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The Recapitalization of the Publicly Traded REIT Industry

The Recapitalization of the Publicly Traded REIT Industry. Special Analysis prepared by the National Association of Real Estate Investment Trusts®. Background. The commercial real estate market situation in 2009Q2 suggests strong parallels with 1991Q2.

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The Recapitalization of the Publicly Traded REIT Industry

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  1. The Recapitalization of the Publicly Traded REIT Industry Special Analysis prepared by the National Association of Real Estate Investment Trusts®

  2. Background • The commercial real estate market situation in 2009Q2 suggests strong parallels with 1991Q2. • In 1991, institutional and individual investors sustained heavy losses in real estate investments that were illiquid, opaque and heavily leveraged. • In the aftermath of this crisis, investors gravitated away from these investment products to another type of real estate investment that provided more equity and less debt; more liquidity and less illiquidity; more transparency and less opacity; and more simplicity and less complexity. • In 2009, the same process is taking place.

  3. Background • The REIT market situation in 2009Q2 suggests strong parallels with 1991Q2 • The years following 1991Q2 can be used to model the course of the REIT industry over the coming few years • Aggregate market cap of the REIT industry is likely to increase sharply • Secondary equity offerings of existing REITs • Initial public offerings of new REITs • Stock price rebounds • REITs are likely to use secondary equity offerings • First to stabilize their capital structure by paying down debt • Second to finance acquisitions from distressed sellers • Individual properties • Portfolios • Private equity real estate funds

  4. The Signpost: Security Issuance • Publicly traded REITs raised $11.5 billion in new security offerings during April and May 2009 • Security issuance during the first two-thirds of 2009q2 totaled about 6.5% of aggregate REIT market cap • Up from just 1.8% in 2009q1 and 0.5% in 2008q4 • During 1991q2, security issuance totaled 4.6% of aggregate REIT market cap • Up from just 1.0% in 1991q1 • 1991q2 marked the beginning of a period of tremendous growth in the REIT industry • Failures among highly leveraged, non-transparent, illiquid private equity real estate funds • Successful funds and private companies went public to access equity capital markets

  5. Implied Increase in Market Cap of the Publicly Traded REIT Industry • During 1991q2-1994q4, industry market cap increased at an average annual rate of 48% • 67% per year for equity REITs

  6. Security Issuance, 1991q2-1994q4 • Security issuance in 1991q2-1994q4 averaged 10.8% of REIT market cap

  7. Implied Security Issuance, 2009q2-2012q4 • Applying the security issuance rates of 1991q2-1994q4 to the implied market cap growth for 2009q2-2012q4 implies $654 billion in new security issuances, or $43.6 billion per quarter on average

  8. Debt is Costly, But Not Dead • Assume that new debt issuance will continue to be 16.8% of total new security issuance—equal to the minimum observed over the period 1991q2-2007q4

  9. Implied Equity Issuance: Total Minus Debt • Implied new equity issuance totals $544 billion over 2009q2-2012q4, an average of $36.3 billion per quarter

  10. Leverage Will Decline to a New Industry Standard • Assume that leverage will decline to an industry average of 25%, representing a one-third haircut from the minimum observed over the period 1999q4-2008q3 • Assume that new equity issuance will be used to reduce leverage until the new target is met

  11. REITs Will Use Continued Equity Issuances to Finance Acquisitions • Implied equity issuance rates suggest that REITs will have brought leverage down to 25% by 2010q2 • Continued equity issuances will be available to finance asset acquisitions • Implied “surplus” equity issuances by 2012q4 total $582 billion, suggesting $728 billion in property value

  12. REITs’ Role in the U.S. Real Estate Asset Class will Change REITs = 5% of total REITs = 31% of total $ in Trillions Current estimates as of December 31, 2008; future estimates as of December 31, 2012. Sources: NAREIT® based on analysis of data from U.S. Federal Reserve, Emerging Trends, NCREIF, Miles and Tolleson, Prudential and JPMorgan

  13. Sources of Properties • Opportunistic Funds ≈ $150 billion • Value-Added Funds ≈ $80 billion • Core Funds ≈ $200 billion • Institutional Investors (Separate Accounts) ≈ $550 billion • Other Private Investors ≈ $1,700 billion • Corporate Owners (Sale/Leaseback) ≈ $2,400 billion

  14. Opportunistic Funds • Average leverage = 67.1% (NCREIF) • Lost 37.9% during calendar year 2008 • Unlevered property values lost 6.5% • Unlevered property values are expected to fall an additional 40% by 2012q4 • At 67.1% leverage, implied loss is 135% before fees • Estimated holdings: $150 billion

  15. Value-Added Funds • Average leverage = 51.6% (NCREIF) • Lost 19.6% during calendar year 2008 • Unlevered property values lost 6.5% • Unlevered property values are expected to fall an additional 40% by 2012q4 • At 51.6% leverage, implied loss is 90% before fees • Estimated holdings: $80 billion

  16. Core Funds • Average leverage = 27.7% (NCREIF) • Lost 10.7% during calendar year 2008 • Unlevered property values lost 6.5% • Unlevered property values are expected to fall an additional 40% by 2012q4 • At 27.7% leverage, implied loss is 58% before fees • Estimated holdings: $200 billion

  17. Summary • Ability to reduce leverage determines competitive strength • REITs can and will tap public equity markets • Applying historical patterns, U.S. REIT industry could have 25% leverage by mid 2010 • Surplus REIT equity could initiate acquisition trend by mid 2010 • REITs could accumulate $582 billion surplus equity for acquisitions by end of 2012 ($782 billion property value) • REITs could grow from 5% to 31% of U.S. CRE market by end of 2012

  18. Disclaimer NAREIT® does not intend this presentation to be a solicitation related to any particular company, nor does it intend to provide investment, legal or tax advice. Investors should consult with their own investment, legal or tax advisers regarding the appropriateness of investing in any of the securities or investment strategies discussed in this presentation. Nothing herein should be construed to be an endorsement by NAREIT of any specific company or products or as an offer to sell or a solicitation to buy any security or other financial instrument or to participate in any trading strategy. NAREIT expressly disclaims any liability for the accuracy, timeliness or completeness of data in this presentation. Unless otherwise indicated, all data are derived from, and apply only to, publicly traded securities. Any investment returns or performance data (past, hypothetical, or otherwise) are not necessarily indicative of future returns or performance. For more information please visit: www.reit.com

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