Asset managers develop the skills a sophisticated market demands.
The term "asset manager" evokes myriad definitions. No two observers, it seems, can agree on exactly which functions fall within the scope of duties assigned to the professionals responsible for the performance of income-producing property. But experts who spoke to NREI agree on one thing: Today's market calls for a skill set and a level of sophistication far beyond that required as recently as 10 years ago.
"Today, asset managers need to have good financial skills and a strong sense of real estate so that they can apply those skills effectively. In fact, today's `best of breed' is bringing some other business experience with them," observes Mike Steele, executive vice president and COO of Chicago-based Equity Office Properties Inc.
"The profession is much different today," notes Steele, adding that asset managers used to work primarily for institutional owners.
"Now we find that skill set migrating over to the real estate companies themselves," he says. "Asset managers are in lockstep with the people in development, leasing and acquisition. It's a different world. People must have a much greater understanding of the realities in real estate behind the numbers themselves."
An asset manager in the year 2000 is also "somebody who really understands and takes care of the tenant base," says John Ferguson, senior vice president of Chicago-based Golub & Co. "He's not only responsible for the functional attributes of the property, but he also must have the character and skill set to weave the characteristics of that real estate with both the current and future needs of occupancy."
In short, the world of asset management has become incredibly sophisticated - and this is only the beginning, according to Kevin F. Haggarty, executive managing director of the Capital Advisors Group for Insignia/ESG Inc., New York. Today, asset managers must be more in tune to capital markets in order to determine whether to keep or sell a property, notes Haggarty.
"It won't be the same old story of `buy and hold' for 10 years," he says. "The market is very active, putting even more pressure on asset managers. They must now watch not just the local market, but capital markets in general, and they must be able to take advantage of interest rate and cap rate swings."
In many ways, this is no different than being a bond trader or a portfolio trader, adds Haggarty, noting that the emphasis in asset management has clearly shifted to management.
"This change is an incremental one, over and above the traditional definition of an asset manager," he explains. "Yes, you have to understand the market in which a particular property is located, and what makes it tick. You still need to be aware of factors like overbuilding and key market employers. On top of that, you have to worry about what's going on in capital markets in general - literally around the world. It's a tough job."
The pressure to perform In major cities such as New York, Chicago, San Francisco and Boston, rents in Class-A properties are at all-time highs, which makes it difficult for an asset manager to determine how to underwrite properties. "If [asset managers] underwrite them too low, they won't be competitive in the bidding, but at the same time asset managers are worried that they will inherit a set of projections they are going to have to perform on," says Haggarty. "If the asset management guy doesn't hit those rents, he's going to be asked what happened - was it his management, or was it the market?"
For Steele, the key to successful underwriting is having a well-structured team of experts. "We don't have an acquisitions team working independently. What we have is a coordinated team that includes our leasing, management and engineering functions," he says. "When we go to underwrite a property, the staff will identify the asset, and the actual underwriting will be done by people from each area so we understand the revenue stream, the operating costs and our capital exposure."
Steele admits that it helps to be the largest REIT in the country, with about 100 million sq. ft. of office space. Equity Office Properties concentrates on increasing its asset base in 10 key markets in which it already has a "critical mass" of properties, he says.
"So, you're talking about underwriting in a market where we already have 10 or 15 million sq. ft.," he says. "We maintain five-year models of our existing portfolio, so we already have projected rents on what we own over a five-year horizon. We can therefore plug in a new property and feel fairly comfortable with those numbers."
According to Ferguson, a good acquisitions department will work closely with an asset management group. "You start from macro and move to micro: Does the asset fit within the financial and operating objectives for the client as a whole?" he says.
If the property fits within the first layer of evaluation - geography, product class and capital required - then the asset manager evaluates whether it is a turnaround candidate, a repositioning candidate or a stabilized asset that generates very dependable cash flows, adds Ferguson. "All of this funnels itself into a good acquisitions approach, and then asset management comes in, construction comes in, financial comes in, and each specialized area does its evaluation," he says.
Ferguson says that with the financial expertise available in most operating companies, there is a keen understanding of the expectations that should be placed on an asset manager. "The capital asset that you will be acquiring, in concert with the market, will dictate how the manager will take that building to market," he notes. "Provided there is no undue pressure to get money out the door, they will make realistic projections about what the current and future rent streams are going to be. And if they don't have in-house asset management, they will most likely hire the best service provider to fill that void."
Such third-party options are almost limitless. They include small firms that are differentiated by product class, and global organizations such as Jones Lang LaSalle Inc., CB Richard Ellis Inc. and Cushman & Wakefield Inc.
How are these third-party firms being compensated in today's market? "Companies in the public domain, like REITs, have the asset management capacity in-house, so service revenues flow back to funds from operations (FFO). In the private market, fees on the office side are a function of gross revenues," says Ferguson. "On larger assets, fees could be as low as point-to-point compared with a base. They could range up to three, four or five points if it's a unique deal, but they normally fall within the one-to-three-point range."
Ferguson notes that rising interest rates have a bit of a damper on mergers and acquisitions of private asset management firms. However, he adds that if there is a crossover in volume, market share and client base, mergers and acquisitions become much more attractive.
Wearing many hats REITs play a unique role in the asset-management market. Jonathan Weller, president and COO of Philadelphia-based Pennsylvania Real Estate Investment Trust (PREIT), acknowledges that the owner's interest sometimes differs from those of the asset manager. PREIT owns and manages its own assets, so Weller is aware of this potential conflict.
"It's really up to the owner to provide direction and set the standards," Weller observes. "The owner makes the financial decisions: Do I spend `x' dollars for capital improvements? Your leasing team could deliver you lots of opportunities that in the asset manager's opinion might not be best. Sifting through those opportunities is a challenge for the asset manager."
Although it has in-house capabilities, there are times when PREIT will work with a third-party asset manager. "There are many ways to access capital, and one of them is through asset managers who advise pension funds," Weller notes. "For example, we may have a project that has an institutional capital partner who may be represented and advised by an asset manager. In those circumstances, we have joint responsibility to guide the direction of that particular property, hopefully in the interests of both the other parties."
A piece of the action? The burden to perform as an asset manager becomes that much heavier when a company has an interest in the property, notes Weller, who sees this as a growing trend. "You look at the opportunity funds; they typically partner with an operator and they typically have something more at stake than just the upside - it just makes good business sense," he says. "It is less and less the case where a property is being sold to an investor and the asset manager really has nothing at stake as to whether he will perform on those projections."
Weller cites the recent acquisition of a major regional mall in Philadelphia in which he partnered with an institutional investor. "We're making a side-by-side investment. We will provide services to the partnership as we expand the center," he explains. "If it works out, we reap the benefits. If not, as a co-owner of the property we suffer the consequences."
However, Ferguson is not sure this trend is as widespread as Weller asserts. "[Part ownership] is always available, but you must carry with you some very good credentials to be able to ask for and receive it," he says.
Steele emphasizes that asset managers bring unique skills to any deal, although he admits there are plusses and minuses. "On the `plus' side, you have the ability to quickly analyze the bottom-line impact on many of the decisions you're making today as part of managing or leasing an asset," he notes. "You have the ability to apply analytics rather than emotions."
In the leasing arena, he explains, dealmakers are driven toward the transaction, and then to making the deal. This becomes the emotional driver, and the dealmaker naturally becomes less analytical than an asset manager. "Asset managers can help set parameters for the staff, and show where the absolute bottom lines are," says Steele.
Asset managers also can help set limits in negotiations. And when building managers consider physical upgrades, asset managers can ensure that the final decision is based upon careful analysis instead of emotion, says Steele. While analysis is an asset manager's main strength, it can sometimes be a weakness.
"There is the danger of taking all of the emotion out of the deal," explains Steele. "Part of the joy of entrepreneurship is knowing when to take a risk and when not to - to know when it's time to go with your gut. The financials may not meet strict criteria, but you could have a strong feeling the business has the opportunity to grow in time," says Steele. Limiting the deal entirely to analysis may remove risk from the transaction process, and a certain amount of risk is an essential ingredient to success.
Although many people tend to lump them together, there is a clear difference between asset management and property management, insists one property management practitioner. In fact, he says, a key part of the property manager's role is to provide important support services for asset managers.
"This becomes clear in the services we provide for institutional ownership," says Marvin Perlin, CPM, director of property management for Southfield, Mich.-based Signature Associates. "We need to provide them not only with current market information, but with information that they can interact with," says Perlin. "The ability to be able to tap into a Web site and look at the status of a project, and maybe to even interact by putting their comments into that matrix, is extremely important to them."
Signature has invested a great deal of money to add a project tracking system to its Web site. It includes current status on leases, buildouts and acquisitions. "That's what asset managers are looking for today: the ability to communicate accurately, online and in real time. So we're addressing those needs by providing these capabilities," explains Perlin.
There is also a great deal property managers can do to enhance value, says Perlin. "Number one is tenant retention - keeping vacancy rates low or nonexistent," he says. "Two, is bringing other sources of income, or `soft money,' to the property, which improves the bottom line." These can include telephones, vending machines, communication devices such as satellite antennas and dishes and ISDN lines.
"All of those things are opportunities to share in revenue," Perlin explains. The third leg of value enhancement is hard dollars: Bundling up purchases to obtain the best price for supplies and services such as snow removal, landscaping, painting.
"All of these can lower the cost of operations," says Perlin. "So, for example, we actively negotiate with the utility companies. We buy in bulk and pass the savings back to the owner. This lowers expenses and improves the bottom line."
Some smaller property management firms are having a great deal of difficulty in this arena, because they can't offer the requisite volume for significant discounts. "That's why you've seen a huge consolidation in property management firms," concludes Perlin.