Simon’s Hostile Tender for Taubman Essay Example

as potential long term value. A per share price of $20 represents a significant premium over the current price of $14. 50.

Receiving equity in the parent company gives investors the opportunity long term capital gains and dividend income (if any). Additionally, avoiding a hostile shareholder targeted takeover is beneficial in the continuation of the company as an ongoing entity. 2) How would you determine the company's fair value? Please critique the Morgan Stanley analysis in Exhibit 9. Is the Morgan Stanley analyst using the “right” cap rate? How does the cap rate compare to the company’s cost of capital, per CAPM? We would use a Discounted Cash Flow (DCF) method utilizing Funds Available for Distribution (FAD) over the EBITDA method used by Morgan Stanley.

FAD accounts for capital expenditures, that are needed to maintain operations, which are key in REITs. Essentially, FAD is the REIT’s equivalent to a Free Cash Flow (FCF). Morgan Stanley’s valuation also assumes a 5% growth in EBITDA and doesn’t seem to include negative outlooks such as interest rate exposure, below-average rental rates, and impacts of some of TCO’s newest properties. Additionally, using cap rates in valuation is considered “dangerous” as slight increases/decreases in the rate can dramatically affect valuation results, specifically, of highly levered companies.

For example the case mentioned that a 10bp shift in cap rate causes TCO’s valuation to shift by 4%. On a positive note, however, Morgan Stanley does mention that a $21+ per share valuation of TCO is not a realistic buying price as there are several risks a buyer of TCO would inherit such as integration risks, paying historically high premiums for mall properties,

and issues with how the low yield on such a transaction would compare to the buyer’s true cost of capital. 3) Why was the UPREIT structure invented?

What problem did it solve? Be prepared to explain the “1998 Transactions” and either defend them or critique them. Prior to 1992, real estate was largely owned by partnerships because of significant tax advantages. The Tax Reforms Act of 1986 eliminated most of those tax advantages and also altered legal requirements for REITs which made REITs more attractive. Still, there were many problems for the owners of the real estates. The major problem was that any transaction that exchanges real estate for stock in a REIT is a taxable event.

To overcome with this problem, Umbrella Partnership REIT (UPREIT) was invented in December of 1992 by the Taubman Realty Group. The UPREIT is a concept that allows a real estate owner to go public without making a taxable real estate exchange. As per the textbook and realestateportfolio. com web site, A UPREIT works as follows: A REIT forms a partnership in which property owners contribute real estate assets in exchange for partnership interests, which are called operating partnership units or OP units.

The former property owners can exchange their partnership units on a one-for-one basis for REIT shares or cash, at the REIT's option. Since there is no fundamental change in ownership, there is no taxable event until the property owner actually receives REIT shares or cash. A transaction that exchanges real property for stock would be a taxable event. The UPREIT helped by permitting property owners to defer taxes until partnership units are converted to stock or

cash.

The advantage is this structure provides a viable exit strategy to commercial property owners who otherwise might have significant capital gain tax liabilities on the sale of appreciated property. In addition, the investor benefits from additional diversification because they have an interest in a portfolio of commercial properties instead of just one property. This structure is not appropriate for every investor as they must have property that the REIT wants to add to their portfolio and typically this will be a larger commercial property. Advantages of UPREIT: Pay no capital gains tax or depreciation recapture tax oUpgrade property holdings into institutional quality real estate oEliminate “hands-on” property management responsibilities oDiversified among various properties across the country oCompetitive monthly/quarterly cash flow distributions oNo monthly mortgage obligations due to “non-recourse financing” oRemoves or minimizes real estate holdings from taxable estate oCapital gains tax is forgiven or “stepped up” at the death of investor o“OP” units may be transferable, divisible or gifted “OP” units may become liquid assets upon conversion The UPREIT was first used in Taubman Centers Inc’s IPO in 1992 in which GM Pension Fund was one of the unit holders who later in 1998 exchanged its ownership interest for 10 malls and thus avoided a huge capital gains tax. At the same time in 1998, TCO issued a new class of shares called the Series B Non-Participating Convertible Preferred Stock, the holders of which are not entitled to any dividends but could convert into common stock.

These Series B stocks were similar in nature to that of OP units of UPREIT structure and thus were helping to the stock owners to defer taxes until

they are converted to common stock or sold for cash. 4)Does this acquisition make strategic sense for Simon? Why or why not? If you were Simon, would you raise your bid further? Yes, we believe this transaction would make strategic sense for Simon. Both companies are mall property REITs. With Simon being the largest and TCO being growing REIT with several key properties, it makes sense for Simon to pursue an acquisition of TCO.

If we were Simon, we would not raise the bid past the $20 already bid. It represents significant premium over the current share price. Further, if our lawsuits work out, we may be able to gain shareholder majority vote and buy at $20 per share or at a more desirable price. Furthermore, we would consider a mixed (cash and equity) offer if it could facilitate reaching a deal. Conclusion: When Simon offered the initial price of $18, Taubman rejected the offer and provided some reasons, including, that neither the then-current stock price, nor Simon’s offer, reflected the full value of the company’s assets.

However, in early November 2002, before Simon launched its tender offer, most Wall Street analysts tended to assign Taubman a “target price” in the mid-to-high teens, ranging from $14 (Salomon Smith Barney) to $17 (Deutsche Bank Securities) per share. Thus, as independent directors of Taubman Centers, we would counter the offer with a mixed cash and equity offer at the $20 price. Such a deal allows current shareholders upfront returns as well as potential long term value.