CHICAGO -- With more than $63 billion in property bought and transferred into REITs in 1997, a small private real estate money manager has to find a way to compete.
CMD Realty Investors Inc., a $433 million opportunistic investor, is going where REITs -- real estate investment trusts -- won't. It likes to buy suburban office buildings individually in secondary and tertiary markets and reposition them.
Then it wants to sell them to the real estate investment trusts.
"We see the REITs replacing the advisers as managers of core real estate," said Steven Ellenbogen, president of CMD Realty. "There are no conflicts, and the companies are fully integrated.
"That is a great place for core real estate to be held. The niche we will operate in is the value added.
"Because REITs' responsibility to shareholders forces them to maintain a steady income stream, they do not acquire buildings that require renovation because it will hinder their return on rent.
"Rather, they seek to acquire properties that yield immediate and profitable cash flows with as close to 100% occupancy as possible."
It also isn't efficient for a REIT to buy properties individually, Mr. Ellenbogen said.
"We are the real estate company that finds the businesses that are not running well," said Hugh Zwieg, executive vice president. "Hundreds of billions of real estate needs to be repositioned.
"Generally, our sweet spot for investing is in the $20 million range. The larger dollar volume gets the market's attention.
"There is not as much competition for the buildings we buy, which are Class B to A minus."
CMD has bought between 65 and 70 buildings -- all individually -- since it began investing for institutions, Mr. Ellenbogen said.
The strategy may soon pay off as CMD readies its first fund for liquidation, he said. The firm also is about to raise a fourth fund for $175 million.
CMD can count on the $3.6 billion Church Pension Funds & Affiliates to invest again, according to an official with that organization.
Other investors that may continue the ride with CMD are the endowments for Yale University, Dartmouth College and the College of Notre Dame and the pension funds for Corning Inc. and the International Monetary Fund.
"We have been an investor in every fund they have done, and we plan to do the fourth," said Hiram Moody, investment management adviser to the Church Pension Funds board, which has so far committed $69 million to CMD.
"They are buying properties that many people had not had an interest in and are out of the way," Mr. Moody said. "We think it has been a very good strategy."
The true test of whether the properties are too far out of the way will soon occur as CMD starts liquidation of the first fund, which was started in 1993.
"We will test that in 60 days," Mr. Ellenbogen said. "They will be brought to the market as a group. How will they sell? We don't know. Our objective is to maximize value."
There are indications that the strategy has worked for investors.
According to Mr. Moody, the internal rate of return on the first fund is "a little short of 20%."
"We have had managers that have done better, but they have gone public," capturing the premium that the public markets are paying for property, he said.
"They (CMD) haven't had the opportunity to sell a lot. They will do whatever they need to to get the limited partners the best return."
Mr. Moody speaks so confidently of CMD's efforts because the firm's interests are in alignment with the limited partners, he claims.
"What appealed to us about them is they committed a substantial amount of money themselves on the same terms and conditions as the limited partners," Mr. Moody said.
"There was very little benefit in current fee income and the majority was on the back end.
"We hate big funds and relationships with people that look at us as just a source of capital."
