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OPTrust, partners create landmark REIT

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Canada's OPTrust Private Markets Group, the pension arm of the big Ontario pension fund, is teaming up with four giant partners to create a first-of-its-kind real estate investment trust that will invest in U.S. power infrastructure.

The $2.1-billion REIT will seek to own key electrical and natural-gas assets such as local distribution companies and power lines. Those are bread-and-butter assets for pension funds, many of which are in the utility and infrastructure businesses, but the real key is the structure. By creating a REIT, OPTrust Private Markets Group and its partners can spin off more cash from the assets and get better tax treatment.

The structure has long intrigued bankers and investors, but it there are numerous challenges to making it work, including assembling a group of investors.

The pension fund manager is investing alongside Marubeni Corp., a Japanese trading company, Hunt Power of Texas, Manulife Financial Corp.'s U.S. arm and TIAA-CREF, which manages money for those in the academic, research, medical and cultural fields in the U.S.

OPTrust Private Markets Group, which handles all the private equity and infrastructure investments for OPTrust, a $12.1-billion government employee pension plan, has quietly been building one of the bigger pension-fund private equity teams in the country.

The group has offices in Toronto and London, more than 30 staff and now has about 20 investments in its portfolio, including stakes in Thames Water, a U.K. utility; Oceanex, which ships goods by water to Newfoundland; and Porterbrook, a train leasing company in Britiain that was created as part of the privatization of British Rail. In 2009, its infrastructure investments generated a 14.5 per cent return, while private equity investments loss 3.1 per cent.

Wall Street and investors have been working to create such REITS since the Internal Revenue Service ruled a few years ago that transmission assets such as pipes and power lines could qualify as real property eligible to be owned by a REIT. The advantage of a REIT is that it minimizes taxation at the corporate level by passing almost all its cash flow on to owners.

A REIT also attracts a different set of investors who want to get into power assets but want yield and cash flow, rather than a more traditional private-equity investment that's built on the notion of an increase in value of the underlying asset.

Some of the challenges included satisfying rules on U.S. control of assets, as well as creating a partnership because a single investor couldn't do it. OPTrust Private Markets Group has been working on the transaction and its partnership for more than a year.

For the moment, the REIT will be a private affair. The initial assets will come from Hunt Power, which will contribute utility and distribution assets as well as cash. Hunt Power will operate the initial assets.

Once the $2.1-billion is invested, with $400-million coming from OPTrust's share, the structure enables the owners to take the REIT public to seek more capital.

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