By Theodore Murphy

Nine boats full of convicts were shipped from London to a new colony called New South Wales in 1788. The Industrial Revolution was in full swing, bringing on new means of production, more complicated capital structures, and a growing loan default problem that filled British prisons to overcapacity with debtors. Seeking to purge the land of this overflowing nuisance, the Crown looked to the continent island at the other end of the Earth. Over 62 years, the 759 convicts aboard the first fleet would be followed to what came to be known as Australia by some 162,000 more. To be sure, there were sundry murderers and thieves aboard these ships, and likely a number of unjustly accused, but the main common link of this banished bunch was debt. These were the poor of Britain—men and women without a penny to their name.

What a difference a century and a half can make. While through 1850 the British shipped debt defaulters to the distant southern land, these days the now capital-flushed Australians are increasingly investing in the U.K. But they won't stop there—Australian investors are making inroads into continental Europe, too (not to mention their already strong presence in the U.S.). And the listed property sector is at the helm.

These changes come at a time when Australia's property investors—led by Listed Property Trusts, or LPTs, the country's REIT equivalent—are ready with cash and have limited options to invest it at home. It also comes at a time at which, for many maturing LPTs, European expansion seems a logical next step toward a truly global footprint. Last but not least, it comes at a time when European property is boasting higher yields than those across the Atlantic. In recent quarters, some LPTs have lost money in America while profiting in the Old World.

Take Westfield Group (AX: WDC), the world's largest owner of shopping centers and a well-established player in the U.S. market. Last year, following a re-organization designed to facilitate global growth, the Australian company's first major move saw it taking over a portfolio of malls valued at £2.2 billion ($4.2 billion), doubling its U.K. assets in a deal widely seen as a harbinger of an upcoming continental excursion.

Add to that Multiplex Group (AX: MXG), partner to Westfield in last year's acquisition. The Australian developer is in the midst of what is being described as the most aggressive entry ever by any developer into the U.K. In the space of one year the company has assembled a development-led portfolio valued at more than £13.0 billion ($24.8 billion).

Lend Lease Corporation (AX: LLC), the first developer from Down Under to enter the U.K. market in the mid-1990s, has reinvigorated its once dormant U.K. development program over the last few years, and is eagerly shopping for acquisitions to allow it to grow and move continent-ward. And General Property Trust (AX: GPT), which Lend Lease attempted to acquire, has entered a joint venture with countryman Babcock & Brown (AX: BNB) involving a AU$1 billion ($774 million) fund centered on growth abroad, initially focusing on continental Europe. All told, it's a raft of Australian investment in the U.K. and continental Europe that is of unprecedented proportions—and it may only be the beginning.

Running Out of Real Estate

The Australian LPT sector is the most entrenched in the world, accounting for nearly 10 percent of the capitalization of that country's stock market, as compared to REITs' approximate 1 percent share in the U.S., according to a Macquarie Capital Partners report. Australian LPTs have reached preponderance on the back of gargantuan holdings—49 percent of domestic investment-grade property is already on LPT balance sheets, in comparison with 18 percent in the U.S., according to the report. As a consequence, when LPTs these days eye growth, they have no choice but to look to other markets.

"We've been pushed overseas," says Richard Cruickshank, managing director of Property Investment Research, a Melbourne-based property research firm. "We ran out of real estate in Australia, so we have to put our money abroad."

Stuffing the LPTs' capital accounts has largely been the job of the Superannuation Guarantee Levy, a government program that compels employers to contribute an amount equal to 9 percent of wages to workers' retirement funds, a kitty that as of September 2004 stood at nearly AU$650 billion ($503.2 billion). Australian retail investors have fewer options than their American counterparts—there isn't much of a corporate bond market, for example—so many have historically seen real estate as an attractive and safe choice. The sector has absorbed some 12 percent of the total Levy.

According to Edmund Craston, head of European investment banking at UBS, LPTs even enjoyed steady and large influxes during the tech boom, in contrast to REITs in America. And while U.S. REITs have benefited from a new found popularity among investors over the last several years, LPTs have been every bit the darlings of the Australian market.

Across the Atlantic

Commonly, the U.S. real estate market has been preferred over Europe or Asia for investment abroad. According to Robbie Meyer, head of European investment banking at Macquarie Capital Partners, Australian companies have felt comfortable partnering with American REITs because of a shared affinity for sector focus.

"Most of the successful LPTs have a clear asset class or market," Meyer says. "When they started to look beyond their borders because they had no more product, the most resembling market was the U.S." In contrast, property investment vehicles in the U.K. and on the continent tended to spread investments across a variety of sectors, or even a variety of industries.

Another key similarity between the U.S. and Australian public real estate markets was in yield levels. "Aussie investors were used to DPU yields [FFO equivalent] in the high 7 percent range," Meyer says. "A yield that was comparable or above that was critical. And the only big market that offered that was the U.S.—generally yields in Europe were much lower."

Finally, as always, culture and language played a role. The legal and fiscal environments in the U.S. were clear for Australians, and communication easy. "But Europe was considered a leap," Meyer says.

In 2004, Australians invested $1.8 billion of equity into the U.S. real estate market, a figure that ranks second globally only to the $2.5 billion that came from Germany, according to Macquarie Bank estimates. But as market conditions in the U.S. and Europe have evolved, and Europe's real estate investment structures and professionals have matured, the scenario no longer ensures that the U.S. is the only attractive market for Australian money. "We've seen significant yield compression in the U.S., and the emergence of new REIT markets elsewhere," Meyer says. "For Aussies, the comparative advantage of the U.S. has pretty much gone away."

Global Ambitions, Global Competition

For some LPTs, the business case for European expansion is much more fundamental. Indeed, it's a natural next step toward realizing global ambitions. In no sector is this more apparent than retail, and for no LPT is this more the case than for Westfield.

Westfield rubs shoulders—and occasionally exchanges elbows—with a group of elite retail property companies that are looking for global growth through a European lens. Among the U.S. REITs, The Mills Corporation (NYSE: MLS) and Simon Property Group (NYSE: SPG) have stepped up their European investments in the last year, and General Growth Properties, Inc. (NYSE: GGP) is thought by analysts to be seeking an entry opportunity.

European mall assets are coveted because the market is highly fragmented, and because planning restrictions have restrained supply, leading to low vacancy rates, long leases and a stable tenant base. The higher-end of the European market is tight, with minimal turnover, so the easiest way for global mall groups to gain presence is through a merger or takeover. According to a recent Merrill Lynch report, Simon, General Growth and Westfield are the most likely candidates to attempt a takeover or merger with one of the big European retail holders—a group that includes Rodamco, Corio, Liberty International and Hammerson, which together hold some $25.12 billion in mall assets across Western Europe and the U.K.

The Merrill Lynch report goes on to describe the three potential consolidators and the likelihood of each one being willing and able to finance a deal involving any of the four European mall leaders. Simon, the report notes, is "extremely mindful" of making only investments that are accretive immediately both to FFO and NAV. Simon has the balance-sheet capability, with some $300 million of cash flow each year to reinvest, and could complement that amount by issuing new equity, "but will not tolerate any earnings dilution in order to expand its platform." General Growth, who acquired The Rouse Company last year for $12.6 billion in cash and assumed debt, is currently 70 percent leveraged, so is likely to be "focused on integrating its existing portfolio and not as focused on acquisitions at the present time."

Westfield, the report goes on to say, is definitely looking at Europe, where the yield spread on the continent can make a properly financed deal accretive from day one. The company effectively merged its three major listed entities last year, forming a single company with a market capitalization of AU$27.7 billion ($21.5 billion), thereby improving its access to less expensive capital. This will "allow it to participate in the consolidation of owners of malls, not just make acquisitions," the report says. While the company states a gearing (leverage) range of 40 percent to 45 percent, and is currently at 44 percent, Merrill Lynch analysts said that, "[Westfield] would be prepared to increase their gearing in the short term to fund an acquisition." Beyond debt, the company has access to a range of funding sources. "We believe that Westfield, using a combination of debt, hybrid, DRP and equity, could participate in acquisitions in excess of AU$5 billion ($3.87 billion)."

Even in the absence of a large takeover, however, the writing is on the wall— Australian LPTs are primed to bring boatloads of capital to the U.K. and the continent. "All the world's a stage," says Frank Lowy, Westfield CEO. And "companies are supposed to grow. If there's an opportunity, we'll take it."