HOW DO REAL ESTATE INVESTMENT TRUST (REIT) BENEFIT INVESTORS, SPONSORS AND OTHER PARTIES?

The current financial markets in Asia are typically awash with a plethora of diverse investment products that all seek the attention of market players and market makers. In South East Asia alone, the aggregated size of investments in 2018 for the Malaysia and Singapore REIT sector is in the region of RM40.7 Billion and SGD76.8 Billion respectively; this is not counting the mega Chinese market in this proximate region of intense business and financial growth.

Deliberate government initiatives to innovate and implement effective regulatory measures and controls have clearly helped market industries and leaders to find their footing in an increasingly crowded financial landscape.

Therefore, finding a structured vehicle/product that can meet the market requirements and, perhaps even more importantly, its expectations can often be akin to the proverbial saying of ‘looking for a needle in a haystack’.

Generally, there are 3 distinct market lifespan stages for any given market instrument; the first being the sunset products, the staple (evergreen) products and the sunrise products. While it is beyond the scope of this article to dwell into all of them, for this series of articles, let’s began by examining a the star product like Real Estate Investment Trust, which is typically and more commonly goes under the acronym of “REITs”.

So what exactly then are REITs? Simply put, they are investment instruments that focus the core of its investment activities in real estate class assets. Also, the instrument is structured to exist within an actual legal trust that is then actively managed by two key parties, namely the REIT Trustee and the REIT Management Company (“the REIT Manager”).

The Role of REIT Trustee

The REIT Trustee is required to be a licensed and approved corporate Trustee by the respective regulatory authorities in trust compliant jurisdictions (eg Monetary Authority Singapore (“MAS”) in Singapore and Securities Commission Malaysia(“SC”) in Malaysia).

While custody and control of the REIT investments could be held by the REIT Managers, they have now been placed squarely on the shoulders of Corporate Trustees like Pacific Trustees. Under existing Trust laws, the key distinction and benefit for placing REIT investments under a Corporate Trustee is to provide assurance and confidence to REIT Investors (aka Unitholders). The REIT Trustee is given the task and responsibility (i) to establish proper governance, (ii) to ensuring the effective segregation of the REIT investment from the parties having custody and management of the REIT, and (iii) carrying out of its duties and functions at the highest fiduciary levels that exceed mere contractual obligations. All these three (3) core requirements provide long term stability to the REIT and ensure full accountability to the Unitholders.

The Benefit to Sponsors

Most REITs began their life with sponsors having a portfolio of real estate properties that have not been sold off, whether due to oversupply and/or deliberate retention of such assets for its yield generation capabilities. Whatever are the reasons, in either situation, sponsors are ‘burdened’ with their capital being locked up in these assets. What then if sponsors want to ‘unlock’ such capital and why would they want to do this? There are of course a myriad of reasons but common ones include de-gearing their companies (to attract more investors or better borrowing rates) or just simply raising funds necessary for the next mega project which cannot or should not be missed!

REITs offer the ideal mechanism to accept a large portfolio of real estate properties (having the appropriate track record of income generation) to be settled into a REIT and be offered up to unitholders. The injection of such assets are done at market valuation which tend also to hold up values well when properties are disposed off on en bloc basis as opposed to individual sub-units.

Another notable benefit to sponsors will be the possibility to structure the REIT setup that will allow for the sponsors to ‘retain’ indirect control over the assets disposed off into the REIT. Typically, Investment Bankers will structure the REIT to give the sponsors the right to acquire significant units in the REIT and hence the ‘control’ that will come with the majority holding. REITs will require for a REIT Manager to be appointed to manage and ensure that the REIT assets are properly managed at all times; all of which are critical to ensuring the projected returns are achieved on a consistent basis. The REIT Manager, together with the REIT Trustee, takes on the joint responsibility to safeguard and protect the rights and interest of the unitholders.

The Benefit to Investors

Investors in the modern financial landscape of looking to ever increasing returns of investments while keeping risk low or at least to an acceptable level. So are REITs the magical investment that fits the bill?

From the onset, REITs offer a diversification of risk for investors who want to invest in real estate properties. REITs make this possible by packaging a portfolio of high value assets that are offered to a group of investors via the issuance of units. There is absolutely no need for any transfer of the legal title and ownership at the unitholders’ level as the REIT Trustee will hold them on behalf of these investors. Hence, viable real property assets that, previously are out of reach of many ordinary non-financial investors, can now be easily and readily acquired.

Another important benefit that REITs enjoy is the special tax treatment given by the tax authorities and that is if 90% or more of the income of the REITs are declared as dividend, such REIT income will be tax exempted. Investors obviously gain as the net returns to them are no longer subject to corporate tax rates which presently are 24% and 17% for Malaysia and Singapore respectively!

One more benefit that REIT investors receive, though not immediately obvious over private real estate investors, is the elimination of transaction cost. This can be hefty as they involve legal fees, estate agent fees and bank loan financing cost when investors do decide to acquire the real property assets directly. Under a listed REIT, all investors need to do is open and operate their CDS (for Malaysia) or CDP (for Singapore) accounts (assuming they don’t yet already have one). And the acquisition and disposal of REIT units is simply a matter of instructing their brokers to do the necessary. So how much easier can that be?

Conclusion

It should be clear and apparent by now that REIT is a modern form of investment. It is a well thought out investment product and one that can be expected to gain even greater traction and momentum over time. Therefore, we expect more sponsors to come on-board REITs. We also expect the market to demand greater diversification of the different property segments to suit every possible risk appetite of investors in a technically robust and safe investment. So may we all happily be on our way to investing in REITs!

Pacific Trustees (Singapore) Ltd – www.pacifictrustees.com