Carving Out a Niche

By Steven Marks, Head of U.S. REITs, Fitch Ratings: The number of non-traditional real estate landlords that have converted to REIT tax status has increased over the past several years despite inherent risks not present with core property types.

Steven MarksThe number of non-traditional real estate landlords that have converted to REIT tax status has increased over the past several years despite inherent risks not present with core property types. In fact, eight companies have converted or spun-off assets into a REIT since 2010.

The list of candidates for REIT conversion or REIT initial public offerings is expanding and includes owners of billboards, landfills, casinos, and document storage facilities. Niche REITs often have differentiated risks that may be less familiar to investors that concentrate in the traditional commercial property sectors.

Companies that choose to elect REIT status comes with numerous primary benefits, including tax savings at the corporate level and higher earnings multiples for REITs than traditional corporates. The inherent risks in these specialized companies would likely result in lower credit ratings than a comparable REIT in a core property type with similar credit metrics. Risks include the limited established secured lending/CMBS market for the asset class, the depth of transaction market, and potential alternate uses or non-traditional lease structures.

Additionally, long-term performance data on niche assets if often lacking. The end result is likely lower leverage for a similar rating level when compared with more traditional REITs and a focus on the unsecured debt markets as a funding strategy.

Two recent examples of conversions are the 2012 conversion of American Tower Corp., an owner, operator, and developer of wireless and broadcast communications real estate, and the 2013 conversion of Corrections Corporation of America, an owner and operator of privatized correctional and detention facilities.

Fitch will continue with its collaborative approach towards monitoring ratings for niche REITs, considering credit factors that pertain to real estate fundamentals as well as factors that may be pertinent to the individual issuer.