Summary and implications
In challenging times, real estate fund managers still have plenty to be positive about. The fundamental strengths of real estate as an asset class remain. However, this optimism must be viewed in the light of important developments, most notably how the industry, fragmented as it, will react to the ongoing consolidation of managers. One view has half of all fund managers ceasing to exist in one way or another in the next five years. This trend matches that expected in the private equity sector where consolidation is considered inevitable as there is a flight to quality to the best performers.
- Consolidation is a development that will impact on all fund managers, regardless of size.
- Consolidation can bring benefits that can attract new clients.
- The process of consolidation can be time intensive and complex.
Who is consolidating and why
The real estate funds sector has been under pressure since 2008, from the financial crisis and also the increasingly strict regulatory regime. Financial institutions have been under pressure to dispose of their asset management teams. Recent high profile deals include BlackRock acquiring Barclays Global Investors and Citigroup disposing of its management operations to Apollo Management.
The rationale for these deals is that the buyers, with their increased size, will secure a competitive advantage by being able to operate more efficiently and attract staff of the highest calibre. This in turn will attract investor clients who, having endured an extended period of poor returns, are demanding more from their managers, for a lower fee than before.
Other activity includes management teams in larger organisations “spinning off” to form boutique firms. For teams that have the desire to enter this market, it is a relatively easy process, but those who are successful may themselves become a takeover target. Also, for smaller managers, covering costs and ensuring regulatory compliance will be constant challenges, possibly diverting attention away from their core business. Such challenges do not impact as much on large organisations, which will be acquisitive, as they aim to build their scale and expand their presence. However consolidation ought not to be viewed as a guarantee of success. A key factor will be the integration of new people into existing teams and the “fit” between different cultures.
Consolidation is also occurring in the fund of funds sector, with teams attracted by the economies of scale in combining funds, as happened in the recent joint venture between Gartmore and Hermes GPE.
What is the process for consolidation?
Some acquisitions start out life as a joint venture and only after a series of defined events does the fund manager become part of the buying entity.
A more common route is for the business to be sold under a business sale agreement. This involves considering some critical issues, such as:
- Regulatory matters – does the FSA need to give its consent?
- Employees – is there a TUPE transfer as a consequence of the sale?
- Restrictive Covenants – if management are not coming across, how should they be able to act in the future?
- Change of control provisions – these will need to be examined to ensure contracts passing to the buyer are not capable of being terminated.
- Structure – is it the business that is being bought or the entity that owns the business?
- Pricing – is there a cash payment on closing or is there an earn out, making the future performance crucial?
- Pension arrangements – how will these transfer and are there any deficits?
- Tax – what is the most tax efficient structure for buyer and seller?
- Contract/mandates – can these be assigned or transferred?
- Incentivisation – do carried interest arrangements require restructuring, for example, as managers leave the business?
Mergers in the Market
ING recently announced that it had reached an agreement with CBRE to sell the majority of its Real Estate Investment Management (REIM) business for $1bn. CBRE is to combine the parts of ING Real Estate Investment Management it is buying with its global private equity real estate platform, CBRE Investors, with the combined business managing $96bn. In a second transaction, ING will also sell Clarion Partners, the private market real estate investment manager of its US operations, to that unit’s management in partnership with Lightyear Capital for $100m.
ProLogis and AMB Property Corporation have announced a deal to merge their businesses to create the world’s largest warehouse operator. The upshot would be a new REIT with ProLogis branding. The parties expect the transaction, which is subject to shareholder approval, to close during the second quarter of 2011.