The formation of real estate investment trusts (REITs) in Mexico has been heating up over the past six months, and the private equity real estate industry is helping to add fuel to the fire.
In March, Prudential Real Estate Investors (PREI) launched the fifth publicly-traded REIT in Mexico – known locally as a fideicomiso de bienes raices, or ‘Fibra’ – raising $665 million through an initial public offering. With its REIT, called Terrafina, PREI became the first private equity real estate firm to partially exit its holdings in the country through the launch of a Fibra.
Terrafina’s initial portfolio consists of 146 properties – more than 85 percent of PREI’s existing industrial assets in Mexico – rolled over from two of PREI Latin America’s legacy closed-ended funds, PLA Industrial Fund I and PLA Industrial Fund II. Totalling 20 million square feet and valued at approximately $1 billion, those assets currently comprise the third-largest industrial portfolio in the country in terms of leasable area.
Others are expected to follow suit. “Almost every US company that has properties in Mexico is now trying to do the same thing,” said Michael Fitzgerald, a partner in the Latin America practice of law firm Paul Hastings, which has served as counsel on four of the five Fibra offerings to date and currently is working on the formation of four additional Fibras. In particular, “private equity firms are all over this concept.”
Although Mexico passed legislation that allowed the creation of publicly-traded REITs in 2004, it wasn’t until 2011 that the legislation was adopted on state, county and municipal levels, paving the way for Mexico’s El-Mann family, one of the largest real estate owners in the country, to form the first Fibra, Fibra Uno, that year.
The success of Fibra Uno, which reportedly generated record yields of 56.3 percent in 2012, has helped to spur the creation of four additional REITs, including Fibra Hotel in late November and Macquarie Group’s Macquarie Mexican REIT (MMREIT), which raised $1 billion in its IPO in mid-December. The fourth Fibra, Fibra Inn, began trading on the Mexican Stock Exchange in mid-March, a week before Terrafina’s IPO.
The majority of the proceeds from the Terrafina offering will be used to reduce existing debt on the industrial assets that were transferred to the Fibra, as well as monetize the original investors’ stakes in the funds, according to Alfonso Munk, head of PREI Latin America, whose affiliates have retained an approximately four percent stake in the Fibra. Going forward, the REIT is expected to acquire large stabilized industrial portfolios in Mexico, each with at least $150 million of income-producing assets. This is in contrast to the risk and return profile for the firm’s PruMex Industrial III, a closed-ended publicly traded commingled fund focused on making smaller land acquisitions and developing the sites into industrial assets.
After PruMex is fully invested, Munk anticipates that the Fibra will be PREI’s main investment vehicle for stabilized industrial assets in the country going forward, although he isn’t ruling out raising additional Mexico-focused private industrial funds. “It depends on the opportunities in the future,” he said.
Of course, few other private equity real estate firms have the scale to launch their own Fibra. However, the advantage for those that can is the ongoing fee stream generated from the continued management of the properties that have been transferred to the REIT.
Two possible exceptions are ProLogis, which owns 29 million square feet of industrial real estate in Mexico – the largest such portfolio in the country, and Mexico Retail Properties, which has more than 8.3 million square feet in retail real estate in the country and is managed by Denver-based real estate investment firm Black Creek Group. Both firms are said to be considering a partial exit of their Mexican real estate assets through an IPO. Others, such as Walton Street Capital and Clarion Partners, are said to have smaller portfolios and therefore more likely to exit by selling to existing Fibras.
“We’ve had a number of conversations with private equity owners and, by and large, the interest is around potential exits through an existing vehicle,” said Nick O’Neil, head of Macquarie Infrastructure and Real Assets, the firm’s alternative asset management arm, in Mexico.
Not just an exit
While some of the interest in Fibras has been focused on the exits of existing investments in Mexico, the growth of that market also has been influencing the investment decisions of private equity real estate firms that have lacked a presence in Mexico.
For example, the launch of MMREIT, which marked Macquarie’s first real estate capital-raising in the Americas, “absolutely was the way for us to get into the market,” said O’Neil. The REIT acquired an initial portfolio totalling 27 million square feet of industrial space in Mexico from affiliates of GE Capital Real Estate Mexico and Corporate Properties of the Americas with proceeds from the IPO. Because Macquarie previously did not have a presence in Mexico, it was easier to enter the market and raise capital through a REIT rather than a private commingled fund, he explained.
Meanwhile, Equity International already had been contemplating a re-entry into Mexico for the past 18 months in light of the country’s strengthening economic fundamentals. “In really seeing the Fibra market explode, we doubled back and started putting more emphasis on trying to find opportunity in Mexico,” said Brian Finerty, co-head of the firm’s global investments team. “Having a clear path to liquidity reduces risk from an investment perspective.”
Equity International sees an investment opportunity in providing sponsorship capital to firms that are seeking to launch their own Fibra, Finerty explained. In a shorter-term strategy, the firm potentially could invest in shares pre-IPO to help the company go public or, in a longer-term, three- to four-year strategy, put up capital to help acquire assets to bulk up the existing portfolio.
That said, “there seems to be a bit of a race to get public in Mexico at this point,” Finerty said. “The perception is that the market will get to a saturation point in the next year because there’s a lot of supply coming.”
O’Neil pointed out that, when Macquarie first began considering a Fibra two years ago, few other players were looking at mature, income-producing assets in Mexico. Now, however, “the competition dynamic is changing,” he said.
Indeed, Munk projected as many as 12 Fibras in the market over the next few years. “The bar is getting higher as Fibras need to be different from each other,” he said. “If a lot of them happen in a short time, there will be a bit of a clog in the market,” similar to the public boom among Brazilian homebuilders and other real estate companies in the mid-2000s.
That country’s IPO fever in the real estate sector resulted in more than 20 companies going public around the same time, which made it more difficult for the firms to differentiate themselves and compete for capital. Some Brazilian homebuilders also became overly aggressive in their growth plans and subsequently saw their stock prices plunge amid declining profitability from cost overruns and project delays.
Finerty, however, expects the interest in Fibras to remain strong for the foreseeable future, given the deep pockets of Mexico’s pension plans, known as Afores, which are looking to increase their exposure to real estate and have not had exposure to income-producing assets until now. “It seems like a deep market, and we think the window will remain open for a while,” he said. “But we do know that windows tend to open and close.”