Mark Carney, until recently Bank of England governor and before that Bank of Canada governor, just joined Brookfield Asset Management as a vice-chair and head of ESG. In his remarks on joining the Canadian asset management group, Mr Carney referred to “an accelerated transition to a net zero economy”.
In some ways, Brookfield is already at and even beyond net zero, though that would seem to be more related to the profitability of its giant shopping malls collection than to carbon reduction.
And while there has been debate over the utility of central banks in meeting carbon emission goals, there can be no doubt that central bankers have learnt valuable operating lessons on how massive bailouts work. While Mr Carney is leafing through folders on wind turbine projects, he might set aside some time to consider a central banker-y question: what is the systemic risk to the Brookfield group of its “core retail”, that is, malls and shops in city centres?
Within a couple of days, we will get a better idea of how Mr Market would price the value of Brookfield Property Partners (BPY), and its subsidiary, Brookfield Property Reit (BPY-U), which holds most of BPY’s “core retail” assets.
For the past few weeks, BPY-U and then BPY have been supported by tender offers for their shares organised by Brookfield Asset Management. In the weeks after the coronavirus-related retail crash, both vehicles were also supported by a “Retail Revitalization Program” that uses cash from the group to invest in retail companies, including Brookfield tenants.
After this weekend, the tender offers are over. The share prices of BPY and BPY-U will have to totter forward based on their own merits.
But what are those merits? BPY and BPY-U are, according to the company, intended to be “economically equivalent”. They have paid the same quarterly dividend and, perhaps partly thanks to the tender offers, have tracked each other’s share prices, which now have a retrospective dividend yield above 11 per cent.
How, exactly, both BPY and BPY-U will be able to continue to pay out those 11 per cent yields, not to mention management fees and transfers to the parent when properties they own are in default, is not obvious. As a sort of Canadian national treasure, at least for those Canadians who receive investment banking and consulting fees, Brookfield and its controlled entities can generally count on fawning securities analysts and trouble-free investor calls.
But that is changing. Veritas Investment Research, a Toronto firm centred on accounting expertise, put out an “accounting alert flash” in mid-August about how BPY reported its second-quarter results. As Veritas pointed out, BPY’s net operating income declined 7.7 per cent year over year, following a 3.4 per cent drop in the first quarter of this year. As the Veritas analyst wrote: “How did NOI not decline more given that BPY collected just 34 per cent (of its) rents during the quarter?”
Investors in BPY-U can compare its GAAP results to similar mall-centric companies, such as Taubman Centers or Simon Property. In the first half of this year, BPI-U had $188m in adjusted cash flow from operations to cover $343m of interest expense. Simon had $1.2bn to cover $385m of interest expense, and Taubman had $80m of adjusted cash flow from operations to cover $68m of interest expense.
As one Brookfield watcher, Keith Dalrymple of Dalrymple Finance, says: “BPY-U arguably has better malls than, say Taubman, but their past borrowings against their assets went against them in a difficult environment.”
What does all this mean to Brookfield Asset Management, Mr Carney’s new employer?
Well, in its fourth quarter 2019 letter to shareholders, the parent company said: “We take a bottom-up approach to financing the investments we manage . . . As a result, the risk of anything going wrong is limited solely to the equity invested in that particular asset.”
On the other hand, Moody’s, Brookfield’s preferred credit rating agency, was noticeably less cavalier back in June when it published a periodic review of the company’s ratings. “The structure of its investments, through public partnerships and debt secured at project levels — results in non-recourse parent credit exposures, but the parent’s rated debt is structurally subordinated to the subsidiaries’ obligations.”
I believe Mr Carney will be very busy indeed at Brookfield. Possibly on problems other than renewable resource investment.