By Douglas McEachern
Key Issues for REIT Executives in 2001
It is an inherently risky
endeavor to predict what
might happen. As American philosopher, Alfred North
Whitehead, once said, "The only use of a knowledge of
the past is to equip us for the
present. The present contains all that there is. It is holy ground; for it is the past, and
it is the future." Whiteheads's caution notwithstanding,
it is part of human nature to cast an eye to the future.
Clearly 2000 was a strong year, especially in contrast to the
two which preceded it. But,
prudence dictates that the best way to look ahead is to temper our view of the present, with the memory of the not-so-rosy
period that came before it,
and attempt to ferret out some important principles that can help guide the REIT industry
in the months to come.
Although goal setting is a
company-specific endeavor, a number of common themes pervade the plans of most REIT and publicly traded real estate managers. In all, seven key issues emerged from our conversations with several CEO's and CFO's representing all property types and
geographic segments.
Seven Keys for 2001
CAPITAL get it, keep it, and redeploy it
In an industry that structurally requires earnings to be returned to the shareholders, capital is a precious commodity. "Get it, keep it, and redeploy it," was the advice of one executive. Collectively, they suggested the following:
- expand contacts with investment bankers and bankers;
- forecast taxable income and dividend requirements (primarily tax driven) to proactively manage the dividend process;
- identify new capital sources;
- continuously review the asset portfolio to identify capital sources; and
- repurchase stock to enhance FFO and shareholder value.
GROW
The old adage that "any enterprise not growing is dying" is embedded in the goals of many REIT management groups for 2001. Ground-up development (particularly in the self-storage and apartment sectors) is a common theme, tempered by the caveat that development experience is a prerequisite. While many executives view real estate acquisition markets as very expensive, they seem convinced that development provides the most compelling yield for their portfolios and shareholders.
A number of the goals for 2001 are interrelated, including property developmental activities. Barry Lefkowitz, CFO of Mack-Cali Realty, observes, "REITs are managing in a stabilized world." Development opportunities in such stabilized markets include:
- Sharpening the focus on markets to ensure critical mass resulting in the disposition of properties in areas where the REIT does not have the opportunity to become a "player";
- Repositioning properties to remain competitive with the evolving nature of tenant requirements; and
- Increasing asset holdings through acquisitions or, more likely, through development in supply constrained markets.
Bill Cornely, CFO of Glimcher Realty Trust in Columbus, Ohio, also discussed taking advantage of the challenges the marketplace presents and turning them into opportunities for growth. Glimcher, for example, has transformed a defunct cinema into retail space for a tenant requiring large amounts of square footage. Similarly, Glimcher is focused on redesigning common areas out of their malls to make them a more comfortable space for shoppers to spend leisure time.
Beyond internal growth and development activities, it is thought that 2001 will present new merger and acquisition opportunities (both to acquire and to sell) that will be aggressively pursued to maximize shareholder value. Those who are avoiding ground-up development activity (notably in the retail sector) still plan to redevelop or re-tenant their prop erties to increase their yield.
FOCUS on profit enhancement opportunities
A number of strategies to increase revenue and contain or reduce costs are emerging.
They include:
- Standardizing lease terms and other repetitive activities;
- Outsourcing back office functions (lease management, IT and accounting);
- Technology investments to reduce costs and optimize effectiveness;
- Property benchmarks to identify revenue enhancement and cost reduction opportunities;
- Participating in group purchasing programs to obtain better prices and services; and
- Leveraging the customer base (in the case of malls, the customer traffic; in apartments, the renters; and in office properties, the tenant employee base) to identify ancillary income opportunities. Since increases in "same store" net operating income are viewed by many as a good predictor of increased stock prices, shareholders could be rewarded through increased stock prices if management is able to successfully execute in this area.
ENHANCE technology
There is no question that technology has already dramatically changed the real estate business and that this change is accelerating. With certainty, technology will continue to influence many facets of the industry. Lee Carlson, COO of BRE Properties, a San Francisco apartment REIT, stated, "I have never seen so many opportunities to marry technology and real estate to create value for the stockholders."
Other REITs are looking at technology to improve internal processes to meet the timing and financial demands placed on the organization to reduce costs, attract, retain or generate additional revenues from their tenants. John Bucksbaum, CEO of General Growth Properties, highlighted the latter strategy when he said, "1998 and 1999 were the years of ‘clicks' in retail, but 2000 and 2001 will be the years of 'clicks and bricks'."
RETAIN, attract, and reward intellectual talent and "value-added" people
Executives split the human capital issue into two distinct groups: the key core executive group responsible for managing the REIT and the front-line employee group interacting with tenants and suppliers.
Both CEO's and CFO's agreed that the core group of executives must be challenged and rewarded for their efforts. This core group includes finance, information technology, property management and property development leaders who are responsible for the decisions that determine the REIT's level of success. Incentive compensation systems are being designed to more closely align incentives with the value created for the shareholders. While aligning incentives is not a new concept to corporate America, it is relatively new to REITs.
The front line employee groups responsible for executing the business plans are important and many REIT executives stated that they wanted the best and brightest employee base. They felt that to attract such people, the REIT must be viewed as an "employer of choice." Benefit packages, work-life balance, training, education subsidies, working environment and other "employee friendly" programs are being evaluated to gain a competitive edge in the marketplace.
EXPLORE and implement Taxable REIT Subsidiaries
Many REITs view the creation of the TRS in legislation nurtured by NAREIT as a great opportunity. Although the TRS has received widespread coverage and most REITs are carefully reviewing existing subsidiaries for conversion to TRS on January 1, 2001, REIT executives believe that the real work will begin in early 2001 as REITs begin to identify those new businesses they wish to pursue. While executives sense that the TRS will bring many opportunities, many REITs are adopting a wait-and-see attitude. There are those that believe there is no competitive advantage to being the first to market. In fact, many executives would rather watch and learn from their peers, avoiding their mistakes and matching their successes, than to venture into this area too soon.
PLAN Management Succession
Investors and analysts have questioned a number of management groups regarding the management succession planning process for the REIT. Certain REIT executives are viewed as close to retirement and the logical question has been posed: Who will manage the entity in the future?
To address the issue of succession and to provide an opportunity for personal growth, REITs are bringing upper management to meetings with investors and analysts to address the "bench strength" issue head-on and to provide upper management with exposure to the questions raised about the REIT's strategy and tactics. This exposure and the preparation for the meetings should help this group understand the REIT's strategy and reasons for the tactics that are being adopted to maximize shareholder return. Furthermore, upper management will be able to identify other tactics and capitalize upon opportunities to enhance returns as the strategies are pursued. Developing the REIT's current and future leaders at all levels through formal training and mentoring will help retain and create the team to face off against the markets.
A Final Word
Carmen Liuzzo, CFO of Highwood Properties, summed up a common perspective saying "Our company is very focused on increasing our growth rate and return on invested capital through effective capital recycling and profitable development." He and other REIT executives recognize that the publicly traded real estate industry continues to be a dynamic business—not an aggregation of properties—that competes for capital every day in the world markets.
Although the year is likely to include surprises for all of us, putting these seven principles into practice should be beneficial to each and every company—in 2001 and beyond.
Douglas McEachern is Partner in Charge, REIT Services for Deloitte & Touche LLP.
