Bad old habits die hard for nontraded REITs like Lightstone Group

The nontraded real estate investment trust industry is coming off a banner year in sales due in large part to investment powerhouses like Blackstone, Nuveen and KKR recently rolling out products. Sophisticated real estate management is part of the pitch to investors for these new, gussied-up nontraded REITs.

Executives and consultants in recent years have also been touting better liquidity and transparency of the product, which 10 to 15 years ago was routinely pilloried for high fees, outrageous commissions and corporate governance standards as dark and opaque as the nearest black hole. Steep commissions — routinely of 7% — ensured that brokers and advisers got paid before clients, a bad formula for many investors saving for retirement.

But old habits die hard for some nontraded REIT managers. Some in the financial advice industry are currently worried that one nontraded REIT manager, the Lightstone Group, is jockeying to cut the legs out from under investors — and therefore the financial advisers who sold the products — through a series of changes to corporate charters of the individual REITs.

Let's back up for a second to give some details about the Lightstone Group.

First, it's keeping mum when asked about recent criticisms of the company's desire to change REIT charters and governance. A spokesperson said the company was not commenting for this column.

Next, it's a pretty large concern that's been around for decades. "Since 1988, founder David Lichtenstein has grown Lightstone to one of the largest privately-held real estate companies in the country, with holdings in 21 states," according to its website.

Based in New York, it boasts a $2 billion portfolio, including 6 million square feet of office, retail and industrial commercial properties, 11,000 residential units and 3,200 hotel keys. It also owns over 12,000 land lots across the country.

Last, Lightstone has proposed changes to corporate charters that some observers say would shift power from the clients who own the shares to management. Changing rules in the middle of the game is faulty corporate governance.

Yes, the Lightstone REITs have kicked off dividends and distribution payments to investors for years. But these proposals are potentially harmful to investors, and the REIT management works for investors.

Last month, one due diligence firm, FactRight, called out Lightstone for its campaigning to change corporate rules through upcoming proxy votes. The specific REITs in question, Lightstone Value Plus REIT I Inc., Lightstone Value Plus REIT II Inc. and Lightstone Value Plus REIT III Inc., reported close to $900 million in assets at midyear, according to FactRight, which states that the shareholder approval of proposed proxies would strip shareholders of meaningful rights.

If the charters at the Lightstone REITs are changed, the biggest concern in the marketplace, according to financial advisers and REIT executives, is that clients will be locked in, with no way out. Sold before and after the credit crisis, the REITs were marketed as having a life cycle of about five years, with the goal of selling and returning capital to investors, according to those sources.

Nontraded REITs are illiquid and only trade at deep discounts on a thin secondary market. FactRight likens the condition potentially facing Lightstone shareholders to a stay at the Hotel California, the infamous Eagles song that laments, "You can check out any time you like, but you can never leave."

"We note that elimination of these charter provisions will generally reduce shareholder participation in the governance of the respective REITs, enhance the power of the respective boards of directors, and eliminate protections for shareholders, including provisions that seek to guide the Lightstone REITs toward liquidity events for shareholders, which are long overdue in our opinion," according to the FactRight analysis of the Lightstone REITs on its website.

FactRight then compares the attempts to change the charters at Lightstone REITs as similar to the move by AR Global, led by Nicholas Schorsch, to combine REITs back in 2016. At the time, industry observers questioned whether that combination of businesses, which eventually occurred, was in the best interests of shareholders.

"We have previously reviewed similar proxy proposals from various AR Global REITs in the 2010s," according to FactRight. "As we noted then, we note now — why would you as a shareholder forego valuable rights in the absence of a clearly articulated plan that details why such rights need to be extinguished to accomplish said plan?" 

Lightstone is "asking shareholders to vote in favor of stripping away their own rights without any clear plan to liquidity or furtherance of upside," said Todd McKee, a financial adviser who has sold Lightstone REITs. "And most egregious of all, [Lightstone is] seeking shareholder approval to eliminate their own access to the shareholder list. This is reprehensible. They’re literally asking shareholders to rescind their own ability to organize against them."

The attempt by Lightstone to change shareholder protections in the REITs' charters stinks. The companies should have already been listed on an exchange or sold by now. The proposals are up for votes next month, Dec. 8, so time is short.

InvestmentNews welcomes any answers from Lightstone in the coming weeks to these questions.