Mary Ricks, head of Kennedy Wilson’s European business, tells David Hatcher why the group chose the unexpected move of an initial public offering to foster growth on the Continent, and how it aims to hit ambitious return targets
When Kennedy Wilson launched its initial public offering last February, the news took the market by storm. It was an unprecedented post-downturn move – a listed cashbox structure using the capital markets to take advantage of distressed European real estate.
Despite having had a European presence for less than three years, such was the market’s enthusiasm, and the reputation the Beverly Hills-based firm had built up, that it smashed its £700m target and raised £1bn for Kennedy Wilson Europe Real Estate.
One year on, the company has built up a portfolio of £1.9bn of assets, raised a further £350m of equity and is scouring new parts of Europe to expand its asset base.
Kennedy Wilson is the PLC’s external investment manager and now has 40 staff in Europe, the bulk of which are split evenly between London and Dublin, with smaller offices in Madrid and Jersey. When it established its presence in Europe in 2011 it had only 14 employees.
In the company’s first interview since the flotation, Mary Ricks, president and chief executive of Kennedy Wilson Europe, explains to Real Estate Capital the origins of the IPO, the company’s strategy so far and discusses whether the listed vehicle can hit its 15% target return in the long term, as the market gets ever more competitive.
“The cheques we had been writing here were quite sizeable, especially for a dollar company,” she says. “We were raising equity and using our balance sheet in the US and that caused us to look at how we permanently capitalised in Europe. The deals were plentiful and large, and we knew we wanted to be here for the long term.
“We wanted to be able to raise sizeable capital and didn’t want to be out of the market for too long. With funds, a lot of the time you are on the road for a year or 18 months and you miss the opportunity. We thought the opportunity was there at that moment and wanted to capitalise on it. A lot of it also had to do with our US shareholders, who wanted to play with us for the long-term here in Europe.”
Previous backers such as Fairfax Financial and Värde Partners invested in the IPO, while Kennedy Wilson and its directors put in 15%. For the second, £350m raising in October, its cornerstone investors came back, joined by a handful of new ones.
Most investors looking to pursue an opportunistic strategy similar to Kennedy Wilson’s follow a fund strategy to take advantage of a specific moment in a particular market.
But Ricks takes the view that such return targets are sustainable in the long-term and that having a listed company creates the advantage of always being able to access capital. This is in line with the company’s DNA, Kennedy Wilson being listed on the New York Stock Exchange. It has also run a quoted vehicle in Japan.
“A lot of our competitors are private equity firms and have a fund model that works for them,” says Ricks. “If we were to replicate exactly what we did with the IPO today, it would be hard. The capital markets were wide open, we were very lucky with the timing and had great support. The market has moved since then. We were early in the cycle and a lot of shareholders wanted to gain exposure to the European recovery.”
The company was seeded with two UK mixed-use portfolios: the £70m Tiger package, previously part of the Glanmore Property Fund; and the £153m Artemis portfolio, bought from Scottish Widows Investment Partnership. Together they comprised 40 assets across 2.6m sq ft.
The portfolio has since been expanded almost exclusively in the UK, which accounts for 72% of the assets, and Ireland, which represents 28%. By sector, the assets are 40% offices, 27% retail and 8% industrial. The rest is a mixture of other assets such as leisure and residential property and the company has made a small Spanish residential investment.
Kennedy Wilson is a big investor in residential in other parts of the world (see panel, p20) but Ricks says it is difficult to make investments in the sector in the UK due to “skinny returns and a lack of scale”.
The whole portfolio has a £130.1m rental income, generating a 6.5% net initial yield.
Its acquisitions have included the £296m Fordgate Jupiter UK portfolio, formerly controlled by the Gertner brothers, which has a heavy Scottish weighting; the €391.4m, Irish Opera portfolio, previously owned by Treasury Holdings; and 111 Buckingham Palace Road in London’s Victoria, bought for £207.5m from an entity managed by Green Property and previously owned by convicted fraudster Achilleas Kallakis (see table).
It has sold around £40m of assets so far, largely acquired as part of larger portfolios and always seen as non-core.
Looking beyond the UK
In its prospectus the company said it would focus its investing in the UK and Ireland but also in Spain. The company has since started looking for opportunities in Italy, France and the Netherlands.
As the steady UK secondary market recovery has made achieving strong returns in the country more difficult, some private equity players have switched their focus to the continent. But Ricks maintains that she is not surprised by how the company’s portfolio has developed and that the UK is still a happy hunting ground for the type of product the company requires.
“The UK is a big market with a lot of opportunities,” she says. “If you look at what we’re buying in the UK and who from, there are still areas of distress. The sellers have changed through the cycle from big banks, to smaller banks and insurance companies, and now building societies. You can see where we are in the cycle through looking at who the sellers are.
“We have had to become increasingly selective about what we are bidding on in Ireland in the past six months. Open market bidding processes can lead to frothy pricing.”
John Moran, managing director, Ireland at JLL recalls: “They were very early into the market, really went for it and made some big calls. It was a macro play and they underwrote the Irish economy. They bought loans; others, like Lone Star and Apollo, were doing that early too, but they were the ones that moved quickly into direct property.
“If we were going to sell anything now we would still expect to be talking to them, even if they are not buying at quite the same rate here. What differentiates them from the rest is that they are able to invest through their own portfolio with refurbishments or developments that they bought earlier on.”
The company’s UK and Irish focus has not stopped it from endeavouring to expand its portfolio further afield.
Focusing on Italy
Ricks says: “I’m a bit disappointed, in that we’ve underwritten quite a few deals in Europe that I wish we’d succeeded in. We’ve underwritten a lot in Italy, mainly in major markets and northern cities. We are focusing on institutional-quality and commercial assets where you don’t have to go quite as far up the risk curve, as it is earlier in the cycle. There are lots of funds coming to the end of their life that have to sell.”
Spain is the European market that has perhaps improved the most dramatically in the past year and while this has partly deterred Kennedy Wilson from making any major investments so far, Ricks says the company will be able to do significant deals there before too long.
“I’m excited about Spain, now that the banks are in a healthier position,” she says. “Previously in Spain, you couldn’t do business with the Spanish banks as they couldn’t afford the provisions and therefore couldn’t sell.
“As a result it has been all about what Sareb is selling and it is highly systematic, just selling to the highest bidder, period; there is no real angle. Now with the Spanish banks doing better I hope there will be more sales and more volume for us to be a part of.”
While the company is yet to make a substantial asset purchase in Spain, it has been laying the foundations for a move for some time. It established a Madrid office in October 2012 and set up an auctions arm to sell distressed residential assets.
A year later, alongside Värde Partners, Kennedy Wilson bought the asset management business of CatalunyaCaixa, which at the time of the deal managed €8.7bn of assets. It followed this last November with the purchase of Aliseda, the loan-servicing arm of Banco Popular, which manages €9.35bn of loans.
Kennedy Wilson’s European listed company also formed a joint venture last December with residential developer Renta to pursue opportunities in the sector, in Madrid and Barcelona. Kennedy Wilson has a 90% stake and Renta 10%. Kennedy Wilson has right of refusal on any opportunities Renta uncovers, while having no obligation to work alongside Renta on opportunities it finds itself.
The joint venture made its first purchase at the time of its formation: 4,000m2 Madrid office building 5 Santisima Trinidad Street, which be converted into luxury flats.
“They serve as another business development arm for us,” Ricks explains. “We could do no more deals or we could do several. It could be a good pipeline and it is just another way to look at deals.”
Although Kennedy Wilson has been buying distressed loans underpinning particular assets, it has rarely competed to buy large, non-performing loan pools, a market increasingly dominated by Cerberus, Lone Star and Oaktree. It only tends to compete if it has a particular angle that allows it to bid higher and enhances its chances of winning.
Of the company’s existing portfolio, 89% is made up of direct real estate while the other 11% is loans.
“There are some opportunities coming out of those portfolios and possible recapitalisations, and we do talk with different borrowers and have found creative ways to work together.”
The company has steadily added leverage to the assets it has bought; it has a target gearing level of 50% and a maximum of 65%. It has agreed deals with financiers including GE Capital, Royal Bank of Scotland, Bank of Ireland, JP Morgan, Bank of America Merrill Lynch, Aviva Commercial Finance and Deutsche Bank.
The around £550m of debt implies a loan-to-value level across the portfolio in the region of 30%.
Competition in the debt market has allowed the business to generate a steady income return and Ricks has been pleasantly surprised by the deals on offer.
Irish margins “move in wildly”
“The debt market has changed radically,” she says. “When the PLC bought the Opera portfolio in Ireland [in May last year] it came with existing debt with a margin of 385bps. We have refinanced it [with Bank of Ireland late last year] in the low 200s. The debt market in Ireland has moved in wildly.”
This has helped the company towards its 15% target return. The company’s external management takes a 1% management fee, paid quarterly, half in shares and half in cash, to align the investment manager even more closely with shareholders. The management company is also entitled to a performance fee, which is the lesser of either 20% of shareholder return over 10%, or of the outperformance over average European real estate shares.
As Real Estate Capital went to press, prior to the company’s 26 February first annual results announcement and an updated valuation of its portfolio, the share price was around 1,070p – 7% higher than when the company listed.
While this performance is by no means disastrous, it is not stellar, either, given that total UK property returns were almost 18%, according to the IPD index. This is perhaps explained by the complexity of the portfolios that the company has bought, there having been a distinct trend in recent times for listed real estate firms to simplify their asset base.
“We think that there is a good outlook for the stock to perform well over time,” Ricks says. “The market moves in cycles, but there is always some dislocation and there is always someone that needs to sell, and always value that needs to be added. We see those leveraged target returns as sustainable.”
The launch of Kennedy Wilson’s European listed property company was a symbolic moment in the recovery of the sector. The broader recovery of markets it aims to invest in means that asset selection could become more difficult over time; yet it may still become one of the choice stocks for investors aiming for higher-yielding returns.
Irish beachhead and DB deals paved way for Euro listing
Prior to the February 2014 launch of Kennedy Wilson Europe Real Estate PLC, which is now the company’s sole European investment vehicle, Kennedy Wilson made several major European real estate investments from 2011.
Its first purchase was Bank of Ireland’s €1.6bn real estate investment management arm, in October 2011, establishing its Irish beachhead, led by Peter Collins. The purchase of $1.8bn of non-performing loans from the bank swiftly followed at the end of that year.
Other major purchases included Project Forth, £780m of non-performing loans bought from Lloyds Banking Group in December 2012, and the distressed Britannica fund, managed by CBRE Global Investors, picked up for £250m and comprising seven regional UK shopping centres, in June 2013.
The company entered the European market with Deutsche Bank and then also partnered with Fairfax and JP Morgan.
“The Deutsche Bank relationship came through our debt-buying platform in the states, back when the US banking market was on its head and we had completed some joint ventures with them,” recalls president and chief executive of Kennedy Wilson Europe Mary Ricks, who had a close relationship with her counterpart Ben Bianchi, former global head of Deutsche Bank’s special situations group and now a managing director at Oaktree.
“We bought loan portfolios from some Californian banks and did those pretty well together,” she says. “Kennedy Wilson was really the managing partner there. They had also been one of our lenders and understood us as operators and the vision we had.”
Kennedy Wilson now solely buys in Europe for its listed vehicle and would only make an exception if there was marriage value with a particular asset elsewhere in its portfolio. “We’ve sold most of what we’re going to sell [from prior to the IPO],” Ricks says. “Those assets are very core, provide strong cashflow and we have put long-term debt on them.”
From Beverley Hills broker to global player
Kennedy Wilson, headquartered in Beverley Hills, California, has 20 US offices. It was established in 1977 as an auctions company and was bought by chairman and chief executive William “Bill” McMorrow in 1988.
In its early years it was largely a residential broker. It acquired management company Heitman Properties in 1998 and began a US multi-family, valued-added housing investment programme at the start of the millennium.
The company opened a Tokyo office in 1994 and undertook an initial public offering of Kennedy Wilson Japan in 2002, expanding its multi-family housing operation in the country, where it now has $550m of assets in the sector.
The US parent company, which went public in 2009, buys value-added and opportunistic real estate on the West Coast and Hawaii, where it is also a bridge, mezzanine and senior lender. It runs six funds through its fund management arm, totalling $1.6bn globally.