Does property sector pay enough attention to corporate governance?
SA’s listed property sector has exploded over the past five years through a slew of listings, mergers and acquisitions and more capital raisings than any other sector on the JSE.
New nonproperty specialised investors have begun to buy into the sector too. Yet, in certain instances, corporate governance has been relegated to an afterthought.
Some commentators argue that property CEOs have, at times, been rewarded too generously for just doing their jobs, and that they added limited value to shareholders.
One of the most high-profile listed property listings is that of Liberty Two Degrees, which took place in December.
Liberty Two Degrees, which has about R10bn in assets, exposes JSE investors to portions of various iconic malls such as Sandton City, Eastgate and Melrose Arch for the first time.
The real estate investment trust (Reit) has come under the microscope because it is being run by an external management company.
Globally, listed property companies have tended to internalise their management companies. This aligns shareholders’ and management’s interests.
However, Liberty Two Degrees’ elected legal structure is as a collective investment scheme under the Financial Services Board (FSB) and therefore needs a separate management company.
About 10 years ago, investment group Barnard Jacobs Mellet released a report about corporate governance in real estate.
It said overseas markets had moved away from external management companies. It also argued that the introduction of Reit dispensation would "place pressure on companies to conform to the international norm of internal asset management and transparency".
Management companies are paid regular fees with a concern being that the management of these structures may make acquisitions for the sake of being rewarded instead of taking the long-term interests of shareholders into account.
Some investors feel that management at Liberty Two Degrees will be rewarded too much by their management company fees. The management is set to receive annual fees of 40 basis points times the sum of equity and debt. Evan Robins, listed property manager of Old Mutual Investment Group’s MacroSolutions boutique, says this could be about R37m. These fees would need to cover about R15m worth of expenses.
By 2013, many South African property companies had adopted the Reit dispensation but a number were and still are externally managed.
These include Octodec Investments, Investec Property Fund, Texton Property Fund, Dipula income Fund and Delta Property Fund.
Some smaller groups, such as Transcend, need external management companies to assist with capital injections.
"It talks to the ability of a small fund to carry the costs of a strong specialist team that Transcend will need to source and manage its pipeline. At a fee of 0.4% of enterprise value, while the enterprise is as small as it is this would not be able to support the strong team that Transcend has access to through IHS. Obviously once the enterprise value hits a certain number, then it will make sense to internalise," said the fund’s CEO, Rob Wesselo.
Another concern has been how management and directors of certain funds have been rewarded for moving assets from one fund into another. Arrowhead Properties has shifted assets into two separate companies since it listed in 2011. These are Indluplace Properties and Gemgrow Properties.
Arrowhead says it wants to keep certain sized assets of a certain quality together but when it moves the assets, management is rewarded.
Grindrod Asset Management chief investment officer Ian Anderson says Arrowhead’s management served shareholders by moving the smaller assets out of its portfolio.
"Arrowhead’s management team, from the outset, have shown a willingness and the necessary competence to be extremely opportunistic when it comes to property asset management. At the same time, they have a strong understanding of the mechanics of the public listed market. They have identified that focused companies tend to attract marginally better ratings that can lower the company’s overall cost of capital, facilitating earnings-enhancing external acquisitive growth," says Anderson.
"Arrowhead’s portfolio has become increasingly less focused and the Indluplace unbundling and Gemgrow transactions allow the company to become more focused again and a partial re-rating has followed. There are probably some issues around management incentivisation and rewards for implementing the transactions, but the rationale for the transactions is sound and has already borne fruit in the form of a higher share price," said Anderson.
People holding directorships on various property companies’ boards appears to be more common in listed property than other sectors.
Directors may also leave funds if they feel they are perceived to not be truly independent
Marc Wainer is executive chairman of Redefine Properties, the company he founded, having previously been CEO. He was on the board of the Pivotal Fund as a nonexecutive director, which he left at the end of 2015. Redefine Properties is currently completing a takeover of Pivotal.
Robert Lewenson, head of ESG Engagement at Old Mutual Investment Group, says while some South African Reits and other property companies commit resources to environmental, social and governance concerns, as required by the King 4 Corporate Governance code, there is a large disparity between them, the leaders in the sector, and those Reits that commit very little.
"We need to see better disclosure and better adherence to environmental, social and governance [ESG] related performance targets," says Lewenson.
"Some companies have improved their governance steadily in the past couple of years but some flout various codes of best practice. Disclosing ESG outcomes is and will become even important," he says.
He says some fund managers are unhappy about the number of interrelated party deals in the listed sector owing to the poor governance practices that may result.