Chris Cole painted himself into a corner last week when — in a 24-hour period — he received and rejected a $5.7 billion takeover bid for his nontraded real estate investment trust, Cole Credit Property Trust III Inc. In that corner, Mr. Cole may find himself the target of anger from investment advisers and legal complaints from investors.
The stock-and-cash offer for Cole III came from a brash relative newcomer in the business, Nick Schorsch, chief executive of American Realty Capital, which sponsors a dozen nontraded REITs and other similar investments. Mr. Schorsch turned the clubby $10 billion-per-year nontraded REIT industry on its head recently by delivering three “liquidity events” — creating $2.5 billion in value, according to the company. Investors in his REITs were able to cash out of their units at a fair value after the REIT merged or listed on an exchange.
The nontraded-REIT industry and the independent broker-dealers who sell them have been widely criticized, particularly in the wake of the real estate crash, for sticking investors into deals they can't get out of. Some nontraded REITs seem to have the life spans of the undead, trapping investors for years. Mr. Schorsch and others have been working to change that, and the real estate market has accommodated them by rebounding off its lows during the crash of 2007-08.
In hindsight, the battle between Mr. Cole, who runs a white-shoe real estate firm in Phoenix, and Mr. Schorsch, who routinely sports purple neckties with gold tie clips, was inevitable. Both investors focus on the triple-net-lease real estate sector and both have been among the leading syndicators of nontraded, closed-end real estate funds over the past few years.
In addition, they have been sizing each other up for a while.
Making the solicitation through the publicly traded net-lease REIT American Realty Capital Properties Inc., Mr. Schorsch last Wednesday offered investors in Cole III $12 a share. The vast majority of shareholders of the REIT, which is five years old, paid $10 a share.
To sweeten the offer, American Realty Capital Properties offered an annual dividend or distribution of 74.4 cents a share, 15% above the REIT's payout of 65 cents a share.
The surprise offer mucks up Mr. Cole's carefully laid plans to have Cole III buy its investment manager, Cole Holdings Corp., and begin trading on the New York Stock Exchange in June. His deal offers no premium for investors' shares but proposes to increase the REIT's dividend to 70 cents annually.
Adding to Mr. Cole's dilemma is the $127 million that Cole III would pay him and other executives to merge with its management company. This practice of a nontraded REIT buying its investment manager and paying management millions in the process is another industry exercise that many dislike and are trying to change.
Mr. Schorsch's offer contains a $111 million payment to Mr. Cole and management based on performance, so no one is taking food out of anyone's mouth here.
Unless Mr. Cole has an ace up his sleeve, such as another offer for Cole III of $13 or $14 a share, he will have a hard time defending his decision to reject American Realty's offer to shareholders.
And that could lead to drawn-out legal battles, including class-action complaints by clients, as well as arbitration claims from investors.
Indeed, the plaintiff's lawyers associated with the Public Investors Arbitration Bar Association this week likely started to plan a “Target Chris Cole” panel for their annual meeting in October. And those guys really like to share notes.
But what is puzzling is that, in the Cole III and Cole Holdings merger agreement document, filed March 5 with the Securities and Exchange Commission, there is no valuation calculation for the purchase of the manager.
Cole III is most likely showing the value of the manager to broker-dealers and investment advisers, but it hasn't made the calculation public to its shareholders.
When asked about the specifics of the calculation behind the $127 million Cole III is to pay Mr. Cole and other executives, spokesman Tom Nolan was short on details.
“Throughout this entire process with Cole, everything has been done in coordination with Moelis & Co., who has served as exclusive financial adviser, and Sullivan & Cromwell LLP, who served as legal adviser to Cole Holdings,” Mr. Nolan wrote in an e-mail.
ABSENCE OF ANSWERS
Translation: “Hey guys, trust us. No need to look behind the curtain. We have big-shot lawyers working for us, so all is well.”
In a day and age when investor mistrust and fear is high, such absence of clear answers to simple questions doesn't cut it.
One financial adviser said that Cole was off his list of products until he got some answers.
“I look forward to reading Chris Cole's explanation on why his upfront payout and current strategy of going public is better for the [Cole III] shareholders than the American Realty deal,” Michael Lograsso, an adviser in Southfield, Mich., wrote in an e-mail. “I won't sell any additional Cole until this is resolved in an objective way with the shareholders' best interests at heart.”
To get an answer, Mr. Lograsso can find Mr. Cole in that corner he has painted himself into.