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Loblaws on Queen St. at Portland St. in downtown Toronto is pictured on July 15, 2013.

Gloria Nieto/The Globe and Mail

It has the hallmarks of a transformational deal: The combination of Choice Properties REIT and Canadian REIT will create Canada's largest publicly traded commercial property owner, and the merger is backed by the powerful Weston family.

The buyer's investors, though, don't seem so smitten.

After some brief optimism about Choice's $3.9-billion purchase of CREIT – a deal that will create a bigger company than long-time giant Riocan REIT – Choice's investors started selling on Thursday. The buyer's rationale seemed to be in question, particularly because the transaction's financial benefits were tough to see.

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Choice has been a stable, but relatively sleepy, company since going public in 2013. At the time of its initial public offering, the REIT was largely seen as a means for grocer Loblaw Cos. Ltd. to "unlock value." It's mostly stayed that way.

In the wake of the financial crisis, Canadian real estate investment trusts caught fire because they paid investors relatively dependable, juicy yields in an era of incredibly low interest rates. By selling properties it had long owned into the REIT, Loblaw could get a better value for them – and get some immediate cash in the process. The spin out and its financial merits also laid the groundwork for Loblaw to buy Shoppers Drug Mart a few months later.

In the five years since, Choice has mostly continued to buy more Loblaw properties – usually around $125-million worth each year – and its units have outperformed, delivering a total return of 56 per cent during this time relative to 45 per cent provided by the S&P/TSX Capped REIT Index.

Recently, Choice has added a development focus, aiming to intensify the real estate footprint at a number of its retail locations. It has all seemed to be a safe, dependable strategy, but still had some upside. Intensification means adding more square feet of real estate to an existing property. If there's a single, two-storey building, you can build above and around it – often adding residential real estate.

"While other REITs have embarked on various development and value-creation initiatives, Choice Properties' portfolio has the unique and desirable attribute of offering very low site density for intensification," CIBC World Markets analyst Sumayya Hussain wrote in a November research note, adding that the company has at least 3.5 million square feet available for such initiatives.

Then came the blockbuster deal for CREIT. When discussing the deal on a conference call Thursday, Choice's management at first disclosed few financial details, such as whether the acquisition is accretive or dilutive.

When pressed on the financial merits, Richard Dufresne, the chief financial officer of George Weston Ltd., said the purchase, which includes paying a 23-per-cent premium for CREIT, will be dilutive in its first year.

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But that shouldn't matter, he said, because "you see a very fulsome commercial real estate entity here."2

"We did not pursue this transaction based on short-term accretion or dilution," he added.

Instead, Choice is aiming to boost the multiple at which it trades. Before the announcement, the REIT was trading at 13.7 times its adjusted funds from operation – which is a mix of earnings and cash flow. Bumping this to, say, 16 times, would send the unit price higher.

Choice argues that diversifying its real estate away from grocery-anchored retail will benefit investors in the long run, as will merging with another large, dependable REIT to create more liquidity for its units. Analysts tried to wrap their heads around this vision, but seemed to struggle. Choice touted the mixed-use real estate developments – a combo of retail, office and residential properties – that buying CREIT will add. When one analyst asked how many will be brought over, Choice acknowledged it already has far more than CREIT does.

The deal is also structured as somewhat of a reverse takeover, in that Choice is the buyer, but CREIT's chief executive, Stephen Johnson, along with its CFO and chief operating officer, will run the combined REIT. Current Choice chief John Morrison announced his retirement in 2016, but never actually left.

Then there are questions about the Weston family's vision. Although Choice is publicly traded, 82 per cent of its units are currently owned by Loblaw – which is, in turn, controlled by the grocer's ruling family.

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On the call, Loblaw CEO Galen G. Weston argued that a major pivot was always in the offing. "We've always had an ambition to establish Choice Properties as a real estate entity on its own," he said, adding that he and the Choice team "always contemplated M&A."

It isn't clear yet whether CREIT shareholders will share the same appreciation for the strategy. After the deal, Loblaw will own 62 per cent of the combined company, which means the target's shareholders will have to be content with losing control.

None of this is to say the deal won't pan out. But at this point, it's tough to appreciate the merits, which means Choice will need to do a better job of selling the story.

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