File photo of RioCan chief executive officer Edward Sonshine.Kevin Van Paassen/The Globe and Mail
Despite the dark cloud hanging over Canada's economy, the country's largest publicly traded real estate company is doubling down on its home country. Entering 2016, RioCan Real Estate Investment Trust is proudly waving the Canadian flag.
Right before Christmas, RioCan announced the sale of its entire U.S. portfolio to private equity behemoth Blackstone Group for a total price of $1.9-billion (U.S.), or $2.7-billion (Canadian) at the time, netting the REIT a $930-million profit. Seventy-five per cent of this gain is expected to have come from intense currency swings since entering the U.S. in 2009.
The sale itself wasn't a shock, although the final price came in $200-million lower than expected. The true surprise was dealt in late July when RioCan suddenly announced it was evaluating options for its entire U.S. portfolio, comprised of 48 properties and 10 million square feet of real estate in the U.S. Northeast and Texas.
That the REIT wanted to cash in its U.S. gains made sense, considering there is no telling what will happen to the loonie relative to the greenback over the next few years. But selling the portfolio meant RioCan would be solely exposed to Canada again, placing its future in the hands of an economy that is in much weaker shape than that of the United States. The U.S. raised interest rates in December, while Canada cut its own twice in 2015.
"We believe in Canada," RioCan chief executive officer Edward Sonshine said in July when announcing the strategic review. "And sure it's soft right now, but who knows what it will be in three years."
The deal has the potential to do more than Canadianize the REIT – it could also transform how it is viewed by investors. Roughly 80 per cent of the gain will be used to pay down debt, making RioCan's balance sheet one of the best in the industry because its debt will be significantly lower, falling to 39 per cent of total assets from 44 per cent.
"RioCan's new profile as a low-leverage, large-cap REIT with a significant development and intensification pipeline positions the REIT to be more directly comparable to the largest and highest-quality REITs in the U.S.," CIBC World Markets analyst Alex Avery wrote in a research note to clients.
That carries significance because quality U.S. REITs tend to trade at better multiples, or premiums, to asset valuations."However," Mr. Avery noted, "we expect it to take some time before investors grow more comfortable with the 'new' RioCan and revalue the units higher."
The U.S. portfolio sale is only one component of a major repositioning. In September, RioCan said it will spend $715-million to take full ownership of 22 properties it currently splits in a Canadian joint venture with Kimco Realty Corp. RioCan is also expected to spend $6-billion over the next 10 years to develop urban properties across Canada. Proceeds from the U.S. sale will help cover the capital needs.
"With the funds provided through the sale of the U.S. portfolio, RioCan will be better able to manage the future development risk to the trust and will be able to generate greater growth for the trust than what would have been achievable from the U.S. portfolio, which had limited growth opportunities for RioCan," the REIT said in a statement.
Although there is a plan, an annual cash flow drop is something investors will have to get used to for the time being. "While the sale of the U.S. portfolio enhances the REIT's long-term growth profile, we believe it will take a number of years to replace the lost cash flow," wrote Canaccord Genuity analyst Mark Rothschild.
Tim Kiladze