Breakingviews: Elliott REIT activism exploits real estate oddity

Elliott Management’s demand on Monday that Healthcare Trust of America sell itself is about an oddity that is creating an opportunity. The $7 billion medical office building real estate investment trust is vulnerable after its Chief Executive Scott Peters left unexpectedly in August. Its performance is lacking, relatively, but private equity real estate funds seem willing to overpay for assets despite evidence they do worse, on average, than their publicly traded peers. An HTA sale could give investors a double win.

The overall competitive landscape has changed dramatically for HTA since its inception in 2006. The healthcare REIT business has matured, and importantly, competition has grown. Private giants like Blackstone and Starwood Capital Management have raised huge funds and are encroaching on REITs’ turfs – stealing both investors and assets, pushing up prices and making growth for companies like HTA very expensive.

Though healthcare REITs have returned over 14% annually over the past 20 years according to the National Association of Real Estate Investment Trusts, HTA’s stock has underperformed peers like Medical Properties Trust. In the past five years, total returns have been 35% while the S&P 500 Index has returned over three times as much.

An aging population means the future is bright for companies that collect rent from doctors and other medical providers. But HTA is going to struggle. Real estate isn’t just about dynamics that drive the value of the underlying real estate asset but also an owner’s cost to fund it. Because large private funds have so much cash and the overall gumption to take on more debt, their cost of capital is lower. As a result, Elliott argues that private buyers can pay as much as 30% more for the same building as HTA.

That may be a slight exaggeration. But if a buyer paid that kind of premium for HTA, it’s probably better than what the company, in the midst of a management change, could do on its own. Still, public investors like Elliott have a trick up their sleeves. Tom Arnold, a University of Florida researcher and former head of real estate at Abu Dhabi’s ADIA, recently showed that REITs outperformed closed-end private real estate funds by a mean of 1.65% annually over 20 years. Adjusted for risk, the outperformance was higher. That suggests that HTA investors could sell to private buyers for a premium, buy another listed REIT, and then do it all over again.

______________________________________________________________________________________