Ric Clark is leading the way around Brookfield Asset Management’s brand-new New York offices – and global real estate headquarters – on the 15th floor of 250 Vesey Street in Lower Manhattan, just one month after completing a move from an adjacent building within the World Financial Center. The relocation is so recent, in fact, that the space still smells of new paint and has stacks of boxes that have yet to be unpacked.
The main reason for the new offices – featuring an all-white décor, open-floor plan and sweeping views of the Hudson River – is to allow for technological upgrades, says Clark, a nearly 30-year veteran of Brookfield and global head of its real estate arm, Brookfield Property Group. The relocation, however, is fitting for other reasons. After all, Brookfield, one of the world’s largest property owners, has witnessed a number of significant moves in its real estate business over the past year.
Barry Blattman, head of Brookfield’s real estate fund business and co-head of its opportunistic real estate program, returned to New York last summer after a year-long stint in London. While in the UK capital, he helped to build the firm’s opportunistic property business in Europe.
Meanwhile, Brian Kingston, formerly the senior managing partner responsible for Brookfield’s Australian operations, also came back to New York in January to assume the new role of chief investment officer for both Brookfield Property Partners (BPY), a new public entity expected to begin trading this month, and Brookfield Property Group, which will manage the new spin-off. Additionally, Kingston will co-head the global opportunistic real estate program with Blattman, a role previously filled by Clark. Clark, for his part, was named chief executive of BPY last May.
Furthermore, the Toronto-based asset manager currently is in the process of spinning off substantially all of its commercial property operations –including its office, retail, multifamily and industrial assets – into BPY. The flagship fund of BPY, Brookfield Strategic Real Estate Partners (BSREP), represents the firm’s first global opportunistic real estate fund.
Clark says the decision to form the new entity was part of a strategy laid out by Bruce Flatt when he took over as chief executive of Brookfield Asset Management in 2002. That plan called for streamlining what was then a complicated conglomerate into four main platforms focused on real estate, renewable power, infrastructure and private equity.
“Our opportunistic strategy naturally followed and is a function of our experience in opportunistic investing, the investment climate and opportunity set that we saw, as well as the strategies of the institutional investors that invest with us,” Clark says.
Blattman, however, makes it clear that “we always knew that flagship real estate opportunity funds were always going to be critical to our business.” Brookfield began laying the groundwork for a global opportunistic real estate strategy less than a decade ago with the 2006 launch of its first opportunistic real estate fund, the Brazil Retail Property Fund. On behalf of the vehicle, which raised $800 million in commitments, the firm acquired interests in a number of Brazilian shopping centers and regional malls.
Brookfield went on to raise Brookfield Real Estate Opportunity funds I and II, which invested in underperforming real estate properties in North America, in 2006 and 2007, respectively. However, 2009’s Real Estate Turnaround Program, which made equity and debt investments in undervalued real estate companies and portfolios, was Brookfield’s first global real estate capital-raising effort. The program, which raised a total of $5.5 billion, was structured as a club deal between limited partners that included the Canadian Pension Plan Investment Board, Australia’s Future Fund, the Government of Singapore Investment Corporation and China Investment Corporation.
When Brookfield formed the consortium, many limited partners were wary of committing to commingled funds after getting battered by heavy losses from such vehicles during the global financial crisis and subsequent downturn. However, “there were a number of partners who had given us direction that they wanted to do deals but they just couldn’t do a fund at that time,” recalls Blattman.
The experience with the Turnaround Program, however, revealed the shortcomings of the club structure. “If you have a consortium where everybody is going to choose whether they are in or out, when you’re working on a transaction, everybody wonders who ultimately is going to be in,” Blattman says.
A commingled investment strategy, on the other hand, offers a sponsor the certainty that all of the investors will invest in the deals in the fund, while allowing larger limited partners to co-invest on significant transactions through sidecar vehicles. “A traditional commingled fund is really the model that makes the most sense for us,” Blattman notes. “But the consortium was the right thing at that time.”
In an earnings report and letter to shareholders for the first quarter of 2011, Brookfield revealed the news that the industry had been waiting for – the launch of its first global real estate fund. Last May, the firm held a first close for BSREP, raising more than $2 billion in equity, according to filings with the US Securities and Exchange Commission. The equity haul included a $200 million commitment from the Teacher Retirement System (TRS) of Texas and $310 million in aggregate commitments from New York City’s five primary employee pension systems, according to those pension plans.
Brookfield declined to comment on its fundraising activity, citing SEC restrictions. PERE, however, understands that the firm has raised $2.6 billion of its $3.5 billion equity target as of press time and is expected to hold a final close in June.
BSREP is an example of what Steve LeBlanc, the former head of private markets for Texas Teachers, calls “the new evolution of the closed-ended fund structure,” where the general partner is a publicly-traded company rather than a private firm. Aside from Brookfield, other GPs that fit the new model include listed private equity firms such as The Blackstone Group, Kohlberg Kravis Roberts (KKR) and Apollo Global Management – all of which, incidentally, are on TRS’ premier list. That list includes real estate, private equity and real asset fund managers that the pension system has pre-screened and pre-determined as being top quartile – and are the only private market GPs with which it invests.
Indeed, while all of the GPs on the premier list meet Texas Teachers’ strict criteria for governance, alignment of interest, transparency and investment track record, the fact that Brookfield is a major investor in its funds makes it stand out from the pack. “They eat their own cooking,” says LeBlanc.
Because public ownership significantly increases the amount of permanent capital that a GP has, the amount of co-investment by a publicly-traded fund sponsor also is substantially larger than that of the private fund sponsor, which typically makes a co-investment that is 2 percent to 5 percent of the total fund. Brookfield, for example, is said to have committed $1 billion, or nearly one third, of its $3.5 billion target to BSREP through BPY.
LeBlanc, who left Texas Teachers last June to start his own investment and management firm, CapRidge Partners, expects this new model of the closed-ended fund to become more prevalent in the industry. “It’s going to be interesting over the next 10 years, as more and more GPs become public and have more and more of their shareholders’ capital and their own capital invested in each of their closed-ended funds,” he says.
Some investors and others in the industry have expressed concern that a publicly-traded GP will represent less alignment than a private GP because the capital in a co-investment by a publicly-traded GP consists of capital from both public shareholders as well as the firm’s senior executives. This is in contrast to private firms, where all of the capital is coming from the company’s executives.
However, LeBlanc – who himself led a publicly-traded company, Summit Properties (now part of Camden Property Trust), from 1998 to 2005 – argues against such a premise. With a private sponsor, employees involved with managing a fund would get a salary and bonus, along with half of the carry generated by the fund. While this also may apply to a publicly-traded sponsor, the employee of a publicly-traded GP also would get stock options and grants in the company. “It seems like there’s even more alignment or, at the very least, the same,” he says.
Brookfield’s senior executives, for example, own 19 percent of the company’s common shares. While this is a lower percentage of ownership than the listed private equity firms, the latter have been on the public markets for a much shorter period of time than Brookfield, whose oldest predecessor company began trading on the Toronto Stock Exchange in 1902. Moreover, ‘insider’ ownership of common stock among listed private equity firms also is likely to decrease as the companies issue more of their stock to public shareholders.
In examining the new closed-ended fund model, LeBlanc says that, “in a lot of ways, it’s better. You have more transparency, more scrutiny of the GP, larger investment by the GP in their funds and more standardized reporting of their returns.”
However, there is one key difference between Brookfield and other ‘new model’ GPs. While the likes of Blackstone and KKR have been managing closed-ended funds for many years and only recently began managing public shareholder money, Brookfield is exactly the reverse. “The companies are approaching the same space from completely opposite ends of their history,” notes LeBlanc.
Over the past decade, Brookfield’s private funds business and its global real estate opportunistic strategy have both helped to alter its investment profile. The firm does not have a defined maximum hold period for real estate assets acquired on balance sheet or through Brookfield Office Properties, a publicly-traded entity with a core and core-plus strategy. By contrast, most of its opportunistic investments are held in finite-life vehicles.
“It’s been a bit of an evolution for us,” says Clark. “We’ve come from starting with straight asset-level joint venture arrangements on a core to core-plus kind of deal to getting those partners involved with us early on so that they can invest at different points in the risk spectrum.”
Brookfield has made a name for itself by executing a number of high-profile platform-level investments, but the transaction that is said to have put the company on the map in US commercial real estate was the recapitalization of bankrupt real estate firm Olympia & York in 1996. In that deal, Brookfield Office Properties, then known as Brookfield Properties, acquired a 46 percent interest in World Financial Properties, the entity formed from the bankruptcy. That investment gave Brookfield partial ownership of three of the four towers of the World Financial Center, as well as One Liberty Plaza and 245 Park Avenue in Manhattan. Brookfield subsequently increased its ownership interest to 99.4 percent.
“There are very few groups who can marshal large amounts of capital and who can work through very complicated distressed situations,” says Kingston of Brookfield’s affinity for platform investments. “For those who are able to do that and navigate those areas, the rewards are very high because you typically can buy very well as opposed to the simpler, more straightforward transactions, where it’s much more competitive on the price.”
In addition to more favorable pricing, investing in distressed capital structures as opposed to distressed assets offers a higher potential return, says Blattman. “Because it’s a platform, there is a lot more reward that comes from the investment than just the recovery in those underlying assets,” he explains. “You don’t have visibility when you make the investment to understand what kind of great additional opportunity is going to come from these platforms, but inevitably it does come.”
A ‘brilliant’ deal
Brookfield’s blockbuster platform investment of the current cycle is the recapitalization of bankrupt US mall owner General Growth Properties (GGP). In 2010, the firm, along with its partners in the Turnaround Program, made an initial capital infusion of $2.6 billion into the retail real estate investment trust and, one year later, acquired an additional 10 percent in GGP for about $1.7 billion. The investment, which helped to bring GGP out of Chapter 11 bankruptcy protection, has been called “a brilliant deal” by industry observers.
As the largest transaction made through the Turnaround Program, the GGP investment helped to contribute to the stellar performance of the vehicle, which has generated a 51.2 percent net return as of March 31, 2012, according to documents from the Pennsylvania Public School Employees’ Retirement System (PSERS). Partly based on that track record, the state pension plan agreed to invest $200 million in BSREP in June.
Brookfield currently holds 22 percent of GGP on its balance sheet, including warrants, while the consortium owns an additional 19 percent. Although the consortium interest is held through a vehicle with a 10-year life, how long the firm hangs onto the remainder of its stake in the REIT remains to be seen.
“We feel like we’re in the initial stages of this investment,” says Clark. “I think the management team has done a phenomenal job in the couple of short years that they’ve been out of reorganization, but we see a lot more upside.”
Some critics have argued that Brookfield has benefited its consortium partners at the expense of its public shareholders by holding onto its stake in GGP. Kingston, however, asserts that the investment’s initial value creation came solely from the stabilization of the company. “We think there is a much longer game to this, which is actually operating these assets much better, improving the net operating income and finding ways to selectively redevelop or expand these assets,” he adds.
Shifting US opportunities
A more recent platform investment on behalf of BSREP is the firm’s acquisition of an 81 percent stake in Verde Realty, a Houston-based industrial REIT. The $866 million transaction has helped to expand Brookfield’s holdings in industrial real estate, a relatively new property type for the firm, as well as its presence in northern Mexico, where a portion of Verde’s 111 industrial facilities are located.
Brookfield plans to add value to the Verde platform by increasing occupancy levels at the REIT’s properties in order to boost net operating income, as well as selling non-strategic land and non-core assets and seeking potential consolidation with other challenged mid-sized businesses.
Of course, the opportunity set for platform investments has shifted in the face of changes in the global capital markets. “When there was distress in the US, our first choice would be to find great platforms,” says Blattman. “Right now, in the US, we are seeing less of those opportunities in our pipeline.”
Two or three years ago, there was a shortage of capital for very large transactions in the US, explains Kingston. Currently, capital dislocation in the US is concentrated primarily in the mid-market deals on the asset level, and Brookfield has followed suit in its deal sourcing.
Perhaps that explains the February acquisition of a portfolio of 19 apartment communities in the southeastern US from Babcock & Brown Residential for a total of $414 million. Brookfield intends to invest an additional $30 million towards upgrading and repositioning select assets in the portfolio to increase rents and return on investment.
About 70 percent of Brookfield’s global real estate fund will be allocated to large-scale platform investments with an average equity size of $700 million, as well as a sizable allocation to mid-cap property investments with an average equity size of $50 million, the majority of which are anticipated to come from the US, according to PSERS documents. Sources familiar with the matter noted that BSREP is about 30 percent invested as of press time.
Emerging in Europe
Where Brookfield actively is targeting distressed platforms is Europe. “There is still a lot of debt overhang that hasn’t been worked through yet as it has in the US,” says Kingston. “The banks aren’t really that open for business, and it’s clear that a private market solution is required to help recapitalize some of these companies.”
It was this emerging opportunity that led Blattman to relocate to London for one year to build Brookfield’s opportunistic real estate business there. “We had the UK and Europe in our sights for many years, and the one opportunity that emerged that we went after in a very aggressive way was when Canary Wharf was sold,” he recalls.
In 2003, Brookfield made its first investment in the UK with the purchase of a 9 percent interest in Canary Wharf Group, an owner of office and retail real estate assets in the former docklands area of London, subsequently increasing its stake to 22 percent in 2010.
“We had it in our minds that when Canary Wharf-type situations emerge, we would go after them, but it didn’t happen that often,” says Blattman. “The financial crisis and what clearly was brewing in the UK and Europe was something to which we needed to pay attention, given our quest to create opportunity in the company.”
Topping Blattman’s to-do list in London was finding someone to head the European opportunistic platform. That someone turned out to be David Brush, the former chairman of RREEF’s global opportunistic business, who joined Brookfield in July after six months of discussions.
Brookfield’s focus in Europe is on opportunistic property investments in major commercial centers in the UK, France and Germany, although it has yet to make such an investment in the region. Indeed, industry observers have said those markets are among the most stable in Europe and therefore may offer limited deal flow in terms of opportunistic investments.
Investing Down Under
Another recent platform investment made on behalf of Brookfield’s global real estate opportunistic strategy is its successful takeover of Australian listed REIT Thakral Holdings Group for $492 million. The acquisition, which closed in December, gave the firm ownership of the Wynard City One office development site in central Sydney, as well as hotels and other assets along Australia’s east coast. Brookfield previously made a number of unsuccessful attempts to acquire the Wynard assets.
Until recently, Brookfield saw investment opportunities in Australia stemming from a significant repatriation of capital from foreign banks out of the continent, which left certain borrowers unable to refinance their debt. Such a capital dislocation made it possible for the firm to acquire a portfolio of nonperforming loans backed by real estate assets in New Zealand from a European bank in November 2011.
“Ordinarily, that probably could have been refinanced,” says Kingston, who spent five years on the continent overseeing the integration of Brookfield’s 2007 acquisition of Multiplex, an Australian commercial property owner and developer. “Because there was a shortage of capital for a moment in time in that part of the world, it created some opportunities for us.” That opportunity, however, has subsided somewhat as Asian banks have been putting more capital into the region.
Meanwhile, Brookfield currently is in the ‘R&D phase’ for opportunistic investments in Asia, where it has offices in Hong Kong and India. “We have plenty to work on and there is no shortage of opportunities that we’re seeing in the five geographies we’re currently investing, but Asia is definitely on our radar,” says Clark. As proof of this, the firm announced in February that it had hired Niel Thassim, the former head of Asia real estate at RREEF, as Asia head for its private funds group.
Additionally, Brookfield and the Investment Corporation of Dubai appointed Douglas Kirkman, formerly with Blackstone in Asia and the Middle East, as chief executive officer of ICD-Brookfield Management, which will be the manager of the ICD-Brookfield Dubai Real Estate Fund, an opportunistic vehicle with a $1 billion target.
Troubles in Latin America
Of course, Brookfield has had its share of missteps as well. For example, its Brazil Retail Property Fund has been a subperformer, generating a 0.6 percent net return as of March 31, 2012, according to PSERS documents. That compares to an average net return generated by Brazil- and Latin America-focused funds of the same vintage in the mid- to high teens.
The reason for the underperformance of Brookfield’s Brazil fund is said to be overpayment on leveraged mall purchases on behalf of the fund because the firm was under pressure to invest the fund’s capital as it neared the end of the vehicle’s investment life. Furthermore, the firm supposedly had to use additional balance sheet capital to repay its debt after the fund’s LPs refused to kick in more capital.
If that is not enough, Brookfield currently is facing bribery charges from a Brazilian prosecutor, who has alleged that the firm’s local subsidiary made pay-offs to expedite the approval of construction permits. Brookfield, which denies any wrongdoing by its employees, has conducted a through internal investigation that uncovered no evidence to support the allegations and is fully cooperating with local authorities.
Winning over investors
While the fallout from the lawsuit remains to be seen, Brookfield has been successful thus far in expanding its investor base – particularly among US pension plans – through its global real estate opportunistic strategy. Indeed, many of BSREP’s limited partners – including Texas Teachers, PSERS, the five New York City pension systems and the San Francisco Employees’ Retirement System, which committed $50 million last August– have told PERE or indicated in public documents that they are first-time investors in the firm’s funds.
“When we started talking to the traditional US investment community a dozen years ago, we were hard to understand because our organization wasn’t structured in an easy-to-understand format,” says Blattman. As the firm has evolved into a more streamlined organizational structure, however, Brookfield has won the support of a significant portion of US-based consultants and investors. “We’re just in a different place now.”
As Brookfield proceeds with the spin-off of BPY and the expansion of its global opportunistic real estate platform, it is clear that the long evolution of the 100-year-old-plus alternative asset manager is far from over.
Brookfield’s new spin-off
The creation of Brookfield Property Partners is expected to be a win-win for the global asset manager
The spin-off of Brookfield Property Partners (BPY) is intended to simplify Brookfield Asset Management’s corporate structure by creating a platform that will house all of its real estate assets. The formation of the new entity follows similar spin-offs for Brookfield’s infrastructure and renewable energy businesses in 2008 and 2011, respectively.
BPY will be divided into four operating platforms: office; retail; multifamily and industrial; and opportunistic, according to documents posted on Brookfield’s website last month. Those platforms will be comprised of the firm’s wholly-owned real estate assets; its interests in Brookfield Office Properties, GGP and Canary Wharf; its partial interests in properties; and its sponsorship interests in various private property funds.
Public shareholders are expected to own approximately 47 percent of BPY’s common stock, while Brookfield is anticipated to own about 53 percent upon completion of the spin-off. The new entity is scheduled to start trading later this month.
Brookfield, however, intends to reduce its ownership in BPY over time. The larger BPY becomes and the less Brookfield owns in the entity, the more fees Brookfield is expected to earn. The amount of capital that the firm invests in any fund, property or company also will decline since Brookfield’s interest in any particular real estate asset will be proportionate to its ownership stake in BPY.
Not only does this free up more of Brookfield’s capital to be invested elsewhere, but this ultimately helps to boost the firm’s balance sheet. Because Brookfield is putting less equity into its real estate holdings by moving its interests in these assets off its balance sheet and into BPY and simultaneously increasing the fees it collects for real estate, it can significantly enhance its return on equity, which is the ratio of the firm’s earnings over the amount of equity invested.
Brookfield Asset Management
Founded: 1899 (through predecessor company São Paulo Tramway, Light and Power)
Headquarters: Toronto and New York (real estate)
Chief executive officer: Bruce Flatt
Senior real estate executives: Ric Clark, Barry Blattman and Brian Kingston
Total assets under management: $175 billion
Real estate assets under management: $89 billion
Total equity raised for real estate: $11 billion