Brian Gaynor: Unit holders smart from lash of huge fees

Property trusts and their management companies were in the spotlight this week with the annual meetings of Calan Healthcare Properties and Kiwi Income Property Trust and the listing of Paramount Property Trust.

Unit holders focused on the management of Calan and Kiwi, particularly their attraction for high-risk developments, and the huge fees paid to management companies.

Property trusts operate under the Unit Trusts Act 1960. Unit holders have the right to receive income from the trust. They have no governance rights in relation to the trust as it is controlled by the management company and trustee.

The management company runs the trust and appoints its own board of directors. Between them they control and administer the trust.

Unit holders have no say in the appointment of the directors and the board cannot sack the managers.

The trustee holds the property assets on behalf of unit holders and is independent of the manager. It acts in the best interests of unit holders and is responsible for making sure that the management company complies with the terms of the Unit Trusts Act 1960 and the trust deed.

Property trusts have no statutory requirement to hold an annual meeting and when they do there are no substantive items on the agenda as unit holders have no voting rights.

It is extremely difficult to dump the management company no matter how badly it performs. Under the 1960 act there are three ways to replace a manager:

* By court order on application of the trustee, any unit holder or the Minister of Justice.

* If the trustee certifies that it is in the best interest of unit holders.

* By agreement of a 75 per cent majority of unit holders at a special meeting.

A number of management contracts contain penalty payments if the manager is removed. Paramount would have to pay a sum equal to 1.2 per cent of the gross assets of the trust if its manager were to be sacked. This would be about $700,000, based on the start-up size of the trust.

But the main points of contention for unit holders are the fees paid to the management company and trustee. There are three main types of fee:

* The fee paid to the management company under the trust deed, called the headline fee. This payment, which is fully disclosed in the prospectus, is a percentage of the gross assets of the trust.

As the table shows this payment can vary between 0.6 per cent and 0.85 per cent of the gross assets plus an additional incentive fee.

* The fee paid to the management company for the day to day running of the property portfolio, called the extra fee. This payment is obscure and rarely disclosed.

AMP NZ Office Trust's prospectus states that the manager may be reimbursed for all reasonable costs and expenses in addition to the headline fee. These extra expenses include all costs relating to holding, leasing and disposing of property and all reasonable costs incurred by the manager in connection with the administration of the trust.

Symphony Group, which has the management contract for Paramount Property Trust, will receive $70,000 in addition to its headline fee of 0.6 per cent plus incentives (the headline fee will be introduced over a three-year period).

Symphony will also receive a fee for property services, capped at 4 per cent of the trust's annual gross income, and be reimbursed for time spent on lease renewals, new leases and the investigation of potential property purchases by the trust.

The agreements between AMP NZ Office, Paramount and their respective management companies suggest that a high percentage of property costs are charged to the trusts and a large proportion of the headline fee goes straight to the bottom line of the management company.

* The trustee is paid a modest amount. AMP NZ Office's trustee fee was only $135,000 in the June 2002 year and Paramount's has set a maximum of 0.075 per cent of gross assets. In other words the headline management fee is usually 10 to 20 times higher than the trustee fee.

The big rumble at the Calan Healthcare Properties Trust annual meeting was over the extra fees paid to the management company. In the 1997 to 2002 period, the management company received $6.5 million in headline fees and an additional $15 million for extra costs.

Calan is different from the other property trusts in two regards; it operates in the healthcare sector and discloses most of its property costs in the related parties section of its annual report.

The trust operates in a specialised area and has to lease its own space whereas commercial property entities can use outside consultants, such as Colliers Jardine, to assist them in this activity.

This means that extra costs, as disclosed under related party transactions, are much higher for the healthcare property owner.

Some other listed trusts charge expenses against revenue and their reported revenue is a net rather than a gross figure. This allows them to hide expenses incurred on behalf of the management company.

The most surprising aspect of Calan's annual meeting was the disclosure that the management company struggles to make a profit. This is inconsistent with the performance of other management companies.

Kiwi Income Properties Ltd, the manager of Kiwi Income Property Trust, achieved a net profit of $3.1 million, after a subvention payment of $1.8 million to a related party, for the June 2002 year and $4.9 million the previous year.

The accounts show that the management company received $7.3 million from the trust but spent only $0.8 million on property related expenses. The company has paid total dividends of $9.4 million in the past two years.

These management companies can be goldmines for their owners.

Richard Didsbury and Ross Green set up Kiwi's management company with capital of just $1000. It was recently bought for $57.75 million by Colonial First State Property. This is a huge price, although it falls short of the $75 million paid by Robt. Jones Investments Ltd (now Trans-Tasman Properties) when it bought its management company from the private interests of Sir Robert Jones in April 1989.

The purchase prices of these management companies are rarely disclosed to the Stock Exchange because if they were the figures would indicate just how profitable they are.

There are significant structural problems with property trusts, particularly the conflict of interest between the unit holders and management company and the lack of transparency.

Managers have a huge incentive to grow a trust because their headline fee is based on the total amount of assets and all the costs associated with acquisitions and development projects are incurred by the trust.

If the trusts cannot find suitable existing properties to purchase, then they look at development projects, a trend Kiwi and Calan unit holders were critical of this week.

The other issue is that the Unit Trust Act 1960 is hopelessly outdated, it does not encourage full disclosure and unit holders have no governance rights.

The property trust structure is well past its use-by date. The Government should repeal the Unit Trust Act and force existing trusts to convert to limited liability companies. The Stock Exchange should also discourage any new listings that have this outdated structure.

* Disclosure of interest; none.

* gaynor@xtra.co.nz