balance sheets and it’s a very defensive play. So there are reasons
why we pile onto different sectors, and they generally make sense.
We see value today in retail, but selectively. We’ve been shocked
by how well the high-end retail companies have performed. Taubman,
for example, had nine quarters of double-digit sales increases in
their portfolio, which consists of the highest-quality malls in our coverage universe. That shocks people because we don’t see an
economy that’s generated sustained double-digit increases in anything yet. However, Taubman’s high-end shoppers continue to
spend. I think the rich-get-richer theme will continue.
STRANEVA: The next thing to touch on is the idea of premium
NAV. What’s going on there, and what will happen over time?
FOSHEIM: NAV is a levered number. REITs should trade at a 3% to
4% premium. Maybe it’s a little richer than that now. Historically REITs
have traded at a long-term average of 2.6%. As an investor, that’s the
kind of premium I’d pay to get liquidity, diversification and professional management, certainly better than I could do on my own.
FORD: NAV is challenging. It’s imperfect. You’re trying to normalize
at some consistent growth rate, but it doesn’t take into account
changes—it is a snapshot of a short period of time—nor does it take
into account the G&A load. I think most people would say that if they
were to liquidate their portfolios today they could get, say, a 4.25%
cap rate for multifamily and 5% for retail, and they would be trading
at a discount to NAV.
FOSHEIM: That’s not true. At Green Street, the first thing in the pricing model is G&A, and there is a warranted premium or discount
based on it. So, yes, it is part of the pricing dynamics. Of course, it
should be. One company has executives flying around on corporate jets, while another company is lean and mean, and the lean
and mean trades better. It’s well proven. It’s clear as a bell that cap
rates are very forward looking. You have a property that’s full with
premium rent rates, and it trades at a high cap rate. You have
another that has below market rents, and the cap rate is low. Why?
People are looking ahead.
MARKMAN: When I think about NAV, it’s imperfect because it’s an
estimate. That’s a frustration that people have. Are the cap rates
we’re using right? Is the mark to market we’re putting on the debt
right? Are we valuing the non-income producing stuff correctly?
Those are hard things to do. We’re estimating.
What we can say is that it has worked really well. When you look
at our track record, using NAV as the anchor for all of our investment
recommendations has consistently worked over a long period of
time—and it’s during markets that have gone up, markets that have
gone down, markets that have gone sideways. So it works.
FOSHEIM: I don’t know who I’m stealing this phrase from, but NAV is
the world’s worst way to value REITs except every other way.
STRANEVA: Talking about NAV is one thing. Talking about why
some companies trade at a different multiple than others is
another. How does Green Street look at it?
MARKMAN: Our pricing model looks at a number of factors. One is
overhead—we’ll pick the company with less overhead. Another is
governance—a company that’s friendlier to its shareholders and
treats them as equal partners is going to trade at a premium.
Liquidity—the more liquid a company, the greater the ability for
someone to get in and out at the price they see as appropriate, and
that should garner some sort of a premium. And lastly, capital structure—having the wrong capital structure, especially at the wrong
time, is dangerous.
It’s all very self-evident. But what really matters is the franchise score. And to that, people say, “Oh, that’s your black box.
It’s a mystery. We don’t know how you get a high franchise
score.” And the answer is quantifiable: Have you created value
over time for your shareholders?
FOSHEIM: This is by far a capital-allocation decision. If you want
to be the most effective CFO ever, you’d say to the board, “When
our stock is trading at a big premium, let’s sell stock or buy
assets. When it’s trading at a discount, sell assets and buy stock.”
Capital allocation decisions are the biggest part of that. It’s common sense, but common sense is a little uncommon sometimes.
STRANEVA: Each year, we say that it should be a good year
for REIT IPOs, but lately we haven’t exactly been on track.
What are we missing?
FOSHEIM: Some of these, the conversions from public to private, or
private to public REITs, are really IPOs. They sell stock, and they
haven’t been well received. The perception is that the companies
that have spent the past 10 years raising money are not working as
much as they should on adding value at the property and corporate
level. It’s simpler than you think.
FORD: IPOs are expensive, and one of the problems is you don’t
know where they’re going to price. Most folks who see the option to
sell assets on the outside know what that is. With companies that
were over-leveraged and needed to find out how to go public, investors saw asset prices and were willing to contribute their assets at a
fixed price. That price tension became very tricky. If you had a whole
bunch of assets going in at a fixed price, and this smaller group that
was going to go this way or that way, depending on whether you
priced at $18 or $20, it made it very challenging. On top of that, you
can have a problem in that investors don’t believe you can put capital to work to grow these companies that easily.
We did a lot of blind pools earlier on when there was all this distress.
A lot of companies that went public in this last cycle have really
struggled to grow, particularly since they traded at a discount to
everybody else. So it’s a very tricky thing to get done.
MARKMAN: By far the biggest reason IPOs get done is that, from
the issuer’s perspective, you have no other choice. We’ve seen this
when non-traded REITs have recently come public, which has been
a big part of the REIT IPO market. We saw the same thing with the
blind pool REITs. They had to come public because there was no
other place to find equity, or, like in the early ’90s, because they were
going to go bankrupt if they weren’t taken public.
We’d like to see the third leg of the IPO stool be that pricing is so
compelling that there’s an arbitrage opportunity between the public
and private markets, but we haven’t seen that. Any arbitrage seems
to get wrung out by the market participants. Whenever you think it’s
going to be there, when everything is trading at a big premium and
the prospect of coming public looks compelling, the REIT Mafia is
powerful enough to shut the door because it’s not interested in buying unless it’s at a discount to NAV.
STRANEVA: How big a discount is it?
FORD: That’s a great question. A lot of companies are hugely
levered when we are having to do this. We should be talking about a
discount to the adjusted comps because when you talk about an
equity discount, it’s totally dependent on the leverage of the company and everything at the time. I know there is some normalization
that goes on. I wish we could just price it at a discount to asset value,
so we could have a much more generic level of how that works. And
I don’t think it has to be a big discount. If you’re talking about equity,
people want to see 15%.
FOSHEIM: I disagree with these guys a little bit. I think it’s more
related to discount to peer group. If it’s a big discount to NAV or asset
value, unless you have a gun to your head, who would do the deal?
MARKMAN: Only the guys with guns to their heads. ◆
