Tag Archives: real estate investment

Yields rising on REITs

Not much has changed for Canadian real estate investment trusts as they reported strong results over the past week – occupancy rates are still high, lease terms are growing increasingly attractive and tenants are lining up to get into some of the country’s biggest shopping malls.

Read the story in the Globe and Mail

But if you were to judge the sector solely on its yields, you would be forgiven for thinking that something very bad was in store for the sector. At 7 per cent at the open of markets Tuesday, real estate investment trusts were trading at their biggest premium to Canadian government bonds since the financial crisis took hold in 2008.

Higher yield usually means higher risk. With the 10-year Canada bond at 2.5 per cent, the spread is 4.5 per cent.

“Outside of the credit crisis and the recovery period, the spread hasn’t been this high since 2003,” said CIBC World Markets analyst Alex Avery.

But that doesn’t mean that Mr. Avery is sour on the sector. He said that for worried investors, REITs are “an ideal middle ground between getting out of the market entirely and doing nothing.

“By rotating into REITs, you can remain fully invested, mitigating the risk of entirely missing a rebound, but also reduce exposure to further downside,” he said.

He said these companies need three things to succeed: easy-to-get financing at low rates, strong fundamentals in property markets and limited new supply.

“We know REITs weathered the credit crisis with virtually no damage, so they’re well positioned to deal with whatever this is,” he said. “Fundamentally, REITs and real estate require those three things to thrive, and all three are present today. Banks and most institutions are overcapitalized, looking for safe places to lend money, while falling benchmark yields reduce the cost of debt.”

According to a new report by commercial real estate company Avison Young, Canada’s office vacancy rate reached 7.8 per cent at the midpoint of 2011, down from 9.9 per cent at mid-year 2010. Office towers are key holdings for many of the country’s REITs.

“The recovery in the marketplace is particularly evident across Canada’s downtown business districts, which traditionally act as a bellwether for the overall health of the market,” said Bill Argeropoulos, director of Canadian research at the brokerage firm.


Blackstone to sell $900-million Canadian portfolio

The world’s largest private equity firm is taking its money out of Canadian real estate to take advantage of surging demand for buildings, flooding the market with $900-million of office buildings.

Blackstone Group LP has conscripted CIBC World Markets to sell its 29 Canadian buildings just as life returns to the Canadian investment market, with cash-rich real estate investment funds looking to invest billions of dollars to expand their portfolios.

Read the story in the Globe and Mail

Several large blocks of property have come to market across the country this quarter, as owners look to sell into what some consider an unprecedented level of demand.

“If you’re going to sell I can’t even imagine there being a better time than now,” said John O’Bryan, vice-chairman of commercial brokerage firm CB Richard Ellis. “All types of buyers are well represented. And while there are a lot of reasons to think property values could go down, it’s hard to imagine many reasons why they should continue to go up.”

Buyers are flush with capital, he said, and are willing to spend to add to their portfolios. Primaris Retail REIT (PMZ.UN-T20.68-0.24-1.15%) said yesterday it would spend $572-million to buy five regional shopping centres from Ivanhoe Cambridge, in a bid to boost its retail presence in the Greater Toronto Area ahead of an expected surge of interest from U.S. retailers looking to expand north.

The marketing material for the deal said Target Corp., which is expanding into Canada after buying about 200 Zellers stores, “has given indication that four Zellers stores in the portfolio may be converted to Target stores.”

Canada Lands Corp., meanwhile, said it is seeing “intense” interest for the Metro Toronto Convention Centre (along with its office tower and hotel) – a jewel in its portfolio that it vowed not to sell until it could attract enough bidders to drive up the price.

It’s not just REITs that are looking to buy – private equity firms and pension funds are also likely to take a look at Blackstone’s 29 mid-tier buildings in Toronto, Ottawa, Calgary and Edmonton.

Mr. O’Bryan said buyers are especially interested in any opportunity to buy a cluster of properties at once, something that is very difficult to do in Canada.

The largest deal in the last year was an example of this – ING Groep NV sold its Canadian industrial real estate portfolio to KingSett Capital and Alberta Investment Management Corp. in a $2-billion deal that gave the new owners an instant national profile in the industrial space.

The price tag on the Blackstone deal makes the portfolio the largest cluster of office buildings to be marketed to investors since 2005, when Oxford Properties sold a 50-per-cent stake in its holdings to Canada Pension Plan Investment Board.

The market has been less active since then – in 2010 about $700-million in office buildings were snapped up by the country’s REITs. In 2007, investors had their busiest year as they bought $1-billion worth of office properties.

“There will be strong interest from buyers at all levels for a deal like this,” said George Carras, president of real estate tracking firm RealNet Inc. “These properties represent income and stability – they are in major markets and well leased. That’s what investors want – shelter and income.”

New York-based Blackstone, which has $26.5-billion (U.S.) in real estate around the world, would not comment. Industry sources said the private equity firm was likely motivated to sell by the high Canadian dollar. When it bought the buildings, the Canadian dollar was trading close to 80 U.S. cents.

The buildings, which are managed by Toronto’s Slate Properties, are mostly class-B space and are 96-per-cent occupied. They include a former Royal Bank of Canada headquarters in downtown Toronto that was built in 1914, the National Building in Ottawa, the 100-year-old Kipling Square in Calgary and the recently renovated Baker Centre in Edmonton.

While it may seem like a good time to sell, there are risks.

“The danger of flooding the market like this is they are potentially depressing their own sale prices,” said John Andrew, a real estate professor at Queen’s University. “I hope they don’t see this as some sort of market peak. What is more likely is they want to take that money and invest it in other markets where there are more opportunities to buy at distressed prices.”


Target finalizing plans for Canadian launch

Target Corp. is firming up its plans for its much anticipated Canadian debut, setting up three distribution centres here and refining its strategy to include the sale of fresh food at some locations.

The move into the food market wasn’t a certainty when the Minneapolis-based retailer made its expansion announcement earlier this year, and it puts Canadian grocery chains under increased competitive pressure at a time when they are already battling an encroachment by Wal-Mart Canada Corp. into that space.

Read more in the Globe and Mail, written with Marina Strauss

The grocery business is huge in Canada, accounting for $111.8-billion, or 38 per cent, of the $294.3-billion in non-automotive retail sales in 2010, according to Colliers International. Target will steal away some of that business from incumbents, said Neil Stern, senior partner at retail consultancy McMillan Doolittle in Chicago.

But before any of that can happen, Target needs a distribution network. The company could have supplied the stores from its U.S. warehouses, but opted to set up a network specifically for its Canadian locations. The centres are planned for Toronto, Calgary and Vancouver.

Target is set to open as many as 150 stores here by 2013, its first leg of expansion in Canada after its $1.8-billion deal this year to buy Zellers stores from Hudson’s Bay Co. The U.S. chain projects it will ultimately roll out 200-plus outlets in this country, hitting $6-billion in annual sales by 2017.

The company has kept quiet about which Zellers stores will be converted, but industry sources suggest an announcement on the first wave of conversions will come by the end of the month.

The negotiations are complicated, involving more than a dozen landlords who must approve each conversion and negotiate new terms with Target.

“This is all taking a little longer than they had hoped, because the whole concept of building leases is foreign to them,” said Ed Sonshine, chief executive officer of RioCan Real Estate Investment Trust, adding that Target owns 85 per cent of its stores in the United States. “In Canada they are dealing with very few one-on-one guys who they can push around – they are dealing with owners who have multiple stores.”

Many Zellers stores were operating on long-term leases that saw them paying less than market rent, and landlords are anxious to charge more. RioCan, for example, charges its 33 Zellers tenants an average of $6 per square foot for space. The industry average is closer to $14 per square foot.

Once all of the stores are selected, Target plans to spend $1-billion on renovations.

The company is also recruiting a senior financial analyst and several business intelligence experts to find out what’s likely to work in Canada when the stores finally open.

They have some preliminary information to work with: Sixty-one per cent of shoppers in Canada’s six largest markets are “very” or “somewhat” interested in shopping at the outlets, according to a survey last week by retail consultancy KubasPrimedia. In Toronto and Vancouver, consumer interest in shopping at Target ranges to as high as 71 and 70 per cent, respectively.

Known as a destination for affordably stylish fashions and home goods, Target isn’t as well-recognized for its food, and it has yet to spell out its strategy for the sector in Canada. But later this month, the retailer will host a tour for Canadian journalists of a new-concept outlet in Chicago offering a limited choice of fruits, vegetables and meat – the clearest signal yet that Target will stock fresh fare here along with packaged ones.

“It’s a good example of what you can expect from Target in Canada,” Target spokeswoman Amy Reilly said of the Chicago store.

Once inside the stores, shoppers are apt to buy food when they’re snapping up skinny jeans and skirts, Mr. Stern said. Other retailers, including Canadian Tire Corp., have added bread and milk to draw consumers more often – and step up their purchasing. Customers who buy food spend three times more than non-food customers, drugstore retailer Shoppers Drug Mart Corp. has found.

Target carries a full array of fresh foods in its vast SuperTarget stores, but last year started to ramp up what it calls its p-fresh – or prototype fresh – model, a scaled-down offering of fresh foods for its more conventional-sized outlets. The store in Chicago’s Wilson Yard district, which journalists will tour this month, is a two-storey p-fresh outlet.

“When they sell Cheerios, they’re selling it at the same price as Wal-Mart,” said Mr. Stern, who is familiar with the Chicago store. “Make no mistake, they will be aggressive where they need to be on price.”

He estimated that about 40 per cent of merchandise in p-fresh stores will overlap with goods carried in Canadian grocery stores, including food, packaged goods and drugstore items. Based on that estimate, the new Target stores in Canada could slice off $1.5-billion to $2.5-billion of grocers’ business, he said.


REIT investors face uncertainty under IFRS

Investors have come to rely on real estate investment trusts for predictable earnings and steady payouts, but changes to accounting rules could make the next month of earnings reports a confusing jumble of hits and misses.

The companies will be reporting under International Financial Reporting Standards (IFRS) for the first time, which means they’ll have greater flexibility in how they report key metrics, such as funds from operations. They’ll also be placing a value on their own portfolios – something international companies have done for years.

Read the story in the Globe and Mail

“Balance sheets and earning statements are about to get a whole new look,” said Neil Downey, an analyst at RBC Dominion Securities Inc. “We believe this has created a blurring of expectations within consensus estimates. And frankly, on some disclosure fronts, we aren’t sure what to expect.”

Brookfield Office Properties(BOX.UN-T21.75—-%) will be the first to report Thursday. Companies have been given a 30-day extension by the Ontario Securities Commission to put their results together under the new standards, so earnings season will last well into June.

What are the changes?

Canada is among 110 countries that have agreed to the new standards, which are intended to provide a consistent measuring stick and improve transparency and disclosure globally. The reporting standards are “principles-based”, rather than “rules-based.”

The idea is to provide greater detail when reporting numbers – companies must explain why they have decided to treat a number a certain way in notes sprinkled throughout their financial statements. They have had more than two years to prepare for the new method.

One of the key changes will be how REITs report the value of their holdings. Analysts and investors used to have to do their own guesswork, but now the companies have two choices: Value the portfolio based on current market value or based on historical prices. Either way, it adds up to more information for investors.

“That is a huge value for analysts and investors,” said Michael Smith, an analyst at Macquarie Securities. “It’s also a big deal for international investors, who may take more notice of the REITs now that they are reporting those numbers.”

There are plenty of things that will stay the same, however, said CIBC World Markets analyst Alex Avery.

“As investors work through the details of the new financial disclosures, comfort can be taken that there are several metrics that will remain unaffected by the changes accompanying IFRS adoption: same-property net operating income growth (cash-basis); occupancy statistics; adjusted funds from operations; and, perhaps most importantly to investors in REITs, the income they generate, and the ability to continue to pay distributions,” Mr. Avery wrote in a report.

How have REITs performed this year?

Canadian REITs have been buoyed by a strong Canadian real estate market – which has kept their buildings full – and easy access to the capital they need to keep buying properties to add to their portfolios.

The trusts have gained 9 per cent on the S&P/TSX so far this year, outpacing the broader index, which has returned 4 per cent. Most asset classes have seen strong returns, with retirement and long-term care companies seeing gains of 28 per cent and residential REITs gaining 10.5 per cent. Only the hotel subsector saw a decrease, down 10.7 per cent.

What’s expected for the rest of the year

It’s been an intense couple of years for REIT investors. In 2008, they suffered through the worst single-year return on record as they watched their units decrease in value by 34 per cent. But in the next year, the trusts were able to tap the capital markets for $4.6-billion and spent upwards of $6-billion adding to their portfolios.

“With solid Canadian property fundamentals, stable-to-modestly-higher interest rates and prospects for continued large capital flows, we expect REIT prices could be volatile in 2011, with REITs trading close to net asset values and unit prices rising approximately 3 to 8 per cent over the next 12 to 18 months,” Mr. Avery said. He expects REIT units will yield between 6 and 7 per cent.