Putting Property First

As money continues to pour into corporate real estate, more dealmakers are finding ways to cash in.

In mergers and acquisitions, real estate has typically been an afterthought. Recently, though, property has taken center stage. Consider the current plans for a $6.6 billion private-equity buyout of Toys “R” Us. “We became interested in Toys “R” Us principally because it has lots and lots of terrific real estate, in the U.S. and abroad,” said Steven Roth, CEO of Vornado Realty Trust (one of the three buyers), at a real estate conference at New York University.

Lehman Brothers real estate analyst David Harris estimates the toy retailer’s properties to be worth $2.6 billion. Property values also figured prominently in Kmart Holding Corp.’s $12.3 billion purchase of Sears, Roebuck and Co. Analysts expect Kmart to sell off many underperforming Sears mall properties and plow the proceeds back into redeveloping Kmart’s freestanding stores. Federated Department Stores Inc. is expected to do something similar with its $11 billion purchase of May Co.

“The prevailing view is that real estate has really motivated these big retail mergers,” says Steve Tinsley, senior vice president of corporate finance at Equis Corp., a Chicago-based real estate transaction and consulting firm.

Corporate property has also played a major role in smaller deals. In 2003, for example, Milwaukee-based toolmaker Actuant Corp. financed almost the entire $17 million purchase cost of German company Heinrich Kopp AG through a sale-leaseback of one of Kopp’s facilities to W.P. Carey, a New York­based commercial real estate firm. “We would definitely consider doing something like this again,” says Actuant treasurer Terry Braatz.

Finding Cash in The Building

What accounts for the focus on property? A new level of visibility, often brought on because the price of corporate real estate has risen so high that it is simply too expensive for dealmakers to ignore. In the case of Sears, for example, Deutsche Bank estimates that the total value of the retailer’s real estate is greater than the company’s entire premerger market value. Political sensitivity has sprouted from other deals, where there may be community ties to a property. Procter & Gamble Co., for instance, which paid $57 billion for Boston-based Gillette Co., had to ease concerns in the shaving company’s hometown by declaring that it would invest $200 million in Gillette’s prime manufacturing property there—and wouldn’t sell it.

The real estate revival in general reflects the relatively slim returns offered by stock and bond markets, not to mention historically low interest rates. Those rates have made financial institutions more aggressive about pursuing better yields, often by pouring money into property, then leasing it long-term to stable corporations.

As a result, transaction volume for U.S. commercial real estate properties with prices of more than $5 million jumped from $120 billion in 2003 to $160 billion last year, according to Real Capital Analytics, a New York real estate research firm. And the market is not cooling. “There’s still a tremendous amount of money chasing property,” says Equis’s Tinsley.

Sometimes, sellers are the ones to realize that the value of their holdings can create beneficial M&A strategies. Before its $10 billion acquisition by Manulife Financial Corp., in 2004, John Hancock sold its landmark Boston headquarters building for nearly $1 billion. At the time, Hancock’s management had been talking with possible buyers, and realized it could get more money by selling in a transaction separate from the takeover. The sale had the added benefit of strengthening Hancock’s preacquisition balance sheet; the company booked a $500 million gain.

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