|Looking to tap the lucrative equity market, two subprime mortgage lenders have announced plans to convert to real estate investment trusts, or REITs.
Saxon Capital of Glen Allen, Va., and Los Angeles-based Aames Financial Corp. are pursuing the conversions to raise millions in cash through stock offerings of their respective publicly traded REITs.
The new companies will not only continue their traditional roles as mortgage lenders, but will also use money raised by the sale of stock to finance real estate deals.
Michael Sawyer, Saxon CEO and director, told analysts during a recent conference call the company hopes to raise $500 million through the public offering.
"We're going to dividend back to our current shareholders approximately $120 million. And that will leave us ... with about $280 (million) to $300 million of liquid working capital," Sawyer said, according to written transcript of the call filed with the Securities and Exchange Commission.
"We intend to use the growth of the servicing business and the capital we retained ... to help fund the future growth of the REIT, and we intend to maximize all good REIT income that we can to dividend out to our shareholders, while still being able to grow the portfolio on a sustainable basis," he said.
In a statement, Aames said it is converting to a REIT to raise additional capital, though it did not give specifics on how much it hopes to raise.
Neither company has announced when the conversions -- which must be approved by directors and shareholders -- will take place or when the stock will be offered.
Each company has said that shareholders will receive a share of the REIT for every share they hold in Aames or Saxon.
MortgageDaily.com publisher and editor Sam Garcia holds shares of both companies.
The mortgage businesses of the two lenders should not be affected.
"Saxon does not expect any material changes in its business operations after the REIT conversion," the company said in a written statement.
REITs do not own property. Instead, they finance commercial and residential real estate transactions, Jay Hyde, vice president of communications for the National Association of Real Estate Investment Trusts (NAREIT), said in a written statement.
"The vast majority of REITs are what we call equity REITs," Hyde said, "owning and managing portfolios of large-scale properties, such as office buildings, warehouses, shopping malls and apartment communities."
Mortgage companies such as Saxon and Aames often convert to REITs when they assume interest rates are going to rise.
A public offering of REIT stock can be more cost effective than borrowing capital, Hyde said in an interview.
The NAREIT Composite Index, which tracks the performance of all REIT stocks, has risen 6.65 percent this year on a total return basis, which is share price appreciation plus reinvested dividends.
Mortgage REITs have risen even more, with an average total return of 14.8% for the 21 companies that engage in real estate financing, Hyde said.
In a recent report Moody's Investor Service said the outlook for domestic REITs is stable despite "continued negative trends in some sectors, most notably office and multifamily."
REIT managements' adherence to a strong financial discipline has allowed their firms to weather a tough market, Moody's said in the written report.
But John J. Kirz, managing director of Moody's Real Estate Finance group, expressed some concern that REITs will make bad decisions while under pressure to post better returns for their investors.
"This could become a ratings concern if firms pursue riskier transactions or significantly alter their business strategies in pursuit of growth," Kirz said in the written statement.