Forest City Enterprises Could be REIT by 2016

By Gail Kalinoski, Contributing Editor

David LaRue, Forest City Enterprises

A change in focus from developing real estate projects to also owning and operating them is a main reason why Cleveland-based Forest City Enterprises, Inc. plans to begin operating as a REIT next year.

Calling it a “major milestone for the future of Forest City,” Chairman of the Board Charles Ratner said the board of directors reached the decision after extensive due diligence and thorough analysis of alternatives.

“We believe the REIT structure supports our strategic direction as a company and enhances our ability to create long-term shareholder value,” he said in a release.

David LaRue, president & CEO, said the company has substantially transformed in recent years, going from one known primarily as a developer, “to one with a balanced focus on owning, operating and developing high-quality properties in urban markets.”

LaRue said since the company began implementing its strategic plan in 2012, it has significantly improved its balance sheet, focused the portfolio by selling non-core assets, reduced development exposure, raised cost-effective capital through financial partnerships and simplified the business.

“We will continue to leverage our core competencies in high-barrier markets, while we continue to reshape our business, improve our balance sheet, and transition to a REIT structure,” LaRue saidd. “Further, our undervalued operating portfolio is well-positioned to benefit from strong growth in key urban markets where we are focused, and we have an identifiable pipeline of additional opportunities in those markets that we believe will fuel further incremental growth.”

Jahn Brodwin, FTI Consulting

The move is not unexpected, according to Jahn Brodwin senior managing director in the Real Estate and Infrastructure Solutions practice at FTI Consulting in New York City.

“Previously, Forest City was primarily focused on development and as such would have difficulty qualifying to be a REIT. REITs work well for companies that have a primary focus on owning and operating properties,” Brodwin told Commercial Property Executive. “Forest City’s new focus is owning and operating properties primarily to generate cash flow and profitability from those operations rather than profits from the sale of properties that it developed.”

Brodwin noted that Forest City would benefit from the different tax structure for REITs.

“By becoming a REIT, Forest City is effectively eliminating the double taxation that occurs in regular corporations as long as it distributes at least 90 percent of its taxable income,” he said. “I wouldn’t say this is common, however, it appears to make a lot of sense for the company and its shareholders as there will be more tax earnings available to the shareholders. A REIT structure will also allow the company in certain situations to acquire properties on a tax deferred basis to the seller, which may give them a competitive advantage over non-REIT purchasers.”

Robert O’Brien, Forest City executive vice president & CFO, said the company would continue to execute its strategic plan, including ongoing deleveraging. He said he expects Forest City to sell a number of non-core assets this year, noting the dispositions are “expected to generate total net proceeds significantly in excess of our historical averages.”

Since 2012, Forest City has sold at least 48 assets, generating cash proceeds of about $950 million. During the same period, the company has reduced total debt by approximately $1.9 billion and annual fixed charges by nearly $300 million. In December, the company sold the Halle Building in Cleveland to affiliates of K&D Management for $20 million. The firm is also reportedly shopping its 55 percent ownership stake in the $1 billion Barclays Center arena, the crown jewel in its $4.9 billion Atlantic Yards project in downtown Brooklyn.

Forest City said this week that it expects to provide more details on its strategic plan, asset sales and development volume in mid-2015.

In connection with the analysis of the proposed REIT conversion and other strategic initiatives, Bank of America Merrill Lynch and Goldman, Sachs & Co. have been retained as financial advisors. Legal counsel will be provided by Sullivan & Cromwell L.L.P and Thompson Hine L.L.P. while PricewaterhouseCoopers L.L.P. will serve as tax advisor to Forest City.