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Real Estate Private Equity Market and Recapitalization and Secondaries Overview

Real Estate Private Equity Market and Recapitalization and Secondaries Overview. 16 th Annual Fischer Center Real Estate Conference May 20 2011. Jeffrey Giller Managing Partner and CIO Clairvue Capital Partners. THE UPCYCLE: The Rise Before The Fall.

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Real Estate Private Equity Market and Recapitalization and Secondaries Overview

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  1. Real Estate Private Equity Market and Recapitalization and Secondaries Overview 16th Annual Fischer Center Real Estate Conference May 20 2011 Jeffrey Giller Managing Partner and CIO Clairvue Capital Partners

  2. THE UPCYCLE: The Rise Before The Fall Moody’s Commercial Property Price Index (CPPI) Values Increase 90% Peak 10/2007 + 90%

  3. THE UPCYCLE: Overabundant Equity Global Real Estate Fundraising 2000 and 2010 72% of All Fund Equity Raised Between 2005 and 2008 Source: Private Equity Intelligence: Probitas Partners

  4. THE UPCYCLE: Misalignment of Interests • Investors and Fund Managers Took Extraordinary Risks to Drive Volume: • Institutional Investors Chasing Yields - Increased Allocations To REPE Funds • Mega-sized Funds Emerged • Fees Surpassed Carried-Interest As Source of Wealth For Managers • Rapidly Committing Capital and Getting to the Next Fund Became the Manager’s Incentive • Managers Began Taking More Risk In Order To Place Large Amounts of Capital

  5. THE UPCYCLE: Overabundant Debt Change in Commercial Real Estate Debt Outstanding Half of the Total Volume Was Issued Between 2005 and 2007 Source: Mortgage Bankers Association, LaSalle Investment Management Note: Data Based on MBA Survey and not comprehensive total origination volume, but indicative of relative levels of activity over time

  6. THE UPCYCLE: A Formula for Disaster Over Abundant Equity +Over Abundant Debt Skyrocketing Prices + Excessive Risk

  7. THE DOWNCYCLE: CRE Values Plummeted Moody’s Commercial Property Price Index (CPPI) Values Fall 40% Peak 10/2007 8/2009 -40.6% from peak

  8. THE DOWNCYCLE: Access to Credit Abruptly Halted Net Borrowing as % of GDP Irresponsible sub-prime lending led to a collapse in the housing market and a freeze in the global credit markets Source: Moody’s Economy.com, Federal Reserve Board, LaSalle Investment Management

  9. IN THE TROUGH: Recovery or Long, Flat Bottom? Moody’s Commercial Property Price Index (CPPI) Values Hang at the Bottom Peak 10/2007 Current (1/2011) -42.7% from peak

  10. ATTRIBUTES OF REAL ESTATE PE SECONDARIES J-Curve Effect Mitigation High Level of Specificity Time 100% Invested Capital Secondaries 50% Primaries Optimal Hyper-Diversification Geography Product Type

  11. SECONDARIES MARKET PARTICIPANTS The Sellers Reasons For Sales The Buyers • Public Pension Funds • Corporate Pension Funds • Endowments • Foundations • High New Worth Investors • Private Equity Investors • Corporations • Portfolio Rationalization • Reducing Manager Count • Denominator Effect • P & L Management • Balance Sheet Management • Liquidity Constraints • Exiting Troubled Funds • Other Limited Partners • Secondaires Funds • Primary Funds of Funds • PE Secondaries Funds

  12. SECONDARIES HAVE LITTLE OR NO VALUE IN A DOWNTURN Change in NAV Relative to Change in GAV with 75% Leverage With a 40% Peak to Trough GAV Decline, Levered Equity Is Deeply Underwater Today

  13. SECONDARIES HAVE LITTLE OR NO VALUE IN A DOWNTURN • Late Vintage Funds: • Overpaid for and overlevered their investments • 25% property value decline wipes out 75% levered equity • Early Vintage Funds: • Remaining assets are often the weakest • Remaining assets may have been written-up and refinanced • Managers may be in the carry or catch-up phase • Low Levered Core Funds • Low yields require deep discounting to drive high target returns

  14. SECONDARIES VOLUME SHOULD SLOW IN A DOWNTURN • The Bid/Ask Gap: Reported NAVs are Higher Than Market NAVs: • Managers have a natural owners’ bias • Write-downs can drive loan to value debt covenant breaches • There was scant transaction activity to apply as benchmarks • Reluctance to highlight poor performance relative to competitors’ • LPs may not pressure managers to highlight poor performance • Buyers are Conservative: Nobody is getting kudos for making new investments in this market and making mistakes can be career ending • Sellers feel they are better off holding an option than giving their interests away

  15. SECONDARIES VOLUME INCREASED IN THE DOWNTURN Real Estate Secondary Transaction Volume Beware of Falling Knives Source: Landmark Partners, PERE

  16. WHO BOUGHT SECONDARIES DURING THE DOWTURN? • Secondaries Transactions Consummated: • LPs purchasing interests from other LPs • Inexperienced third party buyers • LPs driven by need for relief from future commitments selling at deep discounts (or paying buyers) • Fund , GP and LP recapitalizations (not true secondaries)

  17. WHEN WILL THE REPE SECONDARY MARKET BE ATTRACTIVE? When the bid ask gap narrows. This will occur when: When it becomes clear that the real estate market is moving toward recovery Foreclosures and REO sales occur on a massive scale to re-set pricing to intrinsic levels When the credit markets fully rebound

  18. THE DOWNCYCLE: CRE Delinquency Rates Spike CRE Delinquency / Bank Chargeoffs Delinquencies Spike but Banks Slow to Foreclose– The Pain Has Yet To Be Felt Source: American Council of Life Insurers, Federal Reserve, Real Point

  19. WHEN WILL THE REPE SECONDARY MARKET BECOME ROBUST? Clairvue’s Valuations as a Percentage of Manager Reported NAV Managers are Becoming More Realistic

  20. THE NEED FOR REAL ESTATE RECAPITAZLIZATIONS Background 72% of the $500b of REPE Fund Equity was raised between 1999 and 2008 - 50% of the $1 trillion in commercial mortgage debt outstanding was issued between 2005 and 2007: Assets are over-levered and face maturing debt Assets need capital to deal with maturing debt as well as for capex and operations But commitments to funds are either fully drawn or expired – LPs have little interest in investing more capital into troubled situations - credit is still difficult to obtain

  21. THE NEED FOR REAL ESTATE RECAPITAZLIZATIONS • Defensive Needs • Paying off maturing debt and funding equity gaps • Values have declined 40% to 50% and LTVs from 80% to 65% • $230 billion required to fund equity gap for the $1 trillion in maturing debt and $50 billion for the $125b REPE fund debt   • Paying Down Maturing Debt To Secure Term Extensions • Covering Property and Fund-Level Carrying Costs • Buying-out or Covering Obligations of Defaulting Partners

  22. THE NEED FOR REAL ESTATE RECAPITAZLIZATIONS • Offensive Uses • Buying Back Debt At Discounts • Executing Value Added Business Plans • Making Opportunistic Acquisitions

  23. THE NEED FOR REAL ESTATE RECAPITAZLIZATIONS • Potential Sources of Capital • Limited Partners Undrawn Commitments • New Commitments From Limited Partners • Traditional Lenders • Liquidating Assets • Third Party Specialists

  24. Real Estate Private Equity Recapitalization and Secondaries Market Overview Jeff Giller Managing Partner and Chief Investment Officer Clairvue Capital Partners EWMBA 284 University of California, Berkeley Haas School of Business April 28, 2010

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