CEO Influence on Funds from Operations (FFO) Adjustment for Real Estate Investment Trusts (REITs)
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CEO Influence on Funds from Operations (FFO) Adjustment for Real Estate Investment Trusts (REITs) Zhilan Feng 1
& Zhilu
Lin 1 & Wentao Wu 1
Accepted: 15 September 2020/ # Springer Science+Business Media, LLC, part of Springer Nature 2020
Abstract This paper investigates the non-GAAP performance measures of the REIT industry, specifically the difference (FFO adjustment) between concurrent FFO and Net Income (NI). Using the U.S. Equity REIT data from 1993 to 2018, we first find evidence that both NI and FFO are associated with REIT marketadjusted stock returns, suggesting both contain information that is valuable to investors. Second, we document a significant and positive relationship between contemporaneous FFO adjustment and NI, indicating a possible “selective” and “intentional” inclusion and/or omission of “good” vs. “bad” news in FFO reporting. Third, we find direct evidence that more powerful CEOs are indeed associated with higher FFO adjustments, suggesting CEOs’ involvement in hiding subpar performance. Finally, we focus our attention on a more recent period, when the National Association of Real Estate Investment Trusts (NAREIT) provided additional clarifications and guidelines, and the U.S. Securities and Exchange Commission (SEC) increased scrutiny on FFO reporting. Our results show a diminished “manipulation” for the majority of the REITs, suggesting these guidelines and scrutiny have achieved their intended purposes. While non-GAAP performance measures might supply additional information to investors, our results indicate that providing continuous guidance and monitoring is essential. Keywords REITs . Funds from operations . CEO power JEL Classification D2 . D8 . R3
* Zhilan Feng [email protected]
1
The David D. Reh School of Business, Clarkson University, Potsdam, NY, USA
Z. Feng et al.
Introduction The REIT industry has experienced tremendous growth and expansion in recent years. It accomplished its first-ever listing on the S&P500 Index in October 2001. Starting on September 1st, 2016, the Global Industry Classification Standard (GICS) made the REIT sector the 11th Headline-level sector. “This is the first time since the launch of GICS in 1999 that a new Headline Sector will be added (NAREIT).” These accomplishments signify REIT’s role as an alternative investment vehicle in the portfolios of both individual and institutional investors. A more recent study by NAREIT shows that REITs currently own approximately $3 trillion in gross real estate assets, with more than $2 trillion of that total from publicly-listed and non-publiclylisted REITs and the remainder from privately held REITs.1 Meanwhile, the REIT industry has recognized the importance of its profitability performance to investors and strived to provide useful and valuable information. Because of the nature of real estate assets (i.e., the value of real estate properties could be impacted by market conditions, interest rates, and other macroeconomic factors, and might become more valuable as they age), FFO is a widely adopted volunt
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