At this time of year commercial real estate executives and investment funds usually look back at how the REIT sector fared in terms of mergers and acquisitions. The outcome in 2016 was mixed, and fell short of generating excitement among shareholders and profitable outcomes for companies.
Regency Centers and Equity One announced a deal worth $12 billion that is expected to create the largest REIT in the grocery-anchored shopping center space when it closes later this year. The proposed transaction between The JBG Companies, which develops several property types, including mixed-use retail, and New York REIT, based in New York City, would have created an $8.4 billion REIT. New York REIT’s investors, however, clearly preferred a liquidation of assets to generate near-term cash and firmly resisted consolidation, so the companies mutually decided to terminate the combination.
REIT merger data is fragmented, but REIT mergers and acquisitions in the U.S. and Canada amounted to about $16.4 billion in 2016, according to SNL data provided to NREI. Activity was subdued across all commercial real estate sectors last year, according to industry observers. Even sales of individual properties had declined in 2016.
“Overall M&A activity was down sharply because of a decline in portfolio sales and entity-level transactions,” says Jim Costello, a senior vice president at Real Capital Analytics (RCA), a New York City-based research firm. “The issue is that 2015 was the year of the mega-deal, with lots of entity-level and portfolio sales happening.”
Last year the property acquisition markets were busy because investors worldwide were deploying large amounts of capital to the U.S., Costello notes. Also, an environment of low and falling interest rates, combined with low and falling cap rates, worked in investors’ favor.
Rising prices meant that if a property fell short of investors’ expectations, rapid appreciation could offset any potential shortfalls in revenue. Slower price growth in 2016 eroded that cushion, adding to investors’ uncertainty as to how long the cycle would continue.
A new regime amplifies existing challenges
The public REIT equity sector posted positive returns for 2016, at about 8.0 percent. It was not an easy road, however, because of a higher interest rate environment. Also, investors shifted toward sectors with higher growth, according to a U.S. Real Estate Indicators Report from Lazard Global Real Estate Securities. The sector ended up lagging the S&P 500 Index’s 10.9 percent, according to the research firm.
For their part, retail REITs posted market returns that were less than inspiring. The regional mall sector ended the year down 5.1 percent, while the community retail sector had a gain of 3.5 percent.
Most public REITs experienced stock prices that were below net asset values, says Mark Bratt, senior director of retail capital markets for commercial real estate services firm CBRE. Therefore the lower mergers and acquisitions activity was a function of REITs lacking sufficient capital and stock price valuations to carry out some of the transactions, and the slower activity affected all REIT sectors, not just retail, according to Bratt.
The outcome of the presidential election ushered in leaders who are openly amenable to easing a regulatory environment and restructuring corporate taxes. Normally, that heartens both equity and debt investors. Instead, volatility and uncertainty around regulatory and corporate tax policies have dampened already weak enthusiasm for merger and acquisition deals among REITs, says Bratt.
Observers are not certain that 2017 will be a busy year of consolidations for the REIT sector. Bratt notes that the sector might go in another direction altogether.
“With lower stock prices it might be a good time for some companies to go private,” he says.