Waiting to Pounce - Tremont Realty Capital

Waitingto Pounce
Institutional equity waits for the distress call, while prlvate equity 5c6ops up assets
from the bigger fish. ffiy ierry &sa*er**
New TarEets
Todal"s fuygls are overwhelmingly
targeting cash-on-cash refttrns' In the
past, bu1'ers assumed that at least half of
their internai rate of return would come
when the asset was sold five years down
the road. But buyers are now expecting to
make hefty returns on cash flow.
Underwriting on equity deals has also
grown more consetwative, especially concerning rent growth assumptions. And exit
cap rate assumptions-or where cap rates
willbe when the buyer becomes a sellerare increasingly being scrutinized.
Those pension funds, hedge funds,
and opportuniw funds rhat are active are
looking for a hold period of around three
to five years. "If something takes more
than a fewyears to get done, it's too hard
to handicap whether it's ever going to get
done, and it starts to dilute the returns the
longer you hold it;' says Dennis Walsh, a
senior director of Boston-based Tremont
Realty Capital, which provides preferred
equity and advises on common or joint
venture equity. "Ifyou can't realize that
value over a three- to five-year window, it's
a deal that won't pencil for them."
CASH IS KING, BUT THE KING
hAS
icft
the building.
The equirymarkethas grown more
constrained this year, as pension funds, iife
insurance companies, and other instifutions stay on the sidelines waiting for a
bigger volume of distressed assets to hit the
SffCCTS.
Most of the equity funds being raised
are focused on distressed properties and
distressed debt note acquisitions, also
own" acquisitions. While
funds are increasopportunity
many older
ingly seeing investors pulling their commitments, new institutional equity funds
anticipating distressed acquisitions are
closingerery week.
"The reason they're not more active is
ca1led "1oal to
that there just aren't the opportunities that
yield the kind ofreturns that they're looking for at this stagej' says John Fenoglio, a
senior vice president focused on the eqr"rity
market for Charlotte, N.C.-based Grand- bridge Real Estate Capital. "But there's a
mountain of money being created on the
sidelines. The distress is building and the
number of loans going into special servicing is rapidly escalating so the product will
be there eventually."
A Second Look
Return expectations from instittttional equity providers now run from
the mid-teens 10 25 percent. att increlse
companies.
of 300 to 500 basis points (bps) since
mid-2008. But the most active buyers today are private, regional players scooping
up assets from larger institutions.
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! ;***
Much like trying to find debt for transitional deals (such as new construction or
substantial rehabilitation), joint venture
equity, particularly for development work,
is increasingll' harder to find. Smaller developers u.orking on ot-re-off deals will still
find their best success in raising "friends
and family" eqr.rity. But striking a relationship with an equity provider on a series of
deals is possible forverticallf integrated
Since institutional equity providers
prefer larger deals, developers looking for
less than $3 million in equity, for example,
have a hard time getting their attention.
But if a firm can handle seven deals a year
"then tl-re amount of equity inches up in
the aggregate of $20 million to $30 million
over 12 months, and it hits the threshold
where it makes sense," Walsh saYs.
Key to these types of deals is a structure that includes fairly big overhead
costs, such as in-house construction,
leasing, inspection, and engineering expertise. A single developer hiring several
third-party providers is not
as
attractive
to equity providers.
These "first look" agreements, which
were popular in the 1990s. may be coming
back in sryle. Such agreements require
the developer to give the equity provider
first dibs on any ofits deals, and ifthe
equity provider says no, the developer
is free to get it elsewhere. Tremont has
arranged several joint ventures between
regional developers and institutional equity providers, and the company believes
CUMULAY'\TH NISTRXS$ IN
U.5- MULTITS'MNLY
fficlntt'!
{3&*g}
Soilars {in b!!li*ns}
January
$r1.7?
Fei:ruary
$r3.7C
It'l*rch
Aprl
$15.?7
$17.c5
May
$i8 32
Jure
$19.?5
Jrly
Au!lilsI
(.ao<
*2?-.C7
Source: Real CaPital AnalYtlcs
REDUCED
APPLICAT1ON FEE
oF $4.500
that model wili become increasingly
popular as access to equity continues to
be constrained.
As well as a New Streamlined
Application Form
furreney €xelra*ge
Industry watchers also expect foreign
equity sources to be more active in the
fourth quarter and throughout the first
half of zoro. A mid-year surwey by the
Association ofForeigir Investors in Real
Estate found that 75 percent of its membership sat out the first halfof2009, but
about 66 percent expected to be active
investors in the second half.
Consider that Highlands Ranch, Colo'based UDR recently announced a joint
venture with Kuwait Finance House to
invest up to $450 million in multifamily
assets. The company said it had actively
And, as always:
'
.
.
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been exploring joint venfure opporrunities for the last rwo years, but that rerurn
expectations were too high to pencil out.
But the pendulum is swingingback,
according to Warren Troupe, a senior
executive vice president at UDR who said
investors are now starting to lower their
expectations to a more realistic realm. "In
the past four months, we started to get a
1ot oftraction from institutional investors
who had been in the multifamily market
and exited in 2006 or earlY 2oo7."
China Investment Corp. (CIC), a $300
billion sovereign wealth fund, is also
lookingto make abig splash in the U.S.
commercial real estate markets. CIC met
with private equiry managers such as
BlackRock and Invesco in late summer
2009 about opportunities in distressed
mortgage notes as well as phvsical assets.
Last year, CIC invested just $4.8 billion in
global financial markets, but this year, it
has invested as much in a single month. X
reporting by Les Shaver
-Additional