Friday Letter Risky business

The departure of Ethan Penner as head of CBRE Capital Partners shows that, even within higher-risk strategies, some private equity real estate firms are struggling with their appetite for risk.

Ethan Penner joined long-time friend Brett White, chief executive officer of Richard Ellis, for lunch and a round of golf at the Los Angeles Country Club just before Christmas in 2007, neither man knew that they would soon be entering into a new business venture together. Over the course of the afternoon, they discussed the disarray in the financial markets and the opportunities that could arise out of that. Three months later, Penner came on board to launch CBRE Capital Partners.

At the time, Penner told White: “The single biggest opportunity that will arise from this financial dislocation in 2007 will be that those lenders that have been very active in the commercial real estate arena will suffer massive losses. There will be a natural retrenchment on the part of those lenders, and it is going to create a huge void in the marketplace. New entrants are going to be created to fill that void.”

Now, almost exactly four years later, it seems that the reality of the platform didn’t quite match Penner’s vision for it. At the end of last week, he resigned as president and founder of CBRE Capital Partners as a result of friction with senior management at CBRE Global Investors, of which CBRE Capital Partners is a part.

“I’m a little more entrepreneurial than perhaps they are,” Penner told PERE. “The cultural fit between me and some of the people there probably wasn’t ideal, and I suppose that caused a bit of a schism.” He noted that he and senior management at CBRE Global Investors had been trying for months to resolve their differences on how to run the real estate finance business, but they failed to reach an agreement.

Not entrepreneurial enough? This is the firm that just one year ago paid $1.2 billion to acquire ING Real Estate Investment Management and become the largest real estate investment management platform in the world with $94.8 billion in assets under management. Then again, most of that business is focused on less risky core and core-plus strategies, as is the bulk of CBRE’s original platform.

CBRE Capital Partners, however, is definitely a more opportunistic strategy. The business manages a pair of open-ended funds on behalf of institutional and high-net-worth investors, focusing on both performing debt investments as well as opportunistic investments that include acquiring sub- and nonperforming loans, providing rescue capital to help deleverage existing capital structures, funding equity participating debt and preferred equity positions and acquiring higher-yielding commercial real estate backed securities, generally with ratings below investment grade.

While such a strategy may sound ‘entrepreneurial’ to most firms, particularly in the wake of the global financial crisis and current predictions of slow to no grow for much of the Western world, it probably seemed pretty humdrum to Penner. After all, as a pioneer of the commercial mortgage-backed securities market in the 1990s, he was known for innovating new structural quirks and pushing the envelope in terms of leverage and risk. Someone like that doesn’t take well to constraints.

Of course, CBRE isn’t alone in coming to grips with its appetite for risk. A number of recent research reports point to the desire of institutional investors to push further out on the risk spectrum in search of yield, and private equity real estate firms are responding with new vehicles designed to take advantage of such opportunities. These firms, however, should keep their personal risk tolerance in mind when setting up these new businesses and ventures. More importantly, it is worth making sure that the people put in charge of such ventures share the firm’s view on risk.