Asset Sales: A Bridge Over Troubled Water for Equity REITs

By Stephen Boyd, Director of U.S. REITs, Fitch Ratings: Why asset sales is likely to remain a hot topic for U.S. equity REITs through 2016.

Stephen-Boyd,-Fitch

Asset sales remains a hot topic for U.S. equity REITs due to the current arbitrage between private and public market real estate values—as it has since the second half of last year.

REITs sold $32 billion in properties during 2015—an amount second only to the $37 billion asset sales record set in 2014. Office ($8 billion worth of dispositions), shopping center ($4.4 billion) and multifamily ($3.4 billion) REITs led the industry in dispositions last year. The multifamily sector’s share of dispositions should grow during 2016 due to Starwood Capital Group’s planned acquisition of more than $5.3 billion worth of apartments from Equity Residential.

Fitch views asset sales as mostly a positive from a credit standpoint. This is primarily because asset sales are effectively equity raises, but at private-market valuations that generally exceed public-market values today. However, fewer assets also means less diversification, all things being equal, and there is risk that companies may sell some of their better assets if investor demand for their non-core properties is weak.

Several REITs have cited upgrading portfolio asset quality as a key consideration in formulating portfolio disposition strategies. However, by definition, REITs will always have a bottom tier of properties within their portfolios that are candidates for capital recycling to fund acquisitions and development.

Corporate governance may underlie some observed stubbornness to sell assets. For example, Senior Housing Properties Trust fielded questions during one of its recent earnings conference calls about its unwillingness to implement a disposition program to fund share repurchases, given its wide net asset value (NAV) discount. Investors have historically criticized the company’s compensation plan for its external manager, claiming it rewards size over profitability and relative stock performance.

Nevertheless, Fitch expects U.S. equity REITs will continue to mine their portfolios for dispositions this year to upgrade portfolios and fund investments, particularly if the current 10 percent NAV discount persists, or weakens.