Listed real estate investment trusts are increasingly pivoting towards a funds management-led model to allow them to compete in the market for property assets in partnership with their unlisted peers.
While transactions have so far centred on logistics and office assets, experts are waiting for retail assets to start trading in this way.
“There have been periods when the REIT sector has been quite depressed, especially when Covid-19 hit,” explains Tom Bodor, director, equities research analyst real estate, UBS.
“But as the market has bounced back, and even in strongly-performing property sectors such as industrial that are very well supported, it can be hard for REITs to buy assets and compete with unlisted capital.
Listed real estate developers are often waylaid by their share price, which can affect their ability to buy assets.
Bodor says share prices can vary based on a range of factors beyond real estate fundamentals and sometimes their cost of capital is more competitive than wholesale capital.
“But at the moment, on average, they’re not as competitive as wholesale capital. So a number of REITs are taking the view that if they have a funds management business, they can partner with investors and provide management expertise, even if they’re only buying a minority stake in the asset themselves.
“The capital partnering model is a way for groups to participate in the market and grow earnings without having to buy 100 per cent of lower-returning assets themselves.”
An example is Dexus’ acquisition of the AMP Capital Diversified Property Fund management rights and listed fund manager APN Property Group.
Stockland’s logistics joint venture with JP Morgan Asset Management, and GPT’s logistics joint venture with the QuadReal are other examples.
“Many of the local REITs are seeking a funds management capability so when they can’t buy assets, because they can’t pay the highest price, they can partner with the group that can and then manage the assets on behalf of their partner,” says Bodor.
“Most of the action is happening in logistics because that’s the most competitive asset class. But it’s likely to be extended into office assets, where super funds and wholesale capital are very aggressively buying assets and the listed market is more cautious.
“Where it hasn’t yet played out is in shopping malls and large-scale retail. That will be interesting to watch because that’s where both the listed and unlisted markets are particularly challenged at the moment. If you see capital deploying into malls, the listed market will take notice because we haven't had any transactions in that area.”
For instance, GIC Singapore is looking to sell its interest in Sydney CBD retail assets owned in partnership with Vicinity. Dexus is also believed to be looking to sell stakes in some of the AMP Capital Diversified Property Fund shopping mall assets owned in partnership with Scentre.
“We expect these assets to transact, subject to demand, in the next year,” says Bodor.
“The market will be very interested in the prices these assets realise because we haven’t seen a major mall transact since the Lendlease-managed APPF Retail Fund sold its half share in Adelaide’s Westfield Marion property in 2019.”
SG Hiscock director Grant Berry says although traditional office and retail assets may be out of favour, it’s important to understand the nuances of these sectors and their future potential.
“Large centres with tenants like Harvey Norman, Bunnings, Nick Scali and Petbarn are attractive assets,” he says.
For example, acquisitive property group HomeCo recently spent $160 million buying shopping centre assets in Queensland, which it will house in its HomeCo Daily Needs REIT.
Berry says neighbourhood shopping assets anchored by a Coles, Woolworths or Aldi are attractive because returns are driven by non-discretionary spending.
As well, the retail sector is evolving as features such as click and collect become more popular. So, while retail property may not be at the top of its cycle, many assets still offer solid future returns and REITs have an opportunity to add value to these assets.
This latest shift in the REIT sector towards a hybrid funds management model is the continuation of a 30-year transformation of a sector that was once predominantly a rent collecting function managed through listed property trusts.
“Now the REIT sector in Australia is made up of rent collectors, which are both internalised and externally managed,” explains David Harrison, CEO of Charter Hall.
“It's made up of REITs that combine development earnings with owning real estate. Our model combines funds management, owning real estate and also property development.”
There are 35 REITs within the $120-billion ASX 300 REIT index, ranging from small funds with a market cap of just $200 million up to the $36-billion Goodman Group.
“The vast majority of REITs that have come into the sector in the past 10 years are externally managed, because you need a sponsor to create the portfolios for an IPO,” Harrison says.
“A lot of the large-cap REITs have worked out their earnings growth and total return is not going to match those REITs with active earnings from funds management and development.
“That's why a lot of them are moving down this path of creating earnings other than the rents they collect.”
Centuria’s acquisitions of the former 360 Capital listed REITs and Primewest are examples.
Harrison assumes the metamorphosis of the sector will continue; he is expecting a spate of transactions at the smaller end of the listed REIT market.
“The poor-performing REITs that are either very diversified or with a significant exposure to large shopping malls have to create free cash flow earnings above the return they receive on invested capital,” Harrison says.
“They need to improve their return on equity, otherwise they're not going to trade well and will be acquired by a larger listed business or an unlisted fund, with a wall of wholesale capital looking to deploy in real estate globally.”
Down the track, Harrison expects REITs to become more involved in property development.
“This used to be done by businesses outside REITs, which bought projects once they were finished,” he says.
“Now, REITs with development capability are building their own. A thematic called develop-to-core involves REITs buying and developing assets to hold them rather than develop to sell.
“That's going to be quite a common thematic that keeps playing out with the active REITs.”
As for the future, expect to see REITs diversify their activities to create earnings growth, with super and wholesale funds increasingly interested in acquiring real estate assets and more public-to-private transactions.