Super funds stalk listed property: a showdown 50 years in the making

But the sector is at a crossroads, with sections of it left vulnerable by the upheaval caused by COVID-19. Startled by the lockdowns which sent shoppers online and workers into home offices, investors fled property stocks most exposed to shopping centres and city office towers. The exodus pushed some property stocks well below the book values of their real estate portfolios, creating targets ripe for takeover.

On the buy side, potentially, the giant of this country’s capital markets has awakened. Two decades after the REIT sector formed and almost 30 years since former prime minister Paul Keating lifted compulsory employer contributions, the country’s superannuation sector has become a $3.3 trillion store chest of wealth and is increasingly active.

Super fund assets grew 14.7 per cent over the 2021 financial year. And the rate of accumulation will only rise from here as the superannuation guarantee increases in increments from 9.5 per cent to 12 per cent in 2025.

Coupled with momentum in inflows is a wave of mergers among super funds expected over the next four years, brought on by requirements to meet the prudential regulator’s performance tests.

The super funds have a strong appetite for real assets such as infrastructure and real estate which bring locked-in, long-dated rents, aligning nicely with the funds’ own obligations. In the battle to secure hard assets, the super funds have another advantage as well over listed landlords, with their lower cost of capital.

The prospect of a collision with the country’s super fund sector dominated discussions at The Financial Review Property Summit last week.

Charter Hall managing director David Harrison, who after his company’s stellar performance through the disruption of the past two years might have least to fear, nevertheless told the Summit bluntly: “No one’s too big to be privatised. I don’t think anyone’s safe anymore.”

A rejoinder to Mr Harrison’s frank assessment came later in the day from Bevan Towning, head of property at AustralianSuper – the super fund has joined the $32 billion buyout of Sydney Airport – who said the run of privatisations already under way in infrastructure by private capital, including super funds, would inevitably move on to the property sector.

“There’ll be examples in the real estate space in the next three years,” he said.

The prospect of super funds turning their sights to listed real estate animated the Summit’s concluding session, with Tim Church, chairman of investment banking for Australia at Morgan Stanley.

“Make no mistake, we’re going to be seeing a lot more Bevan [Towning] up on stage announcing what he’s bought on behalf of AustralianSuper. This theme is not going away.”

AustralianSuper and UniSuper, two of the country’s largest super funds, have already shown flashes of what they can do, emerging from the depths of a company register to offer support for takeover bids.

Three years ago, AustralianSuper swung its 16 per cent holding in hospital owner and operator Healthscope in support a $4.4 billion takeover bid by Brookfield. In July this year UniSuper, Sydney Airport’s largest shareholder, threw its support behind the IFM consortium bid for the country’s busiest airport, which also drew in AustralianSuper.

The hot topic at last week’s Summit is already occupying the minds of those in the boardrooms and investment committees of REITs and super funds around the country.

“The REITs are wondering whether super funds are friend or foe,” says Mitchell Schauer, managing director and head of real estate investment banking at Jarden.

“Ultimately the answer comes down to performance. There will be winners and losers in terms of who is a partner and who is a target.”

However, while the broad contours for major M&A in the property sector are taking shape, there is more complexity yet to the emerging situation.

“It’s really easy to say there is lots of cheap capital in super funds, they are underweight and they are just going to buy listed property that is trading at a discount to NTA.

“The acquisition thesis has to stack up and not be about just chasing scale. The reality is that target boards and investors are not just going to sell cheaply.

“Cheque size is not the issue anymore. Our large REITs are diverse in terms of asset classes and business lines. The reality is that there are only a small number of groups that could take out one of these large REITs by themselves.”

A decade before Lendlease floated GPT in Australia, real estate investment trusts were created in the US to allow small-time investors to invest in major commercial property portfolios. As unit trusts, they were relatively tax efficient in their simple form, with tax obligations passed through to investors.

The liquidity that gave retail investors access has also proved to be the undoing of REITs in some cases, as fearful investors flee stocks, pushing prices below net tangible assets values. Passive rent-collecting REITs are most vulnerable to that kind of crunch. Despite a rebound in the overall REIT sector, office-centred REITS are still trading at close to a 7 per cent discount to NTA, while shopping mall owners such as Scentre and Vicinity are around 20 per cent below.

“There was a massive reaction in 2020. Effectively, things weren’t as bad as anyone thought, that is why there has been a recovery in the 2021 financial year. But it is still not there yet and that’s because those [COVID-19] headwinds are still there,” said BDO A-REIT specialist and corporate finance partner, Sebastian Stevens.

“Until they [discounted office and retail stocks] trade at a premium to NTA, they are vulnerable.

“There is so much capital that needs to find a home. There is a scarcity of assets. We’re getting so much interest from the US and Canada at the moment. Real estate is definitely an opportunity for those guys.

“They will pay over the odds, so if you’re trading at lower than NTA it’s not even over the odds. This period of trading at below NTA isn’t going to last though, so if they’re going to get in and do it, they need to do it in the next 12 months.”

The disruption of the past two years has accelerated change in the listed property sector. In their half century of existence, REITs have been diversifying their business model, with some, such Mirvac and Stockland, stapling their commercial real estate holdings to a development business.

Others, such as global industrial heavyweight Goodman and Charter Hall, have created powerful funds management platforms, backed by balance sheet co-investments, which have proven most resilient over the past two years, sending their stocks to healthy premiums.

For Jarden’s Mr Schauer, the diversification of REITs and their growing advance into funds management also provides a clue of how any M&A may play out. Super funds may well want to get hold of the real estate held within a REIT, but they may not have the capacity to run it or other parts of a REIT’s business.

“The impediment is not size anymore. But because these REITs are diverse in terms of asset classes and business lines, in Australia it may make more sense to form a partnership to take something private. That partnership is a capital aggregator and manager together with a super fund,” Mr Schauer said.

“You’ve got super fund capital growing and growing, and it needs to invest in things. The winners [in the REIT sector] will be those that can partner with that capital and invest that capital through funds management and development. If they can’t then, the capital will just take it over and use them to form part of their own platform.”

Driving the dynamic and the quest for real assets by private capital, be they domestic super funds or global funds, is a race to aggregate land and real estate at scale. Along with the property and its immediate cashflows, private capital is hunting for land with high underlying value which has the potential for future alternative uses based on major trends such as technology, ESG, population growth and urbanisation, according to Mr Schauer.

“Attention invariably turns to the listed market because trophy assets can be targeted in a liquid and transparent manner,” he said.

Not everyone is convinced a showdown is looming, however. CLSA analyst James Druce said that while the scenario is reasonable, there is little evidence for it globally yet.

“There have been comparatively few privatisations of office and retail REITs globally this year, despite being a record year for M&A,” he said.

“It is fascinating to see super funds have been so focused on infrastructure and utilities. They have hardly done anything in property. That tells us something about where pension funds see long-term growth.