The Rational Realist

BDC Scrutiny

2012-02-10T10:03:00.000-08:00

InvestmentNews had an article yesterday on regulatory interest in Business Development Companies (BDCs). This is not a shock giving the amount money flowing into this sector, especially to Franklin Square's BDC. People need to remember that BDCs are high yield investments with non-credit borrowers. Non-credit doesn't mean bad credits. BDCs should be viewed like junk bond funds, not some newly discovered income-generating nirvana.

Name Change and an Objective Change

2012-02-09T22:22:00.000-08:00

CNL Properties Trust today announced that it not only changed its name, but its investment objectives, too. It is now CNL Healthcare Trust, and will focus on:

The real estate investment offering intends to build a portfolio containing senior housing facilities and a range of healthcare properties,potentially including assisted living and memory care facilities, medical office buildings and continuing care retirement communities as well as it may also acquire other income-producing assets.

The REIT previously was targeting lifestyle and lodging assets, in addition to senior housing. The REIT specified its first property acquisitions in late December 2011, a portfolio of five senior housing properties, but this transaction has not yet closed.

CNL Healthcare Trust directly enters the competitive healthcare non-traded REIT market, and will compete for assets with American Realty Capital Healthcare Trust and Griffin-American Healthcare REIT II. Other non-traded REITs seem to keep buying healthcare assets, too, even though healthcare is not their primary target asset class. In addition, Healthcare Trust of America is still a presence in the market place.

Name Change

2012-02-09T22:13:00.000-08:00

American Realty Capital II, LLC, the sponsor of nine non-traded REITs, has changed its name to AR Capital, LLC. Here is yesterday's press release I saw on my Google News feed. I like the new name better. I have always been confused about the "II," and wondered what ever happened to the "I."

Natural Gas Reverse Stock Split

2012-02-08T23:17:00.000-08:00

Here is an interesting post on the Financial Times Alphaville blog, on natural gas ETF, United States Natural Gas Fund (UNG). Because of the low price of natural gas, the EFT is going to have a four-for-one stock split to boost the price of the EFT.

Atlanta Foreclosure

2012-02-06T07:36:00.000-08:00

Here is a good article from Bloomberg on the foreclosure of the Bank of America Tower in Atlanta. It is the tallest building in the South, and while completely trivial, the tallest building to face foreclosure since the credit market collapsed in 2008. The article is full of good facts, not only about Atlanta, but also about CMBS. I didn't know the information in this paragraph:

It’s (Atlanta) now squarely in the bust category with the highestrate of late payments for loans on offices bundled into bondsamong the largest U.S. metropolitan areas, at 25.3 percent,according to data compiled by Bloomberg. That’s increased from10.4 percent a year ago and is more than triple the 7 percentnational rate. The rate for payments 60 days late or more washigher than Cleveland at 23.4 percent and Phoenix at 23.3percent, the data show.

The property was purchased in 2006 for $436 million, the $363 million loan matured in December, and the property was appraised last March at $202 million.

Say What?

2012-01-27T17:44:00.000-08:00

Here is an example of double-speak gobbledegook from an Inland Western 8-K/A filing:

In light of these results, the Company has determined to hold an advisory vote on named executive officer compensation every year until the next advisory vote on the frequency of future votes on named executive officer compensation.

Ok, that's a head-scratching, confusing jumble of words. It is also meaningless. The REIT is allowing shareholders an advisory vote on executive compensation. Advisory votes are just that, advisory. The votes are non-binding and don't impact any actual compensation. Here's my advisory recommendation: no named executive should get any salary increase until Inland Western's current $6.95 share price is increased and becomes equal to or greater than the price investors originally paid for their shares.

TIMMMBER!!!

2012-01-27T08:49:00.000-08:00

If fees fall in a forest, do they make a sound? Yes. It's a slow-building, rumbling sound that will echo for some time. Wells Timberland REIT filed an 8-K on Tuesday, January 24th, where it quietly announced that its advisor, Wells Timberland Management Organization, LLC (Wells TIMO) had permanently "discharged" $25.1 million in accrued and unpaid management fees and expense reimbursements. These fees and expenses had accrued due to lender restrictions that were part of the debt Timberland REIT utilized to acquire its timber assets. These fees had been a drag on this REIT because the fees were in a priority position to investor capital. At September 30, 2011, the REIT had $27.3 million Due to Affiliates, of which $24 million was advisor fees and reimbursements payable to Wells TIMO.

The fee forgiveness is positive for investors and the right decision by Wells. The REIT will continue to pay fees to Wells TIMO, but lender restrictions have been lifted due to debt paydown, and future fees will be paid as incurred, and not accrue any more.

(Forest picture from Google Images and the website ecoeternity.com and is no relation to Wells Timberland REIT.)

Commercial Mortgage Refinancing

2012-01-24T11:34:00.000-08:00

Here is a must-read article on commercial mortgage refinancings from Bloomberg. The article's premise is that mortgages in strong real estate markets, in particular Manhattan, are able to get refinanced, while properties in smaller markets get less lender consideration. The article used a Vornado-owned Manhattan property's $430 mortgage as a refinance example. One fact that doesn't make it in the article's introduction is that Vornado paid the mortgage down by $130 million, which of course made the refinance easier. This level of mortgage paydown would have allowed a refinance in most markets. The question is in how many markets are property owners going to be willing to add that much equity to refinance a property? For markets that have not recovered and owner equity gone, I suspect most property owners will take their chances with special servicers rather than putting in additional equity.

The article makes reference to Linen & Things, which I mentioned yesterday (emphasis added):

That may not be enough to bail out the Baybrook GatewayMall in Webster, Texas, 22 miles (35 kilometers) northwest ofHouston.

A $41 million mortgage on the shopping center, originatedby Goldman Sachs Group Inc. in December 2006 and sold as part ofa commercial-mortgage bond deal two months later, was handedover to a firm that handles troubled loans because the borrowercouldn’t refinance debt that matured this month, according toFitch Ratings. So-called special servicers determine whether tomodify loan terms or foreclose on property owners struggling tomake payments.

Baybrook, co-owned by Blackstone Group LP’s BrixmorProperty Group Inc. and JP Morgan Chase & Co., is currentlyworking with the special servicer to resolve the finances, StacySlater, a spokeswoman for Brixmor, said in a telephone call. Themall lost tenants, such as Linens ‘n Things Inc. which filed forbankruptcy in 2008, she said, declining to comment further.

The article references a property in KBS REIT I that defaulted on its mortgage on January 11th. I have not yet seen a KBS REIT I filing on this (but I am not sure whether it has to make an 8-K filing). Here is the paragraph from the article:

A $43.5 million mortgage on One Citizens Plaza, a 224,089square-foot office building that houses the headquarters ofCitizens Financial Group in Providence, Rhode Island, also raninto trouble this month before its Jan. 11 maturity date,according to Fitch. Though the building was 98 percent occupiedas of September, the borrower didn’t repay the mortgageoriginated by Wachovia Corp. in 2006, Bloomberg data show.

“We are just beginning communications with the lenderabout this loan,” said David Snyder, chief financial officer ofKBS Realty Advisors, a private-equity real estate investmentcompany in Newport Beach, California that owns the property.“At this juncture we are unable to predict the outcome,” hesaid in an e-mail.

There is other good information in the article including noting that the market for CMBS has recovered to its levels of last July, which means new origination.

It's Good To Be King

2012-01-23T22:32:00.000-08:00

I just saw this Bloomberg article about Blackstone receiving $6 billion in commitments (on its way to $10 billion) for its latest real estate fund, Blackstone Real Estate Partners VII, which will focus on distressed real estate. The $6 billion is not far from the total amount that non-traded REIT sponsors raised in all of 2011.

Private Equity Explained

2012-01-23T16:32:00.000-08:00

Here is an excellent article from The New Yorker explaining private equity - good and bad. (If the link doesn't work, the author is James Surowiecki.) There has been plenty of misinformation the past few weeks related to private equity. The job creation issue is tackled here:

Given the weak job market, it makes sense that the attacks have focussed on layoffs. But the real problem with leveraged-buyout firms isn’t their impact on jobs, which studies suggest isn’t that substantial one way or the other. A 2008 study of companies bought by private-equity firms found that their job growth was only about one per cent slower than at similar, public companies; there was more job destruction but also more job creation. And, while private-equity firms are not great employers in terms of wage growth, there’s not much evidence that they’re significantly worse than the rest of corporate America, which has been treating workers more stingily for about three decades.

Here is an example of the "bad" private equity:

In 2004, for instance, Wasserstein & Company bought the thriving mail-order fruit retailer Harry and David. The following year, Wasserstein and other investors took out more than a hundred million in dividends, paid for with borrowed money—covering their original investment plus a twenty-three per cent profit—and charged Harry and David millions in “management fees.” Last year, Harry and David defaulted on its debt and dumped its pension obligations. In other words, Wasserstein failed to improve the company’s performance, failed to meet its obligations to creditors, screwed its workers, and still made a profit. That’s not exactly how capitalism is supposed to work.

The people who ran Harry and David into the ground have a defense: economic conditions changed in unforeseeable ways. But that’s precisely why loading firms with debt in order to reap short-term benefits is bad. It leaves companies unable to weather tough times, and allows private-equity firms to make money even if things go wrong.

As if this weren’t galling enough, taxpayers are left on the hook. Interest payments on all that debt are tax-deductible; when pensions are dumped, a federal agency called the Pension Benefit Guaranty Corporation picks up the tab;

Many landlords that had private equity tenants (Mervyn's, Linen & Things, Steve & Barry, etc.) were impacted by similar tactics and were left with empty space when the retailers could not survive an economic slowdown due to their leveraged capital structure.

Profile In Courage

2012-01-23T11:43:00.000-08:00

Here's an article from InvestmentNews on Behringer Harvard. This sentence stood out to me:

Meanwhile, other broker-dealers — including FSC Securities Corp., Royal Alliance Associates Inc. and SagePoint Financial Inc., which constitute the American International Group Inc.'s Advisor Group — stopped selling the Multifamily REIT last summer when its offering period ended, according to spokeswoman Linda Malamut.

Is stopping sales when a deal closes its offering period really stopping sales? Hasn't the bird flown, or the cows left the barn, or the fat lady sung, or the lights been turned off because the party's over? The answers, of course, are No and Yes. AIG didn't stop sales and sold Behringer Harvard through the end of its offering. Period.

Behringer Harvard Multifamily's distribution overpayment was no secret. Multifamily neatly presented this fact every quarter throughout its long offering period. This was a better story two years ago when broker / dealers had an actual decision to make.

I think a better question is what are broker / dealers doing now about other non-traded REITs that are two and three years into their offering periods and not making any headway towards covering their distributions. Like Multifamily, these REITs disclose quarterly their inability to adequately fund their distributions.

Cherry Picking Housing Data

2012-01-19T15:15:00.000-08:00

I believe the worst of the housing crisis is behind us and and am now a housing bull. I look for data to support my opinion (and am skeptical of data that doesn't!). I saw this stat this morning on the indispensable Calculated Risk website. Housing completions in 2011 were the lowest since record keeping began in 1959. Here is the quote:

Single family starts were down 9% in 2011 to 428,600. This is the lowest level of single family starts since the Census Bureau started tracking starts in 1959!

The entire post is worth reading. Low supply is good for prices.

Natural Gas Leak

2012-01-19T10:54:00.000-08:00

I posted on January 9th about the disconnect between the price for shale acreage and natural gas prices. Natural gas was $3.00 per mmbtu at the time of the post. Today I see that NYMEX Henry Hub natural gas futures are under $2.35 per mmbtu. I'm not sure what's behind the plunge.

Update: Here's a CNBC article on why natural gas prices are falling. Basically a warm winter and plenty of supply.

Rolled Over by Leases

2012-01-12T07:16:00.000-08:00

The Wall Street Journal had a good, free article yesterday on the problems facing some office real estate, as leases signed at the peak of the real estate boom are expiring. Landlords are faced with a market with lower lease rates:

Rents in most markets are still well below what they were in 2007, with the drop in some areas as much as 26%, according to data firm Reis Inc. Because of the weak market, landlords with empty space or expiring leases also have to spend large amounts on incentives to attract tenants, like free rent and interior work.

Offices that were purchased near the peak with a corresponding five-year mortgage have a compound problem. It's difficult to refinance a mortgage when faced with lower rents and a higher vacancy rate. The article states that defaults and foreclosures are rising for office space, and are expected to continue to rise, while real estate property types that able to adjust rents, like apartments and hotels, are seeing drops in foreclosures.

The article lists major metropolitan markets like New York, Washington DC, and Boston as exceptions, as values in these markets have increased. The article is worth reading and has plenty of examples.

Worrying Disconnect

2012-01-09T22:06:00.000-08:00

Here is a Bloomberg article on the record prices being paid for shale drilling acreage. Here is a telling paragraph from the article:

Marubeni Corp. (8002), the Japanese commodity trader, last weekagreed to pay as much as $25,000 an acre for a stake in Hunt OilCo.’s Eagle Ford shale property in Texas. The price, whichincludes future drilling costs, exceeds the $21,000 an acreMarathon Oil Corp. (MRO) paid last year for nearby prospects owned byKKR & Co. (KKR)’s Hilcorp Resources Holdings LP. In the Utica shale ofOhio and Pennsylvania, deal prices jumped 10-fold in five weeksto almost $15,000 an acre, according to IHS figures.

The article details industry justification for the high prices and explains why prices may go higher. Demand from foreign oil companies wanting access to US gas acreage is helping push up prices for shale gas acreage.

The record prices are against a backdrop of natural gas near $3.00 per mmbtu. The price per mmbtu has been trending down for over a year, dropping more than 33% in value. The chart below is one year's natural gas futures prices from WTRG.com:

The disconnect between the prices oil companies are paying for acreage and the current price for natural gas is alarming. It's important to remember that shale gas plays involve hydraulic fracking, which is an expensive form of gas extraction. I don't see how the disparity can continue, either natural gas is poised for a big run, or acreage is going to get much cheaper.

Non-Traded REIT Fodder

2012-01-09T12:32:00.000-08:00

Non-traded REIT sponsors use the high correlation of publicly traded REITs to the stock market as a reason to invest in non-traded REITs (since of course non-traded REITs don't trade so they can't correlate with stock market movements). Below are two graphs I saw over the weekend that show correlations between various asset classes and the S&P 500. The graphs are from the website The Reformed Broker, which reprinted the data from Factor Advisors. The correlation of many asset classes has increased over recent years, including traded REITs, giving a twisted credence to a non-traded REIT marketing point.

I suspect we'll be hearing more about the high correlations between the S&P 500 and publicly traded REITs.

Big Deal or No Big Deal?

2012-01-09T10:59:00.000-08:00

I worked my way through Griffin-American Healthcare REIT II, Inc.'s (GARH) new prospectus after reading last week's InvestmentNews article on American Realty Capital's attempt to nominate an alternative board of directors to GAHR's board. I did not see any additional references to the alternative directors other than the language on which the InvestmentNews article was based, which I have reprinted below:

Notice of Stockholder Intent to Nominate Directors
We have receivedcorrespondence from a stockholder and another individual notifying us of their intention to nominate an alternative slate of directors for election at the 2012 annual meeting of stockholders. The notices, which are substantially the same, namepersons associated with one or more entities related to American Realty Capital, one of our competitors, as proposed nominees. The notices also identify such entities, and certain individuals associated with such entities, as “stockholderassociated persons,” which in this case means that such persons are acting in concert with the individuals who submitted the notices.

The above was listed on page 135 of a 220-plus page document. Is the nomination of an alternative slate of directors a big deal, or just a competitor trying to complicate GAHR's transition to a new advisor and sponsor. I will have to wait and wade through additional filings to get an answer. I just hope the next update, if any, is not a small paragraph in the middle of a 200-page legal document. (GARH filed an updated prospectus this morning, and the language read the same as last week's filing.)

Temperature Rises In Healthcare Battle

2012-01-06T07:36:00.000-08:00

I noted last month that American Realty Capital Healthcare Trust made an unsolicited offer for Grubb & Ellis Healthcare Trust II (which has now changed its name to Griffin-American Healthcare REIT (GAHR)), which was rejected by GAHR's board. It appears that American Realty Capital Healthcare Trust has not abandoned its pursuit of Griffin-American. Here is an InvestmentNews article on the latest developments. The article was based on a GAHR filing. Here is a quote from the article, taken directly from GAHR's filing:

“We have received correspondence from a stockholder and another individual notifying us of their intention to nominate an alternative slate of directors for election at the 2012 annual meeting of stockholders,” the company said in the filing.

“The notices, which are substantially the same, name persons associated with one or more entities related to American Realty Capital, one of our competitors, as proposed nominees,” according to the filing. “The notices also identify such entities, and certain individuals associated with such entities, as ‘stockholder associated persons,' which in this case means that such persons are acting in concert with the individuals who submitted the notices.”

I wrote last month that I wouldn't have been surprised if this fight escalated. It looks like I was right.

GBE Delisting

2012-01-04T12:47:00.000-08:00

Grubb & Ellis Company (GBE) was notified yesterday by the New York Stock Exchange that its shares will be suspended on January 6, 2011 and the NYSE will begin the process of delisting GBE's stock. Here is the language from the 8-K:

On January 3, 2012, the New York Stock Exchange (the "NYSE") notified Grubb &Ellis Company (the "Company") and issued a press release that NYSE determinedthat trading on the NYSE of the Company's common stock should be suspended priorto the opening on January 6, 2012, and that it intends to begin the process todelist the Company's common stock. The NYSE notified the Company that it was notin compliance with the NYSE's continued listing standard that requires theCompany's average global market capitalization to be at least $15 million over aconsecutive 30-trading-day period.

The Company intends to appeal the NYSE's determination. In accordance with theNYSE policies, the NYSE will not take any additional action to pursue delistingof the stock until the appeal has been fully exhausted in accordance with theNYSE procedures.

Effective January 6, 2012, the Company's common stock will trade on the OTCQBMarketplace under the symbol yet to be determined. The transition of theCompany's stock to the OTCQB Marketplace will have no effect on the Company'sshares and Grubb & Ellis' shareholders remain owners of the common stock andwill be able to trade the stock on the OTCQB Marketplace as of January 6, 2012.In addition, the transition to the OTCQB Marketplace does not change thecompany's obligation to file periodic and other reports with the Securities andExchange Commission under applicable federal securities laws.

The Company had previously fallen below the NYSE's continued listing standardfor average global market capitalization over a consecutive 30 trading dayperiod of less than $50 million and latest reported shareholders' equity of lessthan $50 million as well as the average closing price of less than $1.00 over aconsecutive 30 trading day period. The Company's business plan to address theseissues was previously accepted by NYSE Regulation, however the NYSE has decidedto that the Company's business plan is not sufficient to also bring the Companyinto compliance with the continued listing standard of an average global marketcapitalization of at least $15 million over a consecutive 30-trading-day period.The notice of suspension received from the NYSE does not currently impact theCompany's obligations under its outstanding debt or preferred equity securities.

HTA Largess

2012-01-04T12:42:00.000-08:00

Healthcare Trust of America's executive team had a lucrative Happy New Year. In Form 4s filed yesterday, four HTA executives received generous stock grants on on January 1, 2012. The CEO received 75,000 shares, the CFO received 50,000 shares, the EVP of Acquisitions received 50,000 shares and the EVP of Asset Management received 40,000 shares. At the current $10 per share price, this translates to grants valued at $750,000, $500,000, $500,000 and $400,000, respectively, for each of the four executives. HTA is paying a 7.25% annual distribution and the four executives will all earn the full distribution on their new shares, which ranges from $54,375 annually for the CEO, to $29,000 annually for the EVP of Asset Management.

HTA has granted stock before. Below are the cumulative shares (listed in the Form 4s filed yesterday) for each of the four executives, the value at $10 per share, and the annual income the shares generate to the executives at the current 7.25% distribution rate:

	Shares	Value	Annual Income
CEO	460,000	$4,600,000	$333,500
CFO	201,529	$2,015,290	$146,109
EVP - Acq	217,148	$2,171,480	$157,432
EVP - Asst Mgt	65,000	$650,000	$47,125

Since the stock grant occurred on January 1, 2012, it will not be listed in HTA's 2011 10-K, which will be released in March or April. HTA, as of September 30, 2011, is still not generating enough operating cash flow to cover its current distribution. HTA generated $86,260,000 in operating cash flow for the first nine months of 2011, while it paid distributions of $119,621,000 over the same period; so operating cash covered about 72% of HTA's paid distribution.

More Housing

2011-12-22T06:53:00.000-08:00

Yesterday, the National Association of Realtors (NAR) revised down its benchmark sales and inventory figures for 2007 to 2010, reducing total homes sold by 710,000. This downward revision means that the housing crisis was actually worse than thought (and I thought it horrible). Going forward, it also means that future sales numbers will be benchmarked against a smaller number, making housing market comparative sales figures look better than they would have been without the revision.

Housing Bull

2011-12-20T23:48:00.000-08:00

I am bullish on housing. I say this as someone who was a housing bear through much of the early 2000s. My bullishness is based on a couple of simple premises, mainly that low new housing stock, falling existing housing supply, and improved employment will boost housing demand and home prices. The last four years have had the lowest number of housing units added in any years since 1990 (which is as far back as the data I saw went). Before 2009 there had never been less than 1 million units added annually. Only 425,000 new units will be added to existing housing stock in 2011, which is the lowest of any of the last twenty years. I encourage you to look at this post from Calculated Risk, and I have copied the table below:

Housing Units added to Stock (000s)
	1 to 4 Units	5+ Units	Manufactured Homes	Sub-Total	Demolitions / Scrappage	Total added to Stock
1990	1010.8	297.3	188.3	1496.4	200	1296.4
1991	874.4	216.6	170.9	1261.9	200	1061.9
1992	999.7	158	210.5	1368.2	200	1168.2
1993	1065.7	127.1	254.3	1447.1	200	1247.1
1994	1192.1	154.9	303.9	1650.9	200	1450.9
1995	1100.2	212.4	339.9	1652.5	200	1452.5
1996	1161.6	251.3	363.3	1776.2	200	1576.2
1997	1153.4	247.1	353.7	1754.2	200	1554.2
1998	1200.3	273.9	373.1	1847.3	200	1647.3
1999	1305.6	299.3	348.1	1953	200	1753
2000	1269.1	304.7	250.4	1824.2	200	1624.2
2001	1289.8	281	193.1	1763.9	200	1563.9
2002	1360.1	288.2	168.5	1816.8	200	1616.8
2003	1417.8	260.8	130.8	1809.4	200	1609.4
2004	1555	286.9	130.7	1972.6	200	1772.6
2005	1673.4	258	146.8	2078.2	200	1878.2
2006	1695.3	284.2	117.3	2096.8	200	1896.8
2007	1249.8	253	95.7	1598.5	200	1398.5
2008	842.5	277.2	81.9	1201.6	200	1001.6
2009	534.6	259.8	49.8	844.2	150	694.2
2010	505.2	146.5	50	701.7	150	551.7
2011 (est)	430	126	46	602	150	452

Over the past four years the number of multifamily units made up a larger percentage of the total number of housing units than in previous years, which means that an even fewer number of single family homes were built than in the early- and mid-2000s.

I know there was large increase in housing units since 1990, but the drop from the 2006 peak has been precipitous. Demand from population growth, new family creation, and people who moved home or in with roommates over the past few years and now are able to move back on their own will reduce exisitng supply. Supply is at 7.5 months, the lowest level since mid-2005.

National employment figures have been improving monthly. The housing market will not fully recover until employment improves. Due to the lack of new units and low supply of exisitng homes, a continued improvement in employment will be felt quickly in the housing market. If you throw in near historic low mortgage rates (3.77% for a thirty-year mortgage), the housing bull story gets even stronger.

Stating the Obvious

2011-12-20T09:40:00.000-08:00

The five-year mortgages issued in 2007 are coming due in 2012. Who'd have thunk it? Here is a gloomy Bloomberg article discussing the depressing prospects for these mortgages. There are plenty of good statistics in the article, like late payments on "loans packaged into bonds" being at 9.13%, or $55 billion of loans in bonds mature in 2012, or that there has been $28 billion of new CMBS in 2011, up from $11.5 billion last year. (At the start of the year, I remember reading that analysts were estimating CMBS issuance of $30 billion to $40 billion in 2011. Financial uncertainty in the third quarter slowed the CMBS origination market.)

These paragraphs make sense but are not new information:

Loans underwritten during the peak five years ago will bechallenged by tighter lending conditions, limited borrowerequity in the buildings and the large size of loans relative tocurrent property values, S&P said. Property values have tumbled42 percent since 2007.

Lenders are willing to write a mortgage for a maximum of 70percent of a building’s value, meaning about 63 percent of loanstaken out at the height of the property market bubble will behard to refinance unless the borrower injects additional cash,S&P said.

There is always "extend and pretend," which is not discussed, and is the probable reality for most of these loans.

Random Fact to Start the Week

2011-12-19T07:31:00.000-08:00

Grubb & Ellis Company stock has dropped approximately 63% since early November when Grubb & Ellis Healthcare REIT II announced it was moving its advisor from Grubb & Ellis.

Battle Brewing

2011-12-15T21:15:00.000-08:00

The battle between the remnants of Lehman Brothers and Sam Zell's Equity Residential for Archstone apartments has been simmering for a few weeks but broke open over the past few days. Both Lehman and Equity Residential are trying to buy lenders' ownership position in Archstone, one of largest multifamily owners in the county. The deal is complicated because of multiple lenders and that bankrupt Lehman already owns a portion of Archstone, which it purchased in 2007. If you don't remember:

Archstone was acquired by Lehman in a $22 billion leveragedbuyout with Tishman Speyer Properties LP in October 2007 ascommercial real estate prices peaked. Lehman, saddled with debt,filed for the biggest bankruptcy in U.S. history in September2008, as credit markets froze worldwide.

As you can tell by the transaction date, Lehman's acquisition was very late in the real estate / credit boom, which sealed this deal's fate.

Lehman is trying to buy the portion of Archstone it does not own so it can turnaround and sell it. Lehman is doing the transaction as part of its bankruptcy and wind-down. The bids for Archstone represent an $800 million (13%) discount to Archstone's estimated $6 billion value, or at least that's what I could figure out from this Bloomberg article. (Why does an $800 million discount sound so much bigger than a 13% discount?)

One More Thing To Keep Me Up At Night

2011-12-12T17:06:00.000-08:00

From Calculated Risk, a must-read post on prime brokers re-pledging (rehypothecation) client collateral for their own trading. A legal, but scary practice. This high-wire tactic may be behind the missing MF Global money.

Hotel CMBS

2011-12-07T08:32:00.001-08:00

Here is a good, long article from Bloomberg on why Commercial Mortgage Backed Securities (CMBS) special servicers try to avoid foreclosures on hotel properties. Here are a couple of key quotes from the article:

Special servicers, who negotiate with landlords on behalfof investors in commercial mortgage-backed securities, typicallyinstall a receiver or hire a broker to sell an office, apartmentor industrial building with multiyear leases. Hotel rooms, onthe other hand, rent by the night, and contracts with suchoperators as Marriott International Inc. may be terminated if aproperty is repossessed, making it harder to run or market.

Hotels are “operating assets where income goes up and downovernight,” said Rick Kirkbride, chairman of the resort,restaurant and recreation practice group at law firm Paul,Hastings, Janofsky & Walker LLP in Los Angeles. “Servicers dodrag their feet with them a lot more because they aren’t surewhat to do.”

And:

The 53 percent workout rate forhotels compares with 45 percent for apartments, 37 percent forretail properties and 29 percent for industrial, according toReal Capital. The remaining hotels either have been taken overby lenders or their owners continue to negotiate with servicers.

“We work long and hard to not take title to hospitalityassets because it’s not an easy solution to operate,” TomNealon, vice chairman of LNR Asset Services, the special-servicing unit of LNR Property Corp., said in October at anUrban Land Institute conference in Los Angeles. With “officeand other properties that are not as labor-intensive, themarketability is better,” he said.

In addition to the operational aspect, it also helps when a borrower has a large amount of debt outstanding spread over multiple properties. Examples of loans that were extended and reworked were several hundred million dollars or more. The article states that in the last two months of 2011 there are $5.5 billion of hotel CMBS loans maturing and in 2012 there are $9.1 billion of CMBS loans maturing.

Behringer Harvard Multifamily REIT I News

2011-12-06T14:47:00.001-08:00

BehringerHarvard Multifamily REIT Ifiled an 8-K on December 1, 2011,announcing that it sold joint venture interests of up to 45% in six of itsproperties to a Korean firm, Milky Way Partners. The total price was $178.6 million. The six properties are 7166 at Belmar; Acacia on Santa Rosa Creek; Argenta; Cyan/PDX;The Gallery at NoHo Commons; and The Lofts at Park Crest. The REIT is selling 15% to 45% in eachproperty.

In conjunction with and a contingency to the REIT's sale, is that the REIT’s current joint venture partner, a European pensionfund, is selling its interest in twelve properties it owns with the REIT througha joint venture to Milky Way Partners, including three that are part of the transactionabove. The 8-K states that upon thecompletion of the two transactions, Behringer Harvard Multifamily REIT I willown 55% of each of the fifteen properties included in the two transactions. There is no disclosure on the REIT’s basis inthe properties or what value the transaction put on all the properties included in the two transactions. The 8-K did not specify what BehringerHarvard Multifamily REIT I has planned for the sale proceeds.

Brass Balls

2011-12-06T13:18:00.001-08:00

Love them or hate them, one thing you can't say about the executives at American Realty Capital is that they lack guts and chutzpah. American Realty Capital Healthcare REIT, which has raised approximately $45 million in investor equity, has made an unsolicited offer for Grubb & Ellis Healthcare REIT II, which has raised approximately $425 million in investor equity. Grubb & Ellis Healthcare REIT II's board rejected American Realty Capital Healthcare's $9.01 per share offer for all outstanding shares ($6 in cash and $3.01 in American Realty Capital Healthcare shares). (Where did the $.01 come from?) I would not be surprised if the American Realty Capital Healthcare's offer becomes a hostile takeover fight. There are many questions raised by this announcement, deal financing being at the top of the list. One thing I do know is that this will be fun to watch, kind of like a National Geographic show where a snake eats and digests a much bigger animal. (The picture below is a python that exploded after trying to eat an alligator twice its size.)

Disaster Stat

2011-12-02T09:17:00.001-08:00

I just read on Yahoo! Finance that the RIM's Playbook tablet sold 150,000 units in the third quarter. This is a tiny fraction of the more than 11 million units of Apple's iPad that were sold over the same period. Ouch.

Fracking Commentary From The New Yorker

2011-11-28T12:19:00.001-08:00

Here is a commentary from Elizabeth Kolbert in the latest issue of The New Yorker. Here is a stat to think about:

In the past ten months alone, some sixteen hundred new wells have been drilled in Pennsylvania; it is projected that the total number in the state could eventually grow to more than a hundred thousand. Nationally, shale-gas production has increased by a factor of twelve in the past ten years.

This production boom may have something to do with low current gas prices. It is also worth remembering these statistics when analyzing projections from sponsors offering gas programs.

Oil In Canada

2011-11-24T09:07:00.001-08:00

Here is a good article on Canada's oil sands from Bloomberg. Due to the oil sands, Canada has the world's third most proved oil reserves behind Saudi Arabia and Venezuela. The problem with this oil is that it's not easy to extract and is environmentally messy. The extraction cost is in the mid-$60 per barrel range, so current prices make oil sand development viable. I didn't know all the geopolitical issues surrounding this huge oil reserve. The interest of the Chinese and its capital are a development to watch.

Good Euro Article

2011-11-19T07:29:00.001-08:00

Here is good, but depressing, article from Bloomberg's BusinessWeek on the euro. These three paragraphs sum up the euro situation:

The most unfortunate difference between then and now is that the euro, unlike the gold standard, is a raccoon trap: Its designers deliberately left out an exit procedure. That means you can get in, but you can’t get out without leaving a part of yourself behind. Eichengreen points out that Britain was growing again by the end of 1932, just over a year after abandoning gold under duress. Today a country—say, Greece—that quit the euro would take far longer to right itself. That’s because unlike Britain, to get relief Greece would have to default on its euro-denominated debts and damage its credit rating. “The Greek government,” Eichengreen says, “will be hard-pressed to find funds to recapitalize the banking system. Greek companies won’t be able to get credit lines. The new Greek government is going to have to print money hand over fist. At some point they would be able to push down the drachma and become more competitive. But the balance is different now.”

That’s why Eichengreen thinks leaving the euro zone should be a last resort. The better option, he says, is to make the euro work the way the gold standard worked in its best years. Surplus countries should equally share the cost of adjustment with deficit countries. He favors transforming the underfunded European Financial Stability Facility from an emergency fund into a bank. He would have the facility borrow from the European Central Bank so it can make unlimited loans to countries such as Greece and Italy—on the condition, of course, that the countries demonstrate they’re on a path to fixing their competitiveness problems. Those countries don’t have a chance to fix things without the breathing room afforded by official lending, Eichengreen says.

Europe’s fatal mistake was to push ahead with monetary union without having achieved fiscal union. Limits on national budget deficits were flouted with impunity. Now creditor nations are dragging their heels on aid and stimulus because they don’t want profligate debtors to play them for fools. In an echo of the gold-hoarding mentality of the Depression, Germans have reacted angrily to the suggestion that the International Monetary Fund might tap Germany’s gold reserves to bolster the EFSF. The mood is angry and confused. German Chancellor Angela Merkel was correct on Nov. 14 in Leipzig when she described the debt crisis as “maybe Europe’s most difficult hours since World War II.”

Valuation Methodology Differences

2011-11-15T16:43:00.001-08:00

Wells REIT II announced its share valuation last week at $7.47 per share. In May, Hines REIT announced a $7.78 share valuation. The two REITs bought similar type properties - major market, Class A office buildings - over the same approximate time period during the mid-2000s. It makes sense that the two values are close. It is important to note the distinctions in the valuation methodology used by the two REITs.

Wells REIT II was clear in its 10-Q that it valued only its real estate, and did not include a value for the REIT as a business, or its enterprise value. Here is the wording from Wells REIT II:

Our estimated per-share value was calculated by aggregating the value of our real estate and other assets, subtracting the fair value of our liabilities, and dividing the total by the number of our common shares outstanding, all as of September 30, 2011. The potential dilutive effect of our common stock equivalents does not impact our estimated per-share value. Our estimated share value is the same as our net asset value. It does not reflect "enterprise value," which includes a premium for:

•
the large size of our portfolio, although it may be true that some buyers are willing to pay more for a large portfolio than they are willing to pay for each property in the portfolio separately;

•
our rights under our advisory agreement and our potential ability to secure the services of a management team on a long-term basis; or

•
the potential increase in our share value if we were to list our shares on a national securities exchange.

Our key objectives are to arrive at an estimated per-share value that is supported by methodologies and assumptions that are appropriate based on our current circumstances and calculated using processes and procedures that may be repeated in future periods. Wells REIT II believes that this approach reflects the conservative investment principles that guided the assembly of our portfolio over the past eight years, and comports with industry-standard valuation methodologies used for nontraded real estate companies.

Details:

As of September 30, 2011, our estimated per-share value was calculated as follows:

Real estate assets
$
10.13

(1)
Debt
(2.65)
(2)
Other
(0.01)
(3)
Estimated net asset value per-share value
$
7.47

Estimated enterprise value premium
None assumed

Total estimated per-share value
$
7.47

⁽¹⁾
Our real estate assets were appraised using valuation methods that we believe are typically used by investors for properties that are similar to ours, including capitalization of the net property operating income, 10-year discounted cash flow models, and comparison with sales of similar properties. Primary emphasis was placed on the discounted cash flow analysis, with the other approaches used to confirm the reasonableness of the value conclusion. Using this methodology, the appraised value of our real estate assets reflects an overall decline from original purchase price, exclusive of acquisition costs, plus post-acquisition capital investments, of 8.1%. We believe that the assumptions employed in the valuation are within the ranges used for properties that are similar to ours and held by investors with similar expectations to our investors.

The following are the key assumptions (shown on a weighted-average basis) that are used in the discounted cash flow models to estimate the value of our real estate assets:

Exit capitalization rate
7.19
%
Discount rate/internal rate of return ("IRR")
8.19
%
Annual market rent growth rate
3.31
%
Annual holding period
10.3 years

While we believe our assumptions are reasonable, a change in these assumptions would impact the calculation of the value of our real estate assets. For example, assuming all other factors remain unchanged, a change in the weighted-average annual discount rate/IRR of 0.25% would yield a change in our total real estate asset value of 1.83%.

⁽²⁾
The fair value of our debt instruments was estimated using discounted cash flow models, which incorporate assumptions that we believe reflect the terms currently available on similar borrowing arrangements to borrowers with credit profiles similar to ours.

⁽³⁾
The fair value of our non-real estate assets and liabilities is estimated to materially reflect book value given their typically short-term (less than 1 year) settlement periods.

Hines REIT, which I discussed earlier this year here, uses the following language, and it does have an enterprise component:

The estimate of the per-share value was made with consideration primarily of (1) valuations of the Company’s real estate investments, including estimates of value which were determined by the Company’s management and independent third parties using methodologies that are commonly used in the commercial real estate industry (including discounted cash flow analyses and reviews of current, historical and projected capitalization rates for properties comparable to those owned by the Company); (2) valuations of notes payable, which were determined by an independent third party; and (3) the estimated values of other assets and liabilities which were determined by management, as of March 31, 2011. In addition, the Company engaged an independent third party to review management’s market value estimates as of March 31, 2011 for selected assets that represented a substantial portion of the Company's property portfolio, and such third party has opined that management’s market value estimates are fair and reasonable. Finally, the Board also considered the historical and anticipated results of operations of the Company, liquidity requirements and overall financial condition, the current and anticipated distribution payments, the current and anticipated capital and debt structure, and management’s and the Advisor’s recommendations and assessment of the Company’s prospects and expected execution of the Company’s operating strategies.

Hines REIT's first three valuation points look like Wells REIT II's, but unlike Wells, none of the Hines' assumptions are disclosed. The last sentence in the Hines REIT disclosure is where the analysis slips into the qualitative. The board considered additional items like anticipated results of operations, anticipated capital structure, and the "Advisor's recommendations and assessment of the Company's prospects and expected execution of the Company's operating strategies." It's naive to think the board would factor in negative projections. It's not disclosed what percentage of Hines REIT's $7.78 per share valuation is represented by these intangible assumptions.

I chose Hines in my comparison because I had its filing language readily available, and it's similar to Wells REIT II. Hines REIT is not the only non-traded REIT that adds in an enterprise component when valuing its shares. I am not against non-traded REITs having an enterprise valuation component, because non-traded REITs are companies and there is a value to that. I just need to see how the REITs value their ongoing business, because in my opinion, it's an easy way for non-traded REITs to report a higher share value.

I appreciate Wells REIT II's board's decision to disclose the assumptions used in determining a per share valuation. The board should get some credit for excluding the enterprise component, which had it been included, would have resulted in a higher net asset value.

I am skeptical of any valuation for a non-traded REIT until it lists on an exchange. That's the only valuation that's going to matter to most investors.

Is This TIC Article For Real?

2011-11-14T09:08:00.001-08:00

A link to this article on Tenant In Common investments just showed up on my Yahoo! Finance front page. It was written by a securities attorney who is listed as a contributor to Forbes. What a sloppy, credibility-destroying article. I'd expect an attorney to at least get basic facts right. He starts by saying that Tenant In Common (TIC) investments offered safe, guaranteed returns. I am not aware of any TIC deal offered guaranteed returns. Certain TIC deals were structured with contractual lease payments to pay income (Master Leases), but this is not a guarantee.

The attorney calls TIC deals "strange partnerships." Wrong. As the name states, a TIC deal is direct, tenant in common ownership of a piece of real estate, not a partnership. Investors own a specific percentage of a property, not an interest in a partnership, which in turns owns the property. Direct property ownership is why investors were able to defer taxes.

I love the contradictory use of the negative buzz words - private, illiquid and volatile - in this sentence:

Problem is, the value on the partnership, which is privately held and completely illiquid, can be extremely volatile and not nearly as safe as promised.

Yes, TIC deals were private and illiquid, all of which was fully disclosed. Private, illiquid investments cannot be volatile. Volatility implies a market that frequently sets prices - up and down - which an illiquid investment does not have. Any investor buying a TIC deal had just sold an illiquid property that had been held privately. There are many faults with TIC deals, but the private and illiquid argument fails, and the use of the term "volatile" is the author trolling for clients.

The other negative buzzword the author uses is "stock broker." TICs were not sold by stock brokers, but by financial planners and advisors that focused on real estate. Transaction oriented stock brokers avoid illiquid deals that are going to tie up investor capital for five to ten years or more.

There are more problems with the article, but I've wasted enough time with it. If I was an unhappy TIC investor this author would be the last attorney I'd call.

Wells REIT II $7.47 NAV

2011-11-09T22:53:00.000-08:00

It's been a long day. I'd been trying to finish a project that's taken much longer than I expected, and then I get hit with two bombshells. The first was the news on Grubb & Ellis Healthcare REIT II, which I noted in the previous post. The second was the $7.47 per share price of Wells REIT II. Maybe I shouldn't have been surprised at the low valuation, but I was. I was expecting a Net Asset Value per share closer to $8.50 or $9.00, not below $7.50. Here is an Investment News article on the filing. (The article implies a front end load of 20.3% - $5.9 million raised an $4.7 million in the ground - which seems high too me.) The REIT's dividend is not being adjusted, so the 5% yield on the original $10 per share investment is now a 6.67% yield on the new valuation. (Oh boy, a yield increase!) A third party, Altus Group, Inc., provided the valuation.

After a few hours digesting the new valuation, maybe it makes sense. Office property prices are down more than 40% from their 2007 peak. Wells REIT II acquired its properties from 2004 to 2011, with the majority acquired in the 2004 to 2007 time range, which was before the credit crisis and during a period of lower cap rates than in today's market. (Remember, real estate prices and cap rates move inversely, with low cap rates meaning high prices, and high cap rates signifying low prices.) Many of Wells REIT II's properties are suburban office properties, and suburban properties are just beginning to attract investors and see a rebound in pricing. For many investors in Wells REIT II the $7.47 share price, while unsettling, is not directly relevant because the REIT is non-traded. Investors who are reinvesting dividends will do so at the new lower price, which is a benefit as the current distribution will now buy more shares. Shareholders' real value will be realized when the REIT is listed on an exchange, is merged or sold, or sells its assets directly.

Update: The Snyder Kearny Blog likes Wells REIT II's disclosure related to the valuation. Maybe the added disclosure will start a trend.

Griffin-American Healthcare Trust, Inc.

2011-11-09T18:20:00.000-08:00

The board of directors for Grubb & Ellis Healthcare REIT II, Inc. determined that it was in the best interest of the REIT to transition advisory and dealer manager duties performed by affiliates of Grubb & Ellis Company to American Healthcare Investors, LLC and Griffin Capital Corporation, who will serve as co-sponsors of the REIT. Grubb & Ellis Healthcare REIT II will change its name to Griffin-American Healthcare Trust, Inc. The REIT will remain externally advised per this convoluted paragraph:

As a result of the co-sponsorship arrangement, Griffin-American Healthcare REIT Advisor, LLC (“Griffin-American Advisor”), an affiliate of Griffin Capital, will serve as our new advisor, andwill delegate advisory duties to Griffin-American Healthcare REIT Sub-Advisor, LLC (“Griffin-American Sub-Advisor”), a sub-advisor jointly owned by Griffin Capital and American Healthcare Investors. Griffin Capital Securities, Inc.(“Griffin Securities”), an affiliate of Griffin Capital, will serve as our new dealer-manager. We are not affiliated with Griffin Capital, Griffin-American Advisor or Griffin Securities; however, we are affiliated with Griffin-AmericanSub-Advisor and American Healthcare Investors(.)

I recommend reading today's 8-K filing that describes the transaction and rational behind it in more detail.

Can't sponsors get more creative than automatically resorting to using "American" in their name. Including "American" somewhere in the name does not give a deal or a sponsor additional credibility. Credibility is earned over time through performance, not through what a company calls itself or its deals. Why don't sponsors just come out with the BFDE (Best F*c%&ng Deal Ever) REIT, because that is what I believe is being implied anytime "American" is used in a title. (And, isn't there already a similar sounding non-traded REIT in the marketplace, American Realty Captial Healthcare Trust?)

The winners in this deal, long-term, are the principals of Griffin Capital and American Healthcare Investors, LLC, but this is always the case. This transaction is a coup for Griffin Capital and its principal Kevin Shields, as Grubb & Ellis Healthcare REIT II has been raising about ten times more equity per month than Griffin Capital's non-traded REIT. I can almost hear Griffin's Shields paraphrasing Charlie Sheen, "Winner, winner chicken dinner. Winner, winner Shields dinner."

Another Sunday Read - Financial Crisis Edition

2011-11-06T22:32:00.000-08:00

Here is a good article in today's Washington Post about financial crisis revisionist history. The article is good because I agree with its premise. The financial crisis, at its core, was fueled by the quest for yield, caused by artificially low interest rates, combined with an economic environment that masked the real underlying risk of many securities. This also caused investors to relax their guidelines. Blaming the government instead of honestly examining the real reasons for the crisis will ensure future crises.

Morningstar, Call Me

2011-11-04T09:51:00.000-07:00

Morningstar is getting into writing analysis on non-traded REITs. Here is a link to an InvestmentNews article on the decision. On the surface, it's hard to see how this is not good news. I think Morningstar will have its work cut out for it, especially based on the tone of this quote from Philip J. Martin, the person Morningstar hired to direct its non-traded REIT efforts:

“Presently, Morningstar does not believe a significant investment in nonlisted REITs makes sense for most investors as there are still too many drawbacks and unresolved issues,” he wrote in the note.” “We believe listed REITs to be the most appropriate option, from the standpoint of both the alignment of shareholder interests and long-term risk/return potential.”

But the deficiencies can be remedied, Mr. Martin said.

Let's not kid ourselves, the above comment is code for saying that non-traded REITs' fees are too high for representatives, broker / dealers and sponsors, and high fees limit non-traded REITs' chances for success. I'd like to be the fly on the wall when Morningstar tells Nick Schorsch, Jeffery Hines, Leo Wells and all the other non-traded REIT executives that they make too much money, and oh-by-the-way they need to disclose how much they're paid by the REITs' external advisors. And wait until Morningstar finds out how non-traded REITs spend their O&O money.

One thing I don't expect from Morningstar research is a Z-Score predicting that the entire non-traded REIT industry is a bankruptcy risk, which was recently produced by one of what InvestmentNews called "hodgepodge" due diligence firms. With (faulty) red herring analysis like that, Morningstar's presence is needed.

Morningstar, you need to call me, I'll shorten your learning curve in this industry where each of these REITs are different.

MF Global Nightmare

2011-11-01T07:17:00.000-07:00

Wow. A huge story out of the MF Global implosion this morning. Regulators are trying to determine whether MF Global tapped into customer accounts to support its bad trades. This story keeps getting worse.

Sunday Morning Oil & Gas Articles

2011-10-30T08:28:00.000-07:00

There are two oil and gas articles worth reading this morning. The first is a Washington Post opinion article about how the United States' oil policy is becoming more Western-centric and less dependent upon the Middle East. The new ability to exploit oil fields in Canada, North Dakota and Texas, and new finds off the coast of Brazil are why the reliance on Middle East oil is declining, and the decline is expected to continue. The article was written by Daniel Yergin.

The second article is from the New York Times and reports how hydraulic fracking has impacted Cooperstown, NY. Neighbors are battling each other over the fracking issue. This is not a cheery article, especially when you read this paragraph:

As it turns out, despite the furor here, the Marcellus Shale, a vast rock formation under New York, Pennsylvania and other states, is so shallow near Cooperstown it is not clear how much gas would be available and what kind of drilling would take place here. And no one expects that fracking will ever come to Cooperstown itself.

People are creating personal and familial chasms that will last generations, all over a contentious issue that may not ever happen.

Jumpy

2011-10-27T07:15:00.000-07:00

It is interesting how one 200 share trade is able to move American Capital Realty Property (ARCP) stock up 6.3%. Here is a screen shot from Google finance this morning showing the move:

Yesterday, ARCP stock closed at $10.80 per share. According to an S-11/A filed yesterday, ARCP principals and affiliates own 36% of its stock. (I had figured the principal and affiliate ownership at 34%, based on ARCP's Form 4 filing last week, which show 1,900,419 shares owned by principals and affiliates, out of 5,580,00 shares issued in ARCP's early September IPO.)

Update: As as a follow-up, ARCP closed at $10.53, on volume of 2,008 shares. No, I am not going to post on this stock everyday, it was just that a 6.3% move on 200 shares caught my attention.

Real Estate Prices

2011-10-26T08:46:00.000-07:00

I have not posted this data in several months. The Moody's / REAL Commercial Property Price Index rose 2.4% in July, and is now up 7% from a year ago and 15% from its post-peak low in April of this year. The share of distressed deals was the lowest portion (21.7%) of the index since January 2010. The Bloomberg article linked to above provides data on other commercial real estate indexes for comparison:

Other property price indexes have showed a slowdown. CoStarGroup Inc.’s National All Property Type Composite Index slipped0.5 percent in August from the previous month, the Washington-based real estate data provider said Oct. 12. The index was down3.6 percent from a year earlier and is 34 percent below a peakreached in 2007.

Green Street Advisors Inc., a real estate research companyin Newport Beach, California, reported commercial propertyvalues were unchanged in September from the previous month andadvanced 15 percent from a year earlier. Prices are down 9percent from their August 2007 peak, the company said Oct. 6.

Green Street’s index is weighted by asset value andincludes deals that are in negotiation or under contract.

This was a positive report.

Blackstone and GE Deal

2011-10-23T07:36:00.000-07:00

Last week, a Blackstone fund purchased 82 suburban office properties from Duke Realty for $1.08 billion. This supports recent reports that the demand for commercial real estate is spreading from major, downtown metropolitan locations to suburban and smaller metropolitan areas. The Duke Realty properties were located in the South and Midwest. GE Capital is providing finance on the transaction to the tune or $800 million, or 80%. An 80% loan-to-value is the highest I have seen since the Credit Crisis, without the use of a bridge loan or other forms of junior debt. This signifies lenders' acknowledgement of a widening real estate recovery. According to the Bloomberg article linked to above, GE will initially keep the loan on its balance sheet, but may syndicate it in the future.

CMBS News

2011-10-20T07:20:00.000-07:00

I have been busy the last few weeks, which is why blogging has been light. I saw this article yesterday on CMBS delinquencies that I thought interesting. Here is most of the article:

Analysts said the rate of delinquent loans increased to 9.36% from 9.01% in August. The rate has stayed higher than 9% for all of 2011.

The delinquency rates for all five property types rose in September from the prior month and are higher than the year earlier: retail to 7.11% from 7.08% in August; office to 8.16% from 7.36%; industrial 11.39% from 11.2%; hotel 14.81% from 14.56%; and multifamily 15.33% from 15.21%.

One new CMBS deal worth $1 billion priced last month and was more than offset by the $5.9 billion of legacy CMBS that exited the space during September, lowering outstanding CMBS to $594.6 billion, according to Moody's.

I am always surprised that retail has the lowest delinquency rate and multifamily the highest. I'd intuitively think retail would have high defaults because so many retail properites were built in response to the new housing that was developed in the 2000s. I don't know what the author of the article means with the statement that "$5.9 billion of legacy CMBS that exited the space during September." These loans obviously refinanced with new CMBS loans.

Housing, Finance and Jobs

2011-09-27T22:45:00.000-07:00

Here is a post from Calculated Risk from last week discussing a Fed Study on mortgage originations, and how lack of home equity and tough underwriting standards are limiting refinancings despite record low mortgage rates. A quote:

Back in 2003, about 35.5% of all homeowners refinanced. In 2010 only 10.7% of homeowners refinanced. On page 62, the study provides a table by FICO score, year of origination, and states with steep house price declines compared to all other states ("Steepest declines" consists of the five states with the steepest declines in house prices from 2006 to 2009: Arizona, California, Florida, Michigan, and Nevada; "other" consists of all remaining states.) Only a few borrowers with low FICO scores refinanced in 2010, and the rates for refinancing were lower in the five states than in the other states.

This is important - although we may see sub 4% conforming 30 year fixed rate mortgages soon, many borrowers will not be able to refinance.

Then yesterday the LA Times had this article on poor home sales, which are now at forty-eight year low:

The August read on new home sales showed properties selling at a seasonally adjusted rate of 295,000, down 2.3% from a revised July rate of 302,000 and just 6.1% above August 2010, according to the Commerce Department.

I am convinced the lack of financing and record low home sales are directly related. Until the housing market rebounds the economy is going to muddle along, with employment staying near current levels. Low home sales is not a new trend, and annual new home sales have fallen dramatically since peaking in 2006 at over 1,900 completions. The table below shows housing completions for the past five years:

2007 1,399

2008 1,002

2009 694

2010 552

2011 (est) 449

The data is from last summer that I obtained on Calculated Risk, and based on July and August figures, it looks like the 2011 estimate of 499,000 new home completions may be optimistic.

Strict lending standards are hindering the rebound in housing and the economy. The Fed, through Fannie Mae and Freddie Mac, which control over 90% of the mortgage market, can boost the economy by loosening lending standards and generating housing demand. Relaxing mortgage requirements does not require a return to 2005 standards. It means letting qualified people buy homes and allowing current homeowners to refinance their homes. It makes sense to allow a qualified homeowner to lower his or her mortgage payment. The alternative is not better.

A deliberate Fed strategy of easing home lending requirements will not require new Federal borrowing, or Federal spending, or Congressional debate, or a Presidential speech. Fannie Mae and Freddie Mac can act on their own to make home lending more accessible, and the economy will benefit, including employment as construction and ancillary housing related jobs increase. Sometimes you have dance with the one who brought you to the party, and to get out of the current slow economy, we need to focus on housing and finance, the two ugly dates we're stuck with at this gloomy soiree. It's time to dance.

Valuations

2011-09-23T07:32:00.000-07:00

I saw this Investment News article on Tuesday. It is my opinion that the non-traded REIT industry has treated David Lerner and the Apple REITs as a one-off, isolated incident. This is a misguided, myopic view. The non-traded REIT industry needs to proactively address their share price valuations, or resign itself to the impact of FINRA and SEC dictates. The valuation issue impacts the entire industry, and is not isolated to the Apple REITs. The key passage from the Investment News article is below:

The Finra rule proposal potentially would shorten that time period considerably, said Kevin Hogan, executive director of The Investment Program Association, a trade group for alternative-investment sponsors, including nontraded REITs and the broker-dealers that sell them. Last week, the IPA held a members-only webinar with Finra and Securities and Exchange Commission officials, who discussed the rule proposal.

Finra's proposal will be followed by the customary period of time for broker-dealers and industry sponsors to comment, Mr. Hogan said. But Finra's focus on the length of time nontraded REITs record an estimated valuation is clear, he said.

“Finra will try to have that date to be shorter and more definitive,” Mr. Hogan said.

Nancy Condon, a spokeswoman for Finra, said that she doesn't know when Finra will publish the rule proposal for comment.

It appears that regulators' concern about the valuation of illiquid nontraded REITs stemmed from the valuation of the Apple REITs, which are sold exclusively by David Lerner Associates brokers, Mr. Hogan said.

A large, if not only, part of the non-traded REITs' and broker / dealer community's ostrich valuation strategy is an unwillingness to admit - on client statements - the true impact of the initial load. All REITs have an immediate valuation that is net of the offering costs (load), giving a REIT that investors paid $10 for a net value of $8.50 to $9.00. No REIT, whether public or private, traded or non-traded, is buying real estate assets that gives an immediate 18% to 11% appreciation (the amount needed to recover a 15% to 10% initial load). Even though all the initial fees of non-traded REITs are disclosed, and investors should understand the fees they are paying, registered representatives don't want to deal with investors' questions when sale discussion points become reality on paper, and investors want to know what happened to 10% to 15% of an investment they just purchased.

If all REITs were required to publish their net valuations, it should have the impact of driving down front-end fees, as brokers are going to want to avoid fee impact conversations. It will also shorten hold periods as smaller loads are easier to overcome. Earlier and more frequent valuations will benefit investors, sponsors and brokers.

Hines in the Wall Street Journal

2011-09-21T09:34:00.000-07:00

There is an interview with Jeff Hines in today's Wall Street Journal. No mention of Hines' non-traded REITs in the entire article, except maybe this passage:

WSJ: Regarding the fund business, I was told it's not yet half of the overall business of Hines, but it is approaching that. What is the balance then?
Mr. Hines: Up through the '80s, we were basically a development firm. We would put a site together, and then go find an investor who would decide whether to come into the deal or not. The investor was making the ultimate decision of whether to invest in that specific project. In the early '90s, we changed dramatically in three ways. One, we went international. Two, we started to get into the acquisition business as well as the development business. We found that our skill sets worked just as – all of the things that help you make and manage a good acquisition are all of the things we were doing on the development side. The third big change was, when we went international, we went to Europe and emerging markets. To get back to your original question, we now have a big group of various funds that we've raised where we are playing that fiduciary role. (Emphasis added.)

Or, maybe not with the follow-up question and answer:

WSJ: It's still the case that the investment management business is approaching being half the company?
Mr. Hines: In incremental (new) business that we do, it's certainly more than that. Recently, we're talking to a lot more very large investors and doing programmatic deals with maybe one or two investors rather than 10 or 12. But, again, it's one where we have discretion in most cases over making the decision of where to invest.

America's Got Talent

2011-09-15T13:11:00.001-07:00

I do not like the show America's Got Talent, and hate is not too strong a word. But it's a staple on TV in my house over the summer. I choose to do other things than subject myself to this popular show. I did, however, catch the credits after last night's finale, and in a blink saw that the winner gets paid the $1 million prize in a form of a forty-year annuity. I don't know the terms of the annuity, but at today's interest rates it's probably not much more than the straight-line $25,000 per year. I saw on another blog that contestants can choose to take a discounted lump sum payment, which would probably be closer to $400,000. Good money, but nowhere near the advertised $1 million. What crappy terms. Come on NBC, pay the winners the full $1 million up front, you can afford it. I wonder if all reality shows deceive ~~screw~~ their winners in this manner.

Auspicious Anniversary

2011-09-15T09:03:00.000-07:00

Today is the third anniversary of Lehman Brothers' collapse, which took the credit crisis out of Wall Street and to the entire global economy. If you haven't already seen it, I would recommend HBO's riveting Too Big to Fail, based on Andrew Ross Sorkin's book of the same name.

ARC IPO

2011-09-08T11:05:00.000-07:00

American Realty Capital Properties, Inc. had its IPO late yesterday at $12.50 per share, and is now listed on NASDAQ with the symbol ARCP. ARCP raised $69.75 million and has a market capitalization of $116 million. As part of its IPO, it declared an annual dividend of $.875 per share, for a yield of 7% based on the IPO price of $12.50. I need to watch this REIT's filings to see how it dealt with all its debt.

KBS REIT I

2011-09-02T16:26:00.000-07:00

Here is a link to a Bloomberg article on Gramercy Capital's settlement with KBS REIT I and other creditors on $549 million of mortgage debt, on which Gramercy defaulted in May 2011 As part of the settlement, KBS REIT I will receive:

About 317 commercial properties in the REIT’s GramercyRealty division were given up today to lender KBS Debt HoldingsLLC in an initial transfer, Gramercy Capital said in astatement. The agreement obligates KBS to acquire all remainingGramercy Realty entities and properties by Dec. 15 and releasesthe REIT from outstanding loan balances and contractual anddefault interest.

Here is another paragraph from the article:

KBS, along with Goldman Sachs Group Inc. (GS) and CitigroupInc. (C), held senior and junior mezzanine loans on the Gramercyproperties and threatened to foreclose on about 900 propertiesin May after Gramercy Capital failed to pay off debt.

The article did not give specifics as they relate to KBS REIT I. At June 30, 2011, KBS REIT I carried the mezzanine loan on its book with a $459 million book value, subject to a $187 million repurchase agreement. I'm waiting for KBS REIT I to file an 8-K explaining the transaction and its ramifications.

S&P's Credibility Gap

2011-08-31T16:14:00.000-07:00

From Bloomberg: S&P rates subprime mortgage bonds AAA but won't give US bond' a AAA rating. The market's reaction to Treasuries after the S&P downgrade may explain the credence given to the rating agency.

Timely News

2011-08-24T23:42:00.000-07:00

I received an email today from a "due diligence" firm that announced two pieces of non-traded REIT news. I learned that Wells REIT II had a $250 million bond issue in...April! I am glad I now know this important news five months after the transaction. Wait, I think I wrote about it here...in April. Wells REIT II used the bond proceeds to repay acquisition financing on its $615 million Market Square transaction.

Gold

2011-08-24T08:21:00.000-07:00

I bought small positions in the double-short gold and silver ETFs just before congress passed the debt ceiling extension thinking that would cause gold and silver to pull back. Wrong. I've been on the losing side ever since. I saw a Wall Street Journal article yesterday that said that iShares' gold EFT had more market capitalization than iShares' S&P ETF. After the last two days, I doubt this is still the case. It's amazing to me that one commodity tracking ETF can have more money invested in it than an ETF tracking the entire market. I am keeping my double-short positions for the near term.

Update: Gold dropped about $100 an ounce today, or 5.38%. My double-short gold EFT only rose 6.27%. I thought I owned a double-short, not a one and a fifth short.

More Update: The Wall Street Journal article on gold ETFs included an interview with a realtor who explained that because of the weak dollar he was dumping other investments to buy gold ETFs. Realtors talking the dollar and currency markets always gives me comfort.

Smart Phone

2011-08-24T07:58:00.001-07:00

My iPhone auto corrects "reits" as "twits."

Applesauce

2011-08-19T11:07:00.000-07:00

HP's decision to leave the PC and tablet market is amazing. Here is link to Bloomberg discussing HP's new strategy and reason for dumping computers. Apple is really the technology king. HP's abandonment of PCs and tablets concedes the field to Apple. I am a huge Apple fan and user. I am a former PC user, probably like many Apple users. My first venture to Apple was its iTunes software that I ran on PC. The simplicity and brilliance of this piece of software made my decision to switch to Apple easy. I would not be surprised if RIM's tablet soon follows HP's into the garbage bin.

Heads or Tails?

2011-08-19T09:17:00.000-07:00

I just read a short 8-K from Hines Global REIT. It bought a 100% leased office building in Canton, Massachusetts from another non-traded REIT, Inland American REIT, for $57 million. Hines estimates a first year cap rate of 9.08% on the acquisition. A cap rate this high would seem to indicate a good price for Hines Global, but I'd like to know Inland American's side of the story.

More On Mortgages

2011-08-18T09:18:00.000-07:00

Further down in the New York Times article I referenced in the previous post is this paragraph:

During the boom years, S.& P. and other ratings agencies reaped record profits as they bestowed their highest ratings on bundles of troubled mortgage loans, which made the mortgages appear less risky and thus more valuable. They failed to anticipate the deterioration that would come in the housing market and devastate the financial system.

My emphasis added. S&P can't be blamed for missing the housing market's decline. I don't remember any experts predicting a housing decline to the levels we've experienced and the impact this decline would have on the greater economy and credit markets. (I re-read my posts from 2006 and many included links and comments on the overvalued housing market.) Anyone who didn't drink the housing Kool-Aid was considered a heretic and dismissed as an outlier. This is not to excuse S&P, but its thinking was the same as every other big firm. But really, the true reason behind the AAA ratings wasn't the housing market but the non-insurance insurance of credit default swaps that supported mortgage bonds. The worthlessness of this protection is a large part of the story.

Mortgage Miscue

2011-08-18T07:44:00.000-07:00

The Justice Department is investigating S&P's ratings on pre-credit crisis mortgage bonds. Mortgage bonds that were rated AAA and that ended up in default played a large role in the credit crisis. Here is a key paragraph from a New York Times article on the investigation:

In the mortgage inquiry, the Justice Department has been asking about instances in which the company’s analysts wanted to award lower ratings on mortgage bonds but may have been overruled by other S.& P. business managers, according to the people with knowledge of the interviews. If the government finds enough evidence to support such a case, which is likely to be a civil case, it could undercut S.& P.’s longstanding claim that its analysts act independently from business concerns.

That's a pretty serious allegation. After S&P lowered the United States' credit rating I heard a guest on a BBC news cast that 97% of all pre-credit crisis mortgage bonds S&P rated AAA defaulted. I don't know whether this statistic is true, but it's even half accurate, it is a staggering figure.

Stating The Obvious

2011-08-11T08:51:00.000-07:00

On a pure intellectual level, how can hydraulic fracking not be bad for the environment? Pumping tons of chemical laden fluids deep into the earth to loosen hydrocarbons can't be good. Here is a Bloomberg article on a government panel that released a study saying that fracking can cause environmental damage if not done properly. The panel also recommends that drillers adapt best practices. This may be simplistic, but the country's long-term energy needs must be balanced with safe, appropriate environmental standards. It doesn't benefit industry or the country to ruin land for a short-term gain. There is too much at stake to not get fracking right.

I recommend listening to the July 10th podcast, Game Changer, of the NPR's This American Life, which discusses fracking from many points of view. (You can find the podcast on iTunes.)

Fallout

2011-08-02T16:05:00.000-07:00

The manufactured debt crisis in Washington is over, but Washington's prolonged intransigence is seeping into the economy and the credit markets. Bloomberg details new concerns in the CMBS market. Delinquencies are at 9.88%, and are now at record highs. Here is a quote from the article:

Borrowers are falling behind on payments as a revival in new debt sales stumbles after investors pushed back on deal terms. Wall Street banks sold $3 billion in commercial mortgage- backed securities last month at the highest yields since issuance resumed in November 2009 and Standard & Poor’s exacerbated market turmoil by withdrawing rankings last week on new deals.

S&P’s decision forced Goldman Sachs Group Inc. (GS) and Citigroup Inc. (C), to scuttle a $1.5 billion deal after it was placed with investors.

CRE Review noted the aborted Citigroup and Goldman deals last week along with the departure of the head CMBS trader at both firms. Wall Street needs to ignore the games in Washington and focus on putting together good deals. It's no time to start playing credit games.

Maddening Distribution Information

2011-07-28T14:40:00.000-07:00

Does anyone else hate when non-traded REITs only present daily distribution data? I just received an 8-K from Hines REIT with this frustrating disclosure:

These distributions will be calculated based on shareholders of record each day during the month of August 2011 in an amount equal to $0.00138082 per share, per day and will be paid in October 2011 in cash or reinvested in stock for those participating in Hines REIT's dividend reinvestment plan. Of the amount described above, $0.00041425 of the per share, per day dividend will be designated by the Company as a special distribution which will be a return of a portion of the shareholders’ invested capital and, as such, will reduce their remaining investment in the Company.

Please, if you want to state distributions in fractions of cents, add a summary that tells investors the annualized distribution rate and whether the rate has been dropped, increased or maintained from the previous period. If the distribution rate changed, state the previous rate. When I see a daily distribution rate with no perspective, I immediately think the REIT is obscuring bad news. I'm too busy to check, did Hines REIT increase, decrease or maintain its distribution, at what distribution rate, and how much was the special distribution?

Cole Credit Property II's Per Share Value of $9.35

2011-07-28T10:00:00.000-07:00

Cole Credit Property II filed an 8-K yesterday announcing its per share value. Non-traded REITs are required to provide a per share value eighteen months after the close of their offering. Cole Credit Property II's value is $9.35 per share. Below is the method used in determining the non-traded REIT's value:

Methodology
     In determining an estimated value of the Company’s shares, the board of directors considered information and analysis, including valuation materials that were provided by CBRE Capital Advisors, Inc. (“CBRE Cap”), an independent investment banking firm that specializes in providing real estate financial services, and information provided by the Company’s advisor, Cole REIT Advisors II, LLC.
     In preparing its valuation materials, CBRE Cap, among other things:

• reviewed the Company’s Annual Report filed on Form 10-K for the year ended December 31, 2010, including the audited financial statements contained therein, and the Company’s Quarterly Report filed on Form 10-Q for the quarter ended March 31, 2011, including the unaudited financial statements contained therein;

• reviewed other financial and operating information requested from, or provided by, the Company;

• reviewed and discussed with senior management of the Company the historical and anticipated future financial performance of the Company, including the review of forecasts prepared by the Company;

• compared financial information for the Company with similar information for companies that CBRE Cap deemed to be comparable; and

• performed such other analyses and studies, and considered such other factors, as CBRE Cap considered appropriate.
     The board primarily considered four valuation methodologies that are commonly used in the commercial real estate industry and in valuing real estate investment trusts (REITs), all of which were included in the materials provided by CBRE Cap. The following is a summary of the valuation methodologies considered.

Net Asset Value — The net asset value methodology determines the value of the Company by valuing the Company’s underlying real estate assets and its entity level assets and liabilities. The value of the underlying real estate was determined by dividing estimated individual property net operating income by estimated market capitalization rates. CBRE Cap’s materials primarily relied on proprietary research, including CBRE market and sector capitalization rate surveys, as well as comparable transaction data and management guidance, in order to determine market capitalization rates to reasonably estimate the Company’s real estate values. CBRE Cap’s materials also relied on market information obtained from the debt and capital markets, management guidance and public filings of the Company to assist in valuing other entity level assets and liabilities.

Discounted Cash Flow Analysis — The discounted cash flow analysis utilizes five-year projected cash flows reasonably likely to be generated by the Company and discounts those future cash flows using a rate that is consistent with the inherent level of risk in the business to determine a present value. CBRE Cap reviewed the Company’s advisor’s projection of future cash flows and applied a perpetuity growth rate to the projected year five cash flows to arrive at a terminal value, and then applied a risk adjusted discount rate to the annual cash flows and terminal value to calculate a present value of such cash flows of the Company.

Public Company Comparables — The public company comparables methodology utilizes a range of Funds From Operations and Adjusted Funds From Operations, trading multiples of similar publicly-traded companies and applies them to the Company’s comparable metric to estimate the value of the Company. CBRE Cap selected comparable companies based on qualitative factors such as sector focus, asset quality and tenant mix, as well as quantitative factors such as company size and leverage, and adjusted the multiples based on the Company’s relative strength or weakness compared to the comparable company for each of the factors, which resulted in a reduction of the comparable company multiples. In addition, CBRE Cap further reduced the multiples to reflect the lack of liquidity of the Company’s shares as the Company’s shares are not traded on a national securities exchange. Comparable public companies utilized in the analysis were public REITs with portfolios that were primarily retail focused and included similar asset types with similar lease structures to the Company’s real estate portfolio.

Dividend Discount Model — The dividend discount model calculates the value of the Company by discounting estimated future dividend payments by the Company’s estimated cost of capital. CBRE Cap prepared the dividend discount model by utilizing the expected future distribution payments as provided by the Company’s advisor, and reviewed by CBRE Cap, and calculated the Company’s estimated cost of capital using the risk-free, 10-year treasury rate and adding appropriate risk premiums, which included an estimate of the long-term equity risk premium measured as the performance of the S&P 500 over the applicable risk free rate, and further adjusted for any Company specific risk premium.
     The four approaches to valuation noted above each resulted in a range of values for the Company’s per share value. CBRE Cap weighted each result to determine an overall estimated range of value for the Company’s shares. Upon review of CBRE Cap’s analysis and information provided by the Company’s advisor, the board of directors established a per share price of $9.35, which is within the overall range of value provided by CBRE Cap.

The above is plenty of language without saying much about the inputs that really drive valuation. Minor changes to these inputs - multiples, discount rates, growth rates, etc. - can provide large differences in values. Until Cole Credit Property II or any other non-traded REIT that lists a per share value is listed or liquidated, I'll view the per share valuations with skepticism.

Must Read

2011-07-25T09:58:00.000-07:00

I recommend that you read this thread on REITWrecks, which discusses a small offering from American Realty Capital. The author mixes detailed research, withering commentary, and bruising snark to produce one of the best financial blog posts I have read in some time. This post needs to win some kind of "excellence in blogging" award.

Bloomberg Baffler

2011-07-21T21:58:00.000-07:00

I had to read this headline a few times:

Tiger Woods New Caddie Pick Favors Fanny Sunesson, Irish Betting Site Says

Jump in Commercial Real Estate Prices

2011-07-20T23:08:00.000-07:00

Here is a Bloomberg article detailing a 6.3% jump in commercial real estate prices in May over April's prices. I saw this article this morning but didn't read it until this evening when the large price jump figure hit me. Here are the first three paragraphs of the article:

U.S. commercial property prices increased in May for the first time in six months as a rebound in distressed real estate helped boost values, according to Moody’s Investors Service.

The Moody’s/REAL Commercial Property Price Index rose 6.3 percent from April, the largest gain since the measure began in 2000. It’s down 11 percent from a year earlier and 46 percent below the peak of October 2007, the company said today.

The index, which measures broad price trends, had fallen to a record low in April as sales of distressed properties undermined real estate values. Distressed deals in May began contributing to rather than delaying a price recovery, according to the Moody’s report.

I know there is plenty of noise in a monthly price figure, but a 6.3% increase is still impressive.

The article also provides price data from Greenstreet and CoStar, both that showed year-over-year price increases.

Misstatement

2011-07-20T14:50:00.000-07:00

What a difference a few weeks makes. The New York Times made a big misstatement in its non-traded REIT ~~slam~~ article from yesterday. The article stated that American Realty Capital Trust (ARCT) recently valued its shares at $6.62 per share. Here is the quote:

But nontraded trusts are now required to update their net asset values every 18 months after their initial offering, and their own disclosures to the S.E.C. show their values dropping well below the price at which the shares were originally issued. For example, one REIT, American Realty Capital Trust, recently reported that its shares, which had been sold at $10, were now worth $6.62. The sponsor, American Realty Capital of New York, raised $2.3 billion in the last 18 months, according to its chief executive, Nicholas S. Schorsch. Other sponsors, including Cole, have reported similar declines in share price, public records show.

ARCT closed its primary offering last week at $10 per share, and is not required to make a new valuation for eighteen months. ARCT did not recently revalue itself at $6.62, and made an 8-K filing this morning stating so and has asked the NYT to correct its error. ARCT raised its full offering of $1.5 billion, with over $300 million coming in June alone. I wonder what, if any, impact the article would have had if it was printed in early June? Did the NYT confuse ARCT with another REIT?

Update: The New York Times corrected the above article and added this language to the end of the article:

This article has been revised to reflect the following correction:

Correction: July 20, 2011

An earlier version of this article misstated the share price for American Realty Capital Trust. It was sold at $10 a share, but the current value is not known. It is not $6.62, which is the REIT’s net tangible book value.

Insurance Company Lenders

2011-07-13T21:22:00.000-07:00

Here is a Bloomberg article from late last week describing how portfolio lending insurance companies are now competing for big commercial loans with Wall Street banks that make loans and then package and sell them as mortgage backed securities. The article details how Pacific Life and Met Life are expected to beat out big banks for a loan on a 55-story office tower in San Francisco's financial district. Last week Wells REIT II announced a $325 million loan from Pacific Life for the Market Square office complex in downtown Washington DC that the REIT acquired earlier this year. In a side note, Wells REIT II has now retired all the short-term acquisition financing (bridge loan and line of credit) it used to acquire the property.

Too Late Baby

2011-07-13T20:44:00.000-07:00

The Bancroft family has second thoughts about selling the Wall Street Journal to News Corp.

No Pressure - Industrial Income's Line of Credit Requirement

2011-07-07T00:22:00.000-07:00

Most non-traded REITs obtain a line of credit to help facilitate acquisitions and other activities. The lines of credit come with plenty of restrictions and covenants, and are complex financial instruments. These restrictions and covenants vary per line of credit, and may include limits on a REIT's leverage, require certain minimum debt coverage ratios, and place conditions on a REIT's distributions. Yesterday, I read (in a filing) a new requirement as part of Dividend Capital's Industrial Income Trust's new $40 million line of credit. The lenders are requiring Industrial Income, starting for the period ending September 30, 2011, to raise equity of $60 million a quarter (or $20 million a month). Here is the language from Industrial Income's July 1, 2011, Post Effective Amendment No 5:

The Revolving Credit Agreement requires that as of the end of each month, commencing with September 30, 2011, we must have generated gross proceeds from the Equity Offering equal to an aggregate amount of at least $60.0 million during the previous three full calendar months, which we refer to herein as the “Minimum Equity Raise Requirement.” If we fail to meet the Minimum Equity Raise Requirement, 100% of the net proceeds of our Equity Offering must be applied to reduce amounts outstanding under the Revolving Credit Agreement until we are able to meet the Minimum Equity Raise Requirement. In addition, if we fail to generate at least $30.0 million in gross proceeds during the previous three full calendar months, the Borrower may not draw any amounts under the Revolving Credit Agreement until such condition has been satisfied.

Industrial Income raised over $100 million in the first quarter of 2011, so the requirement does not seem to pose a current concern. I don't have a problem with this restriction, and mention it because I have not seen this requirement before. I think it is a smart move by the bankers. Industrial Income is lucky that the lenders did not require the REIT to do something audacious, like pay even a portion of its distribution from operating cash flows (read page S-2 of the July 1, 2011, Post Effective Amendment No 5).

Good News For Apartments

2011-07-06T22:25:00.000-07:00

Here is a Calculated Risk article on Reis's apartment report. Vacancies are down and rent is up. Vacancies stood 6% nationally at the end of the second quarter and rents at $997 per month. For the year earlier period, vacancies were at 7.8%, and rents were at $974. This is a marked improvement. Here is Calculated Risk's opinion on the impact improving rental market:

A few key points we've been discussing:
• Vacancy rates are falling fast (the excess supply is being absorbed). Note: The excess housing supply includes both apartments and single family homes.

• A record low number of multi-family units will be completed this year (2011). Only 8,700 apartments came on the market in Q1 (in the Reis survey area). This is the second lowest quarter since Reis has been tracking completions - the lowest was 6,000 last quarter.

• The falling vacancy rate is pushing push up effective rents. This also pulls down the price-to-rent ratio for house prices.

• Multi-family starts are increasing, and that will help both GDP and employment growth this year. These new starts will not be completed until 2012 or 2013, so vacancy rates will probably decline all year.

My bold and italics added in the last bullet point. I hope Calculated Risk's right that an improving apartment market can help GDP and the employment rate.

Dumb Article of the Day

2011-07-01T08:33:00.000-07:00

This article that predicts the worst ten housing markets for the next five years has been on Yahoo Finance's top news stories all morning. What a dumb article. How the heck do its two authors (or anyone else) have any clue what the worst housing markets will be for the next five years. I want the three minutes back it took me to read the article and write this post.

CMBS Pro Formas Return

2011-06-30T12:57:00.000-07:00

Here a Financial Times Alphaville blog post on the re-emergence of loan underwriting based on pro forma financial data rather than historical figures. In the 2000s most loans in CMBS were based on pro forma underwriting. Here is a strong quote from the post:

In market terms, pro-forma underwriting is the practice of basing future property cashflows on estimates rather than historical income streams. In non-jargon, it often means picking numbers out of thin air and basing your valuations on them. Even the rating agencies are pretty down on the method. Moody’s says that “almost always pro-forma underwriting is a negative for credit quality."

Anyway, recent concerns seem to stem from this report from Barclays Capital:
Although CMBS 2.0 deals so far are nowhere close to 2007 vintage in terms of pro-forma underwriting, we start seeing isolated examples where some loans were underwritten using forward looking assumptions … Historically, clean underwriting was traditionally based on the most recent 12-month trailing financials. However, we see that a significant number of loans in CMBS 2.0 were underwritten 1) either significantly higher than 12-month trailing; or 2) historical numbers were not quoted in Annex A, making such comparison impossible. In many instances the lack of historical operating performance was in those cases where relatively new construction (assets built or substantially remodeled within the prior three years and even not fully stabilized) was securitized. In addition, for the recently acquired properties, historical financials might be not available or are just considered less reliable, as the sponsorship changed. Based on our analysis, the combination of these two factors explains most of the instances where the historical financials were missing … On average, about 18% of all CMBS 2.0 loans did not have historical NOIs [net operating income] …

Hard to tell whether this is a trend or a few anomalies, but it did not take long for old habits to reappear.

Cole REIT Announces Exit Strategy

2011-06-29T07:20:00.000-07:00

In a short 8-K filing yesterday, Cole Credit Property Trust II announced that is exploring liquidity options, which it expects to complete within the next twelve months. Here is the language:

On June 28, 2011, Cole Real Estate Investments announced that it is actively exploring options to successfully exit CCPT II’s portfolio within the next 12 months, and that the potential exit strategies it is looking at include, but are not limited to, a sale of the portfolio or a listing of the portfolio on a public stock exchange.

This simple statement clearly presents the REIT's intention to list on an exchange or sell the portfolio within a year. Of course, the liquidation process may take more than a year, but telling reps and investors a specific date is a target Cole will have to stand by and defend.

Naural Gas Overestimates

2011-06-26T13:28:00.000-07:00

Here is another Sunday link, this time to a New York Times article on the natural gas industry. The article details how industry projections for shale drilling in three separate formations are not matching expectations, and that shall drilling may end up being more expensive than forecast. Here is a passage summarizing the article:

Company data for more than 10,000 wells in three major shale gas formations raise further questions about the industry’s prospects. There is undoubtedly a vast amount of gas in the formations. The question remains how affordably it can be extracted.

The data show that while there are some very active wells, they are often surrounded by vast zones of less-productive wells that in some cases cost more to drill and operate than the gas they produce is worth. Also, the amount of gas produced by many of the successful wells is falling much faster than initially predicted by energy companies, making it more difficult for them to turn a profit over the long run.

Here is a longer, second passage buried deep in the article:

Production data, provided by companies to state regulators and reviewed by The Times, show that many wells are not performing as the industry expected. In three major shale formations — the Barnett in Texas, the Haynesville in East Texas and Louisiana and the Fayetteville, across Arkansas — less than 20 percent of the area heralded by companies as productive is emerging as likely to be profitable under current market conditions, according to the data and industry analysts.

Richard K. Stoneburner, president and chief operating officer of Petrohawk Energy, said that looking at entire shale formations was misleading because some companies drilled only in the best areas or had lower costs. “Outside those areas, you can drill a lot of wells that will never live up to expectations,” he added.

Although energy companies routinely project that shale gas wells will produce gas at a reasonable rate for anywhere from 20 to 65 years, these companies have been making such predictions based on limited data and a certain amount of guesswork, since shale drilling is a relatively new practice.
Most gas companies claim that production will drop sharply after the first few years but then level off, allowing most wells to produce gas for decades.

Gas production data reviewed by The Times suggest that many wells in shale gas fields do not level off the way many companies predict but instead decline steadily.

“This kind of data is making it harder and harder to deny that the shale gas revolution is being oversold,” said Art Berman, a Houston-based geologist who worked for two decades at Amoco and has been one of the most vocal skeptics of shale gas economics.

The Barnett shale, which has the longest production history, provides the most reliable case study for predicting future shale gas potential. The data suggest that if the wells’ production continues to decline in the current manner, many will become financially unviable within 10 to 15 years.

A review of more than 9,000 wells, using data from 2003 to 2009, shows that — based on widely used industry assumptions about the market price of gas and the cost of drilling and operating a well — less than 10 percent of the wells had recouped their estimated costs by the time they were seven years old.

Terry Engelder, a professor of geosciences at Pennsylvania State University, said the debate over long-term well performance was far from resolved. The Haynesville shale has not lived up to early expectations, he said, but industry projections have become more accurate and some wells in the Marcellus shale, which stretches from Virginia to New York, are outperforming expectations.

This article presents nothing new for people that follow the oil and gas industry. Rosy forecasts that fall short, and costs that exceed expectations have been a hallmark of the oil and gas industry for as long as I have been looking at it, so it makes sense that newly drilled shale formations would cost more and produce less than anticipated.

Sunday Morning Links

2011-06-26T08:31:00.000-07:00

I've had two tabs open in my browser for several days in anticipation of writing a longer post on the housing market, jobs and the economy. I am not going to get to that post anytime soon, but wanted to link the tabs anyway. The first is from The Economist's Free Exchange blog and is about housing leading the way to a sustained economic recovery. The second link is to a Wall Street Journal article, (via Yahoo Finance), also discussing housing but from the finance angle. Is describes mortgage bond security guru Lewis Ranieri's latest venture, which is starting a private, non-traditional lender to step into the mortgage market because banks' credit standards are too restrictive. Yes, the "subprime" word is mentioned, but I'm convinced Ranieri's and others' ideas on the mortgage market make sense. I have come to the conclusion that housing is the key to jobs and economic growth, and until housing improves the economy will struggle.

Rip Van Veres

2011-06-24T09:55:00.000-07:00

I saw this Bob Veres' Financial Planning article yesterday morning. I've read it a couple of times and wonder where Mr. Veres has been the past ten years. (I will state upfront that this post is not a bash on Bob Veres just this one article, as I have read his material for nearly twenty years, and he has forgotten more about the financial planning industry than I'll ever know.) Sorry to break this to you Bob, but non-traded REITs are not a "new category of investments." The non-traded REIT business is now nearly a $100 billion industry, based on data I have seen recently published, and grew through steady equity raise of $5 billion to $10 per year over the past decade. The comparison of the current non-traded REIT business to the limited partnership boom of the 1980s is weak.

I broke into the broker / dealer industry in the late 1980s as a junior analyst assigned to the "continuing" due diligence department at a mid-sized independent firm. Continuing due diligence was a fancy term for the saps assigned to field angry calls from brokers, and sometimes their clients, to tell them that their limited partnership investments were worthless. A trial by fire. Coming out of college, I had no clue what a partnership was, and in a short period my bosses that knew answers to questions were fired, so I had to educate myself. Big partnership sponsors like August, Balcor, Equitec, VMS, Krupp and a slew of smaller ones all went away. One of the biggest syndicators was Dallas-based Hall Financial Group, run by Craig Hall, which specialized in apartments. He too failed. (His afterlife has not been all bad. His wife was an ambassador to Austria under President Clinton, Craig Hall's current firm is still doing real estate, and he and his wife run a respected wine business, although I won't buy a bottle.)

The limited partnership business of the 1980s that Bob Veres is trying to compare to today's non-traded REIT business, was marked by massive failure. Veres states that these deals collapsed under the weight of their fees, costs, expenses and deal structures. This is true to a point. Does anyone remember the infamous land deals that where structured as two offerings, one debt and one equity, where the debt investment was used to buy the raw land and the equtiy was used to pay interest on the debt and carry the land for a supposedly short period? These deals did not end pretty. I think a case can be made that a favorable tax code, which lead to the overbuilding of commercial real estate, and also caused the S&L collapse, hurt limited partnerships as much as fees.

Most limited partnerships lost their properties or were consolidated into other entities. The term "Roll-Up" is still a four-letter word in the independent broker / dealer world because of the disastrous late 1980s and early 1990s roll-ups of Equitec, VMS and Krupp, which became the innocuous named entities Hallwood, Banyan and Berkshire, respectively. Two roll-ups that kept their names, Realty Income Corp and Public Storage, worked out pretty well for investors that stuck around.

The non-traded REIT business of the late 1990s, lead by Wells and Inland, and since with multiple sponsors, has been marked by the lack of catastrophic failure. This is amazing considering the 49% drop in commercial real estate prices from their 2007 peak. Some REITs are struggling, as evidenced by net asset valuations of REITs like KBS REIT I, Inland Western, Dividend Capital's Total Realty Trust, Behringer Harvard's Opportunity I and others, which are all valued much less than the original $10 per share offer price. But while these REITs have seen their net asset values drop, there is no talk (that I know of) of these REITs ceasing to exist. As noted above, commercial real estate in the 1980s was driven by a favorable tax code that lead to signfianct over building. Commercial real estate in the 2000s did not, for the large part, have the overbuilding that marked the 1980s, which has helped the non-traded REITs keep their properties occupied. The non-traded REITs, in general, do not have the high levels of debt that was common in the 1980s. These factors, in my opinion, have helped the non-traded REITs avoid the problems that faced limited partnerships in the 1980s.

I think Mr. Veres' article would have been stronger and more relevant, if he'd compared the limited partnership industry of the 1980s to the TIC boom of the 2000s. This is the better analogy because both were marked by tax driven investors looking to avoid or defer taxes as first consideration, and both had highly leveraged properties. And like the limited partnerships of two decades ago, it's my opinion that most TIC deals will end up being lost to foreclosure, or more likely consolidated with other TICs. I don't believe TIC consolidation is a four-letter word, but that's a subject for another post.

The end of Veres' article falls further when he discussses non-traded REIT earnings. He lists some non-traded REIT earnings, all that are bad. He needs to focus on Funds From Operations (and NOT Modified Funds from Operations). FFO for REITs, whether listed or non-traded, is the most widely recognized metric for financial health, due to the large amount of non-cash write-offs afforded REITs.

Another area that separates the 1980s' partnership boom and today's non-traded REIT business in the independent broker/dealer business, itself. I don't have specifics, but I would guess many independent broker / dealers had partnership business that was probably 50% or more of their total revenue and needed partnership sales for their survival. Today, broker / dealer executives break into a cold sweat if alternative investments (under which non-traded REITs fall) are more than 10% of revenue.

One area where Mr. Veres focus was correct was raising the specter of Robert Stanger & Co. in the limited partnership boom of the 1980s and today's non-traded REIT industry. I'd like to know more about this, too. It is good that Bob Veres has turned his eye to this "new category of investments," and non-traded REIT sponsors better be ready if a bearded man with a ponytail stands up at a conference and starts asking pointed, uncomfortable questions. He doesn't take BS for an answer.

Inland Western REIT's New Value

2011-06-21T09:16:00.000-07:00

Inland Western filed an 8-K yesterday with a new net asset value per share. Inland Western estimates that its net asset value was $6.95 per share at March 31, 2011. This is an increase from early 2010's $6.85 per share valuation. Here is the opaque language, which now is common place with non-traded REIT sponsors, in the 8-K describing how Inland Western determined its valuation:

The estimated value was determined by the use of a combination of different indicators and an internal assessment of value utilizing internal financial information under a common means of valuation under the direct capitalization method. No independent appraisals were obtained. Specifically, the estimate of the estimated per-share value was made with primary consideration of the valuation of the Company’s real estate assets which was determined by the Company’s management using methodologies consistent with publicly traded real estate investment trusts in establishing net asset values, and the estimated values of other assets and liabilities determined by the Company’s management as of March 31, 2011.

I was pretty outraged in early 2010 when Inland Western presented a value of $6.85, thinking it too high. I guess I have mellowed over the past year because I read the filing without much of a reaction. I think this is because Inland Western, if I am not mistaken, is planning on listing its shares in the near future. A listing will give a true market valuation of Inland Western, and while its net asset valuation may have some merit, the stock price will be the tangible value.

Areas of Interest

2011-06-14T14:42:00.000-07:00

I recently signed up for a nifty data collection service that notifies me any time select public companies make an SEC filing. I set up the system up to receive notification on about a dozen non-traded REITs, and plan to include most all non-traded REITs in the near future. Yesterday, Monday, I received a huge data dump from about half the non-traded REITs on my watch list. The filings were all correspondence between the SEC and the non-traded REITs, with the SEC asking questions and wanting clarifications on these non-traded REIT's filings, in particular 10-Ks.

All notifications included the initial SEC inquiry, the non-traded REITs' follow-up, any future questions and follow-ups, and the final letter from the SEC saying it had no further questions. There was a general theme and consistency across the SEC's question and answer with the non-traded REITs. First, the SEC wanted to know how the non-traded REITs determined their average lease rates and if this average included discounts and rent concessions. The answer across all REITs was "no," the average lease rates excluded concessions.

Second, the SEC wanted to know how the REITs determined cap rates that the REITs included in their filings. To me, this seemed more disclosure related than questioning the actual cap rates, as the SEC didn't seem to have an issue with "average" cap rate (which I discussed here), it just seemed to want to know the formula used for calculating the disclosed cap rates. The cap rates are all pro forma based on the non-traded REIT's estimate for first year net operating income (which is then divided by the purchase price to determine cap rate), or in the case of the averagers, the average pro forma NOI over the anticipated hold period divided by the purchase price.

Finally, the SEC had questions on Modified Funds from Operations. I get the sense that the SEC holds MFFO in about as much esteem as I do. To paraphrase my take on what the SEC was inquiring about regarding MFFO, and again this was a theme across multiple non-traded REITS, was it was trying to determine why the non-traded REITs exclude acquisition costs from MFFO because REITs are in the business of buying and selling real estate, which obviously involves costs. The response was that non-traded REITs exclude acquisition costs to make prior period comparisons more meaningful. I am not going to argue this point, but will continue to discount MFFO until a REIT has fully invested its equity and MFFO really only consists of adjustments for straight line leases.

Fifteen Cents on the Dollar - Vegas Style

2011-06-10T18:59:00.000-07:00

Late last month I noted a land sale in Arizona that sold for eight cents on the dollar based on peak mid-2000s pricing. Here is another example, this time in Las Vegas. Calculated Risk and the Las Vegas Sun detail a property in Las Vegas (not sixty miles away like the discounted Arizona land sale) that sold for $30.2 million in 2007 and just sold for $4.4 million, an 85% discount. For some reason, seeing Southwest land sales at discounts of 92% and 85% made me wonder how IMH Mortgage Holdings' portfolio is maintaining its value.

Vintage Years

2011-06-10T18:42:00.000-07:00

When I think of vintage years and investing, I think of venture capital or private equity deals. It is my opinion that the concept of vintage years evolved as a way for managers (and marketers) to explain away poor performance. They created an excuse to blame bad deals and weak returns on the year in which a fund made its investments, rather than lousy investment decisions. I have never really heard it widely applied outside the VC world, but its a concept that needs wider application. Some real estate sponsors can make a strong case to play the vintage blame game. (And can't equipment leasing sponsors blame every year on the vintage?)

I have always been aware of vintage issues related to real estate investments, or, really, any pooled investment that raises and invests money over a particular time period. This idea solidified when I was recently reviewing the performance of two, large non-traded REITs, both with identical objectives, acquisition philosophies and management, that were issued by the same large real estate sponsor, and that raised about the same amount of investor equity. The only difference was when the REITs raised and invested capital. From a performance perspective, the two REITs are Jekyll and Hyde, night and day, black and white. The REIT that raised and invested money in 2006 to 2008 is having troubles and the REIT that raised and invested money in 2009 to 2010 is looking solid. The first REIT is not alone, as many REITs that were raising money over the same time 2004 to 2008 frame are facing a difficult environment.

I always thought of REITs, even non-traded REITs, as open-ended corporations with infinite lives that had the ability to actively buy and sell property, and that would eventually have a a mix of real estate, bought over different periods. I did not pay too much attention to the years when the REITs were buying property, as I thought it would all even out over time. Now I don't believe this. When a REIT buys its initial portfolio will make a big difference in its long-term performance. While you can't predict with certainty how current markets will relate to the future or what the future will bring, it is clearly an issue that needs consideration.

What's A Mega-Mansion?

2011-06-08T10:36:00.000-07:00

I saw the Orange County Register's real estate blog had a post title referencing a "mega-mansion" and had to click through. I thought that word "mansion" alone signified a big home, and that "mega" was a redundancy. I am not so sure after reading about the 12.5-acre estate that has a 17,000 square foot house, private lake, tennis courts, an actual wine cave, vineyard and horse stables. The estate is near the end of construction but financial problems have resulted in stopped construction and bankruptcy filings. It was once valued as high as $81 million but now is being shopped at a lowly $37 million. The home was owned and built by a partnership. It filed for bankruptcy, following the bankruptcy filing of the mega-mansion's project manager / real estate broker. There are 299 creditors that filed claims against the partnership. The slide show of the estate is worth viewing.

2011-06-02T09:58:00.000-07:00

Profound Quote
"If you're that upset about how big the bowl for your free cereal is, leave."
Pixar's John Lasseter's response to a new employee who complained in an email about the free cereal bar at Pixar. The quote is from great article on Pixar in the May 16th issue of The New Yorker. (The link is only an excerpt from the article.) The employee did not last at Pixar.

2011-06-01T14:31:00.000-07:00

End of an Era
Independent broker / dealer Omni Brokerage has closed its doors. Omni was a leading proponent and seller of syndicated real estate investments, in particular tenant in common programs. I suspect that Omni's lack of product diversification was crippling during the real estate downturn. The Investment News article (linked above) tries to correlate Omni's closure to failed TIC deals by DBSI, but I am not sure I believe this argument. Omni was the first and loudest champion of strict due diligence and disclosure for TIC products. It tried to tame the frenzy that was the TIC market place in the early 2000s as much as it tried to capitalize on it. While Omni's legacy will be inextricably tied to the rise and demise of TIC syndications, investors and broker / dealers benefited, and will continue to benefit, from its efforts to improve deals, emphasize due diligence, and its push for more transparency and disclosure.

2011-06-01T07:36:00.000-07:00

David Lerner and Apple REIT
The news that FINRA filed a complaint against David Lerner Associates (DLA) hit yesterday. Here is a Bloomberg article. According to the article DLA is accused of "of targeting unsophisticated and elderly customers while selling real estate investment trust shares without considering whether the illiquid security was suitable for its clients." Here is another quote:

In soliciting customers for Apple REIT Ten, DLA provided misleading information about distribution rates for a series of predecessor securities that are now closed to investors, Finra said. The figures failed to show that distributions far exceeded income and were funded by debt that increased leverage in the REITs, which invest in extended-stay hotels, the regulator said.

DLA denies the allegations. I find it shocking that at a non-traded REIT would not only use leverage, but also pay distributions that exceed income.

I don't know anything about the Apple REITs other than what I have read the past day. The Snyder Kearney blog has a more serious post on this matter and link to the FINRA news release.

Update: Here is a good Wall Street Journal article on DLA and Apple REITs. Here is a key section:

At the root of Finra's action against the Lerner firm is the way that four Apple REITs have generated returns in the past and maintained their shares at a constant price of $11. All of the REITs, which were launched from 2004 to 2008 and primarily purchased extended stay hotels, have been paying returns of 7% to 8%, according to the complaint.

But the Lerner firm has failed to disclose, in describing the products on its website, that the income from real estate was insufficient to support these, Finra said. Rather, the distributions were partially funded by "leveraging the REITs through borrowings and returning capital to investors," the complaint states.

Finra also said the constant $11-a-share valuations for the four REITs are inaccurate, given they didn't reprice during the financial crisis when the extended stay hotel market "suffered a significant, material downturn." The valuations, Finra said, should have been a red flag for the Lerner firm, spurring it to conduct further due diligence before selling its latest product, Apple REIT 10.

2011-05-30T17:34:00.000-07:00

Eight Cents On The Dollar
I have been in the basement over the long weekend. This Bloomberg article (and related Calculated Risk post) from over the weekend caught my eye. I'm no Arizona geography expert, but sixty miles southwest of Phoenix sounds like the middle of scorching Nowhere:

A 10,200-acre (4,100-hectare) desert site in Arizona sold for $32.5 million this week, five years after a group with investors including the California Public Employees’ Retirement System paid $400 million for the land.

Arcus Property Solutions LLC, a private-equity fund with about $100 million under management, paid cash for the property in Goodyear, about 60 miles (97 kilometers) southwest of Phoenix, said Kent Kleinman, a spokesman for the Gilbert, Arizona-based company. The site, now called Amaranth Land LLC, had been planned for a 42,000-home community by the Calpers- financed group when it was purchased in 2006.

The plan for the 42,000 homes is on indefinite hold, with cattle grazing the current use and potential future revenue sources that include selling water rights or allowing Goodyear to expand its landfill. I like this part of the article:

The 2006 buyers were a joint venture of MW Housing Partners III LP, a real estate fund with money from Calpers and Weyerhaeuser Co. (WY); and Scottsdale, Arizona-based Montage Land LLC, according to Arizona Corporation Commission records. The deal was funded by a $250.1 million loan and $150 million in cash, according to Terry McDonnell, publisher of Business Real Estate Weekly of Arizona in Scottsdale.

“Of all the speculative deals I’ve seen here, this was right at the top,” McDonnell said in a telephone interview. “It’s hard for me to think of a more speculative deal of this magnitude in Maricopa County.”

2011-05-27T08:26:00.000-07:00

Hines REIT Reprices
Hines Real Estate Investment Trust, Inc. filed an 8-K yesterday announcing that it has valued its shares, as of March 31, 2011, at a price of $7.78 per share. The valuations were determined using the following:

The estimate of the per-share value was made with consideration primarily of (1) valuations of the Company’s real estate investments, including estimates of value which were determined by the Company’s management and independent third parties using methodologies that are commonly used in the commercial real estate industry (including discounted cash flow analyses and reviews of current, historical and projected capitalization rates for properties comparable to those owned by the Company); (2) valuations of notes payable, which were determined by an independent third party; and (3) the estimated values of other assets and liabilities which were determined by management, as of March 31, 2011. In addition, the Company engaged an independent third party to review management’s market value estimates as of March 31, 2011 for selected assets that represented a substantial portion of the Company's property portfolio, and such third party has opined that management’s market value estimates are fair and reasonable. Finally, the Board also considered the historical and anticipated results of operations of the Company, liquidity requirements and overall financial condition, the current and anticipated distribution payments, the current and anticipated capital and debt structure, and management’s and the Advisor’s recommendations and assessment of the Company’s prospects and expected execution of the Company’s operating strategies.

In other words, they wrote some potential values on Post-Its, stuck them to a wall and threw a dart. Joking aside, you should read this post from the Snyder Kearney blog on non-traded REIT valuations.

Hines Advisors, LP, Hines REIT's external advisor, agreed to reduce its annual asset management fee from .75% to .50%, for the six-month period July 1, 2011 to December 31, 2011. In other words, investors get a permenant impairment to value while management gets a temporary financial rebuke.

2011-05-24T23:13:00.000-07:00

Real Estate Stories
Real estate fascinates me, especially a building with a history. The story of how a property evolves over time to either become part of a city, town or neighborhood, or slowly erode is one that interests me. When I was young, I would spend hours looking through my dad's book, Lost New York, which detailed architecturally beautiful or significant buildings that were torn down in New York City to make way for new buildings. It is hard to imagine all the mansions that used to line Fifth Avenue that were replaced by today's buildings.

I recently came across two articles on two pieces of real estate with history. The first is on Atlanta's Equitable Building, one of the city's first office towers. I have seen this building on numerous trips to Atlanta. The article does not go much into the building itself, except for its recent financial problems, but it was built in the 1960s and has become a landmark.

The second property is a hotel/motel in Orange County and its demise is detailed in three articles from the Orange County Register. The articles are here, here and here. (The slideshows in the first two links are worth viewing.) In the 1960s and 1970s, the Saddleback Inn was the place to stay in Orange County. It hosted Ronald Reagan and John Wayne, and the Washington Redskins stayed there before a Super Bowl. In the 1980s a wave of new hotels across Orange County cut into the Saddleback Inn's business and it slowly began to deteriorate. It is now closed and is associated with vagrancy, drug abuse and prostitution. A fire in January gutted a portion of the old hotel and demolition is likely.

You can't compare a kitschy Orange County hotel with the Old Penn Station in New York City, but both properites have a story. It is sad that the Saddleback Inn is going to get razed, especially now that some retro hotels and motels are getting renovated. Atlanta's Equitable has the advantage of being a high-rise, and looks to have passed a point where it changed from being an office building to a city icon.

2011-05-23T09:56:00.000-07:00

Triple Vision
I am trying to make sense of this Bloomberg article. It's about as clear as an average cap rate. The article summarizes commercial real estate price valuations from Moody's, CoStar Group and Green Street Advisors, Inc. All agree that prices have dropped from their 2007 peak, but there is some big discrepencies in their data:

The Moody’s/REAL Commercial Property Price Index dropped 4.2 percent from February and is now 47 percent below the peak of October 2007, Moody’s said in a statement today.

Prices for investment-grade properties in the U.S. fell 4.9 percent in March from the previous month, CoStar Group Inc. (CSGP), a real estate data service based in Washington, said May 11. Values were up 2.2 percent from March 2010 and down 38 percent from the peak in June 2007, according to the company.

Green Street Advisors Inc., a real estate research company in Newport Beach, California, reported rising prices in April. Commercial property values increased 2 percent from the previous month and 18 percent from a year earlier, the company said May 5. Prices are down 13 percent from the August 2007 peak.

The dates differ and types of properties in the indexes differ. For example, Green Street includes pending sales, and CoStar excludes properties below a certain size. The quote below from an economist at a large commercial real estate brokerage made the most sense:

“We have reached the point in the cycle where there is a clear trend in improving demand, falling vacancy and stabilizing rents,” Kevin Thorpe, chief economist at brokerage Cassidy Turley in Washington, said in a telephone interview before the report. “Investors are buying well before commercial real estate has reached a full recovery.”

With data this varied, I have to keep repeating the old axiom that all real estate is local.

2011-05-22T22:54:00.000-07:00

"Average" Cap Rates
Late last year I noted the term "average cap rate" in relation to a Cole REIT's acquisition. Cole took an average NOI over the anticipated hold period, rather the capitalizing the first year NOI. Using an average cap rate implies an acquisition at better terms than in actuality. For example, if you have a 100% triple net leased building that was purchased for $1 million and the first year lease payment is $60,000, the cap rate is 6%. If the lease rate has 2% annual increases and a ten-year term, the average lease rate over the term of the lease is $65,698. If the average lease rate is used to calculate the cap rate, the cap rate jumps to 6.57%. This makes it seem like the buyer did not pay as much for the property. This is wrong, because cap rates are based only on the first year's NOI.

Now I see another REIT using the bogus average cap rates. American Realty Healthcare Trust made a filing on Thursday listing three potential acquisitions. Each of the cap rates disclosed in the filing was based on the average lease rate over the lease term, not the first year NOI. The wordsmithing is:

"calculated by dividing annualized rental income on a straight-line basis less estimated property operating costs by the purchase price"

The phrase "annualized rental income on a straight-line basis" is the slight of pen.

This cap rate discussion may be a mute point for American Realty Healthcare Trust, as it just broke escrow at $2 million, but will need cash of $28.5 million to close the three targeted acquisitions. The REIT has to pay offering costs on its equity raise, and it just declared a 6.6% distribution. It will have to have raise an additional $30 million or more to acquire the three properites, pay its load and distribution. If the REIT has to use acquisition financing, then the disclosed cap rate figures will be evenless reliable.

2011-05-22T08:20:00.000-07:00

Manhattan Development
Here is a Bloomberg article on developments in Manhattan. The article goes through multiple development projects. One statistic that jumped out at me was that 64% of Manhattan's office buildings are more than fifty years old.

2011-05-13T13:22:00.000-07:00

Real Estate Update
The Blogger blogging software has been having problems since yesterday, which are impacting bloggers everywhere. My post from yesterday has been temporarily removed, hopefully it will be restored soon.

In the meantime, here is a Calculated Risk post on a Reis report that covers some commercial real estate asset classes. (Calculated Risk runs on Blogger, too, so it also has not been updating.) The underlying performance in apartments and office space continues to improve, while malls are experiencing falling rents and increasing vacancies.

2011-05-12T07:09:00.000-07:00

Few Degrees of Separation
Here is an interesting article from Bloomberg on Gramercy Capital's failure to repay $790 million of loans secured by approximately 900 properties. On the surface this looks like another example of the unwinding of the credit boom of the mid-2000s. To get to the interesting part you have to dig deeper and you'll find that two non-traded REITs are directly and indirectly involved. In April 2008, Gramercy Capital acquired American Financial Realty, which was a publicly traded REIT. If that sounds familiar, it should because several of the former principals of American Financial Realty are now running the non-traded REIT, American Realty Capital Trust (ARCT). The principals had left several years before Gramercy acquired American Financial Realty and were therefore not involved in the acquisition or Gramercy's current financial problems. The 900 properites that secure the loans in default are the assets from American Financial Realty, and are similar to the properties in the ARCT, stand-along properities subject to long-term leases.

KBS REIT I (through a subsidiary), along with Goldman Sachs, Citigroup and SL Green are the lenders involved. Here is an explanation from another article:

Gramercy Capital Corp. (NYSE: GKK) today announced that the scheduled maturity of its (i) $240.5 million mortgage loan (the "Goldman Mortgage Loan"), with Goldman Sachs Mortgage Company ("GSMC"), Citicorp North America, Inc. ("Citicorp") and SL Green Realty Corp. ("SL Green," and, collectively with GSMC and Citicorp, the "Mortgage Lenders"), and (ii) $549.7 million senior and junior mezzanine loans (the "Gramercy Realty Mezzanine Loans"), with KBS Debt Holdings, LLC ("KBS"), GSMC, Citicorp and SL Green (collectively, the "Mezzanine Lenders") has occurred without repayment by the borrowers thereunder and without an extension or restructuring of the loans by the lenders.

KBS REIT I is in a mezzanine position. KBS REIT I made a filing last week on this debt that I am trying to understand, and it may be a subject of a future post.

I just found it interesting that the commercial real estate world can sometimes be a small place.

2011-05-08T22:27:00.000-07:00

Lame Critique of Non-Traded REITS
Here is an article from Morningstar.com, written by columnist John Wasik on why an investment in non-traded REITs is a bad idea Its a hack piece of opinion. The author writes in generalities and innuendo. Here is an example:

Yet one version of REITs--those that are unlisted--have been attracting unfavorable attention of late. Because they are ripe with problems and there are plenty of alternatives available, they are best avoided.

Regulators have been probing unlisted REITs, which have raised almost $60 billion from investors over the past decade. Watchdogs are concerned that retirees are being sold these investments with the pitch that they are low-cost and low-risk. They are neither.

The article states that non-traded REITs are ripe with problems. Wasik fails to name the problems and gives no examples of specific malfeasance. And regulators are probing unlisted REITs? I have heard that regulators, mainly FINRA, are investigating non-traded REIT marketing and sales practices not the actual non-traded REITs and their operations.

In the nonsensical sentence below, Wasik confuses mutual funds with REITs:

Unlike REIT mutual funds that own stakes in a number of publicly traded companies that own properties, non-listed REITs sell shares directly through brokers.

What??? If you check almost any brokerage firm, mutual fund sales will far exceed the sale of non-traded REITs. This may be the dumbest point in a stupid article.

Here is more inanity when the author talks about alternatives to non-traded REITs:

Though you can invest in individual names, for most people, diversification makes even more sense when investing in REITs. You don't want to be too exposed to one sector such as malls, residential, or self-storage, or specific geographic regions. For example, you don't want to be stuck in a REIT that's heavily concentrated in South Florida, where the real estate market is hurting.

Yes, diversification makes sense. I am not aware, however, of any non-traded REIT exposed to South Florida, or any other single geographic market. Yes, even noxious non-traded REITs diversify across regions. Wasik's one alternative to non-traded REITs is a Vanguard index mutual fund. Its yield is less than 3%, so is it really a competitor? I am all for indexing, diversification, alternatives and liquidity, but if you are doing a REIT index fund, it's not a stand-alone an income play. You are going to have to research individual listed REITs that pay strong, consistent dividends to find a true alternative to non-traded REITS.

I know the flaws of non-traded REITs, unfortunately this article added nothing to the conversation. Quotes from attorneys discussing non-traded REITs adds no credibility. These attorneys are looking to sue brokerage firms on investor suitability grounds, not because the investment was a REIT. If you are going to slam non-traded REITs, you have to name names and provide specific examples of why the non-traded REITs are so bad.

2011-05-08T00:07:00.000-07:00

Thoughts on WP Carey CPA 14's Merger into CPA 16 Global
I went through the CPA 14 proxy / merger document in my spare time this week. The entire transaction is affiliated and the values were determined by the WP Carey not the market. WP Carey obtained a "fairness opinion" on the transaction, but the firm that issued the fairness opinion, based on my understanding after reading the opinion, did not opine on the values involved in the merger, but on the valuation methodologies used by WP Carey. (How do I get that gig, getting paid big bucks to write a no-opinion opinion?)

As I noted in my previous email, the entire merger went under my radar. The initial proxy statement went out in December and the transaction closed last week. I don't have exact figures on the merger other than was what in the press release, and will have to wait until the second quarter financial results are posted in mid-August to get the final data. Investors could either choose to take cash of $11.50 per share or merge into CPA 16, and see an increase in yield, from about 8.4% to 9.2%. Up to 50% of the investors could choose the cash option. The cash that would be available for choosing the cash out option would come from the following sources:

CPA 14 was to sell properties to CPA 17 and to WP Carey that would net $89 million
CPA 16 was to obtain a $300 million line of credit
CPA 16 was to utilize a portion of its cash (which approximated $59 million at 12/31/2010)
Finally, WP Carey was to purchase shares of CPA 16, if necessary

I estimate that CPA 14 had approximately $950 million of investor equity at year-end, and half that would be about $475 million. WP Carey had to purchase $121 million of CPA 16 shares to complete the merger and meet the cash out requests. I have never heard of a sponsor investing this much money in one of its own funds. I find this figure staggering. Non-traded REIT sponsors are notorious for not investing in their own deals, the ultimate chefs who refuse to eat their own cooking. WP Carey not only had to cook, but also got stuck with the bill for a three-star, five-course meal, served with a couple of bottles of First Growth Bordeaux.

CPA 14 had approximately $1.5 billion in total assets at year end. If WP Carey gets a 1% annual asset management fee, this is $15 million a year on the CPA 14 assets. It will take over eight years for WP Carey to recoup its $121 million through the asset management fee. CPA 16 is a long-term investment and should have at least several more years before a liquidity event. WP Carey has just tied up $121 million for an indefinite period.

WP Carey will probably try to spin its purchase of $121 million of CPA 16 shares in a positive manner. I don't believe for a second that WP Carey had any expectation it would have to invest so much money in CPA 16. WP Carey has a reputation as being one of the smartest operators in the non-traded REIT business. It looks to me like it was too smart by half in this transaction. I am guessing that the maximum number of investors chose the cash-out options, despite the premium exchange price offered CPA 14 investors and a nearly .80% increase in distribution. I know I write this too much, but this transaction and how WP Carey gets its $121 million out bears watching.

2011-05-04T18:19:00.000-07:00

WP Carey Flies Under the Radar
I did not know about the WP Carey CPA 14 merger into CPA 16 Global until I saw the press release on my Google News screen. The complexity of the transaction tells me I need to dig deeper into the filings. I will have more on this in the next few days, but on first blush, this is one huge affiliated transaction.

2011-04-29T13:54:00.000-07:00

Cornerstone Healthcare Plus REIT Pulls Offering, Hires Stanger
I love Friday afternoons. I just saw this filing from Cornerstone Healthcare Plus REIT. It has terminated its offering, and has hired Robert Stanger to assist it with its strategic alternatives. One of the alternatives could include hiring a new managing broker / dealer, which would mean the REIT would reopen its offering at some future point. Cornerstone Healthcare Plus began raising capital in August 2007 and has raised an anemic $130 million (approximately) in investor equity. Here is the entire correspondence:

April 29, 2011

Dear Investor,

We are writing to inform you of a recent decision made by the Independent Directors Committee of the Board of Directors of Cornerstone Healthcare Plus REIT, Inc. (“CHP”).

At the recommendation of our advisor, the Independent Directors Committee is considering various strategic alternatives for CHP to enhance stockholder value. One of the alternatives under consideration is the hiring of a new dealer manager for the company’s public offering of common stock.  The Independent Directors Committee has engaged Robert A. Stanger & Co. as its independent financial adviser to assist in the consideration of strategic alternatives.

In consideration of the uncertainty associated with these developments, our Independent Directors Committee has directed us to take the following steps with respect to our public offering.

The Public Offering.  Effective immediately, we are suspending our public offering.  Accordingly, we are not making or accepting offers to purchase shares of stock in CHP until further notice.

Suspension of the Distribution Reinvestment Plan.  Our offering included a distribution reinvestment plan under which our stockholders could elect to have all or a portion of their distributions reinvested in additional shares of our common stock.  Consistent with the above decision with respect to the offering, we are suspending our distribution reinvestment plan effective on May 10, 2011.  Therefore all distributions paid after that date will be in cash until further notice.

Suspension of the Stock Repurchase Program.  Our stock repurchase program provides stockholders with a limited ability to sell shares to us for cash until a secondary market develops for our shares.  Consistent with the decisions to suspend our public offering and distribution reinvestment plan, we are suspending repurchases under the program for reasons other than death effective May 29, 2011. We can make no assurances as to when or if repurchases will resume.  The share repurchase program may be amended, resumed, suspended again, or terminated at any time.

We believe that these steps will better position us to maximize stockholder returns over the long term.  We take your investment with us very seriously, and we look forward to continuing to serve you.

Sincerely,
Terry Roussel
President and CEO

The share repurchase programs are always the first casualties when REITs start exploring their "strategic alternatives." Investors' limited liquidity options are now zero, except for trying to brave the secondary market. Cornerstone Healtcare Plus has overpaid its distribution since inception, so now that the equity raise is over, I'll watch to see whether the current distribution level is maintained.

2011-04-28T07:32:00.000-07:00

Thoughts On Behringer Harvard Multifamily's Recent Acquisitions
Over the past week Behringer Harvard Multifamily REIT I announced two investments. The first is a 320-unit to-be-built apartment complex in Houston, TX. The REIT will make a mezzanine loan investment in the development. I am guessing the loan will accrue interest, which along with the principal, will convert to equity when the property's construction is complete and a permanent mortgage is obtained.

The second property is a 179-unit apartment complex, originally built in 2007 as condos, in downtown San Francisco. The purchase price was $94 million, or $525,000 per unit. Here is the 8-K filing. Here is an article from a San Francisco real estate blog, Socketsite. The comments are interesting, especially the one that says the cap rate was less than 4%, which is amazing if true.

There was little financial detail provided in the two filings. On the surface it appears the Houston investment will not generate meaningful cash flow in the immediate future, unless the mezzanine investment pays current interest rather than accrued interest. The property's construction is slated for an early 2012 completion, and then it'll have a lease-up period that could take another twelve to eighteen months, so you looking at approximately two years before it is fully operational. Absent financial data, the return on the San Francisco property is open for speculation.

What is known is that at year-end 2010, Behringer Harvard Multifamily I's cash from operations and Funds From Operations (FFO) only comprised 5.5% and 15.9%, respectively, of its distributions, with the shortfall paid from offering proceeds. The REIT closes its offering period at the end of July, meaning its largest source of distribution financing is ending. While these two properites are only part of a now thirty-five property portfolio, I would have thought the REIT would show more urgency in its efforts to cover its distribution from property cash flow.

2011-04-26T07:29:00.000-07:00

T Boone Pickens On Natural Gas Fracking
I heard most of this National Press Club panel interview with T Boone Pickens and Ted Turner while driving on Easter. Pickens discusses the environmental issue surrounding natural gas fracking at around the 37:00 mark.


•	the large size of our portfolio, although it may be true that some buyers are willing to pay more for a large portfolio than they are willing to pay for each property in the portfolio separately;


•	our rights under our advisory agreement and our potential ability to secure the services of a management team on a long-term basis; or


•	the potential increase in our share value if we were to list our shares on a national securities exchange.



Real estate assets	$	10.13	(1)
Debt	(2.65)		(2)
Other	(0.01)		(3)
Estimated net asset value per-share value	$	7.47
Estimated enterprise value premium	None assumed
Total estimated per-share value	$	7.47



Exit capitalization rate	7.19	%
Discount rate/internal rate of return ("IRR")	8.19	%
Annual market rent growth rate	3.31	%
Annual holding period	10.3 years


⁽²⁾	The fair value of our debt instruments was estimated using discounted cash flow models, which incorporate assumptions that we believe reflect the terms currently available on similar borrowing arrangements to borrowers with credit profiles similar to ours.


⁽³⁾	The fair value of our non-real estate assets and liabilities is estimated to materially reflect book value given their typically short-term (less than 1 year) settlement periods.

	•		reviewed the Company’s Annual Report filed on Form 10-K for the year ended December 31, 2010, including the audited financial statements contained therein, and the Company’s Quarterly Report filed on Form 10-Q for the quarter ended March 31, 2011, including the unaudited financial statements contained therein;

	•		reviewed other financial and operating information requested from, or provided by, the Company;

	•		reviewed and discussed with senior management of the Company the historical and anticipated future financial performance of the Company, including the review of forecasts prepared by the Company;

	•		compared financial information for the Company with similar information for companies that CBRE Cap deemed to be comparable; and

	•		performed such other analyses and studies, and considered such other factors, as CBRE Cap considered appropriate.



		Discounted Cash Flow Analysis — The discounted cash flow analysis utilizes five-year projected cash flows reasonably likely to be generated by the Company and discounts those future cash flows using a rate that is consistent with the inherent level of risk in the business to determine a present value. CBRE Cap reviewed the Company’s advisor’s projection of future cash flows and applied a perpetuity growth rate to the projected year five cash flows to arrive at a terminal value, and then applied a risk adjusted discount rate to the annual cash flows and terminal value to calculate a present value of such cash flows of the Company.

		Public Company Comparables — The public company comparables methodology utilizes a range of Funds From Operations and Adjusted Funds From Operations, trading multiples of similar publicly-traded companies and applies them to the Company’s comparable metric to estimate the value of the Company. CBRE Cap selected comparable companies based on qualitative factors such as sector focus, asset quality and tenant mix, as well as quantitative factors such as company size and leverage, and adjusted the multiples based on the Company’s relative strength or weakness compared to the comparable company for each of the factors, which resulted in a reduction of the comparable company multiples. In addition, CBRE Cap further reduced the multiples to reflect the lack of liquidity of the Company’s shares as the Company’s shares are not traded on a national securities exchange. Comparable public companies utilized in the analysis were public REITs with portfolios that were primarily retail focused and included similar asset types with similar lease structures to the Company’s real estate portfolio.

		Dividend Discount Model — The dividend discount model calculates the value of the Company by discounting estimated future dividend payments by the Company’s estimated cost of capital. CBRE Cap prepared the dividend discount model by utilizing the expected future distribution payments as provided by the Company’s advisor, and reviewed by CBRE Cap, and calculated the Company’s estimated cost of capital using the risk-free, 10-year treasury rate and adding appropriate risk premiums, which included an estimate of the long-term equity risk premium measured as the performance of the S&P 500 over the applicable risk free rate, and further adjusted for any Company specific risk premium.