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U.S. Restaurant's Interesting Timing, and a Bleak Time for REITs

They say, "You can't have your cake and eat it too."

Don't tell

U.S. Restaurant Properties

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, as it thinks it has devised a plan to do just that. On Aug. 5, the company announced a plan to buy back up to 500,000 of its common shares in the open market. The stock, around 24 at the time of the buyback announcement, ran to just above 27. Bob Stetson, president and CEO of U.S. Restaurant Properties, said the company had repurchased between 20,000 and 25,000 shares since the announcement. (Average weekly volume over the past 52 weeks has been 17,520.)

Enter the cake eaters. On Aug. 26, the company completed a direct placement of 363,000 shares to institutional investors at 25 1/4, a discount of about 3% from the Aug. 26 close of 26.

Why would a company that should be able to forecast a need for equity capital out at least three weeks announce a buyback when it intends to make a stock placement within a month of the buyback announcement? "That's a very logical question," said Barry Stouffer, a REIT analyst at

JC Bradford

. "I wasn't aware the company had done a private placement."

Neither did several other analysts who follow the stock closely, including

Morgan Keegan

analyst David Tannenhill. "I was caught a bit off guard by this deal," he said. Morgan Keegan has maintained a banking relationship with the company.

The stock buyback plan was an attempt to control the free fall in the company's stock price. Many times, a company announces a buyback, whether it plans to follow though or not, to show confidence. But the timing of the company's buyback announcement and private placement raises some questions. At least one analyst thinks the company doesn't even need to raise capital. "It's odd they would do a private placement," said Bradford's Stouffer. "They have a fair amount of excess capital. It just doesn't make much sense."

As for the company, CEO Stetson defends the move. "Our stock dropped well below its true value," he said. "

The buyback put up a little backstop. It is not a strategic or technical plan. It's simply intended to reduce volatility." Regarding the capital issue, Stetson said it will be used to fund U.S. Restaurant's acquisition pipeline. "We have a pipeline that would choke a horse," he said of their growth plans.

The fact that the company may have realized a slight profit from the buyback/placement maneuver itself is unsettling. "We are being a bit Machiavellian," quipped Stetson when asked if the plan was an attempt to control the company's stock price. "To the extent the

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allows it, yes, we are."

While perfectly legal, the stunt occurs at the very time that REITs need to establish themselves as not only good real estate companies but good stewards of the capital markets as well. In that regard, U.S. Restaurant Properties has fallen well short of the mark.

Next week, more on the general debate surrounding REIT stock buybacks.

Picking Up the Pieces -- Block by Block

If you thought the general market picture was bleak after Monday, take a look at REITs. While broader indices are just back to where they began the year, REITs are down over 20% from January levels.


SNL Securities REIT total return index

lost 4.9% on Monday. For the year, the index is now down 20.3%, compared with a year-to-date decline of just 0.4% in the

S&P 500

. The reasons for the decline remain pervasive: concern regarding overbuilding, an oversupply of new and secondary equity offerings, and the uncertainties surrounding the tax status of paired-share REITs. Nonetheless, at the same time REIT stock prices have suffered double-digit losses, REIT earnings continue to post double-digit gains.

"We've gone from concern to fear," said one REIT fund manager, suggesting investors are selling for the sake of selling, without regard for specific company fundamentals.

Comparing the current mindset to that of the real estate crisis of the 1980s is becoming commonplace. "When you hear someone say 'real estate developers,' all that investors picture are those empty Texas office buildings and they get the willies," quipped Matt Lentz of

Robinson Humphrey

in Atlanta. "It's becoming a little excessive."

Indeed, many feel there's been too much selling. With REIT yields approaching the 8% to 10% range, a flight to income protection may become evident. "At least now I get almost a 10% yield

in REITs," said Burland East, director of REIT research for

Everen Securities

. "That's something in this market."

East suggests the underperformance of the REIT sector can also be explained by a change in the thinking of real estate investors. "REITs are no longer real estate stocks, they are small-cap value stocks," he said. "Recently, they have acted in complete sync with the


. No relief for the Russell means no relief for REITs."

While the correlation to small-caps is interesting, the income stream from REITs should differentiate them from the average Russell 2000 participant. "Overall the selloff makes little sense," said

Legg Mason's

director of REIT research, Glenn Mueller. "The fundamentals haven't changed. With good earnings, this is a phenomenal buying opportunity."

Mueller suggests you look toward for companies with consistent earnings and good dividends. Specifically, he suggests looking at

Prime Retail

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given its current yield of around 13%. "That's ridiculous," he said.

While the debate over the bottom rages, most agree bargains are beginning to emerge. "With the average REIT yielding four-and-a-half times the S&P 500, investors should begin to stand up and take note," said Kenneth Campbell of

CRA Real Estate Investments


So, where do you look? In markets like these, always move toward names you know and trust. In the REIT world, that means companies like

Simon DeBartolo Group

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Tanger Factory Outlets

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in the retail world,

Equity Residential Properties

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in the residential area and



in the hotel sector. While not risk-free, each has a strong presence in its markets and strong management, so important in today's trying capital markets.

While we may not have found the bottom, we must be close. "This is as cheap as we've seen the real estate market since 1992," said Everen's East. "And the fundamentals are much better than those in '92 with much higher rents and lower vacancies. The only thing we have now is a sick, sick stock market." A sickness that all began with the REITs.

Singing the UIT Blues

The REIT industry will always face a liquidity conundrum. The average daily volume of REITs pales when compared to the average member of the S&P 500. This liquidity can often cost investors dearly if they have to liquidate in a fast market.

Case in point --

REIT Unit Investment Trusts

. The focus of a column here in

June, REIT UITs have been used to increase investor participation in the REIT market and as a gimmick to raise capital for money-hungry REIT managements, many times at a cost above prudent levels.

Well, one concern over the use of UITs in the REIT world was their relative lack of liquidity. Legg Mason's Mueller says about 30% of the units in Legg's UITs have been liquidated, causing price pressure on the securities held in the portfolios. "The selloff can feed on itself, especially in REITs," Mueller said. "REITs are smaller and sales pressure can cause a liquidity trap."

At its worst, watch out below. Happy building!

Christopher S. Edmonds is the president of Resource Dynamics, a private financial consulting firm based in Topeka, Kan. At time of publication he is long Starwood, although positions can change at any time. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. While he cannot provide investment advice or recommendations, he welcomes your feedback at