Canada: Commercial Real Estate Transactions: Deconstructing Major Deals And Alook Ahead At 2007

Another Banner Year

2006 proved to be yet another excellent year for Canadian, American and global commercial real estate. Global direct investment in real estate in 2006 is estimated to be approximately twice that of five years ago. Demand for commercial real estate in Canada and the United States continued to exceed supply for most real estate sectors, resulting in strong competition for real estate assets and continued compression of capitalization rates in most real estate classes.

There are many reasons for this demand. They include the continued flow of private equity and institutional capital into real estate and the availability of financing on favourable terms through increasingly creative and flexible structures. Real estate has become an increasingly important asset class for institutional investors. Additionally, the growing involvement in real estate by a larger number of investors, often through funds, real estate investment trusts (REITs) and other investment structures, has greatly increased investor participation and liquidity.

As a result, there were generally high levels of activity and buoyant prices in all real estate sectors in 2006 in both Canada and the U.S. The intense competition and high prices for assets in the core real estate sectors in Canada and the U.S. (retail, office, industrial and multiunit residential) also resulted in an increased focus on real estate investment alternatives such as hotels, senior care housing and leisure markets, and more appetite for international real estate investments and investments in secondary and tertiary locations in North America.

M&A Activity Increases

The combination of increased liquidity in the real estate market in 2006 and limited supply resulted in record M&A activity in the real estate sector. Private equity capital, REITs and other real estate investors pursued upper-level portfolio acquisitions as a means of significantly increasing real estate exposure and purchasing assets they perceived as undervalued by the public markets. An example of this was the acquisition by Brookfield Properties Corporation and The Blackstone Group of Trizec Properties and Trizec Canada, for US$8.9 billion.

Other real estate M&A deals announced and/or closed in 2006 included:

  • the Blackstone Group's proposed US$36 billion leveraged buyout of Equity Office Properties Trust, a U.S. REIT founded by Sam Zell which owns more than 580 U.S. office properties -- as of the writing of this article, Vornado Realty Trust, Starwood Capital and Walton Street Capital have announced a competing bid for the trust's shares, valued at US$37.6 billion;
  • the acquisition by Kimco, a U.S. REIT focused on shopping centres located principally in the U.S. and Canada, of Pan Pacific Hotels for US$4 billion in cash and stock;
  • the acquisition of Summit REIT, Canada's largest industrial property owner/manager, by the Netherlands-based ING Real Estate for Cdn$3.3 billion; Summit REIT has now been privatized and operates as ING Real Estate Canada Trust with an announced intention of doubling its 33 million square foot portfolio within the next few years
  • the purchase by Australia's Centro Properties Group of Heritage Property Investment Trust, a U.S. REIT engaged in the ownership, management, leasing and redevelopment of community shopping centres, for US$1.8 billion;
  • SL Green's acquisition of Reckson Associates Realty Group, a large New York-based real estate operating company, for US$3.8 billion;
  • the US$415 million acquisition by a joint venture comprised of the Caisse de dépôt et placement du Québec, Westmont Hospitality Group and Citigroup Global Markets Realty Corp. of Boykin Lodging Corp., a large public U.S.-based hotel owner;
  • the Cdn$2.8 billion recommended offer by the Public Sector Pension Plan Board to acquire Retirement Residences Real Estate Investment Trust, a Canadian REIT;
  • the Cdn$440 million sale of TGS North American REIT, an open-end real estate investment trust invested in a diversified portfolio of commercial properties located in certain of the faster growing markets of western North America, to Great-West Life Assurance Company; and
  • Cominar Real Estate Investment Trust's friendly bid for Montréal's Alexis Nihon Real Estate Investment Trust (a merger that would create a REIT with assets of almost Cdn$2 billion) -- as of the writing of this article, Summit REIT (now owned by ING) has since taken up 2.8 million units of Alexis Nihon in the market.

Sale of Landmark Properties

The same factors also resulted in the sale of several landmark properties (in some cases for record prices), including the purchase by Kushner Properties, a New Jersey family property firm, of 41-storey 666 Fifth Avenue in New York City from Tishman Speyer Properties and its partners at the record sale price of US$1.8 billion (or approximately US$1,200 per sq.ft.) for an individual building in the United States. Other notable asset transactions in 2006 included:

  • the US$998 million dollar acquisition by Ivanhoe Cambridge of the interests of The Mills Corporation in three shopping centres located in Canada, Spain and Scotland;
  • the Cdn$1.5 billion purchase by the Ontario Municipal Employees Retirement System (OMERS), through its real estate investment arm Oxford Properties, of seven Canadian hotels from Fairmont Hotels and Resorts, including the landmark Fairmont Banff Springs and the Fairmont Château Whistler;
  • the US$5.4 billion sale to Tishman Speyer by MetLife Inc. of Peter Cooper Village and Stuyvesant Town, a complex of 11,000 rental apartments in Manhattan, the largest single real estate transaction in U.S. history;
  • the US$1.05 billion sale to Hong Kong-based Hudson Waterfront Associates by a consortium including IPC US REIT, a Canadian REIT, of the 1.8 million sq.ft. Bank of America Center in San Francisco; and
  • the US$889 million sale to Fortis Property Group by a joint venture between Pennsylvania-based American Financial Realty Trust and IPC US REIT of the 1 million sq.ft. State Street Financial Center in Boston.

Club Deals and Joint Ventures

Real estate acquisition transactions and development projects frequently are executed by way of joint ventures between two or more entities. In some cases, international investors team up with local partners, and in others operator/managers combine with more passive investors. In 2006, however, due to the increased competition for assets and the size and complexity of the transactions being undertaken, joint venture arrangements also became common among private equity funds, pension funds and other investors.

While club deals are the only way some of the larger transactions can be effected by most investors, such arrangements substantially increase the legal, tax and business complexity of a transaction. Not only do traditional issues such as due diligence, price, tax structure, scope of representations and warranties and length of survival periods need to be negotiated between the seller and buyer, but also among the members of the purchasing syndicate, whose members often have different requirements, standards and internal approval mechanisms. In addition, participants in joint ventures need to negotiate their joint venture agreements and agree upon their approach to financing the transaction and other joint venture issues relating to the purchase and ownership of the asset. It is critical to ensure that there is compatibility in investment objectives between the members of the club. As the number of club members increases, issues such as the promote structure, the mechanism for making major decisions, the tax treatment of distributions, the payment of management fees (if any) and the nature and timing of exit strategies become increasingly complex and difficult to negotiate, especially if the joint venturers' interests are not aligned.

Of interest, the increase in the number of club deals has also led investment banks and real estate brokerage firms to market fewer transactions by way of public auction. In many instances, trophy assets or large portfolios are now being marketed through a private auction arranged by an investment bank or broker among two or three bidding groups. In some cases, the winning bidder is actually an expanded group that includes members from one or more losing bidders.

International Opportunities

In 2006, many of our institutional clients and other institutional investors devoted increasing attention to the global real estate market. It has been estimated that Canadian investors have spent at least Cdn$10 billion on foreign real estate in 2006, compared to Cdn$7.5 billion in 2005. For example, Canadian pension plans such as the Canada Pension Plan Investment Board (CPPIB), the Caisse de dépôt et placement du Québec (CDP), The Public Sector Pension Investment Board (PSP), OMERS and the Ontario Teachers Pension Plan Board (Teachers) all announced their intention to invest significant amounts in international markets, or to expand their investments in such markets. These investments were made both directly and (especially by the smaller pension funds) through investments in real estate funds operated by third party asset managers. 2006 saw an enormous amount of institutional money deployed by Canadian and U.S. investors in private funds that focused on international markets, including countries that were previously not considered by North American institutional investors, such as China, Russia and India. It is widely believed that much of the growth in the real estate industry over the next decade will take place in the emerging markets.

By way of example of the appetite for international investments, CDP, through its subsidiaries and divisions, Ivanhoe Cambridge, SITQ and Cadim, has been active in the United States, Brazil, Asia and Europe, often in joint ventures with other prominent real estate entities. CDP committed several hundred million dollars to U.S. real estate opportunities in 2006, principally in the hotel sector and in the U.S. east coast office market. CDP has also been active in real estate lending in the U.S. through its majority-owned subsidiary, CWCapital. Ivanhoe Cambridge completed significant transactions in Germany, Scotland, Spain and Brazil and made an initial foray into China.

In 2006, Teachers, through its real estate subsidiary Cadillac Fairview, entered the Brazilian market by making a significant investment in Brazil's largest owner/manager of retail real estate. Cadillac Fairview has stated that this entry into the Brazilian market is part of the company's strategy to diversify its portfolio through international expansion.

Some Canadian REITs were also active outside Canada in 2006. For example, IPC US REIT, the only Canadian REIT to invest exclusively in U.S. commercial real estate, continued to acquire office buildings, with acquisitions in Columbus, Las Vegas, Houston and Memphis, among other locations.


Not surprisingly, the real estate activity levels in 2006 resulted in a significant increase in the aggregate amount of commercial real estate loan originations and securitizations being completed. According to Commercial Mortgage Alert, a U.S. publication focusing on real estate financing and securitization, loan securitizations grew 20% in the first nine months of 2006 over the comparable period in 2005.

The increased size of purchase transactions meant that as the equity participations became more segregated between various joint venture participants, so too did the debt participations. In addition to traditional first mortgage financings, mezzanine financings continued to flourish and the collateralized debt obligation market grew significantly in size, providing a more efficient financing vehicle for financing the subordinate pieces of the debt capital structure.


In Canada, REITs are still a relatively new investment vehicle and in 2006 they continued to grow and increase in importance as retail investors searching for yield continued to purchase new unit offerings by REITs. Due to the increasing difficulty of executing accretive acquisitions, some REITs increasingly turned to development activity and re-investing in their existing properties. A notable example of the importance of REITs to the Canadian market is Calloway REIT, which announced a number of significant acquisitions and financings in 2006, including an announced acquisition of 16 major properties for aggregate consideration of approximately Cdn$1 billion. Upon the completion of this transaction, Calloway will have an operating portfolio of 122 properties and a net ownership interest of 18.3 million sq.ft. of leased area, together with significant future development potential.

Construction Activity

The liquidity in the real estate market and the availability of financing on favourable terms also resulted in significant new construction in local markets in Canada and the United States where leasing conditions were buoyant. For example, strong leasing markets in Toronto and Calgary resulted in significant new development projects for both cities in 2006. In Toronto three new downtown office towers were announced (together with substantial construction in the suburban office market, though not at the same pace as in recent years), including the Bay-Adelaide Centre, a major development in Toronto's financial core, with the first phase consisting of a 1.1 million sq.ft., 50 storey office tower. In Calgary, approximately 9.5 million sq.ft. of new office space is under construction or planned, including the proposed 1.7 million sq.ft. EnCana headquarters, The Bow.

2007 Outlook

Most analysts predict that the commercial real estate markets in North America will revert to more historic levels of return in 2007 and there will be a lower level of real estate M&A activity. M&A will continue, however, to appeal to large private equity funds and institutions as a relatively easy and rapid way to build core real estate portfolios. Already in 2007 significant M&A activity has been experienced. The Mills Corporation has agreed to be acquired by Toronto-based Brookfield Asset Management for US$1.35 billion while Ventas Inc. has agreed to acquire Toronto-based Sunrise Senior Living REIT and its portfolio of 74 assisted living communities in the U.S. and Canada for approximately US$1.8 billion, including the assumption of debt. In addition, it is expected that in 2007 we will see a large number of smaller asset and portfolio transactions as the buyers who acquired large portfolios through prior M&A or portfolio deals integrate their newly acquired portfolios with existing holdings and dispose of non-core properties.

It is likely that Canadian pension plans, eager to meet higher target weightings for real estate investments, will continue to invest internationally both for diversification purposes and to obtain a better return. It is likely that in Canada in 2007 investors will continue to confront the challenge of funding real estate assets at satisfactory pricing. It is also probable that many institutional investors, especially the pension funds with limited inhouse resources, will continue to invest in funds administered by third party real estate asset managers.

The complexity of real estate transactions will certainly continue to increase and we will see continued interest in international investments, as institutions and other large investors seek to diversify their real estate portfolio and obtain more favourable returns than are attainable in domestic markets. The major real estate transactions likely will be done increasingly by joint ventures between groups of investors and will be financed by increasingly complicated equity and debt capital structures.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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