income stock in exchange for their ARCT shares.  Realty Income is an actively traded NYSE stock, and its price is going to vary, so the merger value will fluctuate until the acquisition closes.  The conversion ratio of .2874 Realty Income shares for each ARCT share is fixed.  I haven't read this in any press release or news article on the transaction, but I calculate that an original ARCT investor (shares purchased at $10.00) will see a drop in yield from the current 7.1% to 5.6%, after the transaction closes and after Realty Income implements the $.13 per share dividend increase announced in the press release.

Realty Income's purchase of ARCT is not a liquidity event.  ARCT listed all its shares on NASDAQ in early March, and this was ARCT's liquidity event for investors.  ARCT shares will stay fully liquid before the merger, and after the merger the new Realty Income shares will be fully liquid.

Realty Income is a net lease real estate investment trust (REIT).  It listed on the NYSE in 1994, when multiple RIC limited partnerships were "rolled-up" to form Realty Income Corporation.  Realty Income has trademarked the term Monthly Dividend Company, and according to its website it has raised dividends 67 times since it listed in 1994, and has seen dividend growth of 101.5% since 1994. 

ARCT shareholders that purchased shares in ARCT's primary offering at $10.00 per share, and still own their shares, have a 22% premium based the transaction values in the press release.  ARCT shareholders, upon completion of ARCT's acquisition by Realty Income, become part of an established company nearly four times as large as ARCT as a stand-along company.  As noted previously, the transaction is not a liquidity event, and ARCT investors do not have to sell their Realty Income shares after the merger is complete. 

It's hard not to see the transaction as positive for shareholders, even with the drop in yield.   Realty Income is now the largest net lease REIT has a long history of paying and raising its dividend.  Realty Income's stock chart from its 1994 inception is below:

Chart forRealty Income Corp. (O)

Tuesday, September 04, 2012

Dirty Rotten Royalty Misdeeds

My dad always said that there were more horses' asses in the world than horses.  This article from Bloomberg reveals that the oil and gas industry is the Kentucky Derby without the horses.  In a response to falling gas prices, oil and gas companies have been re-interpreting royalty contracts and have stated deducting certain costs, including transporting, marketing and processing.  This means that royalty owners receive less income. Owners of an oil and gas royalty interest receive a fixed percentage of the oil and gas revenue produced from a particular lease, and in many cases the royalties are paid from gross revenue before the deduction of expenses.  The drop in the price of natural gas has lead to gas operators to look for ways minimize the impact, and one of the ways is to re-visit their royalty contacts: 
Deducting costs for processing, transporting and marketing gas before royalties are calculated can reduce the amount producers owe by 25 percent to 50 percent. About one in five landowners in Texas have signed contracts specifying that producers pay them based on a price before those costs are deducted, said Tom Hazlewood, an appraiser of royalty leases whose business reviews hundreds of properties annually for tax purposes.

For the same gas from the same well under the same contract terms, Thornton, the Texas accountant, says she has been paid about 25 percent more for her gas by Plains Exploration & Production Co. (PXP), which in 2008 bought a 20 percent stake in Chesapeake’s acreage in the Louisiana Haynesville shale formation.

The two companies pay her in separate checks, and she said she discovered the cost deductions when Plains paid her back for expenses it had been subtracting since 2010. Chesapeake has not refunded any costs, she said. Hance Myers, a Plains spokesman, declined to comment.

In August 2011, when gas prices had fallen 14 percent from the year earlier and were sliding toward a 10-year intraday low of $1.902 in April, Chesapeake notified royalty owners in North Texas that it would begin deducting costs from royalties.

The decision came after Chesapeake partnered with Total SA (FP) in 2010 in a $2.25 billion deal that gave the French oil company a 25 percent stake in Chesapeake’s wells in the region. Chesapeake reviewed lease terms after Total said it wanted to deduct costs, Henry Hood, Chesapeake’s general counsel, told the Fort Worth Star-Telegram newspaper in an Aug. 10, 2011 story.

On Jan. 24, Chesapeake notified landowners in Pennsylvania of its intent to deduct costs, citing a March 2010 state supreme court ruling that confirmed deductions were allowed.
The oil and gas industry is full of conflicts of interest and intra-company dealings.  I would suspect that in many cases the expenses the oil and gas company are charging royalty owners are paid to an affiliate company.  Contracts are designed to protect people, and it's wrong for big oil and gas companies to renege on their contractual obligations just because prices dropped.   Chesapeake is not the only company re-interpreting its contracts, but but it appears like the poster child for what's wrong in the oil and gas industry.

A Growing Chorus

Here is a must-read InvestmentNews article on the issues surrounding non-traded real estate investment trust (REIT) valuations.  This blog has been railing for months on this issue and it's about time the conversation expanded.  The article discusses four non-traded REITs - Industrial Income Trust, Strategic Storage Trust, Steadfast Income REIT and TNP Strategic Retail Trust - and their valuation methodologies.  The methodologies vary among the REITs, but are all dependent upon input from the REITs' advisors and require the REITs' boards' approvals. 

The issues addressed in the article are important and are not going away.  The market will see more re-valuations in the coming months as big named REITs like Griffin-American Healthcare REIT II and Hines Global REIT prepare secondary offerings.

There a few issues that deserve a follow-up article by author, Bruce Kelly.  The article only briefly touches on the short-term sales impact of the revaluations.  Industrial Income Trust and Strategic Storage saw huge sales increases between the time the new value and share price was announced and the time the new price went effective.  After the reprice, equity sales for both REITs are lower than before the revaluation was announced (although the post-revaluation time period has been limited).  The whole revaluation process smells like a marketing exercise to get a large sales surge. 

I still don't understand how a non-traded REIT can revalue its shares and then sell shares with a load at the new revalued price.  What happens to the REIT's offering costs?  The offer price should be the new value per share, plus offering costs.  A REIT's load is real and must be added to its net asset value per share.  This is how business development companies (BDCs) operate.   BDCs are required to determine a quarterly net asset value per share, and then add the sales load costs to arrive at an offer price.  In this respect, non-traded REITs are no different.  The credibility surrounding non-traded REIT valuations is suspect to begin with, and the valuations become specious when the load is ignored.