Thursday, April 16, 2009

Duke Realty Goes For The New Equity-For-Secured Debt Bait And Switch

Yet another troubled REIT Duke Realty has jumped on the Kimco, ProLogis, etc. Merrill Lynch/BofA orchestrated mass dilution bandwagon, and investors, some confused about what the hell is going on, others like Cohen and Steers, are more than happy to join the great pump and dump even as all REITs face imminent debt maturities, declining lease rates, tenant bankruptcies, and generate less and less cash flows to satisfy their respective debt loads, let alone dividend payments.

As for use of proceeds: no surprise there - pay off amounts outstanding under the company's $1.3 billion JP Morgan and Bank Of America arranged credit facility (yes, observant reader, the very same companies who are underwriting this travesty). This is exactly the kind of "deal" that Zero Hedge reported about when Kimco raised equity, however without the same day upgrade by Merrill analysts. The Stardust line on Sakwa's upgrade to Buy is 4 days. We take the under.

Here are the facts: Duke has priced 65.4 million shares, and will likely also place the 9.8 million share green shoe, once Merrill analyst Stephen Sakwa goes unrestricted and changes his opinion on the company from neutral to buy, although that condition is neither sufficient nor necessary (we jest, everyone knows that Steve Sakwa will evaluate the company on it's own standalone merits). The 75 million new total shares will be a 50% dilution of the total existing shareholder base of 148 million. But, as Merrill has likely pitched to both the management team and to investors: it has worked so far, no reason why it should stop. This is the same reason bulls give to explain the market run up. Nobody needs to be bothered with such trivia as fundamentals, cash flow, FFO, EPS, and dilution. The game of greater fool is on right now like it has never been, and if big funds like abovementioned Cohen and Steers manage to get a quick bump up in their March P&L, so much the better.

To simplify what is going on here, follow the buck:

Underwriting Banks -> New Equity Investors -> Company -> Underwriting Banks Who Are Also On The Hook For The Credit Facility: the buck stops here, compliments of the fresh money.

Clinically simple and elegant. Ignore that GGP has filed for bankruptcy. Rinse and repeat.

And, yes, it will work, until the potato gets too hot... just like all other doomed REITs, just like the market.

Ironically, now that pretty much all the REITs will receive new equity money, the whole thesis that the strong will acquire the weak flies out of the window, and instead of excess capacity getting removed from the market (for a good case study of massive excess capacity, please see the vivid example of Ainsworth Lumber, Norbord and Louisiana Pacific in the OSB market), it will just stay there indefinitely, destroying any pricing power the REIT "giants" such as BXP and SPG could hope to generate. Compliments of Merrill Lynch, irrational exhuberance and a 110x trailing P/E.

For perspectives on when the CRE bubble will finally crash and burn, read here, here and here. Sphere: Related Content
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