Address given by managing director Steven Lowy at the PCA/AFIRE leadership conference held at the Hyatt Regemcu Sancturay Cove
10 April 2003
Ladies and gentlemen
I’m sorry I can’t be with you today, but I’m very pleased about the reason I’m not there – my wife had a baby just yesterday and as you’ll appreciate I’ve been a little distracted…
The general theme of this summit is globalisation. I’d like to say I think it is a very positive step that this summit is being organised jointly by the Property Council and AFIRE – it certainly highlights the increasingly global nature of our business and the organisers are to be congratulated.
Today I’d like to offer some observations about Westfield’s international experience.
In particular, I’d like to describe the way we are structured, how we manage and why it works well for us.
Our experience over more than 25 years in the global marketplace has taught us to respect some fundamental principles, and we hold to them very strongly.
Firstly, we recognise that raising the capital is only part of the story.
Australia enjoys one of the most efficient Listed Property Trust markets in the world and this has been a key factor in driving our growth. But just raising the funds is never enough.
Secondly, we believe that the ability to manage the underlying real estate is just as important, regardless of how you are structured.
Both these mean that the long-term viability of the investment depends on us taking “ownership” of that investment in a very real sense, and managing it in a holistic way – at a strategic level, but also right down to the micro, day-to-day decisions affecting the income streams of the real estate, in our case, shopping centres.
Today I want to talk about the Westfield experience in the global market, and describe some of the thinking and the structures that underpin our corporate strategy.
I’ll also say one or two things about some recent developments in our industry, particularly about the corporate activity that is currently under way.
Westfield Group structure
Firstly, for the benefit of those who might not be familiar with Westfield, let me quickly describe our structure and operating philosophy.
The Westfield Group consists of three separately listed but related entities.
The separation is based on the different earnings streams generated from shopping centres. As these various earnings streams have different risk characteristics, the separation gives the investor choice between the manager and service provider – Westfield Holdings – or the property owning vehicles themselves, country specific property trusts – Westfield Trust for Australia and New Zealand and Westfield America Trust for the United States.
Our property trusts are externally managed. However, as all our entities are listed on the exchange, the investor can and does often invest in one, two or three entities and thereby get the benefits in the proportion of their choice of investment income and management/development income, or by specific geographic region.
People often talk about the relative merits of stapled internally managed stocks versus externally-managed property trusts.
You know by getting out a stapler and stapling together your share certificates for Westfield Holdings, Westfield Trust and Westfield America Trust, you too could have a Westfield stapled security. In fact, if you had a staple remover you could also remove the staple any time you like.
While I’m being a little flippant here, there has indeed been some commentary recently about the relative merits of internally versus externally managed vehicles.
I happen to believe that a lot of that commentary, while interesting, entirely misses the point.
I believe the determining factor in deciding which model to adopt must be that which creates better value for investors.
In Westfield’s case, the performance of all its vehicles over a long period of time speaks for itself.
The structure we operate under allows us to deploy the accumulated knowledge, skill and human resources built up in Westfield Holdings over more than 40 years to the particular property owning vehicles depending on their priorities at any given time.
So the structure is very important to us.
But this is not to say that the structure remains fixed over time. In fact, we have been flexible and adapted our structure several times over the years.
In 1979 Westfield Trust was created out of the Westfield Development Company. In 1982 its structure changed again. In the late ’80s we established Westfield International Inc., holding US assets but listed on the London Stock Exchange. A few years later that changed too.
In 1996 we created Westfield America Trust, then in 1997 listed Westfield America Inc. on the New York Stock Exchange which was later delisted in 2001.
So we see nothing inherently fixed about our corporate structure.
Of course, how we are structured at any given point in time is dependent on the needs of the Group and the investment community and the conditions in each of the markets in which we operate.
As I said at the start, Australia enjoys one of the most efficient real estate capital markets in the world.
Our experience in entering the different international markets bears this out.
When Westfield Trust entered the New Zealand market in the late ’90s there were numerous property trusts, but the relative cost of capital and lack of depth in the market led us to amalgamate the St Lukes Group properties into Westfield Trust.
This channelled the available capital from Australia into the NZ properties for their long-term benefit and now, just a few years later, we’ve already seen that capital invested in three redevelopments. From an Australian investor point of view, our NZ properties now clearly form part of a wider Australasian investment.
When Westfield America Inc. listed on the New York Stock Exchange in 1997 the motive was to access the US capital market, the deepest in the world.
Despite the fact that the performance of the Westfield America vehicle was in line with or better than its peers, US REITs have not enjoyed the broad support of the market for some time due to historical accounting and governance issues.
This meant the cost of capital, the low FFO multiples and the general lack of support I just mentioned created a blockage of capital and we took the decision to privatise the New York-listed vehicle again in order to free up the access to capital and allow the business to maximise its potential.
Since that time in February 2001, Westfield America Trust has been able to grow substantially and is now the 2nd largest listed property trust in Australia. Westfield America is now one of the largest shopping centre companies in the US, with interests in 63 centres.
The UK market is another issue entirely. It is characterised by an investor market focussed more on NAV growth as opposed to income, listed property companies trading at significant discounts to stated NAV and who have not performed from an investment return perspective over the long term.
Given these conditions we are currently looking at creating an unlisted, institutional, wholesale vehicle targeting UK and European institutional investors, or an Australian-listed trust similar to the existing Westfield trusts, or a combination of both.
So while all the countries I’ve just mentioned have sophisticated capital markets, we’ve found that the Australian listed property trust market has best suited our requirements.
Another important feature of our structure that I should mention is our experience in building institutional, joint venture partners in property ownership.
This has been a hallmark of the Westfield approach since its earliest days, and today we are in partnership with Hermes in the UK, JP Morgan in the US and Deutsche, Commonwealth Bank and AMP in Australia.
So you see, we have chosen an external structure with all entities listed but always remaining flexible to be able to respond to changing conditions in each of the capital markets in which we operate.
I’d like to comment now on corporate governance.
Conflicts of interest can arise in any structure be it internal or external, country specific funds or global funds.
In fact, we’ve seen examples of internally managed vehicles paying scant regard to fundamental governance principles – such as was the case in our experience with Rodamco North America last year.
The current transaction involving Taubman, an internally managed US vehicle, is also highlighting some interesting corporate governance issues.
The point about corporate governance is that it is only as valuable as the other key ingredients for success – an effective corporate structure, a sound board, good management and, ultimately, investment performance creating shareholder value.
You need all these things together – otherwise, the discussion about governance is simply academic.
It is also important to analyse the costs of management, be it internal or external.
In fact, we have been involved in a number of transactions where the internal management structure cost more than our external management structure.
Westfield fees, both corporate and management, are entirely based on the performance of the business, not as a percentage of gross assets or the relative share price fluctuations.
Following the transactions with RNA in the US and St Lukes in New Zealand we found that our fees were in fact cheaper than the corporate and management costs existing in running those businesses and we believe, looking back at the returns generated for shareholders subsequently, that both those vehicles have received superior management.
Performance of Westfield vehicles
As I’ve just said, while it is interesting to discuss the relative merits of various structures, what matters at the end of the day is the long-term investment performance of the vehicle.
Westfield drives long-term performance by maximising underlying income from the real estate through very focussed and intensive management.
Since listing in 1996 Westfield America Trust has achieved a compound annual return of 18.9%, well in excess of the Property Index of 13.5%.
Last year, Westfield Trust celebrated its 20th anniversary and since listing has achieved a compound annual return of 16.0% a year, outperforming the Property Trust Index by 2% per annum.
In fact, underlying property income has grown in every year since listing 20 years ago.
However, I was interested to read the recently published Deutsche Bank report which identified three distinct periods when the Westfield Trust underperformed the Index:
- Firstly, in the late ’80s when unlisted and diversified trusts were popular;
- Secondly, in the mid-90s when the office cycle was booming off a low base and office development trusts entered the market; and,
- Thirdly and more recently, when the Index has been influenced by the residential cycle and currency movements.
Clearly, cycles come and go but from an investment point of view the best real estate vehicles are those that can perform not just on the back of a cycle, but can sustain a sound performance throughout numerous cycles.
The shopping centre business, when well managed, exhibits these characteristics.
I believe this can only be achieved through maximising the underlying income of the properties over the long term. Ultimately, the real estate fundamentals are all that count.
This was driven home again in the Deutsche report which analyses the contributors to NTA growth of a basket of Australian property vehicles.
The report analysed how much value is being created from the underlying assets as distinct from corporate activity.
I was pleased to see Westfield Trust ranked quite well in the report with the lion’s share of its NTA growth coming from the growth in the value of its underlying real estate, as opposed to issuing stock at a premium to NTA.
It showed that Westfield Trust NTA growth in the five years since 1998 was 80% driven through the performance of the underlying real estate.
In fact, Westfield Trust’s NTA growth has been 5.2% per annum compound since listing more than 20 years ago.
We can only maximise the income if we have the right management structure and people in place to do so, which is why these issues are at the forefront of our thinking as we plan for further growth.
We have found that a global approach to management makes us more flexible, responsive and efficient than would be the case if we tried to build stand-alone Westfield operations in each market.
It also provides us with the management capacity to keep two, three or more balls in the air at one time, as we did over a year ago when we successfully completed the Rodamco North America and Jacobs transactions in the US, as well as the three-property transaction with AMP in Australia.
Importantly, while this corporate activity has been underway we have maintained a disciplined focus on the operations of the existing business.
It is a given that we need to know the local market and the competitive pressures in those markets.
We need to know a centre in Nottingham, England, or Chicago, Illinois, or Auckland, New Zealand, as well as we know Bondi Junction in Sydney.
To do this we don’t look at each market as a discrete entity. Our management psyche, for want of a better term, is to look at each market through “global eyes” and then adapt it for local conditions.
This means we are prepared to try new things and keep our minds open about what’s possible in a given market, not just blindly accept the local conditions in terms of structure or management style.
Take the US as an example. Traditional occupancy levels in US malls have been in the high 80s/low ’90s. The US market has lived with these levels for years. In Australia, we have traditionally achieved 99% occupancy.
There are structural reasons why the occupancy levels differ between the two markets, but the point is that our management psyche finds it hard to be content with a high “80s/low ’90s” occupancy level and so we’ve focussed very hard on getting that level up and today it’s around 94% for our portfolio.
It’s fair to say that the US mall industry has not been as open to some global trends that have occurred in other countries.
Here in Australia the industry has long recognised the contribution discount stores can bring to our centres, but the US has for a long time been fixated almost exclusively on department store anchors in the overall mall mix.
Of course, we believe department stores will be the mainstay of our industry for a long time to come.
But we see room for new players in the retail mix of the US malls.
Discounters like Walmart and Target, or a major sports retailer like Galyons, are emerging with a significant presence in US malls and Westfield is helping drive that evolution.
We are keeping our minds open about other formats that have not traditionally been on the radar screen of the US mall industry.
Four of our redevelopment projects that are underway, or in advanced stages of planning, do not revolve around department store anchors but are focussed on the introduction and improvement of entertainment, food and lifestyle retailers and precincts which give greater depth to the customer experience.
The United Kingdom is another example of where taking a global view can make the business more vibrant and more relevant.
In the UK the shopping centre industry is characterised by different lease structures for specialty stores than exists in Australia or the US, and the outsourcing of management operations to third parties.
We don’t believe this approach maximises the underlying value of the real estate and have brought our experience in Australia, the US and New Zealand to bear on the UK market.
A critical factor in all this of course is our people. Like a lot of you, I’m sure, we are very focussed on Human Resources.
As we’ve grown we have of necessity taken a more sophisticated approach to recruitment and the development of our existing executive team.
We are very fortunate to have a stable core team of long-serving executives and in the past few years have progressively supplemented them with key senior appointments from outside.
Just as we continually review our capital structure we also continue to make changes to our management structure.
Just a few weeks ago, we announced the appointment of Michael Gutman (who I’m sure most of you know) as Chief Operating Officer for our UK business. He heads to London in the next month or so.
Bob Jordan, another long-serving Westfield executive, was appointed Chief Operating Officer for Australia and New Zealand, and Dimitri Vazelakis was appointed Global Chief Operating Officer for Design and Construction, based in Los Angeles.
We now have about 40 senior executives living outside of their home market – all contributing to the business globally.
One of the more obvious advantages of our global approach to management occurs when we enter a new market.
When we went to the UK a few years ago we assembled a team which comprised people from Australia, the US and New Zealand as well as local knowledge from the UK itself.
This was critical in terms of the combined knowledge of the shopping centre business, but equally so in terms of exporting the Westfield culture and, to borrow a now familiar phrase, “embedding” it in a new market.
The transfer of knowledge and corporate culture that might otherwise have taken several years with only UK people was achieved literally overnight.
Today, all our finance, legal, technology, human resources and design and construction functions report to a single executive based either in Sydney or LA.
The efficiencies, purchasing power and sharing of ideas that this delivers to the overall business is considerable, and an important part of targeting the firepower of our executive knowledge where it’s needed at any point in time.
Before I close, I’d like to say a few things about recent industry developments.
There’s a lot of corporate activity at the moment, and I obviously won’t buy into commenting on that.
The point I’d like to make is in the macro – I don’t think there’s much value in us, as participants in the industry, debating whether potential consolidation of the property trust market is good, bad or otherwise.
What is unfolding now is the market at work and, like any market, it will find its own natural level, despite the upheavals that occur from time to time.
Remember, the trust market today is vastly different to that which existed 10 or 15 years ago. Well established trusts have disappeared and new ones have emerged.
Westfield America Trust, Lend Lease Office Trust and Macquaire ProLogis have emerged as vehicles for off-shore investment. The number of staple stocks have also grown. In fact, the property trust industry has 30 stocks today versus 25 stocks 15 years ago.
In that time, the overall size of the property trust market has grown from $2.75 billion to $44 billion.
It’s not unlike the retail market itself. Five to 10 years after a major redevelopment the retail mix of a centre can change dramatically, with up to half of the retailers changing in that period – a sign of good management and a vibrant market.
So my belief is we should leave the commentary on the corporate activity, and the speculation about whether it is intrinsically “good” or “bad” to the commentators themselves.
For our part, we’ll respond to the market forces as they arise. We’ll consider the opportunities, and the threats, these forces pose and respond to them accordingly.
But at the end of the day, it goes back to the same point. If you perform consistently over time you will be retained by investors to manage their capital.
I hope I’ve been able to provide you with some insights into how the capital and management structure we have adopted serves our overall strategy so well.
The ability to raise and export capital is not enough.
It is essential for long-term viability to have management expertise that can invest and manage that capital and generate the required returns.
This is what will generate sound, sustainable returns, not artificial peaks in performance driven by corporate activity that is not sustainable.
Simply put, there is no substitute for hands-on management of the investment from the strategic level, right down to the shop-floor.
The other point I made was that corporate governance means nothing without an effective structure, sound board and strong management.
And, finally, let’s not react to the current corporate activity as necessarily a bad thing.
It is after all, just more change, and that is the one constant we have in the global property market.
Thanks for listening. I’d be happy to take a few questions…