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Posted at 11:33 a.m., Tuesday, July 17, 2007

Hawaii's Prospect fund fights for control of Japan REIT

By Kathleen Chu and Akihito Fukuda
Bloomberg News Service

TOKYO — Prospect Asset Management Inc., a Honolulu-based fund with $2 billion invested in Japan, wants the company that founded real estate investment trust FC Residential Investment Co. to step aside as investors seek a bigger say in businesses where they own shares.

Fund Creation has failed investors by refusing to change FC Residential's management, Prospect's Chairman Curtis Freeze said in an interview July 11. Fund Creation, whose shares plunged 67 percent last week after it slashed its profit forecast, has said it won't give up the REIT, in which Prospect is the biggest shareholder.

"FC Residential could be the first REIT in Japan ever to be forced through a reorganization," said Daisuke Seki, chief executive of Tokyo-based IB Research and Consulting Inc.

Prospect and Morgan Stanley are among overseas companies piling into property after land prices rose in 2006 for the first time in 16 years. Prospect has endangered the trust's tax breaks by raising its stake in the REIT this year. That led news magazine AREA to liken Freeze to gunboats that forced Japan to allow U.S. trade in the 1850s.

Foreign investors drawn to the world's second-biggest economy are also demanding greater returns. Former Morgan Stanley banker Scott Callon led the nation's first successful shareholder revolt in February, blocking a steel industry takeover.

Property Values

Japan's two biggest developers, Mitsui Fudosan and Mitsubishi Estate, last month moved to introduce takeover defenses after gains in property values prompted speculation they could face hostile bids.

Morgan Stanley in April agreed to buy All Nippon Airways Co.'s 13 Japanese hotels for 281.3 billion yen ($2.3 billion) in the nation's largest real estate acquisition.

Fund Creation, which wants FC Residential's top three shareholders to reduce their stakes to preserve the REIT's tax break, may sell new stock to a third party, Chief Executive Officer Katsuhiro Tashima said July 12. Tashima plans to find a partner to jointly manage FC Residential, which Fund Creation set up in October, 2005.

"It's far fetched to say that FC Residential needs a new fund manager just because we revised down our forecast," Tashima said. "The operation of FC Residential and our company should be considered separately."

Tax Break

Japanese REITs are exempt from corporate tax provided they distribute more than 90 percent of profit to shareholders, have 75 percent of all their assets in real estate and their three biggest shareholders own no more than 50 percent of the trust. FC Residential's three biggest shareholders now own a combined 51.89 percent and that needs to drop below 50 percent by October to retain the tax break.

"Other shareholders are expecting income gains," Tashima said. "It is also hard for us to negotiate with a new partner under such condition."

Freeze was described as a "black ship" on April 9 by AREA, a weekly magazine published by the Asahi newspaper, a reference to the flotilla commanded by U.S. Commodore Matthew Perry that forced Japan to open to trade in 1853.

"Media have focused on Prospect as the bad guy," Freeze said. "Nobody focused on the company causing investors losses."

Raised Stake

Prospect has raised its stake in FC Residential to 37.37 percent, from 32.5 percent in January, endangering the trust's tax breaks by breaching the 50 percent threshold for a REIT's three biggest shareholders. The fund has done so as FC Residential generated a total return of 34 percent in the past year, including share gains and dividends, lagging behind the 43 percent average for the Tokyo Stock Exchange's REIT Index.

"We want a new management company and a new sponsor." Freeze said. "We are intentionally putting a lot of pressure on the management, that's why we have been buying so many shares. We are not expecting them to change to Prospect" as the sponsor.

Japanese REITs' sponsors are responsible for supplying properties for the trusts and choosing managers.

JPE Capital Management Ltd. is the second-largest shareholder in FC Residential with 8.08 percent and Nikko Asset Management Co. is the third-biggest with 6.44 percent.

Other Holdings

Prospect owns shares in other REITs including Crescendo Investment Corp., LCP Investment Corp., DA Office Investment Corp., Kenedix Realty Investment Co. and MID Reit Inc.

FC Residential is Prospect's third-largest stake as a proportion of shares outstanding. Prospect's top two shareholdings also are residential companies. The company owns 50.14 percent in Shin-Nihon Tatemono Co. and 42.18 percent in Azel Corp., according to Bloomberg data.

"There is a lot of room for consolidation because there are hundreds of real estate companies but not all of them are well managed," said Freeze. "There is room for better-managed companies to acquire other companies."