Nomura Real Estate plans $667 million share sale

The Japanese real estate sector welcomes a rare deal amid the gloom.

Nomura Real Estate (NRE) announced Monday evening that it will raise ¥64.1 billion ($667 million) from the sale of new shares in Japan, partly to pay off debt incurred in connection with its $752 million acquisition of 65% of Toshiba Building in July 2008, and partly to deploy capital on growth opportunities. The amount reflects the issuance of 36 million new shares to public investors and another 5.4 million shares to be taken up by Nomura Securities.

The Japanese real estate market has been plagued by refinancing concerns, as falling asset prices undermine the value of collateral and put borrowers in a difficult position, and this is only the second capital-raising deal in the Japanese real estate sector this year after Singapore-listed Saizen Real Estate Investment Trust's $31 million follow-on.

Sentiment has not been helped by the bankruptcy of Joint Corporation, announced last Friday, with $1.5 billion in debt. Joint Corporation is a condominium developer, but what made its bankruptcy surprising is that it is part of Orix Corp, Japan's largest leasing firm. Other factors are equally grim: according to one leading index, the rent per tsubo (3.3 square metres) in central Tokyo has fallen from a high of ¥23,000 mid-last year to ¥21,000 currently. And CB Richard Ellis Research Institute calculates that the vacancy rates in central Tokyo are at their highest levels since mid-2007, at 3.3%.

The negative outlook on the real estate sector has led to some surprise about NRE's bold move. "It's pretty encouraging that the market is strong enough to digest the deal," said one banker at a foreign bank," and it's also gutsy of NRE to take their spanking, raise the money, and move on."

NRE has an advantage in that it has close ties with Nomura Securities, which will underwrite the deal. Nomura Securities has a formidable selling capacity through its brokerage network, which targets Japan's high-net-worth individuals with legendary effectiveness.

Being 'spanked' may be how investors will feel as they countenance the fundraising exercise and may explain the 4.8% drop in NRE's share price to ¥1,585 in Tuesday's trading. Nomura Securities real estate analyst Daisuke Fukushima expects the share sale to result in 28% dilution for existing shareholders and for the discount to the share price at the time of the sale to be around 3%-4%. Strangely enough, compared with the frequent rights issues in Singapore and Hong Kong, rights are not used in Japan. Rights issues are kinder to existing investors since they can either use the rights to buy new shares ahead of other investors or sell the rights at a profit to balance the dilution.

"The timing of the deal is excellent, given the resurgence in the equity capital markets over the past two months in Japan and elsewhere around the world. Money is flowing into real estate worldwide as a hedge against inflation, and risk premiums are going down, as is the capitalisation rate required by investors. This deal would not have been possible in September or October last year," Fukushima told FinanceAsia.  

Fukushima estimates that NRE has a capitalisation rate (calculated by dividing the cost of the property through the income it generates) of 6.5%. Fukushima says NRE's cap rate is high compared to other blue-chip real estate companies, such as Mitsui Fudosan, whose cap rate is 4.8%. In other words, NRE is able to squeeze out relatively good margin from its asset holdings. Fukushima has a target price range for NRE of ¥1,300 to ¥1,700.

Observers pointed out that one of the positive aspects of the deal is that part of the money raised will be invested in new assets, with ¥34 billion going into condominiums.

"It's necessary for real estate companies to invest when the markets are low, as now, and reap the rewards in a couple of years' time. It's a constructive move," noted Fukushima.

Fukushima estimates that NRE has a reasonable gearing level within the Japanese real estate sector at 3.3 times, lower than all its listed peers except for Mitsui Fudosan and Mitsubishi Real Estate, which have gearing levels of 2.2 times and 1.9 times respectively. Tokyo Land, he pointed out, has a debt-to-equity ratio of 6 times and Sumitomo Real Estate has a ratio of 5.4 times.

But one foreign analyst was doubtful about the investment and growth message attached to the deal. "There is very little demand out there for buying condominiums. The fundamentals of the markets are not at all encouraging, given sagging land prices and building costs," he said. "I don't know about NRE, but I suspect that for the sector as a whole, companies are re-classifying the properties they were hoping to sell as rental properties. You could spin that to say you are investing in rental properties, but actually the initial intention was to sell them."

Intriguingly, a foreign banker at a rival house told FinanceAsia that his team had gone around to all the other developers to suggest they should also tap the market, given NRE's move. "But they all said they did not need to raise money," he said.  Only time will tell if NRE really is making a bold call on real estate fundamentals improving -- or whether the firm actually needs funds more urgently than its peers."

Total equity issuance year-to-date in Japan amounts to $6.8 billion, up 14% on the same period last year, according to Dealogic. However, the number of deals is down by 69%.

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