Just as King Kong climbed the Empire State Building to dizzying heights, your portfolio could soon reach some very lofty returns from the Empire State Building’s towering stock.
Malkin Holdings LLC, the owner of New York’s famous landmark, is about to package the iconic office tower with 20 other New York area properties into a new REIT: Empire State Realty Trust.
Scheduled for October 1st, the trust’s IPO on the New York Stock Exchange (where else?) under the ticker symbol ESRT is expected to raise over a billion dollars from the sale of 71.5 million shares at $13 to $15 a piece.
“It would offer public investors a unique way to play the New York market,” Michael Knott, an analyst with research firm Green Street Advisors Inc, expressed his optimism to Bloomberg.
Just what will this REIT offer investors? Can it withstand the turbulent winds sweeping across real estate markets?
A Towering Offer
As one of New York’s must-see attractions, the Empire State Building offers a premium over most office properties in the extra revenue generated from its two observation decks, which receive over 3.6 million tourists each year.
Of the REIT’s pro-forma annual revenue of $511 million from all 21 properties, the Empire State Building’s sight-seeing income accounted for 18%, or some $92.2 million. Add the building’s enormous office leasing income, and the landmark’s contribution to the REIT’s profits soars to over 47%, making the Empire State Building the portfolio’s crown jewel.
While the landmark’s tourism revenue may not have much room for growth, substantial revenue increases will come from the building’s office leases once extensive renovations are completed. “The 20 or so floors they have finished renovations on, they’ve increased the revenues on by almost 110 percent,” Knott informed Bloomberg.
With another 50 floors still being upgraded, the increased revenue from doubling the leasing rates on more than half the building will be considerable. “The early results there are encouraging, and speak to the progress they have made in executing the repositioning”, Knott appraises.
Yet the REIT holds 20 other lucrative income properties besides the Empire State Building. Among the portfolio’s office properties are seven Manhattan towers – including the famous Fisk Building and 1 Grand Central Place – and five on the north side. The basket’s six retail properties include Manhattan’s 10 Union Square. A development site in Stamford and options to purchase two other Manhattan office buildings round out the offering’s collection.
All that leasing and tourist income is likely to afford the trust a very attractive dividend expected to range from 5% to 5.5% annually.
Climbing Sky High
One indication that the trust’s IPO may do exceptionally well is a series of high priced offers from three separate investor groups who were hoping to purchase just the Empire State Building alone.
Joseph Sitt’s Thor Equities LLC’s offer of $1.4 billion at the low end, up to Philip Pilevsky and Joseph Tabak’s $2.1 billion offer at the high end, plus one other by Rubin Schron in between, were all rejected by Malkin Holdings.
If investors are willing to pay as much as $2 billion for just one of the REIT’s buildings, the trust’s 71.5 million shares should theoretically trade for at least $27.97 – even higher when adding the portfolio’s remaining 20 properties. Yet the debut price is set for just $13 to $15 per share.
The trust’s executives certainly expect the auction to play out very nicely for the original investors, and thus they rejected the bids which they believe offered “materially less value to investors because of debt and other obligations,” Bloomberg cites.
This IPO may have the potential to become a skyscraper among REITs.
It’s a Long Way Down
Yet one always wonders about the IPOs of successful, cash-generating enterprises. If they’re truly so profitable, why sell shares and relinquish such a large ownership stake to other investors? Like the mighty Kong, are real estate REITs doomed for a nasty fall?
The proposed Empire State Realty Trust’s $1.07 billion offering will be the second largest REIT IPO in U.S. history, just behind the $1.6 billion offering by Douglas Emmett Inc in 2006. Why is this significant? Because 2006 was at the height of the last housing cycle before land values crashed.
This time around, property prices in several regions have neared those pre-housing crisis levels, according to last month’s S&P Case Shiller Index comparing average property prices across 20 major metropolitan areas. Add skyrocketing interest rates since May, and the real estate market looks to begin cooling just a bit.
“Overall, the report shows that housing prices are rising but the pace may be slowing,” David Blitzer, chairman of the Index Committee at S&P Dow Jones Indices, gave his assessment to Forbes.
The Case-Shiller Index’s co-creator and economics professor at Yale University, Robert Shiller, cautioned, “I think there is a risk of a softening housing market.” Confirming that expectation, the Bloomberg REIT Index of 138 real estate trusts has fallen more than 11% sine its May peak.
But not all regions are faring the same, with the New York markets still showing remarkable resilience despite the higher mortgage rates. And of course, the new REIT in question is a commercial trust, not residential, holding some of the most profitable commercial spaces in the nation.
If the dazzling sex-appeal of holding a partial stake in one of the most famous landmarks in the world captivates you like the starlet Fay Wray did Kong, keep in mind Knott’s caution that “many of the Empire State Building stakeholders are expected to cash out their shares as various lockup periods expire,” which “could conceivably put some pressure on the share price,” Bloomberg cites.
Even so, with steady revenues into the hundreds of millions of dollars each year, the soon-to-be Empire State Realty Trust should stand tall as a landmark among real estate REITs for years to come once the economic recovery is finally complete.
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