Blackstone Boosts Debt for CarrAmerica

Anyone wondering why REITs keep getting taken out at large premiums should take a closer look at the Blackstone Group's $5.6 billion acquisition of CarrAmerica (CRE) this week.

To help fund the buy in the long term, Blackstone is obtaining a whopping $4.25 billion of debt financing for the transaction from German American Capital (a Deutsche Bank Securities affiliate), Bank of America, and Citibank Global Markets, according to the merger agreement filed with the Securities and Exchange Commission Wednesday.

It's not clear if this will be a commercial mortgage-backed securities, or CMBS, deal, but if it is, it would represent one of the largest such transactions of late, says Adam Fox, a Fitch Ratings analyst. The biggest recent CMBS deal, he says, was a $4.2 billion issuance by J.P. Morgan for a diverse loan pool of commercial mortgages.

Being able to lever up is one of the fundamental differences between REITs and private real estate operators, and it helps explain why REITs continue to be taken private at hefty premiums.

The standard bond covenants for REITs provide that their total debt represent no more than 60% of assets. There are also strict coverage ratios -- such as earnings before interest, taxes, depreciation and amortization being at least 1.5 times interest, says Jan Svec, who heads the REIT research group at Fitch. Such restrictions help explain why CarrAmerica had just $1.875 billion of long-term debt, about 60% of its total assets, as of the end of 2005.

Some larger REITs, such as Vornado(VNO), Simon Property(SPG) and ProLogis (PLD), have been able to secure looser bond covenants. Rather than use book value of the assets, where properties are carried at cost, such REITs have been able to apply market-cap rates to better reflect the current selling value of their assets in order to secure higher leverage, even though the 60% liability/asset ratio still holds.

So long as debt remains rather cheap, private equity shops will continue to sharpen their pencils for further REIT buyouts.

>To order reprints of this article, click here: Reprints