The pace of corporate property disposals in other countries is quickening. And Australia
is expected to follow. This story followed Telstra’s move of property off balance sheet in 2002. For CFO…
Simplicity and transparency. They were the two most important attributes in Telstra’s recent deal to take $570 million worth of its property off-balance sheet, according to the company’s CFO David Moffatt.
He says: “If the transaction is very open and transparent then you will be able to do it.”
In a straightforward cash sale, Investa Property Group bought seven prime offices from Telstra for $570 million with Telstra expecting to book a $100 million profit from the sale in the 2002-2003 financial year.
Many in the property market laud the
company for taking a relatively straightforward path at a time when the post-Enron accountant or auditor is more cautious than ever over whether off-balance sheet property deals should be booked in the accounts as a
liability, or the notes.
As Owen Williams, head of corporate
finance at Jones Lang LaSalle, says: “I think there is a trend towards auditors being more nervous. It is difficult to get an auditor to be open-minded on risk transfer.”
Mix the Enron backlash with the current professional indemnity problems and few
auditors are willing to entertain the idea of any kind of creative accounting when it comes to taking assets off-balance sheet. The standards AASB17 and AASB18 for leases are subjective in their interpretation on the transfer of substantially all the risks of ownership.
The question is: where does this leave the triple-net or synthetic lease? While the property transferred is owned by the lessor, the lessee is responsible for all risks and expenses associated with occupying the property and tends to buy the property at the end of the lease term.
On whether the triple-net should be on or off-balance sheet, Williams says: “I could put it to two accountants who would give two different answers.”
Hans Pearson, associate director, Westpac Property Advisory and Equity, says auditors and the Australian Securities and Investments Commission (ASIC) are treading carefully at the moment around triple-net leases.
One recent and well-publicised triple-net transaction was Amcor’s raising of $174.5 million with the sale and leaseback of 17 industrial properties. Finalised in August 2001, it raised $77.7 million through credit leaseback and $104.7 million through commercial mortgage-backed securities. A pre-Enron collapse transaction, this lease is a note in Amcor’s
accounts as a 10-year commitment rather than on the balance sheet.
Peter Day, Amcor’s CFO, is sensitive to the accounting treatment of the deal. He says the triple-net lease has always been counted as debt.
“It went off-balance sheet because that’s the way the rules say [it should be done]. We didn’t do it to get off-balance sheet.”
He says that whenever ratings agencies talk to the company they always know what is off-balance sheet or not. Nobody is “fooled or misled”. In fact, Standard & Poor’s produced a six-page presale report on the deal “PacPro Trust” in July 2001 giving the securitisation a BBB+ rating.
According to market talk, Amcor hoped for a higher rating on the deal. Peter Eastham,
associate director, S&P, says: “If you are buying bonds you know exactly what you are buying. If you are buying a SPE [special purpose entity] then it is a bit more complicated.” In a deal like Amcor’s, there are two elements in that the value of the rental income stream is being securitised in addition to the value of the buildings.
Day says that there were a number of reasons for the deal: “They were prime properties. They were properties in the medium to light [industrial] category. It was also an excellent way of taking an asset and funding it with investors who we had never accessed before. It was a way of lengthening our debt portfolio.”
In the final analysis the deal had more to do with money and bolstering credit ratings than property. As was the Telstra deal. Moffatt says: “It really was about capital management rather than about property.” Tony Crabb, national research manager at FPD Savills, says: “The sale process was as much a financing transaction as a property deal.”
He adds that investors are effectively buying a bond in Telstra with a guaranteed income stream over a number of years. The risk for Investa in buying the $570 million portfolio was that it has a single tenant.
Crabb says: “If they free up one of their buildings who do you move in? There are tenants who would want to be in the same building as Telstra. It makes it very difficult. It makes it risky. Why shift property off the balance sheet in the first place?”
Jones Lang LaSalle’s Williams says: “It’s good business. It makes good sense for businesses that have hurdle rates of 14 per cent to drop property that’s only getting 8 per cent.”
He says that one of the reasons that companies held property during periods of high inflation was that it often made more money for them than the core business. “Boards are still coming to grips with low interest times and how to release capital from balance sheets.”
Moffatt says the final reason for Telstra’s release of the property assets was that they were not a core part of the company’s business.
Telstra didn’t need to own them while they
represented a way to raise capital at a rate
competitive to the company’s cost of capital.
Telstra still owns 11,500 properties worth about $2.2 billion split between 10,600 network properties and 900 commercial. Network assets are core to the company and are firmly wedged on the balance sheet.
Moffatt says it was unlikely that Telstra would be raising cash in this way again as the remainder of its commercial properties aren’t of the size or class of the seven sold in the
Investa deal.
The property element of the fund raising means that Telstra will make cost savings in the properties with both Investa and Telstra sharing the benefits.
According to Peter Robson, general manager property strategy at Telstra, part of the plan is to better use the space the company occupies through better space planning and new fit-outs and designs. The dual forces of computer miniaturisation and retrenchment have left Telstra with thousands of square metres of surplus space (its workforce has shrunk from 90,000 to 47,000 in 10 years).
Outside the Investa deal, Telstra is pro-
actively seeking innovative partnerships with developers and the like where, for instance, the company would share the benefits of a successful development and sale. Most of its properties are marketed through expressions of interest.
Another $55 million has been raised by Telstra through its recent sale of the near empty Telstra Tower in Castlereagh Street, Sydney, to property fund Lend Lease Real Estate Partners.
Like Amcor, many companies have industrial assets they can release from their balance sheets, although the most heavy-industry sites tend to be inappropriate because of their specialised use (making them strategic assets) and possible environmental contamination issues.
One such deal worked on by property
services group CRI was for Boral, which demonstrates that all property doesn’t have to be taken off-balance sheet. In total, Boral owns more than 100 quarries. CRI helped Boral maximise the value of a 330-hectare site, near Prospect reservoir in Sydney, by turning it into a planned estate with 1500 homes and 40 hectares of open space.
The land remains wholly owned by Boral and is expected to generate $300 million in a joint-venture partnership with development partner Delfin Lend Lease. Boral is also
developing other areas of the land.
Rod Pearse, Boral’s managing director said earlier this year that the Greystanes project would represent a new revenue stream for the company, the first of number similar projects: “The project demonstrates a new … approach to resource management in Boral, which includes maximising the value of property end use.” In the 2001-2002 financial year Greystanes brought in a $28 million profit for the company. In 2002 the company’s return on capital employed was 12.1 per cent, a tough hurdle for industrial property assets to leap.
According to research from Jones Lang LaSalle, the value of corporate real estate in the hands of owner occupiers in Europe is A3116 billion or 67 per cent of the A4633 billion market. In the US in “contrast” of the total of A4872 billion in corporate real estate just 24 per cent or A1169 billion worth is accounted for by owner occupiers. And the pace of
corporate property disposals in Europe is accelerating, doubling to A15.3 billion in
2001. Australia is likely to follow the lead.
According to property services group CRI, Australia’s 20 largest non-financial and non-property companies in 1999 held $35.94 billion of property, an average of 23.65 per cent of their assets.
John Garimort, director of research at Property Investment Research reckons there
is probably $40.5 billion investment grade property squirrelled away in balance sheets waiting to be released.
Off-balance sheet options
There are a number of basic ways to take property off-balance sheet: sale and leaseback, a structured leaseback, the establishment of a special purpose entity/joint-venture, debt securitisation/synthetic lease and total outsourcing. And there are many more variations of the theme. The basic off-balance sheet property deal is the sale and leaseback where a single property is sold to another party. A variation on the sale and leaseback theme is the portfolio/structured deal when more than one asset is involved, such as Investa buying seven properties in the recent Telstra deal in return for a long-term lease.
The synthetic lease or triple-net lease usually involves the transfer of property to another party but the operating risk of the building – maintenance and so on – is retained by the lessee. In the triple-net/synthetic deal the debt is securitised and cash is raised from capital markets. According to Standard & Poor’s the more the lease terms deviate from those of a triple-net lease, the more the credit quality of the transaction becomes dependent on the financial strength of the lessor. S&P says the reason that many of the risks associated with the property, such as repairs, maintenance, structural defects, environmental and remediation should stay with the lessee is that there is little margin in cashflow to pay them from the special purpose entity through which the deal is securitised.
Amcor established a special-purpose entity for the sale of 17 industrial properties, raising $174.5 million. It was a debt securitisation/synthetic lease. Wesfarmers decision to take all the property assets of its Bunnings warehouse subsidiary and inject them into a listed property trust added flexibility to the funding of the expansion of Bunnings nationally. The company, however, retained property risks as the lease with the trust is triple-net.
The trust was listed in September 1998 with the issue of 132 million ordinary fully paid $1 units. Wesfarmers subscribed for 25 per cent through a wholly owned subsidiary. In total $159 million was raised with issue costs of $3.5 million. The value of properties at listing, including four development sites, was $170 million. The trust has exploited the flexibility in raising money through equity to retire debt and buy new properties.