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REITs were hot and cash-rich in 1991.

REITs were hot and cash-rich in 1991

A year ago, Real Estate Investment Trusts were shaky. The bottom was coming out of the market and analysts and pension investors were afraid the properties would lose so much value that the funds would not be able to get their money out. Today it appears that with lower interest rates, and lower real estate prices, some of these so-called "REITs" have weathered the storm that has devastated U.S. real estate and are continuing into the 90's cash-rich and secure.

REITs usually pool groups of properties or mortgages into investment trusts that avoid federal taxation by distributing most of their income to stockholders. They are traded on the stock exchanges and, therefore, allow participation by small investors.

Michael Giliberto, a real estate analyst at Salomon Brothers who is involved in the investment of dollars, said REITs have been "bucking the trend" of other real estate even though the properties have declined in value. There have been opportunities for the healthy REITs to take advantage of the softening in the property market, he explained, so "its been a positive."

Giliberto said REITs had a very good year in 1991 because of their sensitivity to the interest rate. "The REITs had about a 35 percent rate of return last year and beat the Standard & Poors," he noted. While the cash return at which REITs can buy properties may be 10 percent, the dividend yield may be 7 percent to 7.5 percent.

So there is a spread as to what they have to pay investors and can put the money to work," Giliberto said. "In that sense, REITs might be good."

Martin Cohen, president Cohen & Steers, a New York money management firm that invests exclusively in real estate securities, said REITs are a good way to invest in real estate because the REITs own real estate and the investor can get in and out of them easily because they are traded on the stock market. At this time, Cohen said, REITs also have high dividend yields relative to other financial market deals.

"Many of the larger companies have also done a very good job of increasing their earnings and dividends in spite of problems with other real estate," Cohen said. "And because they have not gotten into trouble, many of these companies are among the few entities which can take advantage of what is a buyer's market."

New Plan Realty Trust, based in New York City, owns 79 properties, of which 67 are shopping centers -- including Roosevelt Mall in Philadelphia -- and 10 garden apartment complex's through the 14 of the Eastern United States. With $275 million in cash, the company is in the process of acquiring even more including five shopping centers and three other properties announced this week.

New Plan is also the nation's first REIT to be capitalized at $1 billion dollars, and, with $25 million owed primarily in mortgage payments, it is virtually debt-free.

In January, New Plan paid its 50th consecutive increase in dividend. "I am amazed myself," noted CEO William Newman. "I don't know how we do it but we do it. There's a little hard work involved." New Plan was founded by his father, Morris, in 1942, and was brought public in 1962.

"Our company raised $155 million last year which is worth a lot more to the investors today," said Newman. "This is an example of people having faith in this type of management. They can check the track records and have complete liquidity and don't have to invest major funds -- unlike limited partnerships which you need an act of Congress to get out of."

Becoming a REIT

Cohen said his company gets many calls from real estate owners that want to be a REIT. "The stock market is not going to bail out a troubled owner," he warned. "The public market will not pay more [for the properties] than the private market. There is no easy road to riches here for a troubled owner."

It is also not that easy to become a REIT, Cohen said, as well as being very costly to go public. Additionally, he said, there are certain types of real estate entities that cannot go public. "What is valued highly [in the stock market] is a going concern' value, property that has more than a group of properties and an active management that adds value."

Kimco, a Roslyn, Long Island real estate company, recently brought 126 of its shopping centers together for a REIT offering of 6.4 million shares to the stock market. Diane Agostinello, in charge of investor relations, said the centers are primarily anchored by a supermarket or discounter and are concentrated in Ohio, Florida and New York with local properties in Bridgehampton and Plainview.

"Becoming a REIT is a long and involved and time consuming process, and takes a quality profile," Agostinello. "Like with everything, there is the good and the bad. I'm sure there are others that would like to become REITs but whether or not they can obtain that is hard to say."

The basic purpose of the REIT, she said, was solely to reduce debt. Kimco raised $128 million from the sale of shares and had a concurrent $16.6 million raised by the exchange of debt interest for stock. Chairman of the Board Milton Cooper, is a trustee of the International Council of Shopping Centers and is a former chairman of the shopping center committee of the Real Estate Board of New York.

Kimco has significant insider ownership and aligns the interest of the managers with other investors, Giliberto noted. "A REIT that is passive holder would not receive a premium price," he observed. It made sense for Kimco to convert, Giliberto said, because "they had a way of recapitalizing the company and retired debt and now have a way to grow further." Kimco also had a history of being a successful company, he said. "That's what a successful REIT offers," he said.

Newman, who is also president of the National Association of REITs (NAREIT), said a number of other REITs are being formed or considered, because, he noted, it is the only vehicle that will have access to the capital markets in the foreseeable future. "Banks either don't have money or are running away from real estate," he said.

Pension funds are also considering turning their investments into REITs and, Newman said, if they do so, it would bring a tremendous influx of capital. "Some of the biggest pension funds are bigger than the whole [REIT] industry," he said.

On the other hand, some pension funds have cut back on holdings of REITs, Giliberto said. "Pension funds have to ask themselves are they buying because it's an interesting area or because REITs are a proxy for real estate. Some funds may say we're in this as another way of tapping into the real estate market and we had a terrific year and may back off."

Newman said the Resolution Trust Corporation is trying to form a REIT for their property and has requested information. "Perhaps it might have some merit as far as they are concerned," Newman said, "but if I was an investor I would run."

Those REITs that are doing the best, Giliberto said, focus on similar types of properties in one geographic area. While none of the REITs are in the financing business, Newman said, they do buy properties from developers in trouble. "No one lends to developers," he added. "We talk to developers who are having problems and we either buy the property in trouble or some of their older properties."

In the past, Giliberto said, REITs formed by developers have not had fared well. "There are a lot of conflicts of interest in those," he explained. As a financing vehicle or a take-out vehicle for existing properties, Giliberto said a REIT would probably only be created if conservative appraisals were used so that investors would be convinced they were not getting the dregs."

Investors seeking to buy stock in a REIT must also look at the same criteria. Cohen said there are a lot of great investment candidates. "The whole area is a pretty attractive investment," he warned. "But bare in mind, these are not stocks that double overnight, and you have to avoid companies where there are conflicts of interest. You want the management and the shareholders to equally share in the success of the property." There are many companies in real estate where the general partners make the money and no one else does, he added.

Kinds of REITs

The REIT label also covers a broad spectrum of real estate owners and developers. Out of 200-odd REITs in the country, NAREIT has about 135 as voting members together with around 350 associate members who are the accountants, attorneys, and brokers who service the REITs. NAREIT keeps financial statistics on 199 REITs, which together have $45.9 billion in capital. There are also 135 REIT stocks listed on the three major exchanges.

REITs are structured in three major ways. There are mortgage REITS, which hold at least 75 percent of their invested assets in mortgages secured by real estate; Equity REITs, which hold at least 75 percent of their invested assets in real estate or other equity interests; and Hybrid REITs, also referred to as half and halfs or combinations, whose assets are a combination of the other two.

REITs have a great deal of liquidity because they traded on the stock exchanges. Giliberto noted, however, if a pension fund has large holdings it wants to sell, it could disturb the market. "But they can get out of REITs in a short period of time at a low cost compared to other real estate investments," he said.

Tax Benefits

Giliberto said in the early 80's the tax laws were favorable for developments and the "playing field" tilted toward the limited partnerships and away from the REIT. "The tax loss benefit disappeared in 1986," he said, "and put the syndicators out of business and leveled the field to give slight advantages to the REITs compared to the limited partnerships."

Ownership of a REIT is like owning any other stock, Giliberto explained, so there are capital losses and gains and dividends. It can also include a return of capital that is not a taxable dividend and reduces the basis in the shares. "You will pay capital gains on it eventually, but meanwhile you have the use of the money," he added.

Richard M. Scarlata, managing director of Cushman Wakefield Realty Advisors which manages the Rockefeller Center REIT, said a REIT is able to avoid taxation so long as it meets certain requirements, including the distribution of 95 percent of its income to shareholders. "A REIT is able to pay a larger dividend than if it were subject to taxes, so consequently there is a higher yield," Scarlata explained.

Rockefeller Center REIT

The Rockefeller Center REIT, Rockefeller Center Properties, Inc. (RCPI), is unusual in that its principal asset is a mortgage secured by 12 of the buildings in one of the world's trophy properties. Rockefeller Center itself is owned by a private company, Rockefeller Inc., of which 80 percent is owned by Mitsubishi Estates, the large Japanese real estate investor. The REIT, RCPI, is publicly owned by the stockholders and it in turn has taken a mortgage of $1.3 billion to Rockefeller Center. The REIT receives income on the mortgage, has administrative expenses and pays out the remainder to the shareholders.

Cushman Wakefield Realty Advisors administers the REIT. for a fee of $1 million per year, and provides it with full administrative and financial services. Scarlata is also vice-president and treasurer of the REIT.

The REIT was set up to act as a public corporation to lend money to Rockefeller Center. The $1.3 billion for the mortgage came from stock and two bond issues in 1985. The 15-year term of the mortgage ends on Dec. 31, 2000, at which time the REIT has an option to convert to a 71.5 percent ownership. nIt depends on its value at that time if it would be a benefit to Rockefeller Center," Scarlata explained.

In 1994, 48 percent of Rockefeller Center's leases come up for renewal and the city's glut of office buildings could present a marketing challenge for the agents. "That comes up as a key factor on the releasing," Scarlata noted. He observed that the current market is actually a few dollars higher than when most of the current leases were made.

Another kind of mortgage REIT has a high yield and a higher risk. Collateralized Mortgage Obligation or CMO-residual REITs, own the residual from a CMO, which is a debt issue that consist of a group of bonds secured by specified pools of mortgage loans or mortgage pass-through certificates. These REITs can be structured to match investment needs and no two CMO's are alike. Accelerated mortgage pre-payments because of lower mortgage rates are likely to result in lower REIT income.

Most REITs, however, consist of multi-property portfolios.

There are also REITs that concentrate in health care and that sector has done well, Giliberto said. Seven of the top REIT performers, averaged over the past three years, were health care REITs. These REITs invest in health care facilities. Sometimes the REIT buys the facility from the health care provider and then leases it back. In that case, the REIT gets the base lease payment and also participates in the income of the health care facility.

Financing with Offerings

Some top tier REITs are tapping equity markets and are issuing additional yields, Giliberto noted. In the last four or five years, Newman said, his company has had two public offerings and a private placement with a $100 billion Dutch civil service pension fund, A.B.P. that now owns 5 million shares or 11 percent of the company. The Merchant Navy Officers Pension Fund of Great Britain owns another 18.4 percent.

New Plan is the largest REIT and is nearly twice as large as the next nearest in size. "We are the only ones with over a $1 billion in market capitalization," said Newman. "We differ from Rockefeller Center like day from night. They are a mortgage trust and someone said with a mortgage trust you're lucky if you get your money back with interest.

"They don't create value," Newman explained. "We own properties and create values."

A public company since 1961, the Newman family is the largest non-institutional owner of stock in New Plan and, Newman said, "never sold a share since day one. We developed survival traits."

Newman said most institutionally formed trusts have not worked out as well as the entrepreneurial ones. "The largest bust in our industry was the Chase Manhattan REIT which went bust in the 70's before it was fashionable," he added.

Newman calls REIT's "an IRS vehicle for the kid with the bar mitzvah money."

"People know where the money is going and know the portfolios," he said. "If you don't want to be in the Sun Belt you can buy in the Northeast."

As a proponent of REIT, Newman believes that many negative elements of real estate investing are cured by a good REIT: diversification, liquidity, size and safety.

"All of these don't pertain to an individual investment in an individual property," Newman said.

'A REIT is able to pay a larger dividend than if it were subject to taxes, so consequently there is a higher yield.'

'People know where the money is going and know the portfolios.'
COPYRIGHT 1992 Hagedorn Publication
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Copyright 1992, Gale Group. All rights reserved. Gale Group is a Thomson Corporation Company.

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Title Annotation:real estate investment trusts
Author:Weiss, Lois
Publication:Real Estate Weekly
Article Type:Industry Overview
Date:Feb 12, 1992
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