Monday, August 31, 2020

NexPoint Strategic Opportunities: CEF to REIT conversion, Possible NXRT Replay

Back in 2015, closed end fund NexPoint Strategic Opportunities (NHF) (then known as NexPoint Credit Strategies) spun out NexPoint Residential Trust (NXRT), a value-add class B multi-family REIT it had incubated inside the CEF, NXRT went on to 4-5x over the next several years (unfortunately I only caught about 2x of that).  Last week, news came out that NHF shareholders voted to convert the fund to a REIT, possibly setting up another similar opportunity for a multi-bagger as the valuation metric evolves from a discount to NAV story to a multiple on FFO story.

The thesis here is a bit incomplete at this stage but promising if you followed NXRT, NHF trades at $9.45 or 55% of net asset value (pre-covid that discount was more in the 15% range), as part of the conversion to a REIT they'll be selling non-REIT related assets presumably near NAV of $17.19 per share, capturing that discount by then buying distressed real estate in the post-covid fallout.  By applying a similar NXRT value-add strategy, NHF will look to sell newly stabilized assets and then recycling that capital back into opportunistic real estate, rinse and repeat, creating sort of a multiplier effect.  The new-REIT will have a pretty wide investment mandate, essentially any asset class is fair game according to the proxy although I assume they'll stay away from multi-family and hospitality/lodging as NexPoint already has publicly traded REITs that focus on those sectors.  The public REIT market likes simple stories, this doesn't appear like it will be one, at least not initially, but NHF does intend to maintain a monthly dividend, so it could entice retail investors interested in yield.

NHF's current portfolio is sort of grab bag of assets, looking at it and its seems a bit incoherent, many readers will recognize some of the individual equity names, several bankruptcy reorgs and other special situations, NHF even has 8 shares of NOL shell Pendrell for those looking to pick some up in the coming months.  They also own CLO debt and equity, which has generally held up well through the crisis and are probably worth more than where they're marked.  But 25% of the portfolio is in a wholly owned REIT they've once again incubated, NexPoint Real Estate Opportunities, which owns self-storage facilities, a Dallas office building (City Place Office Tower), a new construction Marriott hotel in Dallas and a single family rental operator.  Again, not a real coherent strategy, this idea is a bit of a leap of faith based on their past track record and we'll likely know more in the next 6-9 months through this conversion.  I picked up a smallish position with the intention to add more as the story unfolds.

Other quick thoughts:
  • NHF post REIT conversion will be externally managed, the fee agreement has an expense cap at 1.5% of assets for the first year and there are no incentive fees.  This is a similar setup to NXRT, I believe some of the "investor friendly" aspects of the fee agreement are related to being a historical 40 act mutual fund and not just out of the kindness of management's heart.
  • Speaking of management, James Dondero will be the CEO, he has a litigious reputation (feel free to Google), but again, hard to argue with what the team did with NXRT and he owns 11.5% of the fund/stock.
  • They have a repurchase plan in place that allows them to repurchase 10% of the stock over a one year period (plan was put into place on 4/24/20), unclear if they've acted on it at all or if they would with the new change in plans.
  • One big benefit of being a REIT over a CEF will be index inclusion, joining the REIT indices should improve the valuation and analyst coverage.
Disclosure: I own shares of NHF

3 comments:

  1. I like the idea since NREF is already trading back to a discount of ~15% vs 45% for NHF. When they mark NAV for NHF, are they also using NREF at 100% NAV vs the discount at 15%? From your linked holdings, it looks like 30MM in value at 3/31.

    The big question for me is the 230MM holding in NexPoint Real Estate Opportunities, LLC. Is that marked correctly? The market is saying no, due to the high discount to NAV. Perhaps a chunk of that is due to the Marriot new build in Dallas? Any idea how much the hotel is valued at?

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    1. It's a fair question, NexPoint Real Estate Opportunities was marked at $292MM prior to covid, hard to know the puts and takes to that valuation. Also hard to tell what percentage of NREO is the office/hotel and how much is the self storage/SRF, the latter has certainly held up pretty well through the crisis. I figure we'll know more in the coming months.

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  2. Very interesting, Self storage is an area of real estate I'm interested in owning and the special situation catalyst with the conversion makes this very interesting to me.

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