Managers facing ‘Survivor’ challenge

As the real estate markets crash and burn so, too, will a number of real estate investment management firms, experts say.

Nobody is really sure which firms will survive to invest again, but industry insiders are fairly certain there will be fewer real estate investment managers around this time next year.

One of the wild cards is that limited partnerships, with their 10-year average lives, might keep some firms around longer than they might have lasted if investors still owned most of their real estate directly.

Unanswered questions persist. What will happen to a portfolio if the manager can no longer make the mortgage payments or when the property values dip below the cost of the debt? What happens if investors refuse to invest more capital to make the payments on troubled properties?

While consultants, money managers and investors are loath to point fingers at particular managers, there are hints at who these managers are. Some new managers, dubbed by some observers as “one-fund-wonders,” might have trouble raising a second fund and slip away. Highly leveraged investment firms, managers that took advantage of the commercial mortgage-backed securities market for the bulk of their debt and managers exposed to short-term debt could be in for trouble.

Real estate investment managers with troubled properties include Broadway Partners Fund Manager LLC, Tishman Speyer Properties, Maguire Properties, Apollo Real Estate Advisors, Deutsche Bank AG, Morgan Stanley and Brookfield Asset Management Inc. Any deal with Lehman Brothers Holdings Inc.’s financing in the mix or Equity Office Properties Trust property flipped by New York private equity firm Blackstone Group also is suspect, a few industry insiders say. Blackstone Group sold the EOP properties for high prices at what real estate investors now say was the market’s zenith.

Not only are managers feeling the pinch of the credit squeeze, but some real estate investment trusts that couldn’t resist piling on cheap debt are now being crushed by it. Feldman Mall Properties Inc., Centro Properties Trust, General Growth Properties Inc., Maguire Properties, Macquarie Office Trust, Allco Commercial REIT, Record Realty and Rubicon are faltering, and they are selling or contemplating selling off properties because they need the cash to pay off their debt, according to research by Real Capital Analytics Inc., New York.

For example, Australian REIT Centro Properties is selling billions of dollars in shopping centers in the U.S. and Australia. Allco Finance Group’s Rubicon and Record Realty REITs are selling off large portfolios of office buildings in the U.S. Maguire Properties Inc. recently managed to refinance a $100 million loan on an office building in Pasadena, Calif., and extended two construction loans, but its new management still has a ways to go to reduce the debt on its balance sheet.

Nobody is selling right now unless they have to, said Chauncey C. Mayfield, president and chief executive officer of MayfieldGentry Realty Advisors Inc., a Detroit-based real estate investment firm.

LaSalle Investment Management, Chicago, is buying and selling real estate but “very selectively” in this market, said Peter Schaff, North America chief executive officer and head of the region’s private equity real estate business.

“Who is to say where the bottom is? There is little penalty for being patient right now, although we will act where we perceive good long-term value” Mr. Schaff said.

LaSalle kept the leverage on its properties low, raising it to 65% in the go-go days from an average of 50% leverage, he said. The firm is focusing on quality buildings in good areas.

“In the next year or two, income will become cheaper, and we will be able to get into the best markets and into properties with good income streams,” he said.

Overall, investment managers that overpaid for properties during days of the seemingly never-ending real estate party will be in for rough times. Opportunity funds and private investors that had won bids on properties using high levels of leverage might have to sell into this market.

Opportunity funds can no longer get leverage, said Douglas Shorenstein, chairman and chief executive officer of San Francisco-based real estate investment firm Shorenstein Properties LLC, speaking at the Pension Real Estate Association’s Plan Sponsor Real Estate Conference in Chicago earlier this month.

“Now opportunity funds are becoming asset managers, nursing the problems in their existing portfolios,” Mr. Shorenstein said.

Any opportunity fund or value-added real estate manager with debt obligations coming due in the next 12 to 18 months might have a problem, said Simon Mallinson, head of U.S. services at Investment Property Databank, a London-based company that offers global real estate indexes and performance analysis.

Other real estate investment managers might have to sell because their funds are maturing and they have to turn over properties to return profits to investors.

“People who can’t wait will sell,” LaSalle’s Mr. Schaff said. “There will be a chance for long-term investors in real estate to come back into the best markets.”

“Pretty much anyone who bought property between 2005 and 2007 overpaid,” said Theodore M. Leary Jr., president of real estate consulting firm Crosswater Realty Advisors, Los Angeles.

The five biggest net buyers of real estate in the United States during the period were Morgan Stanley, Tishman Speyer, BlackRock Inc., GE Capital and TIAA-CREF, according to Real Capital Analytics.

A few investors, though, managed to sell more than they bought at the top of the market. Two investors that sold the most into the scorching real estate market are Prudential Real Investors, which bought $8.3 billion of properties between 2005 and 2007 but sold $11.1 billion during the same period, and the $214.3 billion California Public Employees’ Retirement System, Sacramento, which purchased $7.8 billion in real estate during the same two-year period but sold $10.2 billion.

Some investment managers will get into trouble because they made the most use of the plentiful CMBS market. The downside of the moribund CMBS market is that the debt is mainly short term, leaving investors with concentrated maturities that might be difficult to refinance.

Tishman Speyer, New York, used the most CMBS acquisition financing by dollar volume of properties purchased during the bull markets of 2006 and 2007. (The data provided by Real Capital Analytics includes 2008, but there has been very little issued this year.) During the two-year period, Tishman Speyer used CMBS for $9.2 billion in properties.

During the same period, it joined with BlackRock subsidiary BlackRock Realty Advisors Inc., Florham Park, N.J., in the $5.4 billion purchase of the New York apartment complex Stuyvesant Town and Peter Cooper Village. The buyers borrowed $4.4 billion — $3 billion in a first mortgage and $1.4 billion in mezzanine debt — based on projections of rapid rental growth. Last year, rents dropped.

Contact Arleen Jacobius at [email protected]