Artis’ unit price has underperformed the Canadian REIT sector year to date, since the 3/10/21 “Vision” announcement, and over the long-term.
Artis’ new management team has moved boldly to build value for investors in 2021 through asset sales and unit repurchases, however the REIT has not been successful at reducing the discount at which the units continue to trade. The lagging return is not surprising because Artis has no long-term performance record with its new private equity style strategy and there’s no apparent public market appetite for investment in such a strategy.
Artis units may strengthen over the next month once the company is able to renew its Normal Course Issuer Bid. Artis’ strategy has strong support from the REIT’s two largest equityholders, but the strategy may evolve because I suspect they would like to be able to realize the full value of their investments within five years. Patient investors may be able to earn an attractive return alongside them.
Artis’ new management announced its “Business Transformation Plan” in March 2021. Key points were:
- Sale of a portion (no target specified) of Artis Industrial properties
- Reducing leverage (no target specified)
- Value investing in real estate “including core cash-flowing hard assets, undervalued publicly traded real estate securities and value-add real estate acquisitions or developments” (no detail provided)
- Expected 2-3 year timeline for implementation (1.25-2.25 years remaining)
“The Board engaged Sandpiper Group (“Sandpiper”) to lead the review at no cost to Artis” and the recommendation of this “no cost” review was that Artis should hire Sandpiper for ongoing advisory services…
Sandpiper carried the burden of Artis activism for 3 years and brought it to a point where sale or liquidation would have realized C$13-14/unit. Instead, Sandpiper seems to have become enchanted by the possibility of using the power of the REIT to pursue its private equity strategies.
It’s possible that Artis will be very successful in growing its Net Asset Value, however I believe there is a high risk that public investors will remain cautious and that units will continue trading at a large discount to NAV:
- Artis lack of detail in describing its strategy maximized the flexibility available to management, however that minimized the clarity for investors.
- Artis does not seem to have a track record in any aspect of execution of the new strategy. Sandpiper has a private track record with the equity investment strategy for which it will be advising Artis, however Sandpiper has not been willing to share any details with Artis investors.
- REIT investors prize clarity, predictability, and specialization. Artis own investor presentation states “It is widely known that diversified REITs are out of favour“, yet Artis’ transformation could make it more diversified. With no tangible details it’s impossible for investors to form any opinion about the potential returns from the new strategy and the associated risks.
- Real estate companies with complex portfolios featuring development and value-add properties, joint ventures, and asset management all trade at substantial discounts to NAVs that can be hard to estimate. Brookfield Asset Management probably trades at the best valuation, however it has a very long and successful track record under its current management team, a straightforward Sum-Of-The-Parts valuation accepted by analysts and investors, and a strong investor relations program. But even the same management team was not able to attract investors to Brookfield Property REIT which traded at a discount for years until it was privatized.
In the conference call following release of the Transformation Plan, Artis CEO Samir Manji expressed hope that the unit price discount to NAV would be gone in 6-12 months.
After 9 months the unit price has dropped to a discount of around 36% below NAV. The REIT has aggressively executed its NCIB, but the persistence of the discount seems to demonstrate lack of investor interest or confidence in the new strategy.
Significant 2021 developments
GTA Industrial Property Sale – On June 21 Artis announced the sale of 28 Toronto area industrial properties for proceeds of C$750mm (later adjusted to 26 properties for $697mm, 1 property for $27mm, and 1 placed back on the market). The sales were at a price of C$297/sf and a cap rate of about 3.3%. Artis did not disclose the buyer, but it has been reported as Pure Industrial, a unit of Blackstone. Artis prior management team acquired most of these properties in two 2012 transactions (17 properties closed on 7/12/12 and 5 properties closed on 11/22/12) at an average price of C$87/sf and cap rates of 6.7%.
This sale was consistent with the “Vision” described by Artis in March. The REIT sold Industrial assets in order to reduce debt, fund unit repurchase, and free up capital for new investments. It makes sense to sell assets at 30X FFO when you can repurchase units at 9X FFO. The downside of the sale is that it disposed of the REIT’s most appealing asset, a strong sector in a strong region, leaving the remaining portfolio more heavily weighted towards Office, Retail, and secondary markets.
Unit Repurchase – Artis spent C$113mm on repurchase of 9.8mm common units in 9M21 (average price of C$11.60). I estimate a year-to-date accretion benefit of C$0.41/unit.
Cominar Bid – Artis has committed $214mm to the $11.75 buyout bid for Cominar REIT in a consortium with Sandpiper, FrontFour Capital, Koch Real Estate, and Candarel. Cominar has a portfolio of Office, Retail and Industrial properties in Montreal, Quebec City, and Ottawa. The bidder consortium has an agreement to sell the Industrial assets to Blackstone at an undisclosed price and to sell certain Office and Retail properties to Group Mach for $1.5Bn. Cominar’s strategic review process began over one year ago and the REIT says this transaction was the best available, however two of its institutional investors (Letko and G2S2) have indicated their opposition due to the gap between the $11.75/unit offer and Cominar’s latest NAV of $14.72/unit. If the price is low then Artis might be getting a bargain however it has not explained how the transaction fits within its new Vision. On its 3Q21 conference call, Artis said that it could not make any comments until the Cominar transaction was completed. Given the lack of detail shared by Artis regarding plans for its own assets, it is unlikely to provide much tangible guidance about the Cominar properties.
Cominar’s Management Information Circular cited its diversified portfolio as a major impediment to realizing the full value of its portfolio and Artis units seem to suffer from the same valuation problem.
Artis CEO Samir Manji has the support of the REIT’s two largest unitholders, however neither can be considered permanent capital. The Business Transformation probably needs to deliver tangible returns within 1-2 years.
- Sandpiper Asset Management controls 16.5mm units through five different funds. Each fund was required to file a “Report of Exempt Distribution” when it raised capital (example). The Sandpiper funds holding Artis units raised a combined total of C$420mm and the current value of their Artis units is C$185mm, an extremely large commitment. Sandpiper appears to have staked its success as a firm on its ability to realize an attractive return from Artis. It’s very likely that these funds need to be able to realize the full value of their investment in Artis beginning around 2025. The ability of Sandpiper to raise equity for new funds is likely to depend on the track record of existing funds which will be driven by their high exposure to Artis. Samir Manji might be infinitely patient with his personal holdings of Artis through Salamat Investment, however I believe that his Sandpiper interest would benefit from a higher unit price as soon as possible.
- The Joyce Family (heirs of Tim Hortons co-founder Ron Joyce) controls 18.0mm units, most of which were acquired several years ago above the current price. Artis Chairman Ben Rodney was selected at the request of the family. Their expectations for Artis are unclear, however it has been a poor investment so far and presumably they want to earn an improved return. Their continued support for the Business Transformation Plan likely depends on demonstration of meaningful progress.
For now it appears that Artis is under firm insider control, but it’s different from Morguard where Chairman Rai Saji directly controls 60% of the shares, pays minimal dividends, and seems indifferent to investor relations and the company’s share price. Artis CEO Samir Manji personally owns only 1.6% of Artis. Sandpiper investors and the Joyce family would probably like to see results.
Why Would Anybody Invest In Artis?
There’s nothing fundamentally wrong with the value-investing “Plan” described by Artis, but it’s hard to imagine the REIT attracting significant investor interest without providing considerably more tangible detail about its strategy.
Examples of tangible details that might improve investor understanding:
- What portion of the Industrial portfolio could be sold?
- How will Artis maximize the value of its existing Office and Retail assets? “Improving performance” is an aspiration rather than a strategy.
- What are numerical guidelines for the company’s capital structure?
- What mispricings does the company see in real estate assets and securities?
- How will Artis improve the growth of its owned assets?
- How will Artis manage assets for third parties? What expertise (if any) is within the Artis organization?
- Does Artis have any core assets or expertise?
- Does Artis have any track record in execution of the strategies it will use to improve, optimize, and maximize the value of real estate assets. What record does Sandpiper have in the strategies for which it will be compensated by Artis?
- How are actions to-date consistent with this plan? Will Artis continue selling Industrial assets? Why is Artis selling Office and Retail as-is in Western Canada and buying Office and Retail in Quebec?
- Why are new assets such as Cominar more appealing than a Substantial Issuer Bid for Artis own units?
I hope that Artis is successful, but I believe that investor interest will be limited until it builds a multi-year track record of value creation or at least provides a much more tangible description of how it expects to build that record.
If the REIT were able to compound NAV at 10% per year (a portion distributed and a portion retained), and the unit price discount disappears over 5 years (ending 12/31/26) then unitholders would earn an IRR of 19.6% from the 12/09/21 price. Actual NAV return could be higher or lower than 10% and the future discount could be larger than 0% if investor interest remains low.
On 10/1/2021 Artis completed the 10.16mm unit repurchase authorization under the current Normal Course Issuer Bid. The buyback accounted for about 10% of TSX turnover and without that demand the unit price may be relatively weak until a new NCIB can be approved around 12/15/21. Artis could announce a Substantial Issuer Bid at any time.
I doubt that investors will pay more than 80% of NAV for Artis as a value investment with a diversified portfolio. Support from unit buybacks and pressure from its large unitholders to deliver results makes it an interesting investment at a discount over 30%. If the discount persists then the Strategic Plan is likely to evolve in order to deliver a satisfactory return to Sandpiper and Joyce.
Disclosures and Notes:
At the time of publication the author owned common units of Artis REIT. This position should not be interpreted as a recommendation of any type of investment in Artis. The author’s investment could change at any time. Aside from corrections to any errors discovered in this article, the author may not release new public commentary about Artis. His interest in doing so depends on future developments which cannot currently be predicted.
The Artis corporate milestones in the returns table are:
- Joyce Family Ownership
- Sandpiper Support Agreement
- Settlement Agreement with Sandpiper
- New Vision Announcement
A copy of this article was sent to Artis REIT at the time of publication. If Artis, or anybody else, finds any factual errors based on information public as of 12/10/21 then corrections will be made as soon as possible.