EUROZONE: Tale of two funds

When I met old-school property entrepreneurs Raymond Mould and Patrick Vaughan about a decade ago in their London Mayfair office I didn’t know what was more overwhelming: the cigar smoke or the sense that these two very English gentlemen were extremely fair and astute.

While smoke puffed around my head, they patiently explained to this junior reporter how they were onto a winner by going long on retail parks. 

It worked. They played the market expertly, making a killing out of their company Pillar Property, which sold to British Land for £811 million (€1.2 billion; $1.5 billion) in 2005. 

 Ten years after my first impression, they once again seem to be proving astute and in their latest venture, London & Stamford.

 Having patiently sat on the capital they raised in November 2007 before the Lehman Brothers’ crash, they recently amassed £620 million of assets. Most of these are showing good valuation gains. One of them, an office building in the city of Leeds, has been sold for an 84 percent return on equity in just nine months.
According to KBC Peel Hunt, an advisor to L&S, the firm has made more acquisitions than anyone ever since the dramatic re-pricing of UK real estate began. It is a success story in that regard, and that’s the astute part.

What about fairness, then? Mould and Vaughan are proposing to turn their company, which operates as a closed-ended opportunity fund listed on AIM, London’s junior stock exchange with an external management structure, into something very different – a REIT on the official list of the London Stock Exchange, and with internal management. In other words, they’re proposing  investors, which include Electra and GE, should buy out the GP in which Mould and Vaughan are themselves shareholders. 

 In tune with the times, this is as an example of a manager responding to concerns that under that the prevailing two-and-20 model means fees, management fees are leaking out of the business. By internalising the management company, the investors themselves will benefit from the fees (£37.1 million so far this year).

 If one studies the particulars, the company could save costs by reducing overheads, making tax savings, and preventing the leakage of fees that would become ever greater when the performance element of its 1.75-and-20 model kicks in.

 The price at which the management is transferred is crucial of course. That’s why shareholders are being asked to vote on it. L&S’ banker, Credit Suisse, points out that the £55 million to buy the manager is all in shares with a three-year lock-in period and £10 million of that can be clawed back if certain performance hurdles are not met, so investors and management are better aligned. 

 Sceptics say London & Stamford might be doing all this just in case of a second downturn and that they are proving to be astute sellers again. If they have plans to sell in three years anyway, why not exit now – before the market starts to wobble again? 

 But that is not what the company says. L&S insists it wants to become more “legitimate” by ridding itself of its external management status and its listing on a stock exchange where funding is limited because not many institutional shareholders actually invest in AIM companies.

 L&S also says it sees piles more distressed assets to buy, but currently only has about £500 million of fire power, assuming 60 percent leverage. If it wants to take on larger deals, it makes sense to become a larger listed animal – i.e. a REIT.

Now contrast this with Vornado Realty Trust in New York. 

Vornado, like London & Stamford, has a well-respected management that sees a ton of opportunity.
 But Vornado is a $14 billion US REIT, which has now decided to raise a $1 billion opportunity fund. Reportedly the firm has offered investors the carrot of devoting its entire acquisitions team to the effort.

Cynics could say Vornado’s senior team wants to enrich themselves and they could just as easily raise fresh money from share issues. Yet there is another explanation. Vornado could just be doing its job by raising money privately when it needs to. If it continually taps public money there is a danger existing shareholders will be diluted, so investors may have reason to be thankful. 

We don’t know for sure if the management of both these companies truly have shareholders’ best interests at heart. But from where we sit, it is a distinct possibility that both have noble intentions.