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REIT MILESTONE: S&P LISTS 6 FIRMS

By Dave Bodamer

After years of speculation and false starts, rating agency Standard & Poor’s (S&P) has added REITs to some of its indices, opening the door for developers to a potential windfall in investment dollars.

The move represents a vindication of sorts for the industry, which for years has been viewed as a different type of asset than all other public companies. Six REITs were added to some S&P indices in early October, including two retail-related REITs — New York City-based New Plan Excel and Birmingham, Ala.-based Colonial Properties Trust.

“This is a tremendous positive for the industry,” Salomon Smith Barney REIT analyst Ross Nussbaum said. “This opens REITs to a much broader universe and gives them access to more investment capital.”

S&P had historically maintained that REITs were “different animals” from other public companies because they are taxed differently, report profits differently and for years were run differently from other companies. But its mind was changed by a concerted lobbying effort by REIT officials and analysts, along with a move by some REITs to report earnings per share figures and a recent ruling by the Internal Revenue Service (IRS) changing the definition of REITs from being passive investment vehicles to companies that actively manage portfolios.

Six REITs in all were added to three S&P indices: Equity Office Properties, the largest U.S. REIT, has gotten onto the highly regarded S&P 500; Hospitality Properties Trust joined New Plan Excel Realty Trust in the MidCap 400; and Colonial Properties Trust, Kilroy Realty Corp. and Shurgard Storage Centers are on the SmallCap 600.

“It’s somewhat of a surprise to see the companies they picked, but I would not read too much into the batch they selected,” Nussbaum said. “The door is open for new additions, and I think we’ll see companies like Simon [Property Group], Kimco [Realty Trust] and Weingarten [Realty Investors] added in the future.”

The change of heart came after a lengthy campaign spearheaded by the leaders of some of the nation’s largest REITs, including Equity Office and Simon. Equity Office’s chairman, Sam Zell, led a delegation of REIT officials to a meeting with S&P in April, and Citigroup’s chairman and CEO, Sanford Weill, also met with S&P’s committee to discuss the topic. Salomon Smith Barney is owned by Citigroup.

“We believe now that the majority of them are operating companies,” said David Blitzer, chief investment strategist for S&P. “After substantial review, we felt there was no reason they should not be included.”

The inclusion of REITs into S&P’s various indices will help the companies in two ways: S&P’s indices are often used as the basis for mutual fund investment selections, which will give REITs access to capital. According to Salomon Smith Barney, approximately $1 trillion is indexed to the S&P 500, meaning that hundreds of millions of dollars could flow into each company’s stock after inclusion.

Secondly, the inclusion could change public perception of REITs, thereby encouraging more investors to add them to their portfolios.

Companies can be added to S&P’s indices only when others are removed. The spot in the S&P 500 opened because Texaco and Chevron, which were both listed in the index, merged. S&P will continue to maintain its separate REIT index for the companies that it does not incorporate into its larger indices.

“We believe the decision to add us to the Midcap as well as the decision to include REITs in general is a turning point in the industry,” said Stacy Lipshitz, New Plan Excel’s vice president for corporate communications. “Everyone in the REIT world has kind of talked about the S&P 500. No one really focused on the small and mid funds. We were a little surprised. S&P doesn’t tip you either, so we found out at the same time that everybody else did.”

S&P did not reveal the methodology it used in choosing the companies, saying only in a written statement that it had “conducted a broad review.” But it did say it would use net operating income to calculate earnings-per-share estimates when evaluating REITs rather than funds from operations, which is the measure most REIT analysts use.

S&P added that it “believes that REITs have become operating companies subject to the same economic and financial factors as other publicly traded U.S. companies listed on major American stock exchanges. … Standard & Poor’s recognizes that REITs are treated differently than some other kinds of companies for tax purposes. However, there are various industries with specialized or unusual tax treatments, including utilities, some natural resource companies and others.”

REITs were not eligible for the S&P indices for several years. The old policy reflected REITs’ role as passive investment vehicles during the late 1970s through the mid-1990s, in which they did not manage the properties they owned.

In 1995 many in the industry thought REITs would be added after Starwood Hotels & Resorts Worldwide, then a REIT, acquired ITT Corp., which at the time was listed on the S&P 500 index. However S&P ruled that the new company would not be listed and ITT was replaced on the index with another firm. Starwood eventually transformed its structure into a regular corporation and was finally added to the S&P 500 in late 2000.

“Standard and Poor’s decision to include REITs in their indices is extremely positive for our industry,” Colonial President and CEO Tom Lowder said in a written statement. “The National Association of Real Estate Investment Trusts has been lobbying for REITs’ inclusion in the S&P indices for quite some time. … Colonial Properties Trust’s inclusion in the S&P SmallCap 600 Index is quite an honor.”

 

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