Market Prepares to Digest EOP Acquisition

Erika Morphy is co-editor of Debt and Equity Journal, from which this article is excerpted.

New York City—Now that locally based Blackstone Group LP has won the bidding for Equity Office Properties Trust of Chicago, the capital markets will have to digest much of the $39-billion acquisition price. The first loans could show up in the CMBS markets as soon as early March.

To be sure, at $200 billion, the CMBS market has illustrated it canhandle huge volume. However, the larger deals that have been securitized thus far have not been much more than $5 billion, if that. Until recently, the speculation was whether a $6-billion CMBS deal would be brought to market in 2007. The EOP-Blackstone Group deal, though, would require several such CMBS transactions, or at least one double the size of the larger deals.

Market watchers believe it will happen smoothly, though, although thenew supply is likely to affect pricing, at least for the mid term. The first quarter is not even half way over and already spreads have tightened from the end of last year, Dan Smith, the Dallas-basedmanaging director of real estate mortgage capital at RBC CapitalMarkets tells Debt & Equity Journal.

Lisa A. Pendergast, managing director of real estate finance at RBS Greenwich Capital, a wholly-owned subsidiary of the Royal Bank of Scotland Group in Greenwich, CT, says it is unlikely that one financier would bear all of the risk of the EOP deal in the CMBS market. In addition, the entire $39 million is unlikely to be securitized. She says Blackstone is certain to sell off some of the assets, adding, “At least two groups of syndicates will very likely securitize a short term floating rate loan and then convert that into a fixed rate.”

She says these loans are going to be highly leveraged with strongsponsorship, “which is exactly what you are getting in the EOPportfolio. It’s to the good that we have these high quality assetshitting the street. They came at a high price and there will be a lotof leverage.” The mezzanine markets and CRE CDO structures also will be absorbing some of the EOP transaction.

In other public-to-private equity transactions in the past few years, some of the REITs with debt either found the loans were locked out of the CMBS market or subject to defeasance, which can have high prepayment penalties, Smith says. “In those cases they use mezzanine debt, which ultimately finds a home in the CDO,” he adds.

The ongoing development of the CRE CDO structures has allowed thepublic-to-private real estate transactions to tap the full scale ofstructured finance available, Pendergast notes. “They provide an exit strategy for B notes and mezzanine loans. They also give Wall Street more options in financing construction loans,” she explains.