PAG Calls for Ouster of Spring REIT Manager on Conflicts of Interest

Spring REIT, a Hong Kong-listed real estate investment trust once focused on Beijing office assets has branched out into UK auto repair facilities, in a strategic pivot that has raised the ire of one of its biggest investors.

Alternative investment manager PAG has launched a campaign to “save” Spring REIT, after the trust manager decided to supplement its portfolio of premium office properties in Beijing by scooping up a network of 84 British automotive repair shops.

The UK car shop empire is controlled by Japan’s Itochu, which is also one of the principal investors in the REIT’s manager, Mercuria Investment Co – a relationship which has raised questions of conflict of interest. PAG, which manages investment vehicles holding a combined stake of around 12 percent in the REIT, proposes to remove Spring REIT’s manager and replace it with an internally employed team.

Hong Kong REIT Pivots From Beijing Offices to Auto Repair

Spring REIT, which prior to adopting its UK retail strategy this year billed itself as “the first Hong Kong REIT to offer direct exposure to two Premium Grade office buildings strategically located in the Central Business District (CBD) of Beijing,” went public in Hong Kong in December 2013.

Up until this year the REIT’s portfolio comprised a pair of prime office towers in China Central Place, a mixed-use complex in the heart of Beijing’s business district. The REIT owns all the office floors of Office Towers 1 and 2, covering 120,245 square metres, as well as 600 parking spaces.

Spring REIT made no further acquisitions until, more than three years later, it proposed to buy a portfolio of 84 car servicing centres leased to the Kwik-Fit brand in the suburbs of Britain. The REIT completed the purchase of the 505,381 square foot (46,951 square metre) commercial portfolio last month for $93.3 million, after proposing the deal in March, marking the biggest property investment by a Hong Kong REIT outside of Greater China.

Spring REIT is managed by Spring Asset Management Limited, a Hong Kong-incorporated firm that is a subsidiary of Japan’s Mercuria Investment Co. Itochu holds a 19.5 percent stake in Mercuria, as well as having acquired a 100 percent interest in the Kwik-Fit Group, a British car servicing specialist, in 2011.

PAG Accuses Spring REIT of Reckless Acquisition

In response to Spring REIT’s sudden change in strategy, and the potential conflicts of interest involved in the UK acquisition, Hong Kong-based PAG has issued a notice of requisition calling for an extraordinary general meeting to vote on the management change, among other measures that PAG argues are necessary to reverse the fortunes of the lagging REIT and fix what it sees as serious conflicts of interest.

“It is not clear what the justification was from a unitholder perspective,” Broderick Storie, partner and managing director of PAG Real Estate said of the recent acquisition in a conversation with Mingtiandi. Aside from boilerplate statements about diversification and access to the UK property market, the stated rationale for the deal was that “It was income-producing real estate. That’s it,” said Storie.

Spring REIT’s Kwik-Fit deal squeaks by legally after Itochu, which previously owned a 23 percent interest in Mercuria sold down its stake in May, bringing its ownership below the 20 percent threshold to be considered a related party of Spring Asset Management. However, that adjustment may not be enough to satisfy PAG and other unit holders that the UK investment was done with investor interest at heart.

“We have concerns that the board has materially and unnecessarily altered the risk profile of Spring REIT through allowing the UK acquisition to proceed involving a previously connected party,” PAG argues in a presentation deck spelling out its arguments in detail. The deck is available on a dedicated website, savespring.hk, that PAG set up in its drive to topple Spring REIT’s manager.

REIT’s Performance Lags Key Benchmarks

In addition to its conflict-of-interest concerns, PAG is unhappy about what it sees as questionable governance and pervasive links between the trust’s manager and Mercuria’s other businesses. The misalignment of interests between the various parties has burned investors, PAG alleges.

“As substantial Unitholders of Spring REIT, we have been deeply disappointed with the persistent unit price underperformance, which we feel in part results from the lack of a clear strategy for Spring REIT articulated and executed by Spring Asset Management Limited,” the notice of requisition argues.

Spring REIT’s financial performance has lagged behind, the Hang Seng REIT Index, a key performance benchmark, by 83 percent in recent years. The REIT’s distributions per unit have also dropped by 26.9 percent since the first half of 2016 despite a boost in the distribution payout ratio.

An “Incapable Manager Destroying Value”

The savespring.hk site uses more colorful language, calling Spring Asset Management an “incapable manager destroying value.” Spring REIT’s investor relations team did not respond to an emailed request for comment by the time of publication.

PAG says it is not alone in finding fault with Spring REIT. “What I would say categorically is that every single investor that we certainly know has the same concerns,” said Storie. Other unitholders contacted by Mingtiandi did not respond to inquiries regarding Spring REIT and its management in time for publication.

PAG, which has invested over $25 billion in real estate assets across Asia Pacific, proposes appointing industry veteran Storie as a non-executive director of the REIT’s new manager.