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What Happened to REITs during the Global Financial Crisis (GFC): A Brief Look At History

"Those who fail to learn from history are condemned to repeat it." - Winston Churchill.

This article discuss the risks of investing in REITs – specifically due to extremely dilutive rights issues – by looking at how the Global Financial Crisis (GFC) in 2007 to 2009 unfolded. I believe it is good for us to understand the worst case scenarios that may play out again, be it over the next few months or sometime in the future. I would be taking a macro perspective in discussing the property cycles, and how debt can be a double edged sword – and linking these to the REIT sector. I would also take a look back into history, and summarise the key developments for REITs during the GFC period. Specifically, the rights issues undertaken by REITs during the GFC period are of great interest to me – and I have complied a few examples below as well.

Why have REITs been popular?

REITs are favoured by investors due to their steady dividend payouts, as well as their simple and straightforward business model which many investors can understand – buying properties and renting them out. REITs also provide leverage and liquidity for investors who may not have the capital to invest in physical properties. And indeed, the past decade had been incredibly rewarding for REIT investors, as low interest rates propped up asset prices while allowing REITs to borrow cheaply, and the hunt for yields resulted in more and more capital being poured into REITs.

With the past few weeks being extremely volatile, having witnessed prices of certain REITs swinging by more than 10% in a single day, I would like to better understand the worst case scenario that REITs may face in the event of a huge decline in asset prices and tight liquidity due to panic in the financial system.

How do rights issues work?

First of all, I would like to discuss the effects of a rights issue. A rights issue occurs when the REIT wants to raise equity capital from its shareholders. Typically, the intention of raising equity would be for acquisition purposes or to pay down debt. New units are usually issued at a discount to the last traded price, to entice shareholders to apply for the rights units. The discount to the last traded price can be anywhere between c.10% in good times, to even c.50% in the event that the REIT desperately needs to raise cash. In good times, rights issues are usually yield accretive, and shareholders may view the rights issue favourably, if it supports and acquisition of assets that increase DPU. However, in times of desperation, a rights issue results in a double whammy of shareholders being diluted and having to cough up cash to purchase the rights units.

Let’s illustrate an example of a rights issue for a REIT with 1 billion shares trading at $2 per share today. That gives us a current market capitalisation of $2 billion – a mid sized REIT. Assuming this REIT is in desperate need of cash, and due to a financial crisis, banks are unwilling to extend further credit to the company. Hence, the only option would be to raise equity capital via a rights issue. Given the depressed mood of the market, a huge discount to the last traded price would be required, in order to draw investors to subscribe. Let’s say that the discount in this case is 50% to the last traded price – a very steep discount – but very possible during a GFC situation. Let’s also say that the REIT is doing a 1-for-1 rights issue, which means you’re entitled to 1 rights share for every share you hold. Again, this is extreme, but not uncommon during the GFC, when large REITs like CapitaMall Trust did a 9-for-10 rights issue, while Starhill did a 1-for-1 rights issue.

Accordingly, this would be the calculation for this hypothetical example: The newly issued units are issued at $1 per share, and 1 billion new units are issued. For simplicity of calculations, we assume that the dampened market outlook means that the over allotment option is not exercised. Based on the enlarged number of outstanding shares, the theoretical ex rights price (TERP) would be $1.50 per share. Of course, this is only assuming that the REIT’s price does not decline after the announcement of the rights issue. Generally, the REIT prices decline after a rights issue is announced, especially if the rights issue is dilutive to shareholders. Hence, the TERP may be lower than $1.50. This would represent a paper loss of 25% for the shareholder who held the shares at $2, and would be slightly offset if the shareholder subscribes to the rights issue units at the discounted price of $1. But so long as the TERP is less than $1.50, the existing shareholder would have incurred a capital loss, notwithstanding that he or she would have to cough up a significant amount of cash to subscribe to the rights units.

Rationale for rights issues

Now that we are clear on the effects of a rights issue, let’s look at some actual examples of rights issues by REITs during the GFC. The overarching theme for carrying out a rights issue then was 1. To pay down debt; and 2. To build up cash for opportunities to acquire real estate at distressed prices.

I’ll address the Point 1 first. As we are well aware, REITs are leveraged vehicles which use a combination of equity and debt to acquire properties. Currently, the leverage limit for REITs is a 45% gearing ratio. Most REITs have gearing ratios of around 30 to 40%, which provides them with ample debt headroom should they require extra credit. In a GFC scenario, real estate prices would have declined sharply, due to distressed asset sales, falling rents and reduced occupancies, tenants going bankrupt and so on. This gives rise to the possibility that the real estate assets held by REITs would decline as well. In order to maintain the regulatory gearing limit of 45%, REITs may have to do a rights issue to raise equity capital.

A second scenario for Point 1 would be in the situation when the REIT has to pay off existing debt. In usual circumstances, REITs would simply refinance their existing loans with a new loan, and roll over the entire debt outstanding. However, in a financial crisis, banks may be less aggressive in lending, and may not be willing to extend as much credit to the REIT. In this case, the REIT may opt to sell perpetual securities, which might be costly as the yield would have to be attractive to entice investors during a financial crisis. Additionally, even though perps are classified as equity, there are more like debt instruments as they incur interest expenses as well. Hence, given the circumstances above, the REIT may look to raise equity via a rights issue or a private placement as a last resort.

As for Point 2, some REIT managers have cited the need to increase their warchest in anticipation of distressed opportunities that may arise. This is definitely a more positive outlook than point 1, and shareholders would have to place a lot of faith in the managers to identify good opportunities. If the REIT is indeed able to pick up real estate assets at distressed prices, then in the long run, shareholders still stand to benefit even though there is some short term pain. Again, this would benefit those who are able to come up with the cash to subscribe to the rights, to minimise dilution to their holdings.

Actual Examples during the GFC

Now that we’ve understood the rationale for carrying out rights issue, let’s look back into history and see real examples of highly dilutive rights issues during the Global Financial Crisis.

1. CapitaMall Trust (CMT)

CMT undertook a 9-for-10 rights issue in Feb 2009, raising $1.23 billion at a discount of 43% to the closing price of $1.45 per unit. The rights were priced at $0.82 per unit. The rationale stated was to “Strengthen CMT’s Balance Sheet and Enhance Financial Flexibility”, reducing aggregate leverage from 43.2% to 29.1%. The manager also indicated that it would be able capitalise on opportunities and secure debt on more competitive terms.

The announcement can be found here: 

2. CapitaCommercial Trust (CCT)

CCT undertook a 1-for-1 rights issue in May 2009, raising $828 million at a 44.3% discount to the closing price of $1.06. The rights units were priced at $0.59 per unit. The rationales stated were to have a “Reduction of Borrowings consistent with the Manager’s proactive and prudent capital management strategy” and to “Strengthen CCT’s balance sheet, enhance financial flexibility and improve credit profile”.

The announcement can be found here: 

3. Mapletree Logistics Trust (MLT)

MLT undertook a 3-for-4 rights issue in June 2008 to raise $606 million, at a 21.4% discount to the closing price of $0.98. The rights units were offered at $0.73. The rationale was to “(i) Strengthen MapletreeLog’s balance sheet and capital structure; (ii) increase financial resources and flexibility for future acquisitions to capitalise on growth opportunities in logistics-related real estate in Asia; and (iii) provide Unitholders with pro-rata entitlement to Rights Units.”

The announcement can be found here: 


Notwithstanding the possibility of a dilutive rights issue during a financial crisis, I still like the business model of REITs and am still looking to invest in them. Quality REITs have delivered strong returns which have outperformed the STI in recent years, and provide stable income to shareholders as well. As a general point, I target REITs with strong sponsors, and established track record, and owning quality properties.

As with every real estate investment, the three most important things are location, location and location.

I hope this article has been informative with regard to understanding REITs better. Do note that I am still looking to invest in REITs; I simply want to prepare for the worst case scenario.

If you're keen to learn more, I have written a follow up article on the factors driving a REIT's valuation here:

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Please note that these articles are for discussion and informational purposes only and should not be relied upon as financial advice. Please read the full disclaimer available on the desktop version of my blog.

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