Many individual investors have asked me "What should I look for in a REIT? Are there any tests by which a quality REIT can be measured?" There are as many answers to these questions as there are REIT investors, but here are mine:

Management and Track Record. REITs are a unique blend of both real estate and operating business, so it's crucial to look for outstanding management. Knowledge of markets and excellent property management and leasing skills are obviously important, but having the judgment and maturity to run a public company well is essential. Many strong and capable real estate executives have decimated shareholder value because they didn't know what investors expect from them as stewards for their assets. Elimination of conflicts of interest, integrity, ability to create value for shareholders, avoidance of undue risk, balance sheet management, wise use of capital and knowing when to grow assets and when not to are all major issues.

Clues to help us determine REITs' management strength and competency can be found in their track records; fortunately, most REITs have been public for several years. Have they created value for shareholders? Did they overpay for acquisitions? What were the yields on new developments? Have they grown assets merely to build an empire? How have they managed their balance sheet? Has management anticipated turning points in real estate and capital markets, or just reacted to them after they've occurred? Have they done what they've promised?

Quality Real Estate. For brief periods during market cycles a rising tide lifts all boats. But when real estate markets moderate, the companies that do best are those who own quality real estate in good locations. This does not necessarily mean "high barrier to entry" cities or regions; even within Dallas or Atlanta some submarkets will consistently perform well. When REITs have little opportunity to acquire, as is the case today, much of their growth will come from increasing cash flows from existing properties in great locations.

Balance Sheet Strength. A strong balance sheet is crucial, not only to continued financial health and the ability to capture opportunities, but also to problem avoidance. I'd guess that two-thirds of those REITs whose stocks have crashed and burned over the past 10 years were done in by near-term debt maturities which couldn't be renewed or by an over-leveraged balance sheet. A strong balance sheet reduces risk, cuts exposure to rising interest rates (and credit line renewal issues), and instills confidence in investors, while providing plenty of dry powder to seize new real estate opportunities as they arise. High leverage can boost FFO growth, but it comes at a price.

Strategy. Every REIT needs a long-term strategy, and no single plan is best for all REIT organizations. However, the strategy chosen must make sense for that REIT, and be based upon the strengths and capabilities of the organization. Management which is outstanding at finding great acquisitions but has little development expertise shouldn't try to build a large development pipeline. As Clint Eastwood said in a different context, "A man's gotta know his limitations."