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“In the end, liquidity equals value,” keynote speaker Sam Zell said at the 2009 Kellogg Real Estate Conference. “I’ve never seen that proven more in the first half of this year.”

Sam Zell

Back to fundamentals

Real estate lenders and investors are thinking practically and acting conservatively, say speakers at the 2009 Kellogg Real Estate Conference

By Rachel Farrell

11/30/2009 - The 2008 liquidity crisis taught investors a valuable lesson: Complex assets, like collateralized debt obligations, are often too good to be true.

As a result, many investors are getting back to basics when it comes to real estate — making cautious, conservative investments, recognizing the value of liquidity and diluting assets to get rid of debt.
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  Sam Zell
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That was true for many of the real estate professionals who spoke at the Nov. 18 Kellogg Real Estate Conference, themed “Capitalizing on New Real Estate Opportunities — Capturing Value and Operating in a Fundamentally Changed Environment.” The conference offered practical advice for real estate lenders and investors for coping with the current economic environment, understanding changes in the industry and maximizing returns for the year ahead.

Sam Zell, chairman of Equity Group Investments LLC and chairman of the Tribune Company, delivered a keynote address on the current state and future of the real estate industry.

Whether the real estate industry will thrive or suffer depends in large part on supply and demand, Zell said. He cited the 1960s, when enormous amounts of construction led to an oversupply of real estate, which in turn led to massive inflation and decreasing real estate values in the mid-1970s.

Today, the supply of real estate is stagnant, but demand has not yet caught up to where it needs to be — which has caused rates to abate significantly. Zell predicted that the supply and demand for real estate would eventually balance itself out, but the “likelihood of anything happening in the real estate market in the next two to three years is highly unlikely,” he said. “The occupancy scenario will likely be better.”

To help reduce massive amounts of debt, Zell urged real estate executives to consider dilution —working with private-equity firms to dilute their stake in a company in order to carry less debt and increase liquidity. “I think the dilution solution will work — and will significantly reduce the pain that I believe would otherwise be the case,” he said. “In the end, liquidity equals value. I’ve never seen that proven more in the first half of this year.”

“The next 36 months won’t necessarily be fun,” Zell said, “but like Mark Twain said, ‘Reports of my demise are greatly exaggerated.’”

Along with the keynote address, the conference featured three panel sessions that explored the state of the capital markets, distressed investing opportunities and trends in restructuring.

In a session titled “The Current State of Capital Markets: When Will the ‘New Normal’ Hold?” leaders from top real estate lending and investment firms shared their observations of industry changes since the real estate bubble burst.

“It’s a whole different culture on the lending side,” said Karen Case, executive managing director and president of commercial real estate for The PrivateBank, who manages banking relationships with commercial real estate professionals. “We’re spending time doing things we didn’t do in 2004 to 2007, like studying debt maturities. We’re doing more lease analysis than we used to — looking at office buildings and determining whether tenants [are likely to] renew their leases.”

Jeffrey Johnson ’83, chief investment officer and managing director of Transwestern, has seen more banks adopt and benefit from the “pretend and extend” method — that is, extending the terms of a loan in order to avoid foreclosure. “It’s not free to foreclose on someone,” he said. “There’s a lot of value in hanging in there for a year.”

Commercial property owners have dropped rates significantly out of desperation, said Bruce Cohen, chairman and CEO of Wrightwood Capital. “Today’s rents are artificially depressed,” he said. “People don’t care about what the market rent is. They just want their buildings to be leased.”

That was unheard of in the years leading up to 2008, noted Johnson. “It’s back to the 1990s, where all that matters (is) where the cash flow is,” he said. “There was 10 times as much investment in 2007 as there is today. It’s back to fundamentals.”