Ric Clark on the advantages and disadvantages of the Canadian market

By Alfred Branch, Jr.

How active is the M&A market for Canadian REITs?
Real estate merger and acquisition activity in Canada has been sizable. In the Canadian REIT market, there have been approximately $12.3 billion of M&A transactions in the past two years alone, compared to $2.5 billion of merger activity in the two years prior.

REITs that are likely takeover targets continue to be some of the best opportunities. With the changes to income trust tax legislation in Canada, senior housing and hotel REITs will no longer qualify for REIT status, and are more likely to be taken private than REITs focusing on other asset classes.

What are the advantages and disadvantages of the Canadian real estate market over the United States?
The size of the U.S. real estate market is approximately $5.3 trillion, compared to $450 billion in Canada. While the market is smaller, the economic climate of the country bodes well for investment opportunities. With Canadian GDP growth expected to be in the leadership position amongst G7 countries (over 3 percent for 2007, and 6 percent in Alberta), Canada offers stability and healthy growth prospects without significant political risk.

As capitalization rates have compressed, much money has already been made in Canadian real estate. However, with that trend nearing its end, rental growth will kick in, particularly in the West. Canada has had no crash in residential markets, since mortgage interest is not tax-deductible, and little overbuilding has occurred.

Canadian real estate capital markets are also strong. While the U.S. REITs have been around since 1960, Canadian REITs only started in 1994 and have kept up a rapid growth pace since then. Canadian REITs are now reaching $30 billion in market capitalization, representing approximately 6.7 percent of the Canadian real estate universe compared to the U.S., where the REITs represent approximately 10 percent.

Will the recent tax law change in Canada on health care and hotel properties affect how Canadian REITs operate?
Yes. The impending change in tax codes outlined in Canada’s new budget legislation will obstruct hotel and health care REITs’ tax-exempt status. As a result, these companies are scambling to make organizational changes, like being privatized into structures where corporate level tax can be better managed. We believe that the Canadian rules are restrictive and not internationally competitive in their current form. Brookfield Properties, focused on commercial office properties, is structured as a C-corporation, and will not be affected by these new rules.

What are some of the overall emerging trends in the global REIT market, and how will Brookfield capitalize on them?
We view the most significant emerging trend in REITs to be the bifurcation of those that are direct owners versus those that are asset managers. The former is at risk of being valued by public shareholders at a discount to its liquidation value. The latter, if done properly, is always able to find the best marginal buyer.

Ric Clark is the president and CEO of Brookfield Properties Corporation (NYSE: BPO), one of the world’s premier commercial office owners. Brookfield was originally incorporated in 1924 as the Canadian Arena Corporation, which built the Montreal Forum. Still operating as a corporation domiciled in Canada, Brookfield today makes its headquarters in lower Manhattan’s One Liberty Plaza.