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Aggressive Investor Activism Plus Low Market Valuations Equals More M&A Deal Making on Tap for 2016

Investors, Activists Target Eight REITs and Real Estate-Related Corporations in Past Two Weeks
February 3, 2016
REIT CEOs don't want a letter from this man. Former Citigroup property investment analyst Jonathan Litt is managing director and global real estate strategist at Land and Buildings, a boutique hedge fund manager he founded in Stamford, CT.
REIT CEOs don't want a letter from this man. Former Citigroup property investment analyst Jonathan Litt is managing director and global real estate strategist at Land and Buildings, a boutique hedge fund manager he founded in Stamford, CT.
Based on activity this past week, it looks like the same trends and players that drove commercial real estate mergers and acquisitions in 2015 are set to produce another strong year of deal making -- and arm-twisting by investor activists.

At least eight real estate companies, REITs or companies with extensive real estate holdings either have been targeted or re-targeted by investors, who have called on senior management teams to monetize the companies' real estate holdings or become potential takeover targets.

Companies currently fending off investor activists or exploring their strategic options include Ashford Hospitality Prime, Chesapeake Lodging Trust, FelCor Lodging Trust, First Industrial Realty Trust, Forestar Group Inc., Macy’s Inc., NorthStar Asset Management and Stratus Properties Inc.

"Merger and acquisition activity should continue at a steady pace, with a number of public-to-private and public-to-public REIT mergers already in the works," wrote Adam Emmerich and Robin Panovka, two lawyers with the law firm of Wachtell, Lipton, Rosen & Katz. While they are not expecting an avalanche of REIT buyouts as seen in 2006-2007, they believe many of the same business drivers are in place.

“Hostile transactions remain viable in the REIT world, and we expect the same factors -- including institutional investor and activist support -- that have led to current record-high levels across all industries to result in more hostile REIT acquisitions,” the two attorneys noted in the firm's real estate outlook for 2016.

Emmerich and Panovka identified several trends driving activity. First, the FIRPTA relief legislation enacted by Congress should help increase already -robust deal volume from foreign investors, particularly as investors in stumbling or slowing-growth economies seek safe havens. The dislocation of investors in the non-traded REIT sector could also lead to increased deal activity among public REITs, they noted.

Activists Forcing REITs To Rework Portfolios


Shareholder activism continued to grow worldwide in 2015, with the number of companies subjected to public demands reaching 551, up 16% from 2014, according to The Activist Investing Annual Review 2016, published by Activist Insight, in association with the law firm of Schulte Roth & Zabel (SRZ).

Included among the Top 8 activists in the world last year was Jonathan Litt’s Land and Buildings coming in at No. 7. Litt had a hand in several REITs and corporations with large real estate holdings reworking their playbooks last year, including: Associated Estates Realty, Macerich, MGM Resorts, New York REIT, and Pennsylvania Real Estate Investment Trust.

This week, Land and Buildings targeted two more: Felcor Lodging Trust and NorthStar Asset Management.

Land and Buildings released an investor presentation outlining the value creation opportunity it sees for FelCor Lodging Trust, saying the trust is positioned in the hotel REIT sector to "outperform and close the substantial gap between its share price and net asset value."

One of the highlights of the Land and Buildings strategic plan for FelCor includes selling the company’s New York City hotels given private market valuations. Litt believes selling the hotels, which include the Knickerbocker Hotel, the Royalton New York, and the Morgans New York, would realize embedded value not reflected in Felcor's stock price.

Soon after Land and Buildings went public with its presentation, FelCor Lodging announced that it is indeed in discussions regarding the sale of its Morgans and Royalton hotels in New York.

“We welcome constructive input from shareholders and appreciate what Land and Buildings has put forward. In fact, we began implementing virtually the same plan last fall. We have sold 40 assets since 2010, raising proceeds of close to $1 billion, and are already in the process of selling Morgans, Royalton and some or all of the Knickerbocker, as well as two other hotels, and using the proceeds to reduce debt and repurchase shares under our previously announced $100 million stock buyback program,” the hotel REIT said in a prepared statement.

NorthStar Sees Similar Treatment


Land and Buildings also issued a letter to David Hamamoto, executive chairman of NorthStar Asset Management, outlining numerous paths to unlock shareholder value.

"There is one straightforward solution that should be at the top of the list: recombining NSAM and NorthStar Realty Finance,” Litt wrote.

Since the "grand experiment" of spinning off [NorthStar Asset Management] from [NorthStar Realty]in the summer of 2014, the shares of both companies have declined. Externally managed REITs, such as [NorthStar Realty], have historically struggled to gain institutional investor support given the misaligned incentives between the manager and the REIT, Litt said.

"The $200 million largely perpetual, non-cancelable annual management fee [NorthStar Realty Finance] pays to [NorthStar Asset Management], if sold, could be worth nearly $2.6 billion at a 7% yield,” Litt said. [NorthStar Realty] is the most logical buyer, although the contract could be a coveted asset to other investors.”

Litt said NorthStar Realty could sell manufactured housing, apartment and other assets at yields well below 7%.

NorthStar Asset Management issued a response, saying it was “disappointed" that Land and Buildings would pursue a potentially disruptive proxy contest while the board works with advisor Goldman, Sachs to review its strategic alternatives, "a process that is well underway.”

Other activist investors also initiated plays last week.

Carl E. Berg, the largest shareholder (17.6%) of Stratus Properties Inc., a company that owns and operates various commercial hotel, entertainment, and multi- and single-family residential real estate properties primarily in Austin, TX, announced that he had received from Capretta Properties Inc. a copy of Capretta's letter of intent to Stratus offering to purchase substantially all of Stratus's real estate properties for $435 million cash.

Stratus confirmed receiving the proposal from Capretta Properties and said it is in the process of carefully reviewing and considering the proposal.

Also this week, Sessa Capital, owner of 8.2% of the outstanding common shares of Ashford Hospitality Prime Inc., filed a lawsuit in Circuit Court in Baltimore claiming Ashford Prime directors breached their fiduciary duties by inserting a change-in-control provision pertaining to its advisory agreement with the REIT's external adviser, Ashford Inc.

Sessa Capital says that Ashford Prime’s directors and Ashford Inc. deliberately went around shareholders to create a contractual provision that financially coerces shareholders into supporting incumbents over ‘unapproved’ directors in an election.”

Sessa has nominated a slate of five unapproved directors for election at the company’s 2016 annual meeting of stockholders.

After the REIT announced a strategic review process last Augus, Sessa communicated to the REIT that a sale process on a level playing field for all potential bidders was the best way to maximize shareholder value.

Ashford Prime responded saying Sessa has never meaningfully engaged with it. However, on numerous occasions it said it offered Sessa opportunities to discuss its questions and ideas.

“However it is our belief based on our limited interactions with Sessa that since day one Sessa has planned to pursue a disruptive proxy contest and litigation to pressure the Company into a quick sale,” the REIT said.

Two Real Estate Firms Exploring Exits


Also this past week, after determining that its multifamily business is non-core, Forestar Group Inc. said it plans to divest its portfolio and will no longer allocate capital to new communities in this business.

As part of that plan, the company completed the sale of Midtown Cedar Hill, a 354-unit multifamily project near Dallas, for approximately $43 million, resulting in approximately $9 million contributed to segment earnings. Forestar has retained CBRE to sell Eleven, a 257-unit multifamily property in downtown Austin.

Separately, the Wall Street Journal reported that Chesapeake Lodging Trust is exploring a sale, citing sources familiar with the matter. Chesapeake did not confirm or deny the report even as it reported fourth quarter earnings.

The hotel REIT did report that its outlook for 2016 assumed no acquisitions, dispositions, or financing transactions beyond the refinance of the Hyatt Regency Boston mortgage loan and the Courtyard Washington Capitol Hill/Navy Yard mortgage loan, which come due this year.

Succession Planning Could Play a Part in M&A Activity


CEO succession planning and executive compensation could be a major focus for boards at companies facing a potential management team change occurring within the current equity market and interest rate environments.

Soon after First Industrial Realty Trust announced this past week that CEO Bruce Duncan plans to retire by the end of 2016, some analysts were conjecturing over the impact on the REIT.

“We think this incrementally increases the likelihood that First Industrial engages in the sale of the company,” wrote analysts with SunTrust Robinson Humphrey. “Bruce joined First Industrial (2009) in the depths of the recession, with the task of saving the company and we don’t think he was ever ‘married’ to the idea of being the CEO for as long as possible.”

E-Commerce Shifting Retail Real Estate Portfolios


Last but not least among the drivers behind increased real estate mergers and acquisitions and repositionings are the ripple effects of e-commerce, which continue to reshape a number of property types, driving up cap rates in some sectors and continuing to drive industrial, data center and cell tower REIT expansion, Wachtell Lipton lawyers noted.

They cited the Internal Revenue Service's recent decision to put the kibosh on tax-free REIT spinoffs by real estate-rich corporations as closing one possible strategy for rasing cash to appease shareholders.

Given that while tax-free spinoffs are no longer possible, “we expect the trend to unlock real estate value to continue (albeit at a slower pace) utilizing taxable spins, sale-leasebacks, rights offerings, joint ventures and other structures, particularly in distress situations or where NOLs are available," the Wachtell Lipton wrote.

Macy’s is another such example of a company that has received renewed interest this year from investors as a potential real estate play. David Einhorn, manager of Greenlight Capital, announced his firm had taken a new position in Macy’s last month.

Greenlight thinks Macy’s real estate is a key catalyst for the stock. This comes as a fellow hedge fund, Starboard Value, said last year that it believes that shares are worth $125 because of the owned real estate.

This past week, Macy's completed a real estate transaction with Tishman Speyer that will enable the re-creation of its Brooklyn store on Fulton Street in Brooklyn. Macy's continues to own and operate the first four floors and lower level of its existing nine-story Fulton Street retail store, which will be reconfigured and remodeled in a $100 million project that is beginning this spring and will continue over the next three years.

Tishman Speyer has now purchased the remaining portion of the store site, which it will redevelop into approximately 10 floors of distinct, first-class office space. In addition, Tishman Speyer has purchased Macy's Hoyt Street parking facility, which could be used for a future mixed-use development.

Macy's will receive $270 million in cash from Tishman Speyer, of which $100 million will be used to renovate the Brooklyn Macy's store.

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