Akira Mori's Real Estate Riches Retreat in Japan Credit Squeeze

By Kathleen Chu

April 9 (Bloomberg) -- Akira Mori, Japan's richest man, spent a record 231 billion yen ($2.3 billion) buying Tokyo's Toranomon Pastoral Hotel last September. He now says it's worth closer to 200 billion yen.

``The boom we've enjoyed for the past few years is over,'' said the 71-year-old chief executive officer of Mori Trust Co., who teamed with K.K. DaVinci Advisors, a 1.2 trillion yen Tokyo- based property fund, for the acquisition. ``Investors were convinced that prices would keep rising, so in about six months, they'll probably rush to get out regardless of price.''

Global real estate financing has evaporated as defaults by U.S. homeowners saddled banks and securities firms with $232 billion of losses and asset writedowns. Mitsubishi UFJ Financial Group Inc., Japan's biggest bank, reduced property loans by 7.7 percent as of Sept. 30 from a year earlier. Regulators have sought to prevent a bubble like the one that burst in 1991, leading to 15 years of falling land values.

``People who bought properties last year at a very high price, they're in trouble,'' said Toshio Masui, president of Japan operations for Los Angeles-based buyout firm Colony Capital LLC. ``Everybody was overpaying. People with a bunch of stuff in their portfolio are now running around trying to get refinancing, and they won't get it.''

Cracks are emerging in a market that generated annual returns averaging 14 percent since 2003. The Tokyo Stock Exchange REIT Index dropped 16 percent this year and 40 percent from its peak in May. Twenty-six of 42 property trusts are trading below their initial public offering price, according to data complied by Bloomberg.

Lone Star

The purchase price for the Pastoral in Tokyo's central Minato ward was the highest paid anywhere in the world for a hotel last year, according to New York-based research firm Real Capital Analytics Inc. The 313-room hotel now is worth about 13 percent less, Mori said in a March 24 interview. The buyers plan to redevelop the site, which is close to nine other buildings owned by Mori Trust.

Lone Star Funds, the Dallas-based buyout firm led by John Grayken, scrapped plans last month to sell a group of Japan hotels after bidders reduced their offers by as much as 25 percent between December and March as financing conditions deteriorated, said two people with direct knowledge of the matter.

``We should be prepared for another round of real estate deflation that may last for some time,'' said Akiyoshi Inoue, president of Tokyo-based Sanyu Appraisal Corp.

Financing Costs

Reicof Co., an Osaka-based real estate investor, filed for court protection from creditors last month, saying it was struggling to obtain bank loans and selling properties because of contagion from the U.S. subprime collapse.

Funding costs for investment banks climbed at least 2 percentage points in the past six months, said Yukio Egawa, head of Japan securitization research at Deutsche Bank AG in Tokyo.

``The credit market started demanding a substantial credit premium from U.S. investment banks,'' Egawa said. ``It doesn't make economic sense for them to extend new loans for real estate investment funds when funding costs have risen substantially.''

Morgan Stanley, the biggest issuer of commercial mortgage- backed securities in Japan, plans to cut as many as 40 employees in its securitization unit. Merrill Lynch & Co., the largest U.S. brokerage, closed its Japan property funding unit, eliminating 11 jobs. Both Morgan Stanley and Merrill are based in New York.

``There are now fewer lenders providing higher-leverage loans,'' said Douglas Smith, managing director of commercial real estate at Deutsche Bank in Tokyo. ``Not because they necessarily are taking any particular view on the prospects for the Japanese real estate market, but because of events outside this market affecting their ability or willingness to provide lending.''

Condominium Slump

While total returns for real estate investments in Japan, including capital gains and rental income, have been positive since 2002, according to the MTB-IKOMA Real Estate Index produced by K.K. Ikoma Data Service System and Mitsubishi UFJ, the housing market has been showing signs of strain.

Condominium sales are set to fall for a third year in 2008 after a new building code slowed project approvals and construction costs soared. Total condo sales dropped 14 percent to 133,000 units in 2007, according to the Tokyo-based Real Estate Economic Research Institute.

Commercial property has held up better. Prime office rents in Tokyo rose 16 percent last year, and have almost doubled since 2004, according to real estate broker Jones Lang LaSalle Inc. Prices for commercial buildings in the center of the city jumped 20 percent in 2007, helping swell Mori's wealth to $7.5 billion, the most among Japan's 24 billionaires, according to Forbes magazine.

`Peaking or Pausing'

``Nobody knows whether the market is peaking or pausing, but it's definitely doing one or the other,'' said James Fink, senior managing director of property consulting firm Colliers Halifax in Tokyo. ``We have come very far, very fast.''

Japan's previous property boom lasted 16 years, making Mori's father Taikichiro Mori the world's richest individual in 1991, according to Forbes.

Australia's government sold half of its Tokyo embassy plot in the late 1980s and booked a profit of at least A$500 million ($463 million), even after building a new compound that includes 40 staff apartments, said Bill Jackson, Minister-Counsellor at the embassy.

The crash was equally spectacular as Tokyo commercial land prices plunged more than 50 percent in five years and the Nikkei 225 Stock Average lost three quarters of its value.

Rents in Marunouchi, Tokyo's most expensive business district, peaked at 100,000 yen per tsubo in 1991 before dropping to as low as 35,000 yen in 2003, according to Colliers Halifax. The rate averaged 65,000 yen last year. A tsubo, the standard measure of property in Japan, is 3.3 square meters, or 35.5 square feet.

Family Fortune

When Taikichiro Mori died in 1993, the family's $15 billion fortune had been cut in half in just two years, Forbes reported.

``Japanese investors suffered a severe shock when the last bubble burst, and because they lived through the crash, they're bound to be cautious now,'' said Junko Miyakawa, a senior analyst at Tokyo-based Shinsei Securities Co.

Regulators at the Tokyo-based Financial Services Agency may have sought to curb lending to prevent a new bubble from forming, said Katsuya Takanashi, CEO of Secured Capital Japan Co., which manages about 550 billion yen of real estate assets.

``The FSA doesn't want to repeat the bad-loan problem that trapped Japan's economy for such a long, long time,'' he said.

Soured property loans devastated Japanese lenders in the 1990s, forcing the government to spend more than 9 trillion yen on an industry bailout. Tumbling real estate prices helped trigger a decade of deflation that the world's second-biggest economy has yet to fully shake off.

Buying Opportunity?

Global investors led by General Electric Co. and Morgan Stanley sense a buying opportunity in a nation where Real Capital Analytics estimates the value of transactions was just 7 percent that of the U.S. last year.

GE's real estate unit may buy as much as $10 billion of Japanese property this year, anticipating tighter credit and rising borrowing costs will prompt local trusts to accelerate asset sales and drive down prices. GE uses its own cash to invest in property, unlike REITs and private funds that borrow money.

``The market is very favorable to GE,'' Tomoyuki Yoshida, head of Japan operations for the real estate unit of the Fairfield, Connecticut-based company, said last month. ``Small and medium-sized fund managers have a huge issue about getting financing. They have to dispose of a lot of properties.''

Morgan Stanley, the second-biggest U.S. securities firm by market value, has invested more than 2 trillion yen in Japanese property, spending more than a 10th of that amount last April to acquire 13 hotels from All Nippon Airways Co. in Japan's largest real estate purchase. Morgan Stanley also bought office buildings from Citigroup Inc. and Shinsei Bank Ltd. in the past two months.

Secured Capital, based in Tokyo, is seeking at least $3.5 billion from investors for property acquisitions.

``We think the next few years will offer really good investment opportunities,'' Takanashi said.