The recently announced deal between UDR and Kuwait Finance House (KFH) seems to indicate that the Highlands Ranch, Colo.-based company is adding more than $450 million in dry powder for acquisitions. It could also be tangible evidence that outside investors are starting to warm up to the multifamily space.
UDR had established a joint venture with KFH, which has been active in the U.S. real estate market since the 1990s, to invest up to $450 million in multifamily properties located in high-barrier markets. The venture intends to be fully invested over a two-year period. Together, the partners will contribute equity of $180 million with 70 percent coming from KFH and 30 percent from UDR. The holding period will be for up to seven years. It’s seeking Class A assets that are less than seven years old and have a minimum value of $20 million.
The arrangement offers a couple of advantages for UDR, which has trimmed its portfolio and markets heavily in the past two years. The firm will essentially serve as a fee manager of the properties and receive a “pretty substantial promote," which Warren L. Troupe, a senior executive vice president at UDR, wouldn’t disclose.
“We look at it as we already have the operating platform in place, and we can add some more assets that helps in terms of income,” Troupe says. “We’re looking at things we might not mind owning at the end of the joint venture period.”
The joint venture will not be the exclusive acquisition vehicle for UDR, giving it flexibility to pursue assets it really likes for its own balance sheet, such as financially distressed new construction deals. “We specifically carved [new construction] out in this JV,” Troupe says. “That’s something we would be interested in acquiring for our [own] portfolio. We do think that there’s going to an opportunity to acquire new assets. It certainly is not here yet, but it may be more in the fourth quarter [of 2009] or first quarter of 2010.”
So far, industry reaction to the joint venture has been positive. “In the current environment, the more expansive a company’s capital menu, the better,” says Andrew J. McCulloch, an analyst for Green Street Advisors, a Newport Beach, Calif.-based consulting and research firm. “Despite Fannie and Freddie’s commitment to the space, we still expect there to be a target-rich environment for well-capitalized apartment operators to pick up distressed assets on the cheap. This fund will better position UDR to take advantage of this.”
But the fund isn’t limited to distressed assets. In fact, right now, Troupe isn’t seeing much activity in that sector. “We’re out in the market everyday,” he says. “It’s not there. There's a lot of talk about distressed, but we're not seeing it yet.”
The fund also gives UDR flexibility. “Although we would like to see UDR issue common equity to de-lever, this deal provides the company with a flexible acquisitions vehicle and a limited equity commitment [$54 million of $180 million of total equity with $450 million in gross assets initially targeted and potential for more] without inhibiting its ability to pursue assets on balance sheet or with other third parties, a positive for shareholders,” said New York-based Sandler O'Neill + Partners in a report.
More Deals Ahead
“One of the things we’ve been looking at in terms of how to expand our balance sheet was to actively look at joint ventures,” Troupe adds. “We’ve been looking at them for about two years now. The problem that we ran into in 2008 is every time we would talk to institutional investors, pension funds, and foreign investors about doing a joint venture they would ask about getting returns in the 20 percent to 25 percent range.”
But Troupe says the shakiness of other vehicles, such as industrial, is making institutions more realistic. “We’re seeing the pendulum swing to acknowledge that single-digit returns are about the best they’re going to get [with the stabilized deals they’re looking at],” he says. “In the last four months, we started to get a lot of traction from institutional investors who had been in the multifamily market and exited in 2006 and early 2007. They had a lot of profits built up, and now they’re interested in coming back in.”
That’s what others see, as well. “We view UDR's announcement of a new JV with Kuwait Finance House (KFH) positively as it provides further evidence that REITs continue to have access to multiple capital sources and shows how some investors have become more realistic about asset pricing/returns,” said Sandler O'Neill + Partners in its report.
Troupe says that, so far, investors seem to be more interested in stabilized deals, though UDR sees even more potential redevelopment. Those value-added plays aren’t included in this joint venture, but Troupe says there could plans for one very soon. “We are actually in negotiation [for a value-added joint venture],” Troupe says. “We look at it as one more opportunity to expand. We’d love to do this on our balance sheet, but we haven’t found an equity price that appeals to us. In order to expand it, we just don’t want to use debt and lever up.”