US Buy-Out Groups Eye Morgan Stanley Fund

US private equity firms have approached Morgan Stanley about buying a stake in its troubled real estate funds management business, according to people familiar with the matter.


KKR and TPG, both private equity firms that lack a substantial property operation, have expressed tentative interest in the Morgan Stanley Real Estate Fund.

Colony Capital, which has been building exposure to the property market, has also approached Morgan Stanley . Tom Barrack, Colony’s founder, discussed the prospect over lunch with John Mack, chairman of Morgan Stanley, according to a person with knowledge of the matter.

The private equity firms are on a drive to increase assets under management and diversify away from traditional buy-out activity.

However, the values potential suitors are proposing to Morgan Stanley are understood to be relatively low because MSREF’s recent $8.8 billion fund is not likely to return fees or profits.

The proposed values also have been damped by the belief among some suitors that MSREF has a complicated structure.

The head of one big property investment firm who is not interested in the Morgan Stanley business said the biggest obstacle to any deal is getting approval from existing MSREF investors.

“A lot of the limited partners just want their money back,” the person said. Morgan Stanley said it had made no decisions about the fate of the group. It declined to comment on performance or the lack of fees on MSREF funds.

“We have taken a great deal of pain in the past year,” said a Morgan Stanley staffer with knowledge of the matter. “Given where we are in the cycle, it may be the wrong time to sell.”

Morgan Stanley raised $4.7 billion for its most recent property fund in May, which has not been invested. In April, the firm’s $8.8 billion international real estate fund told investors it expected losses of up to two-thirds of its value.

The losses are based on investments in properties such as the European Central Bank’s Frankfurt headquarters, a development in Tokyo and InterContinental Hotels across Europe.

Morgan Stanley does not disclose specific assets under management for MSREF. However, its says MSREF accounts for the majority of the $46.4 billion of assets in its property arm Morgan Stanley Real Estate Investing.

Discussions about MSREF are taking place against a backdrop of regulatory changes that will force the Wall Street firms to alter the way they run the investment funds that they invest in.

The property operations of banks have faced particular scrutiny. While losses have swept across the property market, with values dropping 30-40 percent, they are particularly high at some captive property funds controlled by Wall Street firms.

Some of these funds offered bankers incentives to bring deals to the funds. Banks also provided their real estate funds with access to credit, making it easier to overpay. This sometimes magnified losses on the way down.