June, ERES Italian REITs Governance and Regulatory Structure: Effects on Nav Discount Massimo Biasin, Emanuela Giacomini, Anna Grazia Quaranta University of Macerata ERES 2009 Stockholm, 24 th -27 th June 2009

June, ERES Syllabus  Research question  The Italian REITs market and regulatory environment  Literature Review and Theoretical Framework  Data and methodology  Results and conclusions 2

June, ERES Research Objective 3  The investigation of the effects of the Italian REITs governance and regulatory structure on NAV discount  In particular we focus on: 1)Governance structure (shareholders’ meeting); 2)Leverage limitation; 3)Closed-end form (finite life); 4)Mandatory listing; 5)Size  Effects (we argue) depend on the valuation perspective:  Net Asset Value (NAV)  Market (financial) Value (MV)  Main references of previous works e.g.:  Capozza, Lee (1995); Clayton, MacKinnon (2001), Barkham, Ward (1999), Bond, Shilling (2004), et al.;

June, ERES The Italian REITs NAV discount 4 The Italian REITs NAV Discount – December 2007

June, ERES The European Public REITs Market 5

June, ERES The Italian REITs Market: Relevant Regualtory and Market Features 6 Main regulatory and market features relevant for the analysis:  Closed-end structure (externally managed) refers to the finite life of the REIT  Agency cost and conflicts of interest – Governance implications  New equity offerings admittedù  Mandatory listing for “retail” REITs  To increase shares liquidity  To favor shareholders’ way-out  Leverage limitations (D/A ≤ 60% or, alternatively, D/E BOOK ≤ 1.5)  Tax-free (pass-through) entities (corporate-level).  No mandatory pay-out. Pay-out ratios defined at articles of association level.  REITs share mandatory valuation standard: net asset value

June, ERES Literature Review and Theoretical framework 7  Governance mechanisms  Italian REITs suffer from severe agency problems and potential conflict of interest situations which can influence the NAV discount by trading off the benefit of professional management  External-advised REITs vs internal-advised REITs [Howe, Shilling (1990); Cannon, Vogt (1995); Ambrose, Linneman (2001); Capozza, Seguin (2000)]  Mandatory provision of a shareholders’ meeting entitled to fire the management company (2003)  This rule aims to limit managers’ opportunistic behaviour when market discipline comes into play by inducing takeovers of poorly managed REITs  This incentive does not affect traditional REITs not having shareholders’ control mechanisms  Hypothesis: the foreseeing of a general shareholder meeting can reduce the NAV discount through a (potential) higher protection for investors against adverse management activity

June, ERES Literature Review and Theoretical framework 8 (1) Leverage [LEV]  D/A ratio  Uncertain effect on NAV Discount (2) Market Liquidity  Shares’ turnover (proxy) [TURN]  Positive effect on NAV Discount (via market price)  (3) Correlation between market excess return and stock market index (Mibtel) [BETA(P)]  Negative effect on NAV Discount (via market price)  (4) Correlation between NAV excess return and stock market index (Mibtel) [BETA(NAV)]  Positive effect on NAV Discount (via NAV figures) (5) Time to Maturity [TIME]  negative effect on NAV Discount (via inverse relation with market prices path). (6) Size [SIZE]  REIT’s portfolio investment (total asset value/total REITs market)  Uncertain effect on NAV discount

June, ERES Data and empirical methodology  Market price NAV discount was calculated on the following basis:  where: NAV it = net asset value of each share of the ith REIT at time t; P it = market price of the ith REIT at time t.  Data:  daily market prices (Italian Stock Exchange)  half-year NAV figures (Assogestioni)  proxy for daily NAV through data linear interpolation  Italian public REITs (21) - Period from 30th of June 2006 to 31st of December 2007  Explicative variables are normalized 9

June, ERES (1) Preliminary separated time series and cross-section analysis of the of the two NAV Discount determinants:  Market Price [P]  Relevance of TURN, TIME, BETA(P), LEV and SIZE ( according to our theoretical expectation) Data and empirical methodology  NAV  Relevance of SIZE, LEV and BETA(NAV) ( according to our theoretical expectation) (2) We expressed the NAV Discount [NAVDISC] as follows: Dummy variable:  0 if the REIT’s articles of association foreseen the general shareholder meeting  1 otherwise  We used a panel data of 21 Italian REITs (378 periods observations)

June, ERES Results and conclusions 11

June, ERES  The panel fixed effects results pointed out the relevance of all the explicative variables assumed in explaining NAVDISC  NAVDISC increases as the time to maturity, the REIT market price correlation with the stock market index increases and is positively related to SIZE.  NAVDISC decreases when the REIT share liquidity, the leverage and the NAV correlation with the stock market index increase.  The shareholders’ meeting mechanism also shows a negative correlation with the NAVDISC.  Relevant regulatory policy implications  Shareholders’ meeting mandatory provision improved investors’ governance capability Results and conclusions 12