M&A activity involving real estate investment trusts (REITs) is heating up in Canada and south of the border, according to a recent PWC report, “Emerging Trends in Real Estate: Global Outlook for 2015”. Following a succession of REIT conversions in 2014 by companies with significant real estate holdings, coupled with ripe market conditions for REITs, the industry is well-positioned for further consolidation.

To merge or to acquire?

A notable trend among REITs in 2014 was the acquisition of small and mid-sized players by larger companies, ostensibly fueled by increasing shareholder activism.  At the same time, small and mid-sized players are getting together to combine resources, lower costs, diversify their asset bases, and ultimately benefit from synergistic strategies.  Growing exclusively through acquisition can prove challenging, and smaller companies are demonstrating that growth can be achieved in the real estate industry on a lower scale through mergers by similarly-sized players.

REITs in recovery

As interest rates continue to decline, banks remain the most affordable source of development funding for REITs, whose managers can take advantage of historically low rates to access capital, PWC reports.  Indeed, the report describes REITs as “capital magnets” that, through their demonstrated performance, can expect a healthy dividend growth rate of about 3% and a relatively high investor yield of up to 10%.  Population growth in North America is experiencing a steady upward trend which will spur demand for more retail stores of all varieties.  As job growth recovers following the economic downturn, consumers will have more disposable income and the retail sector will be poised for recovery.  Retail properties considered to be undercapitalized will then be in a solid position for capital influx or acquisition.

Consolidation in Canada

Canada’s real estate market is dominated by domestic players – primarily REITs and pension funds.  These market participants are eager to invest in the growing real estate segment of mixed-use properties, which continue to permeate the dense urban centres in large Canadian cities.  PWC reports that pension funds, in particular, are eager to increase their real estate allocations, and consolidation may further be driven by the recent spike in shareholder activism with respect to REITs.  Several experts noted in the report that some REITs continue to trade below their net asset values, further contributing to widespread speculation over mergers and takeovers in the real estate sector.

The year of the REIT

REITs are increasingly looking for growth-based deals and can leverage their unique access to capital from both public and private sources to do so.  In the past, sophisticated investors placed REITs in the ‘alternative’ investments category, whereas today, they are considered a reputable asset class of their own.  Given the relatively favourable real property market conditions in the current year and the strength of REITs in prior years, REITs should continue to gain prominence as an investment vehicle in Canada in 2015.