Japanese REITs have been the most prolific investors in the commercial property markets over the past few years, with government policies supporting equity market prices and creating a favourable financing environment. This has pushed J-REITs Price to Net Asset Value (P/NAV) ratios higher, allowing them to generally raise capital at a premium to NAV in order to undertake acquisitions.
More recently however, global interest rate shifts and other domestic factors have seen J-REIT unit prices fall modestly. This has pushed P/NAV ratios lower – to a weighted average of just 1.12x. This is the lowest reading since the end of 2012 when the QE policies were implemented and down significantly from the 1.58x in January 2015.
Chart 1: Japan REIT market P/NAV ratio (2012-2017)
Source: ARES, JLL
Another interesting trend in the J-REIT market has been the large pricing discrimination of J-REITs based on their market cap. Larger REITs tend to trade at a significant premium to their net assets backing, whereas smaller cap REITs mostly trade at a discount to NAV.
Chart 2 : Correlation between J-REIT P/NAV ratios and Market Cap
Source: Japan REIT Inc, JLL
This price discrimination can only be partly explained by factors like lower liquidity, an absence of market awareness and often being backed by less well-known sponsors. Institutional investors are also less active in these smaller cap REITs and they are unlikely to find themselves included in the BoJs asset purchase programme.
As a result of this price discrepancy, it would seem sensible then that J-REITs trading at a significant discount to NAV would utilise their cash holdings to undertake a share buyback to improve shareholder value. The reality is however that the external REIT management model in Japan incentivises the asset manager to focus more on building AUM. As a result, no Japanese REIT has undertaken a share buyback since the laws were amended to allow it in 2014.
At times, J-REITs trading at a steep discount to NAV have actually raised capital in the secondary market and undertaken acquisitions from their own sponsor. This of course has diluted unit values to the detriment of the shareholders. In most other markets around the world, this would be less tolerated by shareholders.
Given the huge spread of P/NAV ratios across the J-REIT sphere and the lack of share buybacks, it would also seem prudent that activist investors would be looking at M&A opportunities. However Japanese-listed entities often employ a number of takeover defense mechanisms aimed at warding off hostile takeovers, again often to the detriment of shareholders.
These “poison pill” strategies also explain the lack of share buybacks being undertaken by some of these poorly trading J-REITs, as asset managers remain confident they can ward off any takeover attempts and therefore focus less of their energy on unit prices.
