More money was spent buying real estate investment trusts than ever in 2021, a record that could fall again this year — if rising interest rates and recession fears don’t slam the brakes on the trend.
A year after REIT acquisition volume topped $99 billion, there were almost $71 billion worth of REIT takeouts completed or in the works by the midpoint of 2022, according to industry trade association Nareit.
The previous record had been nearly $98 billion in deals in 2007, the year Blackstone Group bought Sam Zell’s Equity Office for a record $39 billion.
The flurry of recent deals has been fueled in part by a broader sell-off in the stock market, which has dragged share prices of REITs far below the value of their underlying real estate, causing some buyers and sellers to seek out deals.
Dealmaking also has included major players in their property sectors swallowing up competitors, such as industrial behemoth Prologis’ $26 billion all-stock deal to buy Duke Realty, in a move focused on long-term growth.
“Given the disconnect in prices, you will see well-capitalized public or private buyers take advantage as an opportunistic move,” analyst Vikram Malhotra, co-head of Mizuho Securities’ U.S. REIT research, told CoStar News. “There’s a clear disconnect between the public investor who’s viewing six to 12 months out and the ability of a firm to take a REIT private, lever up, refinance down the road at a lower rate, and really see an elongated pricing power.”
If the rapid rate of acquisitions continues, it could bring further changes to the world of REITs, long seen as a relatively safe way for individual investors to own a piece of huge real estate portfolios.
There could be more consolidation, with larger REITs gobbling up smaller competitors, and further privatization from companies such as Blackstone that are sitting on mounds of private equity cash that needs to be invested, some REIT professionals say.
That could mean there are bargains to be found by stock market investors, either via REIT prices rising to reflect the value of their collective properties or through additional buyouts at big premiums to today’s share prices.
Industry Shift
Much of the activity in 2021 and this year has been driven by private equity buyers, taking publicly traded companies private or — in the case of a few deals by Blackstone Real Estate Income Trust, a nontraded public REIT — removing shares from major stock exchanges where they can be bought and sold daily by everyday investors and large institutions.
Through April, fundraising for nontraded alternative investments totaled $43 billion, up 131% from the same period last year, REIT news outlet The DI Wire reported.
The rise of nontraded REITs — whose shares can be sold back to their sponsors but aren’t traded on stock exchanges — is leading an industry shift, according to real estate services firm JLL. Deals to take REITs off publicly traded markets have totaled more than $86 billion since 2018, more than 17 times the volume of initial public offerings of REITs, a JLL report said.
Meanwhile, REITs are trading at an average discount of more than 15% to their net asset value, according to JLL.
“It’s been a concerning trend in the REIT sector for five or more years,” said Steve Hentschel, head of JLL’s mergers and acquisitions and corporate advisory group. “If you look at the percentage of time that shares are trading at a discount to [net asset value], it’s ever increasing.
“It seems like it’s worse in times of market turmoil. The stock market sells off and REITs trade off as well in sympathy with the overall markets. Over time, with more and more index funds investing capital in public markets in general, more REIT stocks are in index funds. There’s become more of a disassociation between the real estate value and REIT trading prices.”
While firms such as Blackstone amass funds, few new REITs are going public.
“Take-private deals might be healthy if you saw a similar amount of IPO activity when the market rebounds, but there’s been very little of that,” Hentschel said. “You’re seeing the space shrink, and there isn’t offsetting growth, which I think is a concerning trend.”
Potential Slowdown
Overall, the pace of real estate deals appears to be slowing as investors parse rising interest rates, effects of inflation and other economic factors.
That could spell a big slowdown from the REIT transaction wave, said John Worth, executive vice president for research and investor outreach at Nareit.
“As far as the outlook for the rest of 2022, I think generally the changing rate environment makes deals less likely going forward,” Worth said. “That doesn’t mean there won’t be deals.”
When it comes to U.S. REITs raising funds, Nareit said they hauled in $13.6 billion from secondary debt and equity offerings in the second quarter. That’s down by half from $27.5 billion raised during the same time in 2021.
Depressed share values, even if they move lower, wouldn’t necessarily push more REITs toward privatization, Worth said, pointing to the early weeks of the COVID-19 pandemic.
“A great example of this is what happened in 2020,” Worth said. “We saw REITs fall 40% between the onset of COVID and a month in. If there was ever a time when we’d see distressed buyouts and privatization, it would have been in 2020.
“We actually didn’t see that because today REITs are well capitalized, they have well-managed balance sheets, low leverage, low interest expense, and most REITs don’t have a tremendous amount of debt that they need to roll over this year.”
Some completed deals have been at premiums of 30% or more from where shares had been trading, high enough for shareholders to approve a sale yet enough of a value for buyers to envision big long-term gains.
Four of this year’s nine pending or completed REIT acquisitions involve Blackstone REIT, including a $12.8 billion deal for American Campus Communities that’s expected to be completed in the third quarter. That deal comes at a 30% premium from the share price before the deal was announced.
Blackstone REIT also paid $5.8 billion for Preferred Apartment Communities, at a 39% premium, and $3.7 billion for Resource REIT. Its $7.6 billion deal for PS Business Parks is set to close in the third quarter.
The American Campus and Preferred Apartment deals were all cash, giving Blackstone the opportunity to wait out interest rates and refinance the deals later.
“Someone with dry powder can come in and take a portfolio down and finance out a portion of the portfolio down the road when financing conditions are easier to navigate,” said analyst Brandon Svec, CoStar Group’s national director of retail analytics.
If interest rates continue to rise, assumable debt could be a key factor in upcoming deals, Svec said.
Other acquisitions this year include Healthcare Trust of America’s pending combination with Healthcare Realty Trust and smaller transactions, such as shopping center owner Cedar Realty Trust’s nearly completed series of deals to sell itself off for $1.2 billion.
Sears spinoff Seritage Growth Properties earlier this year changed from REIT status to a C corporation for tax reasons.
Seritage’s shares soared more than 70% on the day earlier this month when it sought approval from investors to sell off its entire 161-property portfolio in a series of deals estimated to bring in $18.50 to $29 per share — still far above the $10.96 closing price after the plan to liquidate the company was announced.
Other REITs have rebuffed takeover offers, with office owner Paramount Group doing so twice.
Discounts of shares vary widely between property types, with in-demand sectors such as industrial and apartments holding relatively strong, and office REITs trading at 30% to 40% below net asset value amid fears that work-from-home trends will persist, Malhotra said. Office REITs have traded at a 20% discount or more for six consecutive years, he said.
“You could argue that office is where malls were maybe five years ago,” Malhotra said. “There was [Brookfield Property Partners’] acquisition of GGP, but it necessarily didn’t drive wide-scale deals.
“In office, there are smaller portfolios where you could argue office is ripe for being privatized. To compete in this environment, you have to put in a lot of capital, it takes time to lease up, and it’s really difficult to do that in the public realm.”
Whether it’s opportunistic plays or strategic deals by companies in positions of strength such as Prologis, targets are likely to include undervalued REITs or smaller companies in strong sectors such as warehouses, Malhotra said.
Relatively small industrial owners include Stag Industrial and First Industrial. Office REITs trading well below their net asset value include Highwoods Properties, Hudson Pacific Properties and the owner of New York’s Empire State Building, Empire Realty Trust.
“At least on the institutional side, you’ll see folks thinking about which names could fit that bill,” Malhotra said. “You’ll see investors start to position for the bull case, which is a potential takeout.”