Bill Takes Aim at Pension Fund Investments

The Arkansas Teacher Retirement System, the largest state pension fund, invested more than a $100 million in real estate during 2000, mostly to buy office buildings. That included $3.5 million to purchase the 75,900-SF Bank of America Plaza on Fayetteville’s downtown square.

A bill introduced in the 83rd General Assembly seeks to put an end to that kind of investing of teacher retirement funds.

Senate Bill 16, sponsored by Cliff Hoofman, D-North Little Rock, also names four other state pensions funds: the Arkansas State Highway Employees Retirement System, the State Police Retirement System, the Arkansas Judicial Retirement System and the Arkansas Public Employees Retirement System.

Of the five state pension funds, only ATRS and APERS have opted to add real estate to their mix of investments.

If Hoofman’s bill is passed as proposed, ATRS and APERS would not only have to quit buying real estate. The two pension funds would have to sell all but one of the properties they own.

This provision would hit ATRS, which owns 16 properties, especially hard. The pension fund is in the middle of constructing the 228,000-SF Victory Building and adjacent 1,000-car parking deck near the state Capitol.

Bill Shirron, ATRS executive director, will be lobbying against the measure and is particularly opposed to the sell-off provision.

“With that kind of language in the bill, real estate people would sit around, waiting for the fire sale,” Shirron said. “We would take a real loss.

“Good-performing real estate should be a part of your portfolio.”

The performance issue has drawn special scrutiny from those questioning whether the pension funds should be investing in real estate.

In 1994-99, ATRS real estate investments produced an overall profit of $5.3 million. The average annual return on those investments during the six years was 6.8 percent.

The investments that produced that $5.3 million in profit would have produced $26.1 million had it been invested similarly to the rest of ATRS’ domestic securities portfolio. ATRS’ other domestic investments produced an average annual rate of return of 21.28 percent.

During the same six years, real estate investments produced a net loss of $1.9 million for APERS.

Hoofman said the pension funds would be better off investing those real estate funds elsewhere in the face of low yields at ATRS and lost money at APERS.

“The problem we have is that public funds are at far greater risk than was envisioned,” he said. “There is a whole lot more speculation in real estate than in the bond and investment market.

“Our retirement systems cannot afford those kinds of investments. More profitable pension fund investments mean less taxpayer contributions.”

ATRS has total assets of more than $8.5 billion, while APERS administers total assets of more than $4.5 billion. The sheer size of the pension funds swallow up real estate investments that only number in the millions of dollars.

APERS owns only two properties and hasn’t invested in real estate since 1996, having invoked a self-imposed moratorium. The pension fund became disenchanted with real estate investing after its experience with two neighboring office projects in downtown Little Rock.

As drafted, Hoofman’s bill would require APERS to sell and relocate from its current quarters because it occupies far less than half the building.

Only the ATRS headquarters at 1400 W. Markham St. would be exempt from a forced sale. The pension fund occupies two-thirds of the building.

Looking Back

Hoofman traces his interest in prohibiting real estate investing by state pension funds back to 1994. That’s when APERS bought the former Union National Bank Building and adjoining parking deck for $11.6 million.

The 285,000-SF office building, renamed One Union Plaza, marked the first real estate investment by an Arkansas pension fund. Hoofman was among those who believed APERS paid too much for the property.

Those concerns have proved to be well-founded since the pension fund has had to invest even more money in the building. From 1995-99, the investment produced a combined loss of $2.4 million.

“About six years ago, I realized there was a problem,” Hoofman said. “I thought at the time, ‘What in the world are they doing?’ I wasn’t aware that the ‘prudent investment’ rule allowed them to get into real estate ownership.”

He was active in getting the prudent investment rule adopted a decade ago. Among other things, that provision encourages — but doesn’t require — state pension funds to invest 5-10 percent of their money in Arkansas-related projects.

As far as the rule relates to real estate, Hoofman said his intention was to facilitate pension funds making real estate loans. Later interpretations of the rule led APERS and ATRS to begin buying real estate.

Hoofman first tried to put an end to ownership of real estate investments by pension funds in 1995. He was surprised that his proposal encountered such an unfriendly reception at a meeting of the special language subcommittee of the Joint Budget Committee.

“Gosh, there was such an orchestrated opposition when I showed up in the meeting,” Hoofman said. “Sen. Nick Wilson was the one primarily orchestrating the opposition. I thought maybe there was something I missed in all this, and I pulled my bill down, realizing it wasn’t going to pass.

“On that one, I came expecting no opposition and full support and was overwhelmed by the opposition.”

Hoofman talked about submitting his proposal the past two sessions but now believes his peers will be receptive to it in light of new developments. Those include the resignation of Wilson and the discovery that he received undisclosed money in connection with the APERS real estate deals.

Wilson is doing jail time as a result of a federal investigation that uncovered his having pocketed $330,000 in illegal referral fees in the sale of both buildings. The money paid to Wilson came from John Flake, the prominent real estate broker who sold the buildings to APERS on behalf of Worthen Banking Corp. and insurance executive James “Bum” Atkins.

Flake split his commissions with Wilson in an unusual arrangement that drew a cursory look from the Arkansas Real Estate Commission. Wilson didn’t have a real estate license to entitle him to receive the fees.

Flake has said Wilson misled him about having a real estate license, while Wilson indicated Flake initiated the fee-splitting arrangement. Either way, Flake avoided possible sanctions when the commission decided that the inappropriate transactions occurred beyond the statute of limitations.

PERS officials said they only learned of Wilson’s involvement after a federal grand jury exposed his hidden participation in the transactions.

“I think the trustees who manage the funds are above reproach and didn’t do anything wrong,” Hoofman said of the real estate investment decisions made by ATRS and PERS.

He also is concerned about the willingness of the pension funds to do real estate deals on the basis of returns the private sector would deem below market.

“I don’t think we need public funds put into competition with private investors,” Hoofman said. “They can pull out tenants from private investors and hurt those projects.”

The Victory Building, which ATRS is developing, is of special concern to Hoofman. He believes it will have a negative effect on privately owned office buildings.

That’s doubly bad to him because the project was launched under a risky scenario that private-sector investors would find intolerable, he said. The $30-plus million office complex was started with less than 50 percent of its space preleased.

“I am concerned we have allowed such speculation with a downturn in the real estate market,” Hoofman said.

ATRS’ Shirron said Hoofman’s fears are misplaced.

“We’re 50 percent leased and feel real comfortable that we won’t have any trouble leasing up the rest,” he said.

What If …

If the money ATRS invested in real estate had instead been invested in domestic securities that generated the same average return as the rest of the domestic securities in the ATRS portfolio:

ATRS coffers would’ve grossed $26,123,864 during 1994-99 compared to the six-year total of t$5,273,391 produced by real estate.

That’s a difference of $20,850,473.

The Heart of SB 16

“State supported retirement systems shall not purchase real property as an investment of the system, but may only maintain ownership of real property if:

“(1) A majority of the occupiable space of the real property is occupied by the retirement system as the business office of the system or

“(2) Title to the property is vested in the system as a result of foreclosure.

“If a state supported retirement system no longer occupies a majority of the occupiable space of real property, or if a state supported retirement system acquires ownership of real property as a result of foreclosure, the real property shall be disposed of as soon as reasonably possible.”