DEFINITION of Real Estate Operating Company (REOC)
A real estate operating company (REOC) is a company that invests in real estate and whose shares trade on a public exchange. A real estate operating company is similar to a real estate investment trust (REIT) except that an REOC can reinvest its earnings into the business rather than distribute them to unit holders the way REITs do. REOCs are also more flexible than REITs in terms of what types of real estate investments they can make.
BREAKING DOWN Real Estate Operating Company (REOC)
Because real estate operating companies reinvest earnings rather than distribute dividends to unit holders, they do not get the same benefits of lower corporate taxation that are common characteristics of REITs. Real estate operating companies are also not under the same regulatory constraints that REITs must comply with.
Key Differences Between a Real Estate Operating Company and an REIT
There are functional and strategic differences between real estate operating companies and REITs. Many REITs focus their investment and portfolio strategy to generate cash flow through the rent or leases generated by the properties they hold. Investments made by a REIT in a construction project and acquisitions might be aimed at generating rental income from the property. That net income primarily goes towards distributions issued to investors.
A real estate operating company might fund new construction and then sell the property for a return. The company could also buy a property, refurbish the building and then resell the real estate for a profit. An REOC could likewise serve as a management company that oversees properties. The earnings that a real estate operating company generates can largely be reinvested in projects such as acquisitions, refurbishments and new construction. This allows a REOC to fill up its portfolio relatively fast with potential long-term prospects. This compares with the regulations that require REITs to distribute most of their net income to their shareholders. There may be the potential for greater growth prospects with an REOC but they might not generate as much immediate income as REITs.
Investors in an REOC seek capital gains rather than passive cash flows. When analyzing a potential REOC investment, an investor should look for a relatively high return on investment capital, return on equity, and return on assets as well as a respectable valuation. These are all measures of how well a company has been using its invested capital, equity and assets to generate profits. The higher these returns the more likely it is that the company will continue to be profitable.