Real Estate Investment Trusts (REITs) were created in the United States in the 1960s to give investors the opportunity to invest in liquid, large-scale, diversified portfolios of income-producing real estate . More than 20 countries around the world have followed the US model with the United Kingdom passing enabling legislation in 2006. There are now 27 REITs in the UK of various sizes providing investors access to a normally illiquid, but potentially high yielding, asset class. This study focuses on the largest UK listed REITs operating mainly in the commercial property sector with net asset values in excess of £1 billion in 2011. Eight companies met these conditions, but one, Intu Properties, was excluded on the grounds of its relatively short time as an independent entity and limited share price history. The list of companies studied is shown in Table 1.
The market and net asset values of the REITs follow a cyclical pattern as shown in Chart 1. This graphs recent combined net asset value (NAV) at the annual or interim stage against their average combined market capitalisation over the period . The chart shows that whereas the REITs traded at an increasing premium to NAV up to the start of the financial crisis, sentiment changed after 2009. Following the demise of Lehman Brothers at what was arguably the height of the crisis the combined market value of the companies in this study have traded at a discount despite a recovery in net asset values in the following years .
In the last decade there has been a rapid rise in the certified value of the property portfolios of the REITs, a catastrophic fall in these values and a less dramatic, but still strong rise in the context of the deep pessimism at the time of the global financial crisis. For example, the gross balance sheet asset value of the seven companies surveyed rose by 51% from 2004 to 2006, but then fell back by 40% in the next three years before rising again steadily until 2012. For some companies the scale of the adjustment was especially large. Land Securities reported a revaluation deficit on its combined investment portfolio of £4.7 billion in the year ended 31 March 2009 following a deficit of £1.3 billion in 2008. By contrast, it recorded a revaluation surplus of £1.4 billion in 2007. The impact of these changes in valuation contributed significantly to Land Securities recording a loss before tax of £4.8 billion in 2009.
One of the causes of this see-saw pattern in asset values lies in the imperfections in the valuation process. Portfolio valuations conducted by firms of chartered surveyors have been used to estimate real estate company performance since the 1960s and have become a core income stream of the estate surveying and valuation profession. Doubts about the underlying accuracy of professional property valuations have long been a characteristic of the surveyor’s trade with issues discussed by, for example, Hager and Lord (1985) who questioned the use of the Investment Property Databank’s (IPD) database6 as a performance measure of investment properties in the UK. Since then studies have tended to show contradictory results depending on the statistical methods employed.
More recently, the whiplash valuation changes of the last decade suggest that investors can only put limited trust in surveyors’ estimations. Instead, this analysis finds that a more helpful alternative for assessing performance in the commercial property sector can be found in the techniques developed to assess the economic impact of a company’s reputation, a long neglected asset. This may sound like heresy in the supposedly rational world of investment analysis - indeed one prominent property analyst commented to the authors “While corporate governance has continued gradually to improve over this period, it has had no bearing on the valuation of property shares. “ - however, it is increasingly offering effective insight.
The notion of intangible assets and their contribution to corporate value is nothing new. Brand valuation techniques are widely accepted but traditional approaches as promoted by consultancies like Interbrand (first to formalise the concept in the late 1980s) cannot be applied to pure play corporate brands or indeed, investment vehicle brands such as REITs. The economic impact of the ‘corporate brand’, or more accurately the company reputation it frames has been recognised for some time, Black & Carnes (2000) but measurements of exactly how much have only become available more recently. Unlike product or service brands which create value through their ability to secure customer decisions (to purchase), corporate brands i.e. the collected thoughts, feelings and impressions of the company as an operating business, create value by enhancing investor confidence.
This is particularly relevant to companies like REITs where private individuals and professional institutions buy, sell or hold a stock on the basis of the economic returns they expect to generate from capital growth or future dividends. Information, intelligence and insight are filtered through the stock of extant impressions that comprise the company’s reputation to add or detract from investors’ confidence in the likelihood that the company will deliver to expectations. As a result the share price and associated market capitalisation is higher (or lower) than it would otherwise be by an amount that relates to the value of the company’s reputation.
In order to begin to quantify the role of reputation in creating shareholder value an econometric study was conducted using a combination of financial performance data and survey research based reputation measures for nearly 300 of the largest companies in the UK. This was described in Cole (2012). Measures of the ‘company brand’ were taken from the annual Britain’s Most Admired Companies study, Brown and Turner (2008) and Management Today (December edition, 2004 – 2012). This focuses on the corporate entity as an operating business and polls the views of an ‘expert’ stakeholder audience of people who are likely to be cognisant of the underlying business rather than just consumers of its products or services. The views of this ‘professional’ audience are widely recognised to offer a good proxy for informed investor opinion.
The Most Admired study has been operating for more than 20 years and assesses close to 240 of the UK’s largest companies each year. It measures perceptions of companies on each of nine reputational factors; three ‘financial’ characteristics and six ‘softer’ ones relating to aspects of the companies’ operation.
Despite the views of the investment analyst quoted above the analysis found a statistically robust relationship between corporate reputation and market capitalisation and, moreover, revealed the share price consequence of the strengths and weakness of individual company reputations. Most importantly, it facilitated calculations of the Reputation Contribution – the proportion of a company’s market capitalisation attributable to its reputation, the Reputation Risk Profile – the location of value extant throughout the current reputation – and the Reputation Leverage – the likely return from building different components of reputation in terms of shareholder value growth.
Analysis of the performance of the seven leading commercial REITs in the four years following the demise of Lehman Brothers in September 2008 pointed to a growing role of corporate reputation in underpinning shareholder value. Chart 2 shows that although Reputation Contributions in the sector were relatively low in 2009 and 2010 they increased in a marked and apparently sustainable manner in 2011. Indeed, from a position where the sector average was well below the FTSE 100 it grew to the point where by 2011 it compared much more favorably.
NAV s and earnings forecasts for the sector went up substantially in 2010 (+18% and +54% respectively) but the changes failed to improve company sentiment or confidence to any material degree and market capitalisations remained subdued (+2%). By contrast, an 18% improvement in reputation strength in 2011 helped to trigger a market capitalisation growth of more than 20% regardless of NAV s and earnings growths reigning in (+6% and +4% respectively).
Overall, the bulk of the increases in market capitalisation since 2009 can be accounted for by the growth in Reputation Contributions which only began to slow in 2012 when more robust financial performances began to emerge. The evidence indicated that the rises in company value were more closely related to the changing circumstances of corporate reputations than the increasingly less creditable property asset valuations and it is this that has emerged as a more effective driver of investor confidence and thus overall value growth.
Corporate reputations are not ‘fixed’ and will most likely atrophy or become dangerously misaligned if not properly managed. As such, value created must also be recognised as value at risk (VAR) and secured with suitably directed communications. At the start of 2013 the average Reputation Contribution of the seven REITs in the study was 33% which equated to £7,172 m of shareholder value across the group. Individually it varied from as little as 15% for one company to as much as 41% for another (absolute values ranging from £266m to £2,439m). The scale of each company’s reputation value, i.e. VAR, offers critical insight into the importance of reputation as a strategic asset and guidance as to the levels of investment that could be allocated to its management.
A company’s reputation however is not a zero-sum game and managers need to be concerned with more than just optimising its scale or strength. It is, inevitably, made up of a host of different perceptions each with a different capacity to create confidence and value in its own right. As Chart 3 shows, impressions of companies’ capacity to innovate’ were creating sufficient investor confidence to contribute c 8% of reputation value in the group of seven REITs as a whole. By comparison, perceptions of companies’ ‘ability to attract talent’ were such that they contributed twice that at nearly 16%. The remaining headline components of reputation contributed somewhere between
The distribution of reputation value across any one company’s reputation asset constitutes its Reputation Risk Profile. This is determined by a combination of the precise structure and standing of the company’s reputation and the interests of investors at the time. As such it is likely to vary considerably from company to company. For example, this analysis found that perceptions of a REITs ‘long term investment potential’, the second most important driver in 2013, were contributing as much as 16% of all Shaftesbury’s reputation value but only 7% of Segro’s; so significantly more important for the former.
This forms the first layer of understanding for communications and investor relations managers because it equips them to organise their messaging activities to secure value extant first and foremost. The second step is to ensure that they’re also structured to realise value growth potential. For the seven REITs in the study this ranged from increases of 0.5% to nearly 3% of market capitalization for a 5% increase in the strength of reputation.
Chart 4 shows that Segro had the greatest potential to grow reputation value whereas 5% gain in reputation strength likely to produce an increase in their market capitalisation of a little under 3%; or £50m of shareholder value as at January, 2013. By contrast a similar increase in the strength of Derwent’s reputation would have delivered a market capitalisation uplift of less than 0.5% (though still worth some £6m!).
As with Reputation Contributions the potential varies considerably from company to company and communications managers need to assess the likely returns on investment in order to formulate optimal strategies.
But understanding the overall market capitalisation uplift likely for any specific improvement in the reputation strength is only part of the story. In order that reputation managers can deploy their communications efficiently they need to know the likely returns from building the different components of reputation. Investor interest at the start of 2013 was such that improvements to perceptions of a company’s ‘ability to attract talent’ would produce proportionately greater returns in market capitalization growth than any other factor. Indeed, a comparable increase in the strength of perceptions of the company’s ‘quality of management’ would produce 9% less uplift while a similar increase in perceptions of the company’s ‘long term investment value’ would produce 16% less. The least productive reputation factor was ‘community and environmental responsibility’ where a comparable improvement would generate 78% less uplift.
Again, as with the Reputation Risk Profile, the leverage opportunity can vary considerably from one company to another depending on the particular structure of its reputation asset.
Given the growing importance of corporate reputation the need for effective reputation management is greater than ever before. Reputation value analysis provides an objective basis to balance the need to support value extant with leverage opportunities and thus optimise shareholder value potential in a profitable and enduring way.
The illustration in Chart 5 (below) based on one of the REITs in the study (anonymised for the sake of confidentiality) demonstrates how a thorough understanding of the location and drivers of reputation value generation provide practical support in understanding messaging requirements. In this example the individual messaging priorities – highlighted - can be summed up as follows.
1. Value as a long term investment – Perceptions of this are already working well for the company but are in need of underpinning to secure the value delivered. This is likely to come from a combination of direct claim and inference following improved perceptions on other value drivers.
2. Ability to attract talent – Already delivering well for the company but also a source of potential value growth
3. Quality of management – the Company’s leadership already enjoys a good degree of visibility however the investment community would respond favourably to that being expanded and developed further.
4. Quality of marketing and use of corporate assets – These are emerging as important growth characteristics. Investors were showing signs of some increased optimism at the start of 2013 and as a result ‘rewarding’ companies they see as better prepared for the upturn. That includes companies that are investing in the likes of their marketing as well as working their assets to drive margins while revenue growth remains hard
Corporate reputations are playing a larger and larger role in the value development of UK REITs. They underpinned the share price recovery in place since the collapse of Lehman Brothers’ in 2008 and are increasingly influencing investor sentiment as traditional metrics such a surveyors’ asset valuations are found wanting. This has significant implications for how REITs should be managing their reputations. Shareholder value will dissipate without carefully directed support through corporate communications and investor relations. Value potential will not be fulfilled without targeting the critical value driving dimensions of the reputation. Reputation Value Analysis offers a practical means for reputation owners to ensure that the messaging they’re delivering is optimal in both securing and growing the economic value of their reputation assets.
1 A REIT is a close-ended investment trust investing in property which, in return for tax advantages, must distribute 90% of taxable income to investors.
2 Information about the size of the REIT sector as at July 3 2013 is provided by REITs, an initiative run by the British Property Federation. See:http://www.bpf.org.uk/en/reita/REITs/about_REITs.php
3 Intu Properties, formerly known as Capital Shopping Centers, was part of a larger listed REIT Liberty International until it was emerged in 2010.
4 Market capitalisation data is an average based on the share price at the most recent balance sheet dates annual or interim ranging from 30 September 2012 to 31 March 2013.
5 The London focused REITs traded at a premium to net asset value
6 C-suite executives i.e. board or senior level individuals or ‘chiefs’ as in operating officer, financial officer, marketing officer etc, are asked to rate their closest peers and competitors against each factor on a scale of 0 to 10 (where 0 = ‘poor’ and 10 = ‘excellent’).
7 These are Quality of management, Quality of goods & services, Capacity to innovate, Quality of marketing, Ability to attract, develop and retain talent, Corporate & social responsibility, Financial soundness, Use of corporate assets and Value as a long term investment.