GlobeSt.com: There's been a lot of speculation that the Taubman/Simon situation could fuel another spate of REIT consolidations. Do you agree?

Ostrower: I don't want to overstate the trend, but it definitely will cause people to scrutinize the sector a little more. It will also lead to questions about some of the smaller mall REITs, and that question is whether or not there is any reason for them to be independent anymore.

GlobeSt.com: But doesn't that go on naturally?

Ostrower: Yes, but if Simon were to buy Taubman, would it not lead other REITs to ask if they should get bigger in order to preserve market share? This is one of the only REIT property types where the public companies have a majority control of the truly institutional-grade assets out there, so market share is truly a force in this group. In most other property sectors, the public markets will own somewhere between 5% and 15% of the investment-grade assets. In the mall group, they own well more than 50% now.

GlobeSt.com: So the greatest number of consolidations should occur in the retail sector?

Ostrower: Not necessarily. People always ask me when REIT consolidations will accelerate. My answer is that REIT consolidations have already been pretty fast--as you said, this has been happening quite naturally for a while. So consolidations will continue regardless of the Taubman transaction. It is possible to see some spurt in activity, but it's been a process that has been ongoing anyway.

GlobeSt.com: Is it just a sign of the times?

Ostrower: What will drive more consolidations is valuation disparity. If two apartment companies with similar asset types are trading at widely different valuations, that's one of the more fertile grounds for consolidation. But as it stands now, while valuation disparity has accelerated to some degree, it's not really at record-wide levels. So it's hard to look at that and say it's a sign of the times, although we do expect more valuation disparity over the next year or so as the different real estate markets separate the haves from the have-nots. The Taubman/Simon situation highlights the fact that, even if the economics are there, there are big barriers to consolidation and these exist not just in the mall sector but in the REIT sector overall. So to sit here and say I definitely think consolidations will accelerate is probably an overstatement.

GlobeSt.com: Could those hurdles actually get ironed out in court?

Ostrower: It's a possibility, but the take of most lawyers is that it is hard to call at this point. A case would not be thrown out summarily, in that it would probably be heard by a court. I'm not a lawyer so it's very hard to tell you what legal grounds are here.

GlobeSt.com: Besides valuation disparity, what other conditions would make a firm ripe for takeover?

Ostrower: REITs ideally should not be different from any other public company. You have to go down the list of conditions that cause consolidation in any other sector and they should come into play here. Significant economies of scale could be a driver. In the REIT space, the economies of scale are present, but they're gained at a smaller size than either of these guys. Most REITs have already experienced the dramatic benefits of scale, so incremental consolidation is probably not justified on that basis. Financial strength is another consideration. Does having a bigger balance sheet bring you better access to capital? These are some of the things that can cause consolidation, but there is no one factor sitting on the horizon pointing to an incredibly fast past of consolidation going forward.

GlobeSt.com: Do you see any one company as more of a target than others?

Ostrower: I can't comment on any one company that would be a target. It wouldn't be appropriate. In general, in the mall business a common question is if the smaller companies are riper targets. And so far we've seen that to be the case.

GlobeSt.com: What about outside of the mall market?

Ostrower: There's probably a similar phenomenon there.

GlobeSt.com: You mentioned the hurdles in this deal, and you implied that these could deter other merger considerations. Do you agree?

Ostrower: Everyone is going to be watching to see how this turns out. There are a lot of scenarios, some that might not have meaning for the REIT space and some that will have significant meaning. If the structural impediments are ultimately what prevent Taubman from being taken over, then people will read into that and conclude that it is more difficult to take over REITs. And at this point, I'm not willing to argue with that. Certainly, the Taubman situation would highlight that the impediments may not be insurmountable, but they are there.

GlobeSt.com: Which would weaken your argument that a REIT is like any other company.

Ostrower: And that would be a negative for the group. One possible outcome from all of this would be that people look at REITs and say these are different animals after all. I view that as a negative.

GlobeSt.com: Why?

Ostrower: If it's important for REITs to be perceived as a mature, standard investment alternative, then it is important too for them not to be too esoteric. Also, from a common shareholder standpoint, impediments to takeover are generally a negative thing. We don't want entrenched REIT management. We want management that can be moved if they are underperforming.

Instant Insights /

Morgan Stanley's Matthew Ostrower --December 8, 2002

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