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Update

By Jon Springer

Clearly frustrated by lagging stock prices, publicly traded real estate companies are creating new avenues of revenue generation and managing capital more responsibly.

However, experts at the National Association of Real Estate Investment Trusts convention, held in Los Angeles in October, said that bridging the widening gap between industry and stock performance is a mystery that will remain unsolved for some time to come.

“I can’t explain the REIT phenomenon any better than I can explain the dotcom phenomenon,” said Merrill Lynch REIT analyst Eric Hemel, commenting on a two-year decline in stock prices that has most REITs currently trading around 20% below their private-market values.

Hemel, participating in a panel that included analysts, investors and REIT executives, told attendees that the stock market has historically “been wrong for long periods of time,” and that REIT managers can better withstand the downturn by demonstrating discipline and responsible capital management.

“I don’t feel sorry for you guys,” Hemel said. “When your stock is trading like it has you should know exactly what to do: You wake up every day and conserve capital, raise as much cash as you can and buy back stock. It’s relatively clear.”

To that end, he said that REIT managers have come a long way during the downturn. “Two years ago, companies were stunningly incompetent with regard to capital,” he said. “But I’ve seen financial common sense in the last 12 months improve tremendously.”

Hemel pointed to the number of companies — including retail REITs JP Realty and The Rouse Co. — that have announced stock buyback programs as evidence.

Panelist C.T. Fitzpatrick, who manages funds for Charlotte, N.C.-based Southeastern Asset Management, added that winning the confidence of investors has become more difficult because of mistakes some companies have made in the past. “There’s a lack of confidence in the market that REITs will allocate capital properly,” Fitzpatrick said. “We’re scared you’re going to screw it up and not do the right thing.

New revenue streams are bearing fruit. In a separate NAREIT session, Simon Property Group Executive Vice President Stephen E. Sterrett said the Indianapolis mall owner will generate more than $40 million as a result of its Simon Brand Ventures subsidiary in 1999 and that the company has “only scratched the surface” of leveraging the millions of visitors to Simon malls every year.

Panelists agreed that real estate fundamentals — in terms of rent increases, occupancy rates and demand for space — have rarely been better. Ironically, that may be one reason the stocks are struggling today, suggested John Lutzius, senior analyst with Newport Beach, Calif.-based Green Street Advisors.

“I think the market is trying to price the REITs two years from now,” Lutzius said. “Fundamentals of the business can only get worse, and I think investors are respectful of looking around the corner.”

While leveraged buyouts and privatization remain possibilities for some companies, experts said those plans are also fraught with difficulty. “I wouldn’t be surprised to see some LBOs, but you have to realize in order for that for that to happen there will have to be a premium offer to the share price,” said Lutzius. “I’m not certain companies are trading low enough for that to happen yet.”

Panelist Kevin J. Riordan, managing director of Teachers Insurance and Annuity Association’s real estate securities unit, agreed, adding that the amount of debt REITs typically carry — around 50% on average — is too large to make an LBO effective.

Whatever solutions they undertake, REITs clearly remain frustrated by the disconnect between performance of their companies and the price of their stock. Vornado Realty Trust Chairman and CEO Steven Roth described an example of a firm not being able to undertake a long-term project for fear that the company will be punished by investors in the near term. “The maniacal, small-minded way [investors and analysts] look at earnings every day makes it very difficult to run a REIT as a growth company.”