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NEW YORK CITY-Michael Dell has visions of taking his company private in a leveraged buyout valued at $24 billion. And rumors in the wake of that momentous move are rippling through the industry that this will spur a pre-recession-like flood of LBOs among REITs.
Well, don’t believe it, say the analysts of locally based Fitch Ratings, not as long as the CMBS market is still climbing to cruising altitude. “There’s been lot of chatter across all sectors about which companies could be next, given the low interest-rate environment,” says associate director of REITs Britton Costa. “REITs, given their history with LBOs in the past cycle and the general nature of their assets, are frequently mentioned.”
In the 2006-’07 cycle, blockbuster deals that included Equity Office, CarrAmerica and Innkeepers were funded largely through CMBS. “Our expectations are that LBOs are unlikely mostly because of the still-constrained CMBS market.”
Costa notes that, when EOP was taken out, CMBS was a $220-billion market. “It’s now a quarter of that.” Of course, LBOs are possible without CMBS involvement, but they will be few and far between. “They represented the lion’s share of buyouts,” he states.
“Additionally, bondholders are protected by the traditional REIT maintenance covenants that limit total secured debt to less than 40% of undepreciated assets and total debt to less than 60% of undepreciated assets,” Costa wrote in a recent Fitch White Paper. “As a result, acquirers would be forced to either limit the amount of debt incurred or negotiate with bondholders for a consent payment and subsequent tender of the bonds. The former likely diminishes the return profile to a point where a deal may not occur and the latter places bondholders in a pivotal and potentially valuable ‘blocking’ position. In the case of EOP, unsecured bondholders actively negotiated with Blackstone over the amount of the consent payments before tendering the majority of the bonds.”
If a dearth of private takings is in the offing, we wondered about the likelihood of straight-up REIT-to-REIT purchases. Again, not likely, according to Fitch managing director Steven Marks. But the stumbling block in this case is less financial than social.
“REIT-to-REIT mergers are unlikely mostly because of social issues,” he says, “issues such as who will become chairman and who will sit on the board.” More than anything else, he notes, that’s where most REIT mergers break down.