By Paul Wanner

Corporate governance continues to be a topic of interest among institutional investors and the media. Once again, the numbers confirm that REITs operate at or above the level of governance quality seen in other industries. For the third year in a row, independent, third-party data from Institutional Shareholder Services (ISS) shows that the real estate industry ranked second only to the utilities industry in the ISS Corporate Governance Quotient (CGQ) rankings. CGQ rated 217 real estate companies, substantially all of which are REITs.

As of April 1, 2007, the average CGQ for the real estate group was 60.5 on a scale from 0 to 100, with 100 being the highest. In fact, Ventas, Inc. (NYSE: VTR) was the top-ranked REIT with a score of 100. Only the utilities industry, with an average CGQ of 68.1, rated higher, and the average CGQ for all companies was 50.7.

Average CGQ Ranked by Industry
Industry Group	Average Index CGQ
Utilities	68.1
Real Estate	60.5
Pharmaceuticals & Biotechnology	55.2
Materials	52.6
Semiconductors & Semiconductor Equipment	52.6
Technology Hardware & Equipment	52.2
Insurance	52.1
Health Care Equipment & Services	51.8
Capital Goods	51.7
Banks	51.3
Commercial Services & Supplies	50.8
Overall Average	50.7
Automobiles & Components	50.3
Consumer Durables & Apparel	49.5
Software & Services	49.4
Energy	48.5
Diversified Financials	48.4
Food & Staples Retailing	48.1
Transportation	47.3
Consumer Services	45.7
Retailing	45.2
Telecommunication Services	42.8
Food, Beverage & Tobacco	40.1
Household & Personal Products	39.1
Media	37.4
Source: ISS. Data as of April 1, 2007

The relative strengths and weaknesses of the real estate industry have not changed since 2006. Real estate companies continually have more progressive governance practices in all categories, but they stand apart in particular by installing fewer takeover defenses.

One relative weakness in governance practices of real estate companies cited by ISS over the past two years has been the higher-than-average option grant burn rates which are the average rate at which options were granted over the previous three years as a percentage of shares outstanding. However, the real estate industry has improved on this rating factor in the past year. In 2006, 21.6 percent of real estate companies had option grant burn rates deemed by ISS to be excessive, compared to just 16.6 percent this year. The 16.6 percent figure is more aligned with the 14.8 percent of all U.S. companies that had an excessive option grant burn rate.

From a governance perspective, the only area in which ISS cited real estate companies for notable and enduring underperformance was a high incidence of related-party transactions involving the CEO and other officers and directors.

Board and Key Committee Independence

Some of the more heavily weighted factors in the CGQ rating methodology examine the percentage of independent directors on the board as well as key committees. As one would expect, the higher the percentage of independent directors, the more credit the company receives in the ratings.

ISS also found that real estate companies are more likely than others to have fully independent nominating, compensation and audit committees. A higher percentage of real estate companies have established governance committees as well.

Board Practices

The CGQ rankings also examine board practices to determine whether the appropriate checks and balances are in place at the board level. Some of the factors considered are director attendance, the number of boards that directors may serve, whether the outside directors meet in executive session without management present and whether directors have been involved in related-party transactions.

ISS found that two factors—posting governance guidelines on the company Web site and disclosing the number of executive sessions held by the outside directors—accounted for the real estate sector outperforming the all-company group by almost thirty points.

As previously mentioned, one area where real estate companies tend to be less progressive than other companies is in the number of related-party transactions. Sixty-three percent of real estate companies have no related-party transactions involving the CEO—21 points behind the 84 percent of the all-company group having no related-party transactions involving the CEO.

Similarly, 48 percent of the real estate companies have no related-party transactions involving officers and directors other than the CEO.

Takeover Defenses/Shareholder Rights

On many of the CGQ rating factors relating to takeover defenses, real estate industry practices are aligned with the average practices of U.S. companies as a whole. However, the real estate industry stands out on a few key issues.

In fact, real estate companies are less likely to have established classes of stock with super voting rights, which is the most heavily penalized negative factor in the CGQ methodology.

Compensation and Ownership

Examining ownership-related practices provides a more complete picture of whether a regime is in place that encourages the alignment of shareholders’ and managers’ interests. Practices encouraging stock ownership by officers and directors are treated favorably in CGQ, provided the ownership levels are not excessive.

CGQ measures the aggregate level of stock ownership of officers and directors, whether stock ownership guidelines for officers and directors are in place, and whether all directors on the board own stock.

Some of the compensation-related factors in CGQ are: compensation plan costs, the rate at which options are granted, options backdating, shareholder approval of stock incentive plans and disclosure of target thresholds for performance-based pay.

As for compensation and ownership-related issues, real estate companies are slightly more progressive on these issues than other U.S. public companies as a whole. For example, real estate companies are more likely to subject their officers and directors to stock ownership guidelines, more likely to have stock incentive plans approved by shareholders and more likely to disclose the specific target thresholds that must be reached in order for stock performance awards to be granted.

Audit Factors

The real estate group’s audit practices reflect the practices of the all-company universe, and the differences between the two groups in this category are statistically insignificant. A slightly higher percentage of real estate companies ratified auditors at the last annual meeting. However, a higher percentage of real estate companies have audit committees comprised only of financial experts. CGQ also looks at the percentage of non-audit fees paid to the auditor as a percentage of the total audit fees.

Overall, REITs and the real estate industry can pat themselves on the back again for their superior governance practices. The number of real estate companies with excessive option grant burn rates has fallen by five percentage points over the past year and the only notable governance weakness is that real estate companies are more prone to have officers and directors, including the CEO, involved in related-party transactions. On other issues involving compensation, ownership, takeover defenses, board independence and board practices, the real estate industry has proven to be a leader in progressive corporate governance.

Top 50 Real Estate Companies, Ranked by Industry CGQ
Company Name	Ticker	Industry Group	Index Group	Industry CGQ
Ventas, Inc.	VTR	Real Estate	Russell 3000	100
Duke Realty Corporation	DRE	Real Estate	Russell 3000	99.6
Equity Office Properties Trust	EOP	Real Estate	S&P 500	99.2
Parkway Properties, Inc.	PKY	Real Estate	S&P 600	98.8
UDR Inc.	UDR	Real Estate	S&P 400	98.4
Fieldstone Investment Corporation	FICC	Real Estate	Russell 3000	98
Colonial Properties Trust	CLP	Real Estate	S&P 600	97.6
The St. Joe Company	JOE	Real Estate	Russell 3000	97.2
Regency Centers Corporation	REG	Real Estate	S&P 400	96.7
RAIT Financial Trust	RAS	Real Estate	Russell 3000	96.3
National Retail Properties, Inc.	NNN	Real Estate	S&P 600	95.9
Liberty Property Trust	LRY	Real Estate	S&P 400	95.5
Apartment Investment & Management Co.	AIV	Real Estate	S&P 500	95.1
AMB Property Corporation	AMB	Real Estate	S&P 400	94.7
Plum Creek Timber Company, Inc.	PCL	Real Estate	S&P 500	93.5
Nationwide Health Properties, Inc.	NHP	Real Estate	Russell 3000	93.1
Acadia Realty Trust	AKR	Real Estate	S&P 600	92.7
ProLogis	PLD	Real Estate	S&P 500	92.3
Equity Residential	EQR	Real Estate	S&P 500	91.5
Brandywine Realty Trust	BDN	Real Estate	Russell 3000	91.1
Highwoods Properties, Inc.	HIW	Real Estate	S&P 400	90.7
BRE Properties, Inc.	BRE	Real Estate	Russell 3000	90.2
U-Store-It Trust	YSI	Real Estate	Russell 3000	89.8
Reckson Associates Realty Corp.	RA	Real Estate	Russell 3000	89.4
Cousins Properties, Inc.	CUZ	Real Estate	Russell 3000	89
Redwood Trust, Inc.	RWT	Real Estate	Russell 3000	88.6
Federal Realty Investment Trust	FRT	Real Estate	Russell 3000	88.2
iStar Financial, Inc.	SFI	Real Estate	Russell 3000	87.8
Getty Realty Corporation	GTY	Real Estate	Russell 3000	87.4
Government Properties Trust, Inc.	GPT	Real Estate	Russell 3000	86.6
EastGroup Properties, Inc.	EGP	Real Estate	S&P 600	86.2
Developers Diversified Realty Corporation	DDR	Real Estate	S&P 400	85.8
Health Care REIT, Inc.	HCN	Real Estate	Russell 3000	85.4
Camden Property Trust	CPT	Real Estate	Russell 3000	85
CBL & Associates Properties, Inc.	CBL	Real Estate	Russell 3000	84.6
Lexington Realty Trust	LXP	Real Estate	S&P 600	84.1
Maguire Properties, Inc.	MPG	Real Estate	Russell 3000	83.3
Washington Real Estate Investment Trust	WRE	Real Estate	Russell 3000	82.9
Weingarten Realty Investors	WRI	Real Estate	S&P 400	82.5
New Century Financial Corporation	NEW	Real Estate	S&P 600	82.1
Entertainment Properties Trust	EPR	Real Estate	S&P 600	81.7
American Campus Communities, Inc.	ACC	Real Estate	Russell 3000	81.3
Alesco Financial, Inc.	AFN	Real Estate	CGQ Universe	80.9
Mack-Cali Realty Corporation	CLI	Real Estate	S&P 400	80.5
Healthcare Realty Trust, Inc.	HR	Real Estate	Russell 3000	80.1
PMC Commercial Trust	PCC	Real Estate	CGQ Universe	79.7
Rayonier, Inc.	RYN	Real Estate	S&P 400	79.3
Equity Lifestyle Properties, Inc.	ELS	Real Estate	Russell 3000	78.9
Dynex Capital, Inc.	DX	Real Estate	CGQ Universe	78.5
Avatar Holdings, Inc.	AVTR	Real Estate	Russell 3000	78
Source: ISS. Data a s of April 1, 2007