Real estate is in hedge fund manager William Ackmans
DNA. His grandfather and great-uncle started a real estate
investment firm in Manhattan in 1926. Today known as
Ackman-Ziff Real Estate Group, it is chaired by Ackmans
father, Lawrence. As founder and CEO of $5.8 billion Pershing
Square Capital Management (also based in Manhattan), Ackman,
44, often engages in real estate arbitrage: taking a position
in a company whose stock price does not fully reflect the value
of the underlying property.
This technique may turn out to be the source of the most
lucrative trade in the history of Pershing Square or
that of any other firm. At the nub of it is General Growth
Properties, the Chicago real estate concern that owns or
manages some 200 shopping malls. Begun in 1954, General Growth
filed for Chapter 11 in April of last year. After the 08
market meltdown froze the commercial-mortgage-backed loan
market, the company couldnt refinance its debt.
Pershing Square had already begun amassing an equity stake
in General Growth by late 2008, when obvious signs of distress
had driven the companys stock down to the 35- to 50-cent
range from a high of more than $65 in mid-2007. At the time of
bankruptcy, Ackman owned or controlled (through derivatives)
19.9 percent of General Growths equity.
Ordinarily, of course, equity holders dread Chapter 11,
because shares are the first to be written off. Ackman,
however, contended that General Growths property holdings
the shopping malls were worth much more than the
stock. He calculated the true value of the shares at $10 to
$30. In fact, he argued, the real estate would not only make
creditors whole but also make the equity holders rich.
So convinced was Ackman that the companys plight
represented a huge bargain that Pershing eagerly led a group
willing to put up interim debtor-in-possession financing when
General Growth filed for bankruptcy. They stipulated, however,
that the loan carry warrants that could be converted into
shares when General Growth emerged from bankruptcy. And
although the bankruptcy court approved the Pershing
groups $375 million DIP proposal, it was later rejected
in favor of a $400 million DIP deal put forward by a rival
consortium spearheaded by San Franciscobased hedge fund
Farallon Capital Management. The Farallon loans main
draw: No warrants.
Nevertheless, Ackman remains keen on warrants. In March,
Pershing Square joined Toronto-based Brookfield Asset
Management and Miami-based Fairholme Capital Management in
pledging $6.5 billion of new equity capital to General Growth
in the guise of what would become a stalking-horse bid for the
company (that is, one meant to start off bidding). As part of
the deal, which was equal to $15 per share, the consortium was
to receive 120 million warrants worth $519 million. Enter (or
reenter) Simon Property Group, the Indianapolis-based developer
with its own mass of malls.
In February, Simon had offered to buy General Growth for $9
a share, but the offer was rejected. Simon came back with a
fresh bid on what it said were the same terms as the
Brookfield-FairholmePershing Square offer but
without the warrants kicker. Backing Simon with a $1 billion
investment was high-profile hedge fund manager John Paulson,
whose New Yorkbased, $32.1 billion Paulson & Co.
holds General Growth paper. Other hedge funds also chipped
General Growth, however, still preferred the Brookfield
groups bid. One reason was antitrust qualms, according to
court documents. Team Brookfield did sweeten its offer. The
warrants will vest over a staggered period, and Pershing Square
dropped its interim warrants. And the strike price of the
warrants postbankruptcy was raised from $10 to $10.50 for
Pershing and Fairholme and $10.75 for Brookfield.
In mid-May the court okayed the Brookfield offer, though
General Growth will be open to bids through July. Simon swears
its last offer was final. Even if a higher bid prevails, the
warrants must be paid. And as of mid-May, General Growth was
trading at $15. Ackman stands to make a 2,500 percent-plus
return on his initial equity investment. Thats quite a
successful bargain hunt.