|Shares Out. (in M):||24||P/E||0||0|
|Market Cap (in $M):||226||P/FCF||0||0|
|Net Debt (in $M):||1,177||EBIT||0||0|
The company also makes preferred equity and mezzanine loan investments for projects under development as a way to earn high returns and have an opportunity to buy into projects while earning high interest rates while they are being developed. The company has approximately $240 million in these investments, representing approximately 13% of the company’s asset base.
Harbert Management Offers Twice to Buy the Company, Management Says No
On October 29th, the Harbert Special Opportunity Fund quietly filed a 13D announcing a 5.7% position in BRG. No press release accompanied the filing, no news stories were written, and management did not comment on it.
Buried in the 13D was this:
The Reporting Persons believe that the Issuer has struggled to generate meaningful long-term shareholder value, as measured by total return since the Issuer’s initial public offering, relative performance to its peer group, and the sustained discount to net asset value. The Reporting Persons or their representatives have attempted to engage with management of the Issuer to discuss the reasons for this underperformance and to propose a potential solution. More specifically, the Reporting Persons firmly believe the status quo will result in continued underperformance, and that a sale of the Issuer is in the best interest of shareholders. To that end, the Fund recently made a bona-fide non-binding proposal to acquire the Issuer in an all-cash transaction at a substantial premium to the 60-day moving average, which was later revised to offer an even higher premium, subject to confirmatory due diligence (the “Proposals”). The Issuer’s Board of Directors (the “Board”) summarily rejected the Proposals without any substantive discussion with the Fund, and, as a result, the Fund withdrew its Proposals in their entirety.
The 60-day moving average prior to this filing was approximately $9.55 per share. What would one consider a substantial premium? My best guess is 20%. That would indicate an initial offer of approximately $11.50 per share. And if I had to guess again, when that offer was rejected, Harbert then offered $12 per share, which was also rejected.
Harbert manages $6.2 billion in assets as of November 2018 and could easily handle an estimated $300 million acquisition. If Harbert was not fully committed to this, there would no reason for Harbert or any other large investor to file a 13D. Why file a 13D and then not do anything?
More importantly there was no market reaction to this filing, which to this fundamentally driven analyst, was a very bullish sign. Consider the largest holders besides Harbert: Blackrock and Vanguard. Together those two funds own nearly 12% of the company.
Harbert probably sees opportunity in refinancing the expensive preferreds, especially the Series A which has an 8.25% yield and the series C, which has a 7.625% yield. Why is BRG financing apartments with an 8.25% preferred security in a world where the 10-year treasury is below 3%? It seems baffling until you realize that those preferreds are being run through related parties.
Management is Double Dipping with Related Parties by Using Expensive Preferreds
BRG is exactly the kind of company that is in dire need of activism. Since going public in 2015, the stock has gone nowhere but down from its initial price of $15 to its current low price of around $9 per share.
The company has been financing apartment acquisitions and renovations with issuance of expensive preferred shares. But as if that isn’t enough of a disservice to common shareholders, BRG has been paying fees for these preferred share issuances to a related party owned by the CEO.
In just the first nine months of 2018, those fees represented $5.6 million in selling commissions and $2.4 million in dealer management fees. Also, there was additional $0.9 million in connection to the Series B preferred offering. Consider that the company is paying out 10% of the money it raises from preferreds to related parties. That is on top of the 8% yield they are promising to pay investors.
This is a pretty ridiculous way to finance boring apartment assets. It is clear that Harbert sees an opportunity to replace these expensive preferreds and that there is value in stopping this destructive behavior.
The Pressure Will Increase in 2019
With the first activist joining the fray, pressure will only increase in 2019. It is interesting to note that the company controls nearly $2 billion in assets on a small amount of market capitalization. Beyond Harbert, there is plenty of capital including behemoths like Blackstone and others with tens of billions in freshly raised capital searching for opportunities just like this one.
While recent quarterly numbers were good and the company reiterated their guidance for 2018, the stock has not reacted, nor is it recovering in any material way despite offering a superior market dividend.
The company has a buyback in place of nearly $20 million but didn’t buy any shares in Q3. My guess is that management will start to deploy this money in attempt to short up the price and appease shareholders. Expect other shareholder-friendly actions to come as well.
Owens Realty and Mis-Pricing in Publicly Traded REITs
Owens Realty (NYSE: ORM) was a mortgage REIT that owned real estate assets that was being mismanaged similar to BRG. An activist named Eric Hovde launched a proxy battle and joined the board. Within 12 months the company was sold to another publicly traded company.
I wrote up ORM as an opportunity that offered a compelling risk/reward profile. Here was a company paying you 5% and while you waited for the activist campaign to work and that sold at a discount to net asset value. Similar to ORM, BRG sells for a discount to its estimated $11.50 Net Asset Value.
BRG is even better, they own superior assets and the dividend is even higher at 7%. BRG has already internalized the management of the REIT, something ORM had not completed prior to the acquisition. And instead of an activist, you have Harbert, who is interested in buying the company.
In June 2017, O’Shaughnessy Asset Management put out a research report that concluded that publicly traded REITs offer a wonderful opportunity for outsized returns (alpha) and remain uniquely inefficient. The top 25 REITs represent half of the market, and the rest of the REITs have tended to be ignored.
Most REIT investing is closet indexing and these small cap REITs tend to move in ways that are uncorrelated to their own fundamentals. Consider that ORM traded down from $18 to $15 on higher interest rates and weakness in overall REIT sentiment, right before it announced it was going to be acquired. Similarly, BRG has been bouncing around seemingly oblivious to the fact that a large holder has offered twice to acquire the company.
Most apartment REITs, such as ESS, EQR, CPT, AVB, UDR, AIV and MAA all have yields below 4%. Interestingly, Next Point Living, which is another small cap REIT has a yield of 3.2% with apartments in the same high growth markets as BRG, and NXRT is externally managed.
The only apartment REITs with yields similar to BRG are IRT and APTS. IRT has a much lower quality portfolio in markets that are not as attractive such as Memphis, TN and Columbus, Ohio. APTS is externally managed and despite its name has only 40% of its assets in apartments, the rest is office, grocery retail and student housing. BRG appears to be an outlier in terms of quality of assets, focus on apartments and its high dividend yield among its comparable set.
In summary, while I’m unsure of the exact timing, I’m excited to keep clipping 7% dividends while there is a takeover battle for BRG and its attractive portfolio of apartment assets. With safe and boring assets and a low downside risk profile, BRG offers nearly a 35% upside return if it trades to $12 and we earn the current 7% dividend. I expect the company to either be acquired or a battle to emerge in 2019. Stay tuned.
- Acquisition by Harbert or another interested party
- Takeover battle becomes more public
- Proxy fight, board seats
- Updated 13D and 13F filing, which may show Harbert bought more shares
- More press releases or stories
- Clipping 7% dividends in a volatile, yet low interest rate environment
|Subject||Apologies for the font and appearance|
|Entry||01/03/2019 07:25 PM|
I couldn't figure out the right way to upload the document this time. Apologies.
|Subject||Re: What if Harbert were to walk away...|
|Entry||01/04/2019 12:56 PM|
I guess you would, but what is the downside? Also, why would Harbert walk away after filing a 13D and making two offers to buy the company?
|Entry||01/04/2019 01:01 PM|
What do you know about Harbert? Do they have multifamily CRE funds? $1.8bn in CRE is an awfully large bite for someone with $6bn AUM. Are they just trying to put it into play?
Can you share your estimates for NAV, AFFO yield & fair value?
How do you force management to sell? Why do you think they won't destroy too much value in fighting off activists/acquirors? By my math, the delta between the current shareprice and NAV isn't much more than $50mn...I've seen much more lit on fire in hostile situations (not to mention all the bankers, lawyers & refi costs that would need to be paid in an amicable takeover)...
Are there any CoC protections in the 4 series of prefs that would make them come due in case of a proxy fight?
What is your risk case if we enter a recession in 2019?
|Entry||01/07/2019 01:48 PM|
Interesting idea Issambres, and good open ended questions by Blaueskobalt.
I'll add that with no alternative board slate proposed, is there really an activist willing to fight for this small cap?
Also would like to know what defensive features / poison pills lurk in the Pfds.
|Entry||01/08/2019 05:45 PM|
I don't know much about Harbert outside of what is publicly available. They have experience owning and operating multi-family assets, they manage $6b, and they also invest in the stock market.
My estimate of NAV is $12 per share and also my estimate of fair value.
As to forcing management to sell, they own 20% of the company, so they would be hurting their own interest for sure. There could be risk here that is why it isn't a riskless investment, but a low donside investment.
I do not know of any CoC provisions of the prefs.
Generally, multifamily doesn't perform too poorly in a recession. I think occupancy went down 1-2% in the recession. Also, all of BRG markets are super high quality, high growth markets. These are A markets and should hold up.
|Subject||Re: Re: Questions|
|Entry||01/08/2019 05:49 PM|
The opportunity here is that for whatever reason Harbert has been quiet with their activism. That may not continue to be the case in 2019.
|Subject||Change of control put in the series A, C, and D preferreds|
|Entry||01/08/2019 06:40 PM|
Should a Change of Control/Delisting occur, each holder of Series A Preferred Stock may, at its sole option, elect to cause us to redeem any or all of such holder’s shares of Series A Preferred Stock in cash at a redemption price of $25.00 per share, plus an amount equal to all accrued but unpaid dividends, to and including the redemption date, no earlier than 30 days and no later than 60 days following the date we notify holders of the Change of Control/Delisting. In addition, in the event a Change of Control/Delisting should occur we may, at our option, redeem the Series A Preferred Stock, in whole or in part, within 120 days after the first date on which such Change of Control/Delisting occurred, by paying $25.00 per share, plus an amount equal to all accrued and unpaid dividends to and including the redemption date, in cash.
Should a Change of Control/Delisting occur, each holder of Series C Preferred Stock may, at its sole option, elect to cause us to redeem any or all of such holder’s shares of Series C Preferred Stock in cash at a redemption price of $25.00 per share, plus an amount equal to all accrued but unpaid dividends, to and including the redemption date, no earlier than 30 days and no later than 60 days following the date we notify holders of the Change of Control/Delisting.
The Series Ds have a substantially weaker conversion option:
Should a Change of Control/Delisting occur, we may, at our option, redeem the Series D Preferred Stock, in whole or in part, within 120 days after the first date on which such Change of Control/Delisting occurred, by paying $25.00 per share, plus an amount equal to all accrued but unpaid dividends to and including the redemption date, in cash. In addition, in the event a Change of Control/Delisting should occur, each holder of Series D Preferred Stock may, at its sole option, elect to cause us to convert any or all of such holder’s shares of Series D Preferred Stock into shares of Class A common stock as described herein under “Description of Series D Preferred Stock — Conversion Right Upon a Change of Control/Delisting,” unless, prior to the Change of Control/Delisting Conversion Date (as defined herein), we have provided or provide notice of our election to redeem the Series D Preferred Stock as described herein under “Description of Series D Preferred Stock — Optional Redemption by the Company” and “Description of Series D Preferred Stock — Special Optional Redemption.”