By Charles Keenan
Photographs by John Emerson
In his more than 40 years in
the business, Vornado's Steven Roth has never been afraid to speak his mind or make the
big deal. In so doing, he has
not only built one of the
top-performing and largest REITs from scratch, but
also has helped guide an
industry from infancy into
a maturing, growing engine
of the American economy.
Perhaps the easiest way to view Steven Roth's success as a real estate pioneer would be to take a look at the numbers.
Vornado Realty Trust (NYSE: VNO) has consistently outperformed its peers over the years, earning the respect of analysts. They give Roth, chairman and chief executive officer, leeway for deals Wall Street would readily criticize other executives for making. That's because Roth usually gets the deal right, generating handsome returns for shareholders. Over a five-year period ending in August, Vornado had an average annual return of 25 percent, versus 20 percent for all REITs. Vornado, with an equity market capitalization of more than $14 billion at mid-September, was added to the S&P 500 in July.
Of course, it's not just the numbers that make Roth stand apart. Energetic, outspoken, gregarious and self-deprecating, Roth, 63, was recently named by Barron's as one of the world's 30 most-respected CEOs. He also knows how to surround himself with top-notch management, and is willing to spend the money to do so. Like most successful CEOs, he has an eye for details. And on a grand scale, Roth's vision has helped transform not only Vornado, but also the entire publicly traded real estate industry, helping to spearhead many of NAREIT's policy initiatives and serving as its chair for the 2002–2003 term.
Roth's career started out by chance. He went to DeWitt Clinton High School in the Bronx, then, encouraged by his stepmother, he skipped going to a local college and instead headed for the Ivy League. Roth earned a Bachelor of Arts in 1962 at Dartmouth College. A year later, at Dartmouth's Amos Tuck School of Business Administration, he earned his MBA with "high distinction." Afterwards, Roth returned to New York, where a friend helped him get a position with a small New Jersey developer of industrial buildings.
Soon afterward in 1969, Roth set out on his own and quickly built a booming business developing strip malls in New Jersey. He rose to prominence by buying failing retailers that sat on prized real estate. In the late 1970s in one of his hallmark moves, Roth and his partner, Russell Wight, bought a stake in Vornado, the owner of the Two Guys discount store chain. A few years later they took a controlling share, converting the stores and their parking lots into profitable strip malls.
Roth did the same with Alexander's Inc. (NYSE: ALX), buying up shares and in the 1990s, eventually taking control of the now-defunct retailer. In March 2001, in a well-timed deal, Roth signed Bloomberg LLP, the media giant, as the anchor tenant of a Cesar Pelli-designed 56-story office and condominium tower at the old Alexander's department store site in the heart of Manhattan.
Roth was also widely praised when in 1996 he recruited Michael Fascitelli, a partner and star dealmaker at Goldman Sachs. With Vornado flush with capital, Roth saw an opportunity to buy under-priced office properties in New York and elsewhere, but needed the added expertise to bring it to fruition. With Fascitelli on board, Vornado started snapping up office properties in New York, Washington D.C. and Chicago.
As a result, Vornado has transformed itself into a company more diverse than most other REITs. It was hardly a random diversification, however, but rather a very calculated means of balancing Vornado's portfolio and allocating its capital in opportunities with the best prospects for growth. Vornado at year-end 2004 owned 27.6 million square feet of office property in the metropolitan areas of New York, Washington and Chicago; 94 retail properties in seven states and Puerto Rico totaling 14.2 million square feet; and an additional 8.6 million square feet of showroom and office space in Chicago, Los Angeles and North Carolina, including the famed Merchandise Mart.
Recently, Roth has returned to his tried and true method of buying retail real estate by
purchasing stakes in struggling chains with valuable real estate. One such deal includes
its purchase in July 2005 of a one-third stake in Toys-R-Us Inc., along with partners Bain
Capital and Kohlberg, Kravis, Roberts & Co.
Portfolio sat down with Roth and listened to his thoughts about his early career, Vornado’s success, the
progress the industry has made and what
it will take to succeed as a REIT
down the road.
Vornado had a remarkable year in 2004 giving shareholders a 46 percent return, counting stock appreciation and dividends, and is once again performing well in 2005. Historically, your company has handily outpaced the NAREIT Equity REIT Index. How have you managed to outperform your peers so well?
We try to invest in the right assets, in the right markets, in scale, and manage our balance sheet wisely. For example, it's not by chance that our office assets are only in New York City and the Washington, D.C. area, the two best markets in the country and two markets that have a history of spiking asset values. Our basic investment rules are pretty simple. We only invest in markets with the right supply/demand balance. We only invest in assets that we believe have capital and income appreciation potential. And we only invest in assets that are protected from ruinous competition. Commodity real estate is like any other commodity: the cycle inevitably turns and it gets hammered. We try to invest in scarce assets, in scarce geographies.
We also try to invest in assets with under-market rents. That way we don't need market rents to rise to make our money; we just have to roll the rents to market.
And if you are going to grow and build real shareholder wealth, you need to have conviction and to invest in scale.
You have mentioned the importance of being able to properly manage the right-hand side of the balance sheet. How does management of capital markets play into this?
We try to work both sides of our balance sheet very hard. We have a group of hugely talented people who run each of our businesses. And we believe that the management of the liability and capital side of our balance sheet has an equal measure in value creation as our management of the asset side. Old-fashioned real estate guys, they knew a lot about real estate, but they didn't know enough about capital markets. We've been bullish and correct on the interest rate cycle for as long as I can remember. We think we get an "A" grade on capital market strategies.
In Vornado's early days, you made your mark by buying and closing failing retail companies that were sitting on valuable real estate. Then in the 1990s, Vornado expanded significantly into office properties. Recently you have focused
attention toward retail again. Has Vornado come full circle?
I don't think so. When you mine for real estate you can sometimes find it cheaper on the New York Stock Exchange than you can find it in the real estate markets. And sometimes office markets are better than retail. Over time, things fluctuate and we will be opportunistic. With the Two Guys discount store and Alexander's deals, basically those shareholders were selling us stock in failing retailers and we were buying great, irreplaceable real estate. So there was a total disconnect in perception.
We continuously monitor markets for the best place to allocate our capital and our management energy. They are the two most prized resources we have. One of the things I'm most proud of
is our management team. We have the in-house skills to manage office towers, great retail and the Merchandise Mart.
How is it that you have been so successful as a diversified REIT when others have struggled? Is specialization overrated? Or what is it that Vornado does differently that allows it to juggle different business lines?
We are diversified in a very limited and measured way. When Mike Fascitelli came in 1996, we were a shopping center business with huge unused financial capacity. We made a judgment that there was much more value in, for example, New York office assets (that they were giving away at the time) than in shopping centers. And we needed Fascitelli to do that. So basically this wasn't as much a diversification as it was a capital allocation, value creation opportunity.
Our largest businesses are now office in just two cities, New York and Washington, D.C., and retail concentrated in the North East. Very simple, very traditional. And there's overlap here, for example, the great retail in the bottom of our New York office buildings. These two businesses, each of which is now as large as a good-size freestanding REIT, represent about two-thirds of our business.
How has the REIT industry changed since your early days at Vornado?
It has changed enormously. Real estate is one of the most prevalent asset classes in the world. We live in real estate. We work in real estate. We play in real estate. We vacation in real estate. We shop in real estate.
Years ago real estate was one of the most fragmented asset classes. In any big city there would be dozens of owners, none of which had market share or branding ability or dominance. Then along came REITs. Now there are nearly 200 publicly traded real estate companies, with nine in the S&P 500. And they are professionally managed. The best-managed 20 or 30 companies are growers; they are consolidating and getting larger. These companies have scale and are now important factors in the U.S. economy. The unmistakable trend toward professionalism, capital strength and consolidation is a major reason for the extraordinary outperformance of REIT
securities over the last three, five and 10-year periods.
Regarding corporate governance, you remarked in the Vornado annual report that Sarbanes-Oxley compliance has been your CFO's night job. How has compliance affected the REIT world?
Sarbanes-Oxley is a reality of life. The additional workload (and it clearly is) is something that our CFO Joe Macnow and his people handle on top of their regular day work. I do not look upon Sarbanes-Oxley as an ordeal. We are a public company, and a big one now. Mike (Fascitelli) and I run the company and are fiduciaries for $14 billion of capital for thousands of investors. And so we have a responsibility and do run the business by the rules. Financial controls and management information are a hot button with Joe and me. Moreover, Vornado's management and directors are the company's largest shareholders. Guidance and oversight from a very involved and knowledgeable board of directors is simple common sense, good corporate governance, and important to the growth and success of our company.
You have been described as a "thinker and a doer," in the words of NAREIT President and Chief Executive Officer Steven A. Wechsler, "with an uncanny ability to simultaneously focus on the larger vision as well as the smaller detail." What general attributes must REIT CEOs have now to succeed? How does that differ from the past?
Not all the credit can go to the CEO anymore. Before public REITs, CEO/ owners of small private real estate companies likely did everything themselves. That person made all the decisions and all the deals.
But today, the CEO of a large REIT has to be in the human resources business. The CEO has to recruit, attract and maintain a team of really talented people to run each function of the business. Today's large REITs have outstripped the ability of any one individual to run them—no matter how talented he or she is.
The CEO must have real estate and deal-making skills and, as we discussed, a fair share of capital market skills. The CEO has to have vision for the future and develop an evolving business plan. And the CEO has to be able to handle the external factors—government relations, community relations, and, importantly, shareholders and analysts.
By the way, it is very important to be lucky.
Some say luck comes from preparation. Or are you talking about pure luck sometimes?
Wherever luck comes from, it's great to have it.
What deals or moments do you see as highlights of your success in real estate?
First was the Two Guys discount store deal. We went from being a small private developer to buying real estate in the stock market. Buying Vornado shares and taking control of that company was to my knowledge the first time anyone had ever done that (mined for real estate in the stock market) and Alexander's was the second. Now, unfortunately, the secret is out.
The second most important moment was recruiting Mike Fascitelli to come to Vornado. Great people make great companies. And Mike is truly the greatest.
Above all else you really wanted him to come on board.
Absolutely. His joining totally redefined the company. And today we talk constantly about change as we consider the future of our business, seeking individuals, transactions and ideas that will enable us to move to the next level. We force ourselves to think broadly and to think big. And attracting Fascitelli was a company-defining transaction.
You have been praised for your sense of timing. For example, you signed on Bloomberg for the former Alexander's site just before the market softened in 2001. Is there a skill there, or perhaps the luck you were talking about?
It's not luck, it's not skill, it's not education, you can't teach it—it's just good old-fashioned common sense. You just have a feel. It also really pays to understand the ebb and flow of markets. And you must have a feel for how things are going directionally. Basically, it's just paying attention to the few things, transactions or decisions that have the most impact, prioritizing them, and applying common sense and judgment. That, and risk management has a key role to play, as well.
Regarding the real estate bull market, you wrote in Vornado's annual report that, "Some think it is a bubble. I do not." That, "this market is a long cycle move. Get used to it. Give or take 10 percent, these prices are here to stay for some time." Why? How is this different from other price run-ups in the past?
Income producing real estate is in a secular bull market—emphasis on secular. This has coincided with the secular bull market in interest rates, which probably has a lot to do with it. Other factors are the deleveraging of real estate (down to less than 50 percent debt), and the fact that in almost all geographies supply has been held in check. With 20/20 hindsight, it's easy to conclude that real estate was stupidly cheap in the 1990s.
In past cycles, real estate was way over-leveraged and, therefore, very vulnerable. It was also prone to ruinous overbuilding. Over the last five years or so it feels to me like we're living through a slow, steady secular re-pricing—and I again emphasize secular.
In terms of interest rates, you have said there is an anchor holding down interest rates. Yet with the Federal Open Market Committee's focus on gradually raising short-term rates, does the industry need to gird itself for an increase in long-term rates?
When we talk about interest rates, the first point is that all managers of capital-intensive companies, including REITs, must protect against the cost of their single largest raw material—capital—rising. All the pundits have been universally predicting that interest rates were going up. And they've been predicting that for years now. It hasn't happened. If you graph the 10-year treasury rate over the last four years, every time rates fake up, there's an anchor pulling them back down. As I said, it's just an empirical observation. I have theories about why this is happening and 10 years from now economists will give us the real answer.
There has been a lot of activity regarding U.S. REITs operating overseas. Is globalization the next frontier?
If REIT managers thought there were unlimited opportunities to make money in the U.S., they wouldn't be going abroad. The shopping center industry is a great example of this, where opportunities abroad seem to be better than at home—just look at the square foot per capita statistics. It's pretty clear that the U.S. publicly traded real estate companies in the retail sector are more expert than their counterparts abroad. So these U.S. companies are exploiting less saturated markets with American-style management. It is just common sense. Same story with the industrial guys.
Vornado is very gently kicking the tires internationally. We are in the process of making our first very small investment. We will invest abroad only when we have proper firsthand knowledge of markets and values.
To have that firsthand knowledge, what do you need?
Having great local partners is important but not sufficient. Our internal management has to understand the values as well.
Leaders like yourself, Sam Zell and Milton Cooper are viewed as pioneers in the industry, as paving the way for a blossoming REIT industry. Who do you see as the next generation of leaders?
Start with the NAREIT Executive Committee. What the board of NAREIT has done is seed the committee with the next generation of leaders: David Simon of Simon Property Group (NYSE: SPG), Scot Sellers of Archstone-Smith (NYSE: ASN), Art Coppola of The Macerich Company (NYSE: MAC) and Chris Nassetta of Host Marriott Corporation (NYSE: HMT). And, of course, there's Mike Fascitelli, Vornado's president.
We have a fabulous group of men and women who are in their 40s, who are now running big companies and are doing a great job. And they are working hard on pushing us (veterans) out. That is exactly how it should be. And we're working hard at pushing back.
How did you originally get into real estate?
Purely by chance. After Dartmouth, I came back to New York and roomed with a high school friend—Donald Eisen—in Manhattan. Donald, who works for Cushman & Wakefield, did two things: he got me my first date with my wife (theatrical producer Daryl Roth) and he got me my first job in the real estate business. So I owe it all to Donald.
If you hadn't entered real estate as a career, did you have another idea of what you were going to do?
I was in desperate trouble all through school because all my friends were going to be doctors, lawyers, or go into their family businesses. I was going to do none of the above. So it was just good fortune that Donald led me into the real estate business. In those years—we're talking about 1966—real estate was as hot as dot.coms were five years ago or as hedge funds are today. I was lucky to get into a good business. And it's worked out pretty well.
REIT Visionary