Forest City Enterprises Inc. (FCE/A), Windstream Holdings Inc. (WIN), and Sears Holdings Corp. (SHLD) shares surged and trading volume jumped on the days they announced plans to create real estate investment trusts.
Such investor enthusiasm for REITs is helping persuade more companies to convert, or spin off their property into trusts, including some that have little in common with traditional types of real estate. In the past two years, nine companies have converted or spun off assets to create REITs, more than double the previous three years combined, and at least six are considering or planning to make the change, according to Green Street Advisors LLC.
While shares of some companies announcing REIT plans have surged on the news, success for newly minted trusts isn't guaranteed, especially if they're outside the established core of offices, apartments, shopping centers and warehouses. Newer REIT groups such as casino landlords may have trouble growing and luring investors, partly because they are little-known entities with a tenant base that's not diverse.
"If it's a non-core property type, it's not obvious that just because they become a REIT that they will automatically have a dedicated investor base that's going to pay a lot of attention to them," said Jason Yablon, a money manager in New York with Cohen & Steers Inc. "It comes down more so to the business model and to the growth prospects."
Forest City, a traditional property developer and owner of offices and retail real estate, gained 11 percent on Jan. 14, the most in about three years, after the Cleveland-based company announced plans to become a REIT. Volume was 7.3 million, compared with the average of about 865,000 over the past year.
Ephemeral Gains
While investors often can register immediate gains after REIT announcements, the advances sometimes don't last.
Retailer Sears surged 31 percent to $42.81, the most in more than a decade, on the day it said it was considering selling some of its stores into a REIT and leasing them back. Volume was 11.8 million shares, compared with the average of 1.4 million. The shares have slid 21 percent since Nov. 7 to $33.98.
Windstream, a telecommunications company, gained 12 percent to $11.83, the most since October 2008, after its July 29 announcement that it was planning to spin off some of its assets into a REIT. Volume was 118 million shares, compared with an average of 8 million daily over the past year. Since then, the shares fell 29 percent to $8.38.
'Precariously Perched'
"While it's easy to imagine the momentum continuing for REIT stocks in 2015 against this very bullish backdrop, REIT valuations appear stretched," RBC Capital Markets said in a Jan. 5 report. "We believe the REIT index (SPX) is precariously perched and susceptible to a sudden shock. That shock is likely to be driven by the specter of higher interest rates as the year moves ahead."
REITs were born in 1960, when President Dwight D. Eisenhower signed legislation creating a vehicle to give small shareholders, not just the wealthy, a chance to invest in income-producing property through real estate companies.
Investors like REITs because, by law, they must pay out at least 90 percent of taxable earnings to shareholders as dividends. REITs don't have to pay federal income taxes on those earnings in exchange. Most REITs distribute all of their earnings to get the full deduction. To qualify as a REIT, a company is required to invest at least 75 percent of its assets in real estate and get 75 percent of its gross income from rents or interest on property mortgages or sales of real estate.
The Bloomberg REIT Index gained 24 percent last year, compared with an 11 percent advance for the Standard & Poor's 500 Index. Rising rents and occupancies have boosted earnings for landlords and made the stocks more attractive to investors.
Disparate Companies
The booming stock market as well as tax benefits for REITs have spurred companies in such disparate fields as outdoor advertising and data storage to pursue the status as a way to improve returns for investors. For example, last year, broadcaster CBS Corp. (CBS) split off its billboard business into a REIT.
Among casino operators, Caesars Entertainment Corp. (CZR) put its main operating unit into bankruptcy Jan. 15 in Chicago, after dissident creditors filed a competing case earlier in the week in Delaware. The company plans to divide the unit into a publicly traded REIT and an entity that will manage the properties. Pinnacle Entertainment Inc. (PNK) and Boyd Gaming Corp. also are exploring REIT strategies.
Potential investors may question how the gaming companies intend to expand because the industry is comparatively small and "the universe of potential acquisitions is much more limited," said Keven Lindemann, director of the real estate group at SNL Financial in Charlottesville, Virginia.
One Acquisition
He said slow acquisition growth has dragged down shares of the first casino REIT, Gaming & Leisure Properties Inc. (GLPI), which have lost 15 percent since the spinoff from Penn National Gaming Inc. in November 2013.
Gaming & Leisure, a Wyomissing, Pennsylvania-based owner of gambling halls in 12 states, "has had a challenging time finding the right" properties to buy, Lindemann said.
The REIT has completed one purchase, Casino Queen in East St. Louis, Illinois, which it bought for $141 million last January. A $465 million deal to buy the Meadows Racetrack and Casino in Washington, Pennsylvania, collapsed, and Gaming & Leisure sued the seller, claiming breach of the purchase agreement.
A spokesman for Gaming & Leisure, Brad Cohen at Integrated Corporate Relations Inc., didn't respond to telephone requests and an e-mail seeking comment on the REIT's performance.
Casino REITs
Pinnacle, a Las Vegas-based operator of 15 gaming properties across the U.S., said in November that it planned to split into a REIT and a casino-management firm. The company, whose stock has fallen 4.4 percent in the past 12 months, has been under pressure to pursue the strategy from activist investor Orange Capital LLC, a New York-based hedge fund co-founded by Daniel Lewis.
The REIT plan is in its infancy so it's too soon to comment, said Roxann Kinkade, a Pinnacle spokeswoman.
Boyd, owner of the Orleans and Fremont casinos in Las Vegas, has gained about 17 percent since announcing on its Oct. 30 earnings call that it was considering forming a REIT. David Strow, a spokesman, said the Las Vegas-based company didn't have any comment beyond the conference call.
Separating their valuable real estate would allow the casino companies to focus on their main business, which is running a gaming enterprise, Lindemann said.
For Caesars, which has lost money every year since 2009, a REIT would give "the most financial recovery" to its troubled subsidiary's creditors, Chairman Gary Loveman said in a Dec. 19 statement. Converting the unit to a REIT would increase its value by 13 percent to $11 billion, according to Fitch Ratings.
Caesars Palace
The subsidiary owns 18 operational gambling properties around the U.S., including its flagship Caesars Palace Las Vegas. Caesars closed two casinos last year, in Atlantic City, New Jersey, and Tunica, Mississippi.
A spokesman for Caesars, Stephen Cohen at Teneo Holdings LLC in New York, declined to comment on the company's plans.
U.S. REITs in 2014 raised $64 billion, down from a record $77 billion in the previous year and the third-highest annual total in data going back to 1992, according to the National Association of Real Estate Investment Trusts.
The growing U.S. economy has fueled demand for commercial real estate amid a modest amount of new construction, helping to boost REIT stocks, RBC said in the report.
While REITs performed well in 2014, it wasn't without pain, particularly when higher borrowing costs made property purchases more expensive. Real estate companies may be further challenged this year as the Federal Reserve considers its first interest-rate increase since 2006.
Pushing Edges
Nontraditional businesses seeking to become REITs have faced scrutiny from the Internal Revenue Service, which determines whether a would-be trust's assets qualify as real property under the tax laws. While casino buildings are clearly real estate, investors may question whether storage racks or phone antennas, for examples, meet the standards.
"The law is written in a certain way which provides latitude," said Robert Gadsden, a money manager at Alpine Woods Capital Investors in Purchase, New York. "Whenever you have latitude, you're going to push the edges. Do I personally think that some of them are pushing the envelope? For sure."
The board of Windstream approved a spinoff of parts of the company's telecommunications network into a REIT after getting a ruling from the IRS that cleared a major hurdle to the process. The proposed REIT will include Windstream's fiber and copper networks and other fixed real estate assets, the Little Rock, Arkansas-based company said in July.
American Tower
The spinoff will grow by buying other telecommunications assets, "while providing an attractive dividend to investors," Anthony Thomas, CEO of Windstream, said on a Dec. 18 conference call.
The earliest telecommunications business to become a REIT, American Tower Corp. (AMT), has jumped 60 percent since its conversion in early 2012. The company, owner and operator of more than 28,000 cell-phone antennas that are used by wireless carriers across the country, is the biggest REIT by market value after mall landlord Simon Property Group Inc.
Retailer Sears is looking at selling as many as 300 stores into a REIT and leasing back the properties. Howard Riefs, spokesman for Hoffman Estates, Illinois-based Sears, said the company had no additional information on its intentions.
Sears Losses
Investors have called for the retailer to sell its real estate ever since Sears Roebuck & Co. and discount chain Kmart Holding Corp. merged in 2005. Sears, which has exhausted many other avenues for raising cash, may generate $1.8 billion to $1.9 billion with a REIT, according to Evercore ISI.
The Bloomberg REIT index has quadrupled since bottoming in March 2009 as the financial crisis passed and the economy started picking up. If current valuations hold up, the market will probably see a new wave of companies pursuing the tax status, according to Gadsden.
"If REITs weren't trading at such strong multiples and there wasn't a lot of capital looking for yield in the real estate space, I don't think the bankers would be surfacing these ideas up to the parent companies," he said.
To contact the reporter on this story: Brian Louis in Chicago at blouis1@bloomberg.net
To contact the editors responsible for this story: Kara Wetzel at kwetzel@bloomberg.net Christine Maurus, Rob Urban
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