REIT to execute
It’s been nearly a decade since RA 9856 or the REIT Act of 2009 lapsed into law in the Philippines. Now, the Philippines’ Securities and Exchange Commission (SEC) is set to unveil rules and regulations that could usher in a number of REIT initial public offerings (IPOs) starting with the proposed US$500 million debut REIT IPO by Ayala Land.
Talk of REITs inevitably draws snickers from some in the Philippines, especially seeing how long it took for this much-awaited capital market development to happen. But spare a thought for Ephyro Luis B Amatong, the SEC commissioner who took on the task four years ago. “I am working on it,” he guffawed with delight about the REIT IPO when The Asset interviewed him in August. As an indication of its urgency, he adds, “it is the Department of Finance that is following up with me.”
That it took this long is not unusual. “It is very much an iterative process,” he explains. Speaking with the leading REIT practitioners in places such as Singapore, Australia, Hong Kong and elsewhere, he points out that this is generally the experience.
“You never get it right the first time. There are a lot of tweaks that each jurisdiction seems to need to do. It is difficult to copy and paste and it ends up being more problematic than you might think when you have to actually implement it,” says Amatong.
But he is confident that the SEC, the agency tasked to complete the implementing rules, is now on the verge of doing so. “The Secretary of Finance has given his directive on the broad strokes; there is an agreement on the framework.”
Among the remaining points, Amatong says there is an agreement to bring down the minimum public ownership level to 33%, which was a potential issue for some REIT sponsors. And regarding the commitment from the REIT sponsor to reinvest the proceeds it receives from the IPO within a one-year period into Philippine real estate or infrastructure, the market’s feedback has also been positive.
Amatong points out that it is not unusual for companies which launch an IPO to demonstrate the use of proceeds within a certain time frame and there already are reporting mechanisms. “Here, the government is imposing a one-year time frame. In other words, if there is going to be a tax break, it should fund additional economic activity in the Philippines rather than result in capital flight,” he elaborates.
If the sponsor fails to reinvest within the one-year period, he continues, a sponsor might be forced to delist the REIT and buy back any shares that were sold to the public at the offer price or better, to keep the investors whole. “As REITs are by law required to be listed, they automatically lose the tax benefit.” SEC has reached agreement with the finance ministry and the Bureau of Internal Revenue on this matter.
The REIT itself is not restricted in what it can reinvest in, he clarifies. “But by law, the REIT can invest up to 40% in foreign real property. If it exceeds 40%, it needs special approval from the SEC. What the secretary (of finance) is looking at is the REIT sponsor and not the REIT.”
The REIT Act identifies three parties: the sponsor, the fund manager and the property manager. Amatong says for both the REIT fund manager and property manager, there will be a technical requirement for licensing. In the case of the REIT fund manager, it will be bound by similar fiduciary responsibility as a normal fund manager.
“We are going to streamline the licensing procedure if you are already a licensed fund manager,” he shares. “What we would want to see is if you have key personnel in your organization who are knowledgeable about real estate investment – location, valuation, retail potential, etc – the level of knowledge. It is the reverse for the property management company; we would like to see if you have key personnel who understand the fund management side.”
Clarification was also needed on the relationship between the sponsor and the managers, he adds. “What the law intended when it said that the fund manager would be independent of the REIT and the sponsor was for the fund manager to be external. The choice of the word ‘independent’ created lots of questions as to the level of affiliation and co-ownership.”
As he dug deeper on the intent of the law and the word “independent”, it became clear that it was not about being a third party as much as a separate, external entity dealing on an arm’s-length basis including matters on corporate governance. This is where sponsors and asset managers have pushed back especially on their expectation that the sponsor needed to have “skin in the game”.
If you look at the region, in many instances, the sponsor has a big interest not only in the REIT, but also the fund manager and the property manager, he emphasizes. “In Asia, that is not surprising as reputation is important. The fact that the sponsor maintains close ties with the REIT fund manager and the property manager gives them confidence that they are protecting their good name.”
As he looks back now, part of the reason that the SEC needed to revamp the regulation on the REIT fund manager and the REIT property manager is because the language of the law needed to be clarified. “You couldn’t have implemented REIT ten years ago. There were issues that needed to be clarified,” he says.
And although the implementing regulation is due to be released, further refinement to the law in the future may be necessary, Amatong suggests.
“For example, if the law requires you to have an external fund manager and property manager, why is the REIT in a corporate form?” he asks. “Would it not be more efficient if it is in the form of a trust? My answer is yes! If it is a corporation, both the function of the fund manager and property manager [should] be internalized. Now, why do we have three corporations? With two corporations and a trust, it would cost less. But I was not here 10 years ago!