COMMENT: Bold call from Baku

With the $447 million, all-equity purchase of Pine Avenue Tower A in Seoul that was announced this week, the State Oil Fund of the Republic of Azerbaijan (SOFAZ) has presented itself on the world stage.

A deal that would look at home among the property empires of its longer-established sovereign wealth fund peers GIC Private Limited or Abu Dhabi Investment Authority (ADIA), the acquisition of the 700,000 square foot tower from four Korean institutions – its biggest property investment so far – was a signal of intent.

More than that, however, it offered insight into how this fledgling state investor – currently the steward of $37 billion of assets – wants to develop its private real estate portfolio and what decisions it is willing to make along the way.

SOFAZ only made its first property purchase in December 2012. Before Pine Avenue, it had completed three, smaller investments in London, Paris and Moscow valued at a combined $600 million. Buying Pine Avenue meant that less than two years into its real estate investing programme, it already is approximately 40 percent weighted to one market, one asset and, given Pine Avenue’s total occupation by Korean conglomerate S&K Group, to one tenant.

But its four-strong real estate team, led by Ruslan Alakbarov, felt the risks were worth it. The decision to pursue the property at auction even came despite a failure to locate a viable 50:50 partner to share the risk. Recognizing the luxury of time inherent when investing for perpetual income’s sake rather than short-term capital gains, Alakbarov and colleagues were happy to either hold or, should the opportunity to do seem compelling, sell down at a later stage.

As he said in his first interview with PERE shortly after the announcement on the acquisition, SOFAZ did its homework on both this asset and the Korean market, one of four Asian gateway cities it has identified for direct investments.

By Alakbarov’s reckoning, assets like this are tightly-held by Korean investors and foreigners rarely get a look in. He learned this after failing to land Pine Avenue Tower B which sold last year. Wishing not to be trumped again, his team kept close tabs on Tower A to ensure the sellers knew it wanted the asset should it come to market and would be willing to invest alone to get it. Consequently, when Tower A hit the market at the end of last year, all rival bidders pretending to represent SOFAZ’ interest fell by the wayside quickly. That was a canny move.

SOFAZ also showed resolve in the process. Its bid was only the fourth highest, but delivered with the certainty of all-equity funding. Its bet that this would be valued ahead of higher but less reliable rival offers that would likely require financing and/or syndication paid off. As such, SOFAZ managed a purchase at a 5.25 percent net initial yield – quite a coup when compared to the cap rates available from CBD assets elsewhere in the developed world.

The nous demonstrated by SOFAZ in this transaction was a reward for its determination to go it alone. Restricted by a state requirement that all staff are Azeri and work from Baku, its chances of hiring in talent well-versed in the asset class are severely limited. But this sovereign wealth fund will try to push those limits and believes firmly in building its in-house capabilities in tandem with its portfolio. It even has resisted employing consultants.

SOFAZ has a 5 percent allocation for real estate investments. Including Pine Avenue, that means it has about $800 million left to deploy. Following Pine Avenue, and given previous equity tickets have been in the $200 million range, its chances of achieving true portfolio diversification are low. 

But luckily for the real estate investment management universe, SOFAZ knows that and, as PERE revealed today, it is now examining certain of today’s fund offerings, particularly those able to offer value-added strategies where the skill set and close proximity required to reposition problematic assets are beyond its resources.

Managers with such strategies would be wise to ask for a meeting. True, its $1.9 billion allocation, half of which already is deployed, might seem small fry today. However, realize this is an organisation expected to grow in assets to at least $100 billion in the next 10 years – depending on petrol prices and discoveries. That being so, its 5 percent allocation – which also might be increased – will look increasingly more meaningful as time goes on.

But remember: as this week’s transaction shows, SOFAZ would be an LP as keen to learn as to invest. Empower it with industry knowledge and you might inherit an investment partner that already has a track record of making bold, dare we say opportunistic calls. In an institutional environment still demonstrably cautious, that is a valuable commodity.