Mid Year 2021 Portfolio Review

It has been a surprisingly great start to the year, a continuation of an almost straight line up from November -- my personal account returned 38.27% during the first six months, for a reference point the S&P 500 had a total return of 15.25%.  The biggest positive performance contributors in the first half of 2021 were DigitalBridge Group (fka Colony Capital), MMA Capital, NexPoint Strategic Opportunities and PhenixFIN, the only significant detractor to performance in the first half was CIM Commercial Trust. 

Despite the headline overvaluation in markets, the current environment seems ripe for special situation investing.  There is a post-recovery mess to be cleaned up, companies will look around in the changed operating environment and likely need to be consolidated or otherwise restructured, split up, taken private, etc.

Thoughts on Current Positions

• After my update post on MMA Capital (MMAC), I kept thinking as long as MMAC's capital partner was willing to continue contribute to the Solar Ventures after the February ERCOT storms, their problems were likely only temporary.  I bought more thinking those with the most information regarding the problem assets were continuing to increase their exposure and might be a possible exit for MMAC.  On 5/24/21, MMAC announced that Fundamental Advisors (their capital partner) would be buying the company for $27.77/share in cash.  The company didn't run a full sale process, the merger agreement includes a 40 day go-shop period that expires next week, the deal premium to the prior day's trading price was certainly a nice surprise but the deal is being done at a fairly cheap multiple to book value.  Given the structure of the joint ventures however, it seems unlikely that someone else would make sense as a buyer, but I'm holding through the go-shop period at the off chance there is an overbid.
• BBX Capital (BBXIA) has a current tender offer outstanding for $8/share, the 3/31 book value is a little over $16/share and likely reasonably higher than that when they report 6/30 after selling some real estate at a gain, bringing IT'SUGAR out of bankruptcy and just general covid beneficiary tailwinds of their businesses (mostly Florida real estate development).  For me this situation seems similar to others over the years, management's reputation to abuse minority shareholders causes the stock to trade at a considerable discount which then incentivizes management to continue to transfer wealth to insiders.  I won't be tendering shares this time around as I could see the stock trading higher after the tender is complete, it will be accretive to book value, and I doubt it will be the last time they attempt it.  For me, this situation is a combination of DVMT (reflexivity in how the market views management and it encouraging management to close the valuation gap for themselves), TPCA (tender offer on an illiquid OTC stock, afterwards shot up) and ASFI (family controlled, disliked management that eventually took a company private that had no business being public, essentially using cash on the balance sheet to do it).
• For the next two I'm going to outsource to a couple other posts:
• My thesis on ECA Marcellus Trust (ECTM) in the last portfolio review generated a little bit of chatter, my liquidation thesis turned out to be wrong and I got lucky with a natural gas rally which has turned the tiny trust right side up again.  Here's a great explanation of the current thesis here, I might exit after it flips to long term gains for me as the thesis changed and I'm not a great commodity investor, but that post is worth a read if you're interested in ways to invest in natural gas.
• After the MMAC deal closes, Franchise Group (FRG) will be my second largest holding, it is not exactly an event-driven name anymore, it graduated to a jockey bet on Brian Kahn, who recently bought a million shares in the open market.  Modeling the company is a bit difficult as there's constantly moving pieces, but Michigan Value Investor over on Seeking Alpha did a nice job of presenting the current situation today.

Previously Unmentioned Positions

• Capitala Finance Corp (CPTA) was another "ADL" suggestion, it rhymes with other ideas I've done well with over the years, a BDC (can be any externally managed YieldCo) that went astray with its previous manager, cut the dividend, the mostly retail investor base fled and it trades at distressed prices, new manager comes in to right the ship and eventually reinstates a market dividend.  With Capitala, the new manager is Mount Logan, an affiliate of BC Partners which manages Portman Ridge (PTMN), a BDC that was once KCAP Financial, BC Partners has gone on to consolidate three BDCs into PTMN over the last two years.  They have a playbook and have executed it reasonably well, this situation is slightly different as they're just taking over the management contract, possibly because this parallel tracked another PTMN acquisition in Harvest Capital (HCAP, I did own it for the arb).  But I think the results should mirror an acquisition (and might become a formal one at some point), albeit over time as they'll reinvest the portfolio much the same way PTMN is managed today.  CPTA trades at 55% of NAV, PTMN is around 80%, that discount probably narrows.

Closed Positions

• My biggest performance detractor this period was CIM Commercial Trust Corp (CMCT), the original thesis of a proxy battle being either conceded by management or won by activists has been thwarted as the company went ahead with a rights offering at ~40% of their own stated NAV (same NAV that serves as the fee basis amount for their management fee).  It shows incredible distain for minority shareholders, I can't imagine the board won't get sued.  The rights offering, along with getting booted out of the Russell may create some technical selling right now, so while I sold a few days after the rights offering was announced and still have a few days to go to avoid cancelling my tax loss, CMCT could be an attractive post-rights recovery swing trade if that's your thing and you can stomach the management team here.  Still surprised CIM damaged their reputation for this small sleeve of their overall business.
• I did the buy-write (June expiration) strategy on Pershing Square Tontine Holdings (PSTH) that was suggested by Andrew Walker last December, it worked out largely as planned.  As everyone is well aware, Bill Ackman announced a complicated transaction with Universal Music Group that will also create two other securities.  I don't have a strongly held opinion on UMG, there is a lot of great analysis going on around it on Twitter and elsewhere, but for me how the trade was structured, I have short term gains from selling calls and now a loss on the PSTH shares.  It makes sense for my tax situation to sell PSTH to offset some of the income generated, then re-evaluate as we get closer to the transaction closing and the three pieces being distributed later this fall.
• The Medley LLC (MDLQ/X) bankruptcy is getting dicey, it appears the proceedings have pivoted to a liquidation and wind down of the company versus trying to pursue a going concern restructuring with Medley Management (MDLY).  In an asset management business, there aren't a lot of assets with value other than the management contract revenue streams, with Medley's separately managed accounts fleeing and Sierra Income Corporation pursuing strategic alternatives (there is no termination fee on the Sierra contract), it appears there is a little value left at Medley LLC or Medley Management.  MDLY has some meme like day trading happening in it, I sold my baby bonds for a negligible gain on a day when MDLY spiked.  I'll still follow the situation, but mostly just for curiosity.
• I have a few themes that I tend to like, one is when a clinical stage biotech misses on its primary candidate, sometimes the stock will drop below net cash and the company puts itself up for sale.  Often they'll do a reverse merger with another pre-revenue biotech, so by buying the cash shell you can get in before the "IPO pop" of the new exciting company.  That's essentially what happened with Catabasis Pharmaceuticals (CATB), Catabasis also got wrapped up in some of the speculative retail trading in the first quarter, but on 1/29/21 Catabasis announced the acquisition of Quellis Biosciences, the stock popped and I sold that morning (a bit too early, hard to put on my day-trader hat and time these perfectly right).  Unfortunately, the market has seemed to catch on to this trade and other failed biotechs haven't traded down quite as cheaply recently.
• I exited Five Star Senior Living (FVE) over concerns about the RMR relationship, FVE has a lot of cash on its balance sheet for an asset-lite management company, wouldn't be surprised if RMR makes an acquisition within FVE to increase their revenue share agreement instead of doing a buyback or some other capital return that would benefit minority shareholders.  Management at FVE clearly had their hands full during covid, but a year on since the recapitalization and they still haven't really laid out a clear capital allocation plan.
• Perspecta (PRSP) was a 2018 spinoff of DXC, basically a replay of CSRA, both of which got sold shortly after the two year spinoff window lapsed.  Last year, I sold PRSP common stock near the bottom in covid as it went down less than others due to the government link, but jumped back in with naked calls on the rumors it was being shopped, got lucky, Perspecta was taken private by Veritas Capital, a PE firm that already owned a significant stake.
• I closed both sides of the Madison Square Garden (MSGS/MSGE) split in the last month.  MSGS is kind of cheap on an NAV basis, depending on how large of a "Dolan Discount" you think it should receive, but I'm just finding better more actionable opportunities.  Premier market sports teams are a scarce asset that should hold their value over time, public markets are volatile, might make sense to sell puts occasionally when the discount gets particularly wide.  MSGE is a grab bag of development assets that I typically like but I just can't get comfortable with the Sphere project.  It's a bet the company style project, it could work, but reminds me a bit of the mess with the Seaport for Howard Hughes, delays, might have to get repurposed and shift strategies part of the way through, etc., add in the strange deal with MSGN, I decide to exit. 
• Macquarie Infrastructure Corp (MIC) worked out pretty quickly and about as expected, rather than wait around for the big distributions and potential headaches, I sold and moved on, might return if there is forced selling after the Atlantic Aviation deals closes and the company converts to a partnership.  If you run the IRR based on the expected distributions of $37.35 for AA and $3.83 for MIC Hawaii, you get a healthy upper teens IRR, so it could still be a good liquidation play depending on your tax situation.
• Acres Commercial Realty Corp (ACR) also worked out pretty quickly, this was a strange mispricing potentially because of a name change, but similar to CPTA and others, it was a broken mREIT that got rescued with a new manager.
• Ladder Capital (LADR) was another commercial mREIT recovery trade that has mostly played out.  The company was hyper conservative over the last year raising a lot of cash, letting their short duration loans roll off, while at times a bit frustrating as a shareholder, it validated the original thesis during the covid-crisis that their investment/loan book was high quality.  I'll continue to listen to their conference calls as Brian Harris runs a fun fireside chat format where he provides his views on all corners of the real estate market.
• As mentioned in my year end 2020 post, I was selling calls against my Wyndham Hotels & Resorts (WH) position until it got called away, it did shortly after in February as the reopening trade has hotel franchise/management companies trading above where they were pre-pandemic.

Current Holdings

No cash was added or withdrawn during the period.  

Potential Changes

Going forward, the format and transparency of these portfolio updates could change, when I started writing no one read the blog and now that my personal and professional circumstances have evolved, it might not make sense anymore.  I also may finally move away from Blogger, similar to other Google properties, it has been neglected for years now and Google is discontinuing the email feature in July which I'm guessing is how most people receive my posts.  TBD on the next direction there, if any.

But as always, thank you to anyone who has reached out, offered an idea to look at, pushed back or commented on a post, I genuinely appreciate it, it is the primary reason I keep active.  Always looking for more ideas, currently kicking around HFRO, RMRM, FWP, AAMC, WHLRD, SOHO prefs, CVEO and a few others .  Enjoy the holiday weekend.

Disclosure:  Table above is my taxable personal account.

Condor Hospitality Trust: Covid Deal Break, Renewed Strategic Alternatives

Condor Hospitality Trust (CDOR) is a small (~$80MM market cap), illiquid (50+% owned by two funds), lodging REIT that owns 15 hotels primarily across the upscale and upper-midscale segments, with an emphasis on extended stay layouts, both of which have held up better than the upper-upscale or gateway/convention market type peers.  Back in 2019, Condor had an agreement to be purchased by NexPoint's lodging REIT (NHT in Canada) for a $318MM enterprise value or $11.10/share (it trades for $5.00/share today with a $260MM EV), that deal was delayed during the outset of the pandemic last year, later broke, and now that hotels are in recovery mode, Condor is once again putting itself back up for sale.  Given private equity's interest in hotels and particularly the extended stay segment, I could see Condor receiving plenty of buyer attention and selling for a price above where it trades today.

Condor used to be similarly positioned to CorePoint (CPLG), focusing on the midscale and economy select-service segment with a couple hundred hotels, but over a decade or so, they sold off most of that portfolio and repositioned themselves into the 15 hotels (1,908 rooms) they have today:

Most of these hotels were acquired since 2015 for a total purchase price of $288MM.  The portfolio is in reasonably good shape, and in healthy markets where covid restrictions have been relatively minimal (TX, FL, etc); just two of their hotels closed briefly in April 2020, only to reopen a couple months later by the start of July.  Hotel level operating metrics have improved dramatically, the company as of March was no longer burning cash, April occupancy was over 70% largely on the back of leisure travel, with management also optimistic on business travel "We anticipate that business travel led initially by local business demand, and then regional demand, will begin late in the second quarter and improve over the remainder of 2021."  Take these types of metrics with a grain of salt, but the company also likes to tout how they're outperforming their peer set on a relative basis:

Either way, best I can tell, this portfolio is of reasonable quality and likely not at risk for obsolescence in a post-covid recovery.  Hotels are generally are in recovery mode, STR has a good report here with some interesting charts, longer term I think there could be some tailwinds, people might extend vacations knowing they can work remotely and hotels themselves have shed operating expenses (daily cleaning, guest services via mobile app versus the front desk, etc.) some of which could become permanent.  And if you're in the market for real estate recovery plays, hotels just seem better positioned longer term than the other bombed out sectors like office or retail. 

So you have a relatively bite sized portfolio that held up well comparatively through covid, some emerging tailwinds as people begin traveling again, plenty of PE money sloshing around the industry (thinking about CLNY selling their big select-service/extended stay portfolio, BX/Starwood buying STAY, etc.), and a company that's already sold itself once before and clearly motivated to do it again.

A quick review of the capital structure, this is fairly leveraged entity, like many of the lodging REITs they had to raise capital to make it through the crisis.  But here's where things get a little harry, the company issued a "bridge loan" in the form of convertible debt to one of the two funds that own a significant portion of the common stock and the preferred stock.  The convertible debt has a 10% coupon (bumps up under certain scenarios) and is convertible at $2.50/share, it was in the money from the beginning compared to where the stock was trading at the time in November.  The proceeds were used to pay down the KeyBank credit facility and the convertible will likely convert to equity here in the coming days as a requirement for the one of the many amendments to the credit agreement.

With that dilution, we have about 16 million shares at a ~$5/stock price, for a $260MM enterprise value.  Now obviously valuation is a little tricky these days, 2020 was an extraordinary year for the hotel industry, most transactions I've seen quote a "2019 cap rate" as a normalized value, we can argue if that's realistic, it'll likely take a couple years to get back to 2019 run rates, but that's how others are quoting transactions that are happening today.  In 2019, Condor generated $26.2MM in "hotel EBITDA" which is a reasonable proxy for net operating income, on the $260MM enterprise value, that's an approximate "2019 cap rate" of 10%.

Recent Lodging REIT transactions, each of these are better located/quality properties than CDOR, but still good relative data points as they're all similar brand/format sales/purchases:

• Park Hotels & Resorts (PK) sells two hotels in May (better located, but two brands CDOR has in its portfolio) for a 7-7.4% 2019 cap rate
• Somewhat close peer, Apple Hospitality (APLE) in their recent earnings release "The company has acquired five hotels for a total purchase price of approximately $161 million since the beginning of the COVID-19 pandemic."
• Chatham Lodging Trust, another somewhat close peer, in December, sold a Residence Inn in San Diego for $67MM, a 6.5% 2019 cap rate

Again, probably none of these are a perfect comparable, but they've all moved at much lower cap rates than what the CDOR equity implies, seems like an interesting setup.  Per the background section of NexPoint deal proxy, the company began to explore a sale in 2018, they actually received 7 initial all cash offers for the REIT, before settling in with NexPoint.  Times have clearly changed, but given the concentrated ownership here, I think the company will almost certainly be sold again, an 8.5% "2019 cap rate" (the quotes mean I know its a bit of a silly valuation metric) would be $7.40/share.

Other thoughts:

• Probably only 1% of the thesis, but I like that Matt McGraner from NexPoint led the acquisition negotiations in 2019, he's the brains behind NexPoint's real estate strategy and from what I gather quite talented.  Obviously things have changed, he's an asset gatherer so maybe wasn't the most price sensitive, but another point in the "these assets are decent enough" bucket.
• The OSK X mortgage loan listed above is financing one property, the Aloft in Leawood, KS (suburb of Kansas City), that was purchased from a local bank by O'Brien Staley Partners.  Condor had previously gotten covenant waivers from the local bank, but O'Brien Staley Partners has put them into default on the loan.  Condor believes they can refinance the loan with another lender, but there's a possibility that property goes back to the lender in foreclosure.
• My guess is they've received inbound inquiries already and that the sale process won't take more than a few months, again, lots of interest in the sector, we're at a tipping point, I think those that have a bullish thesis on hotels want an opportunity to express it before the recovery becomes fully obvious.

Disclosure: I own shares of CDOR

Regional Health Properties: Inadequate Pref Exchange Offer

Reader "ADL" mentioned this one in my ill-fated Medley post the other week and I took a small position but the write-up hung out in my draft folder, this afternoon the company announced an exchange offer that appears inadequate to me.  Regional Health Properties is offering 0.5 shares of common stock for each preferred share, on a headline basis its a healthy 20+% premium on today's closing prices (RHE closed at $12.04, RHE-A closed at $4.90), if fully exchanged the preferred stock would only receive 45% of the proforma shares when it should be 90+% (similar situation would be the AHT preferred exchange last year). The exchange offer requires an amendment to revise the terms of the preferred stock (liquidation value to $5/share, eliminate the accumulated dividends) that would require 2/3rds preferred shareholders voting for the amendment (non-votes are the same as no votes).   Below is the original write-up, but now that things are in motion, seems like an even better opportunity as the company attempts to recapitalize.

Original Write-up

Regional Health Properties (RHE) (fka AdCare Health Systems)  is a real estate investment company (but technically not a REIT) focused on senior housing in the southeast United States.  It's another small and illiquid idea, the common stock is probably uninvestable and the preferred stock has a market value of $12.4MM. The company has a rough history, some previous fraud accusations, multiple CEOs in a short time frame, etc., but if you look past the mess to the underlying assets and the recent announcement of a possible recapitalization of the balance sheet, there might be an interesting personal account type opportunity here.

High level summary, the company's primary business is owning or leasing 24 senior housing properties and then leasing or subleasing those properties on a triple-net lease basis to operators.  A few of these properties the company now either manages or operates on a temporary basis due to operators failing.  Of the 24, 12 are owned and leased out under traditional triple-net leases, meaning the tenants pays for all expenses, the rent is virtually the same as net operating income to calculate a cap rate.  I don't quite understand the leased model where they then turn around and sublease the properties, seems like a dangerous spread trade to me where you have to reach for risky tenants to make it work.  It appears that's how its played out with most of the distress in their tenant base happening in the subleased book, so we'll ignore that for the purposes of the pref thesis.  Below is the rent-roll for the owned properties:

This portfolio is financed with an assortment of government guaranteed debt (generally a negative, means the borrower couldn't get reasonably commercial terms without the government guarantee), total debt is approximately $55MM.  

Add in the $12MM as the market value of the preferred and through the preferred stock you're buying the owned triple-net portfolio for $67MM or an ~11.5% cap rate, as usual with me, pretty back of the envelope math.  The preferred stock trades for $4.50, has a standard liquidation preference of $25, but hasn't paid a dividend in several years. The total liquidation preference is over $35, but it almost doesn't matter, the preferred stock is unlikely to be made whole so any incremental value above the senior debt accrues to the preferred stock, it is the fulcrum security despite the common having a current market cap above $20MM.

In their recent earnings release, RHE added this line:

In early 2020, the Company began on-going efforts to investigate alternatives to retire or refinance our outstanding debt of Series A Preferred Stock through privately negotiated transactions, open market repurchases, redemptions, exchange offers, tender offers, or otherwise. Costs associated with these efforts have been expensed as incurred in Other expense, net and were approximately $394,000 and approximately $144,000 for the three months ended March 31, 2021 and March 31, 2020, respectively.

Apparently they initially started down this path just before covid, now that things are opening up and rent collections are largely back to normal, the time is right to address the capital structure as it clearly doesn't work anymore.  My guess is RHE will attempt to exchange the preferred shares for common stock, maybe something similar to what happened over at Ashford Hospitality Trust (AHT).  Just for a quick example, if you valued the triple-net lease portfolio at a 9.5% cap rate (a higher quality but smallish triple-net like CareTrust REIT (CTRE) trades at 6-7% cap and has been buying properties this year in the 8-10% range) then the preferred might be worth $25MM, or a double.  But that's just a guess, the upside seems highly variably in mind but the downside is fairly well protected.

Other thoughts:

• Senior housing obviously suffered during covid, but with vaccinations now widely completed for the elderly and front line workers, new residents can begin to move into facilities.  There might be a temporary ramp up as move-ins were delayed the last year, but there's certainly an open question at least in my mind if covid permanently impaired senior housing and whether alternatives might become more popular than housing the most at-risk all together in close quarters.
• Whatever the common stock is doing is a mystery to me, it might be caught up in meme stock trading or other pump and dumps, ignore it, its almost certainly going to get completely diluted.  The unpaid preferred is $30.1MM, so the total due to prefs is ~$100MM, you have to be pretty optimistic on their leased/operated properties to see any value to the equity, and if you are optimistic, the preferred is still the better risk/reward.
• I don't know who owns the preferred stock, it's hard to parse out with publicly available data sources, and surprisingly/concerning that despite having the right to nominate board members to represent the preferred stock, no one has to-date.
• RHE should probably just sell themselves, but in their press release and 10-Q they hint their strategy is in the opposite direction, they want to go in growth mode, difficult to fully understand how they could do that but certainly couldn't without first resolving the preferred share overhang somehow.

Disclosure: I own shares of PHE-A

Medley Management: Reorg BDC Manager, Better Offer Coming?

[This is marginal idea day, I have a few of these small positions I've started but don't really have the conviction to make them more than that, but others might find them interesting and in the interest pushing out some content, here we go]

Medley Management (MDLY) is an asset manager of private-credit or middle-market leveraged loan vehicles, it was previously the external manager of PhenixFin (PFX), a business development company ("BDC") that was formerly known as Medley Capital (MCC) prior to BDC's board terminating Medley's management agreement at year end 2020.  The loss of the MCC management agreement, alongside years of underperformance, dinged Medley's assets under management to the point the company's operating subsidiary filed bankruptcy protection on 3/7/21.  Today the company has about $1B in AUM, split between their non-traded BDC, Sierra Income Corporation ("SIC"), and some other separately managed accounts or private funds.

A little history, Medley Management was 5-6 years ago a semi-popular way to play the "permanent capital" trend, traditional asset managers were facing the same headwinds they do today with outflows and competition from cheaper indexed alternatives, however permanent capital managers were popular since they managed closed end funds like BDCs or REITs.  The closed end nature and generally punitive termination clauses in external management agreements make them highly valuable.  Medley took this valuable revenue stream, IPO'd it, took on leverage in the form of baby bonds (bonds that trade on exchanges, typically $25 par value like preferred stock) and paid a handsome dividend.  These baby bonds trade under the symbols MDLX and MDLQ, as part of the proposed bankruptcy plan, the baby bonds will be converted into MDLY common stock.  But prior to the current troubles, Medley had been underperforming for years, MCC had been trading a persistent discount to book value and was unable to issue shares.  In 2018, they came up with a plan to do a three-way merger that would combine MDLY, MCC and SIC together to form one large internally managed BDC (similar in nature to the ill-fated NSAM/NRF/CLNY merger), but that merger was challenged by shareholders from the get-go as a non-arms length transaction designed to prop up MDLY and enrich insiders, the merger was ultimately scrapped during the worst of the pandemic.

With that out of the way, here's where the story gets a bit more complicated, MDLY technically represents shares of Medley Management which is just a holding company that in turn owned a portion of the operating subsidiary partnership, "Medley LLC", Medley LLC is the now bankrupt entity that is the asset manager, where the majority of the employees technically work, etc., and most importantly, where the baby bonds were issued.  The remaining portion of Medley LLC was owned by two twin brothers, Brook and Seth Taube who were until recently co-CEOs together, they had the option to convert their units in Medley LLC for MDLY shares, normally you would never do this for tax reasons, but once it was clear that Medley LLC was in trouble and formally filing for bankruptcy, the Taubes converted their units in Medley LLC for shares in MDLY to maintain control of the company.  Their reason for this transaction was a fear that a change of control through bankruptcy would trigger clauses that would allow clients out of their management contracts.

Prior to the unit conversion, MDLY had 670k shares outstanding (after a reverse split), after the Taubes Medley LLC unit conversion the company has just over 3 million shares outstanding.  As part of the restructuring plan, MDLY will be issuing new shares to both classes of baby bonds and to Strategic Advisors, who were a minority investor in the entity that manages Sierra Income.  In 2018, MDLY bought out Strategic using seller financing, MDLY defaulted on the Strategic note in early February 2021, same time the company failed to pay interest on their baby bonds.  Here's what the plan contemplates for both sets of creditors:

Notes Claims. On the Effective Date, each holder of an Allowed Notes Claim shall receive: (i) if such holder votes to accept the Plan, 0.600 shares of newly-issued Class A Common Stock of MDLY for each $25 principal amount of 7.25% senior notes due 2024 (“2024 Notes”) and/or 6.875% senior notes due 2026 (“2026 Notes”) held by such holder; (ii) if such holder does not take any action and does not vote on the Plan, 0.450 shares of newly-issued Class A Common Stock of MDLY for each $25 principal amount of 2024 Notes and/or 2026 Notes held by such holder; or (iii) if such holder elects to Opt-Out of the Third Party Release contained in Article VIII of the Plan and/or votes to reject the Plan, the lesser of (x) 0.134 shares of newly-issued Class A Common Stock of MDLY for each $25 principal amount of 2024 Notes and/or 2026 Notes held by such holder or (y) a pro rata share of the Rejecting Noteholder Pool.

Strategic Claim. The holder of the Allowed Strategic Claim shall receive: (i) 218,182 shares of newly-issued Class A Common Stock of MDLY; (ii) $350,000 in Cash on the Effective Date or as soon as practicable thereafter; and (iii) a secured promissory note, the form of which will be negotiated between the parties prior to the Confirmation Hearing, which provides for 10 consecutive quarterly payments of $225,000 in Cash, commencing on the last Business Day of the first full calendar quarter following the Effective Date.

The baby bonds are getting the short end of it here, clearly the equity is impaired at Medley LLC, but due to the structure of MDLY, management was able to remove themselves from the bankrupt entity and then now is forcing mostly retail investors to approve the plan or get less if they forget (which seems like fair amount would) or straight out reject the plan.  The SEC seems to agree, the SEC has an open investigation into MDLY, they recently had this to say in a court dock filing:

B. The Debtor’s Bankruptcy Case and Restructuring Plan

8. On March 7, 2021, Medley filed a voluntary petition for relief under chapter 11 of the Bankruptcy Code in the Bankruptcy Court for the District of Delaware (the “Court”). That same day, Medley filed the Plan which would exchange the debt owed to holders of the Notes for equity in MDLY.  The noteholders are among the Debtor’s most senior class of debt, as the Debtor has scheduled no secured or priority claims. Under the Plan, holders of the Notes are estimated to receive a recovery between 5% and 22.4%, depending on whether the noteholders vote in favor of the Plan. But because the recovery hinges on the market value of MDLY stock, noteholders could receive much less under the Plan. The Debtor has scheduled only $7.7 million in general unsecured claims, all but approximately $86,039 of which relate to one creditor. These claims are also impaired.

 9. The Plan gives equity special treatment. Specifically, the Plan treats the Debtor’s equity interests as unimpaired and contemplates that unitholders—i.e., MDLY—will continue to own the reorganized Debtor. According to the Debtor’s CFO, equity interests remain unimpaired under the Plan in order to avert “material adverse consequences.” See Allorto Decl. [Docket No. 5], at 12. Specifically, “[t]he Plan is designed to avoid a change of control event through the Chapter 11 Case and limit the potential for client defections.”  

10. It is clear from the first-day declaration and testimony at the Section 341 Meeting of Creditors that at no time prior to the petition date did the Debtor consider any strategic alternative that would have impaired the pre-IPO owners’ interests in the Debtor.

And then in a footnote, SEC hinted that a new revised plan might be coming, presumably one that would give the baby bonds more of the reorganized entity:

1 The SEC staff has informed the Debtor that the Plan is fatally flawed in a number of respects. In response, the Debtor has represented that the objectionable provisions of the Plan, including provisions violating the absolute priority rule, will be addressed in a forthcoming amendment, that the current hearing date will be adjourned, and that the SEC will have an opportunity to review and object to any amended disclosure statement. Although the Debtor has informed the SEC staff that the structure of the Debtor’s Plan may change, as of the date hereof, an amended plan and disclosure statement have not been filed, and the Debtor has not agreed to further extend the date on which the SEC must object to the retention applications. As such, the SEC has no choice but to file its objection based on the currently-filed Plan. The SEC reserves the right to amend this objection if and when such an amended plan and disclosure statement are filed. 

So a better outcome might be coming thanks to the SEC pushing back, but even if the current plan remains in place, the baby bonds look interesting, both on their own and relative to where the common stock trades.  These are all fairly illiquid securities, but as I write this, the two baby bonds (MDLX and MDLQ) trade for approximately $2.30, MDLY trades for $5.70, at a rate of 0.60 MDLY per baby bond that's $3.41 of "value", 46% upside to where the bonds trade.  MDLY is extremely volatile and seems subject to the occasional pump and dump, so maybe the bonds are reflecting the true value and MDLY is just a meme stock trading sardine.

Some back of the envelope math, ignoring the $9.5MM investment in SIC and other cash/assets on MDLY's balance sheet, I get an enterprise value of approximately $23MM through the baby bonds for an asset manager with $1.2B in AUM, a lot of which is paying upwards of 1.75% in base fees.

Seems kind of cheap?  Proforma normalized earnings is probably something like $1MM per quarter.  Now of course you have the Taubes still in control of this thing and assets to continue to flee, but loan mutual funds have seen huge inflows recently in anticipation of higher rates, defaults are at lows, I could see this market making a recovery and potentially benefiting even the marginal players like Medley.

Risk/Other Thoughts: 

• Please do your own work on this one, the MDLY shares are highly volatile and appear to occasionally caught up in pump and dumps or "meme stonk" trading patterns.
• The bankruptcy process is uncertain, the plan still needs to be approved by the courts, a lot could go sideways and I'm not a reorg expert by any stretch.
• Sierra Income Corporation makes up a majority of their assets and the Investment Advisory agreement between SIC and Medley needs to be renewed each year, Sierra can terminate the agreement at any time.  SIC does file with the SEC, in their latest proxy they detailed the events leading up to renewing Medley's contract for another year despite the bankruptcy proceedings, noting that the reorganization would be good for Medley and SIC.  I would also note that none of the independent directors of SIC own any material amount of stock, are paid handsomely in cash, and likely don't want to interrupt that gravy train, but as with MCC, SIC could decide to terminate the agreement and then Medley would be in serious trouble.
• Medley recently disclosed in an amended 10-K filing that a client representing 18% of their AUM terminated their investment agreement with Medley, the funds will take a couple years to leave the firm (middle market loans are illiquid, they'll runoff in 2-3 years), but again, shows this is a melting ice cube business.
• I'm bullish on private-credit going forward, say what you will about the Fed's actions but the result is to push people out on the risk spectrum, especially fixed income or yield oriented investors.  To meet desired total returns, the fixed income portion of a typical portfolio is going to have to be riskier than it has in the past.  If the Taubes come to the realization that their name or the Medley name is tarnished, I imagine they'll have a few interested parties in buying them out, or a recut of the Sierra Income internalization transaction could be back on the table again.

Links:

• Disclosure Statement (March 7, 2021)

Disclosure: I own shares of MDLQ (and PFX too)

Macquarie Infrastructure: Liquidation, Possible Forced Selling Later

[I bought a little of this, did more work on it and its a little tighter than I'd normally like but wanted to post on it in case I'm missing something or others see more value here, and there's potential for some forced selling down the road]

Macquarie Infrastructure Corp (MIC) is the rare externally managed vehicle that is in the process of liquidating, but only after it was clear the incentive fee was well out of reach.  MIC is essentially a publicly traded private equity fund that invested in infrastructure or infrastructure-like businesses with the external manager charging a base management fee plus a carry.  They initially announced strategic alternatives in October 2019, with the first major asset sale (International-Matex Tank Terminals) closing in December and the resulting first special dividend being paid out in January.  From recent management commentary, it appears the liquidation is moving along quickly and we'll likely see transaction announcements in the coming months for the two remaining businesses, Atlantic Aviation and MIC Hawaii (dba as Hawaii Gas).  I think the gross upside is around 17%, with the IRR being a bit better considering most of the value should be returned to shareholders around year end.

Atlantic Aviation is a provider of fixed based operations ("FBO") for the general aviation ("GA") market, which basically means they provide jet fuel, hangar space and other services for private aircrafts at 69 airports throughout the United States.  This business is firmly in the "infrastructure-like" category, it is heavily reliant on the amount of GA traffic through the airports where it operates.  Atlantic experienced a quick but relatively brief covid downturn as private flights have rebounded much quicker than commercial flights.  Atlantic is one of the larger players in FBO industry, behind Signature Aviation (SIG in London), Signature recently agreed to a go-private transaction, after multiple bidders made offers, valued at 16x 2019 EBITDA.  In 2019, Atlantic did $276MM in EBITDA, but with corporate costs fully allocated, its probably more like $260MM on a standalone basis, at a similar 16x multiple the total value would be $4.16B, and after subtracting out $1B in debt at Atlantic, the sale would net $3.4B to MIC shareholders or $36/share (this is before Macquarie's incentive fees, etc.), above where the stock is trading today at ~$34/share.

MIC Hawaii, which operates as Hawaii Gas, is the state's only regulated natural gas distributor.  Natural gas makes up a small portion of the state's energy needs, their client base is more heavily concentrated in the restaurant and hospitality industry, both which suffered during covid from strict local lockdowns and travel restrictions.  Recently, travel to Hawaii has restarted from the US mainland, still limited from Japan and other parts of Asia, but trending in the right direction.  Prior to covid, Hawaii Gas was a very steady but no-growth business of about $60MM in annual EBITDA, converting to $40MM in FCF.  I don't have a great sense of what this business is worth, there's no perfect comp, but this is a stable business once the Hawaiian economy returns to somewhat normal, let's says its worth 8x EBITDA, or $480MM, subtract out the $94MM term loan on the business and its $4.40/share in value.

Proforma cash is approximately $250MM, which accounts for the remaining convertible senior notes that the company is actively retiring in the market.  Now Macquarie isn't liquidating the company simply because it is the right thing to do, they are getting a huge fee per the Disposition Agreement, which was intended to convert a termination fee into an incentive fee for maximizing value in a liquidation.  Above about $4.6B in total net proceeds, Macquarie earns a 6.1% share in cumulative payments on the entire net proceeds, it appears they'll likely meet that threshold and thus on my math, Macquarie would earn approximately $378MM (only somewhat confident that's directionally right), $28MM of which has already been paid as part of the IMTT disposition.  The net effect is approximately a net -$100MM cash position or -$1.15/share (leaving out any interim free cash flow generated by AA or Hawaii Gas), add it all up and its a little over $39/share in total value.

As always with a liquidation, the timing of the payments and the order of events is important.  To this point, the company will be converting to an LLC (a partnership for U.S. tax purposes) just prior to the closing of an Atlantic Aviation sale.  In a perfect world, MIC Hawaii would be sold first, its about 1/10th the size of Atlantic, any capital gains would be relatively trivial to the overall value of the company, but because MIC Hawaii is regulated, it may take over a year to secure approvals and close the deal.  I don't want to understate this risk, several years ago I owned the state's electric utility, Hawaiian Electric Industries (HE), which at the time had a deal with NextEra Energy (NEE) to buy HE and spinoff their bank subsidiary.  The regulators ultimately killed that deal, I forget the technical reasons, but it was largely local pride and not wanting to give up control to a larger mainland entity.  Less risk of that here with natural gas being a low-single digit piece of the energy grid, but still something to keep in mind as the liquidation unfolds, a dragged out process will turn a somewhat attractive IRR to a pedestrian one pretty quickly.  MIC will first sell AA (likely this year, with a close and special dividend in 2021), convert to a partnership so any capital gains would be at the individual shareholder level and then the sale of MIC Hawaii would be structured as a sale of the partnership units and wouldn't have any associated tax consequences.

Often with liquidations, there is an opportunity around the big bulky distribution, either just before or just after the payment, I could see a scenario where that effect is magnified here with the company also converting to a partnership and those remaining investors that can't own partnerships by their mandates or because its held in a tax deferred account, might be forced to sell, creating an opportunity for those willing to go through the tax and paperwork headaches of a partnership.  Something to keep on the watchlist even if the current spread isn't particularly appealing by my estimation.

Disclosure: I own shares of MIC

Updates: MMAC, PFX, LUB & Others

This a liquidation value themed post, feel free to ignore if that's not your thing, but I wanted to put some updated thoughts on paper for a few small cap asset plays that are either trading well below liquidation value, should be liquidated, or are in the process of liquidating.  All in my assessment will result in attractive uncorrelated returns from current prices in this arguably frothy market.

MMA Capital Holdings

Readers are probably sick of my rantings on MMA Capital Holdings (MMAC), but the company has run into trouble, part self inflicted, part act of god, and the situation is quite different than it has been in recent history.  Approximately three years ago, MMAC sold their asset management business along with some other businesses to Hunt in a transaction that turned MMAC into an externally managed company primarily focused on loans to utility scale solar energy projects.  Some investors were smart enough to sell after that transaction, there's an excellent podcast "In the Market Trenches" where the hosts discuss MMAC prior to the Hunt transaction and why they decided to sell after the event, in hindsight that was the correct decision.  I should have as well.

The credit lending niche MMAC plays in is construction and development loans, permanent long-term financing on utility scale solar projects is a fairly competitive space, there are plenty of institutional investors and/or yieldco's willing to provide financing to solar projects with in-place long-term agreements to investment grade electric utilities.  

The average life of MMAC's loans is fairly short-term, so according to the company, it was slightly a timing coincidence that their portfolio was highly correlated (50+% of asset) to a single sponsor and a single energy market in ERCOT.  Reasonable risk management would suggest otherwise, but that was the situation the company found itself in going into covid where post project completion takeout financing (where MMAC's loan would get paid off) started to become scarce and then February's Texas winter storm hit and knocked out much of state's energy production causing the spot pricing of electricity to soar.  In one of MMAC's problem loans, "ERCOT Project 1" in their 10-K, the company reduced their gross dollar exposure before the February storm but increased their risk position by providing an equity sponsor loan to the developer in order for their original construction/development loan to attract take-out financing.  When February's storm hit, ERCOT Project 1 was impacted/damaged to the point where it could not meet its power obligations to its customer, forcing the equity (and thus MMAC as a lender directly to the equity) to purchase electricity in the spot market (at crazy high prices) for their end utility customer in order to meet the contracted amount.  Covering those losses along with other problem ERCOT loans ("Project 2" and "Project 3" in the 10-K) are estimated at "up to $4 per share" according the company. From the 10-K:

The ERCOT market remains volatile and uncertain primarily stemming from the February 2021 weather event and resulting energy crisis. There is litigation among various market participants and potential legislative reform is being considered, all of which remain uncertain. Assuming that the Company was unable to recover any of the additional advances made to ERCOT Project 1 (as outlined above), the Company’s allocable share of losses in the first quarter would, when taken together with loan-related interest income that is not expected to be accrued and other impacts stemming from the aforementioned actions taken to maximize the recovery of loans made to ERCOT Project 2, be $23.3 million, or approximately $4.00 per share (such loss would be recognized by the Company as a reduction in equity in income of the Solar Ventures). However, it is difficult to estimate first quarter impacts related to these exposures in absence of, among other things, the completion of fair value measurements of loans outstanding at the Solar Ventures at March 31, 2021, which require various valuation inputs that were not available as of the filing date of this Report. Further, additional events may occur that could cause this estimate to change by amounts that could be material.

Good time to mention that MMAC invests in solar loans alongside a "capital partner" as the company describes, that capital partner I believe is Fundamental.  The "Solar Ventures" started out as a 50/50 partnership where capital calls were contributed equally and investment decisions were shared amongst the two partners.  But in the last year or so, MMAC has been unable or unwilling to make their pro-rata contributions while their partner has continued to fund their own contributions as well as MMAC's to the point that MMAC is now a materially junior partner in the Solar Ventures (MMAC has a bit above a 1/3 stake in the larger 2 JVs, "Solar Development Lending" and "Solar Construction Lending").  

The split in the Solar Permanent Lending ("SPL") joint venture is 45% MMAC, 55% Fundamental, this is a less used JV as its not the construction/development lending focus, but the ERCOT Project 1 sponsor equity loan was basically transferred to this joint venture, the sponsor of Project 1 was only able to put $3MM to buy the shortfall amount of spot-rate electricity mentioned earlier, MMAC/Fundamental were on the hook for the additional $22.5MM, at a 45% pro-rata, MMAC is out $10+MM on ERCOT project 1.  This leaves about $13.3MM in additional losses the company has forecasted for Q1, which hopefully should be reasonably close given they released their 10-K at the last possible moment, 3/31/21, on quarter-end.

At year-end the company has an adjusted book value (only adjustment is removing the deferred tax asset) of $39.66/share before the estimated $4/share in ERCOT related losses, so the pro-forma book value is approximate $35.66 per share today versus a closing share price of $20.23 on Thursday before the Good Friday holiday.  If you believe the February storm is a one-time event and that the covid-reopening will loosen up the takeout financing channel, shares could be cheap.

I did make my debut appearance on a corporate earnings call with MMAC on Friday, excuse the number of times I say "I guess", but my underlying point I was trying to make is the Hunt transaction has been a failure and it might be time to either sell or liquidate the company.  Courtesy of tikr.com (an excellent resources BTW that I highly recommend), the whole Q&A was pretty good, but here's my part:

         Unknown Attendee

I saw in the 10-K that MMA ceded control of the workout process to the capital partner. Remind us how -- like new origination portfolio management decisions are handled at the Solar Ventures now that MMA is kind of certainly the minority partner in those ventures. And if the capital partner has made more pro rata contributions, I guess, in addition to you, does it become even more minority partners since the February storm?

Gary Mentesana

Sure. So I guess, a couple of different things on that, Matt. So the investor member partner and MMA jointly approved new investments, and the new investments do not find their way into the Solar Ventures, unless both partners approved. So that has been the case from the beginning of time. And I think that there's only been one instance where there was not a consensus to approve a loan. And in that instance, MMA approved it, and they made did the whole loan, MMA got repaid substantially as underwritten.

And I think I just want to kind of point that out that we generally view things very similarly through kind of a credit lens. You're correct that when MMA became a minority investor in the Solar Ventures, that decision control over workouts was ceded to that investor member. But I think it's also important to note that kind of Hunt has the expertise relative to this business, right?

The loans that got originated and asset managed are all done by Hunt on behalf of the Solar Ventures. And while decision control for workout has been ceded to the investor member, the investor member to date has kind of generally followed the lead of Hunt. And I think that we probably would have kind of made the same decisions if we were kind of co-decision makers throughout the process since we have been a minority investor.

With respect to your question as to where the investment ratio is since the February storm, there have been additional investments, and I'm working for it in the K, from the investor member disproportionately to MMA. And you can see it on Page 5 of our filing, we've noted that the MMA's investment interest -- economic investment interest in SCL and SDL has fallen to about 38% as of March 24.

Unknown Attendee

And did that happen since the February storm or before? I guess, my question is more, is your capital partner like still fully committed kind of after these events, I mean, if they're still inserting new capital into the Solar Ventures?

Gary Mentesana

Yes. They are.

Unknown Attendee

Okay. And then you kind of touched on this before, but kind of the risk management and guidelines and constraints that resulted in over half of the UPB being with a single sponsor in a single market. I guess, are there any changes that have happened to those 2? I guess, the portfolio management guidelines to kind of reduce this -- the chance of something like this happening in the future.

And then kind of alongside of that, is there any risk to the revolving credit facility going into the fall as a result of these 3, I guess, projects potentially being in workout status and no longer being eligible for the revolving credit facility kind of borrowing base?

Gary Mentesana

Sure. So I'll take the first part and maybe ask Megan to kind of fill in some of the color on the second.

So there are a variety of lessons learned. One is market based, right, with ERCOT kind of -- or cuts a little different than kind of the rest of the markets that facilitate solar projects that we lend to throughout the country. And we're currently not looking to originate any future investments in ERCOT until kind of we can get greater insight on potential legislative reform and also taking into account all sorts of litigation that is kind of active in that market right now.

I think the other thing that we've kind of learned from this process is that focused -- focusing on large projects at an early stage as we did in this kind of late-stage development loan for each of these projects carries risk relative to -- if there is not an ability to flip the project as was originally anticipated.

The sponsor, and not uniquely, but the sponsor had a business model where they basically gathered all of the puzzle pieces, so that kind of the puzzle, the final project could be put together, that they basically were looking to flip the project at NTP, notice to proceed, for construction. And they had been very successful and, as I said, successful with the first loan that we did with them.

But the lesson learned is that you may need to commit additional capital to keep the project on schedule if there isn't an ability to flip NTP and cause construction financing to kind of repay the late-stage development loan. There are other lessons learned, but that's probably the most significant, both with respect to the market and the product type.

With respect to the revolver, we're constantly kind of in discussions with the lenders in that credit facility to make sure that it works as we hope it would. Megan can kind of speak to the details relative to the impact of these loans to that facility, but I don't think you should necessarily be troubled at all by kind of that -- the standing of that facility. Megan?

Megan Sophocles

Yes, Thanks, Gary. I guess, generally, we're in compliance with all of our kind of debt covenants and managing the revolving credit facility and the borrowing base to appropriately capture the troubled status of the loan. And you're correct that we are not getting borrowing based credit for the loans, but can remain in compliance kind of with the borrowing base requirements and the facility in general. So it's actively being managed.

Unknown Attendee

Okay. And then I guess just one kind of broader question. So I've been an investor for 7 or 8 years at MMAC. And kind of since the Hunt transaction, I think that was done like $33.5. And now we're -- I guess, now we're pro forma $36.5 or a little less than that, $35.5 after the $4 potential hit.

And we've tried a persistent discount that kind of time. We haven't had any real benefit from the Hunt platform in terms of new investment verticals. We can't seem to market the stock to ESG investors, despite the incredible tailwinds in that theme.

There's about a $90 million gap now between kind of what I would call pro forma book value and where the market cap is. The termination fee at Hunt is about $25 million. I guess, what kind of strategic -- like what's the strategic plan? I mean, it almost looks like it makes sense to me that we could put this company into -- fully in the runoffs and make a considerable investment kind of from where the current share price is.

Gary Mentesana

So great question, Matt. I think that it's safe to say that the Board is constantly looking at opportunities to enhance shareholder value and is very focused on the gap between share price and kind of the value of the company, however you define that, whether that's adjusted book value per share or some other metric, right?

In the past, we had been thinking about kind of return of capital policy that has not been put in place at the moment, but the Board is looking at kind of -- all kind of avenues to enhance value and including raising the stock price. We're -- it's difficult in that the company is small, and it doesn't have a formal following among an analyst pool, and that has been a problem for quite some time.

With respect to the fact that we're not doing equity offerings, Hunt would very much -- just like the shareholders, would like to get the stock price up, so that additional equity could be offered in an accretive way since Hunt is compensated based upon a management fee on the adjusted book value.

But it's difficult, right? There are certain constraints relative to the NOLs as to trying to preserve that value, so that we don't have to pay tax liability in the near term, but it is difficult. And I think that the ESG tailwinds have been there for a bit. I think that they've probably gotten stronger since the new administration came in with respect to solar. But obviously, we have not been able to get traction on that, and kind of the events in February kind of make that somewhat difficult at the moment.

I hope there were a few bugs in the transcript software otherwise the few people that have asked me on podcasts hopefully understand why I'm probably better at writing than public speaking.  But either way, in the three years since the Hunt transaction, proforma book value has gone from $33.50/share to $35.66/share, a rather pathetic CAGR.  If you do the math, Hunt has earned management fees of $22.4MM (not including expense reimbursement) from 2018-2020, not a fair comparison since an internalized entity would still incur fees that Hunt is absorbing, but that's $3.90/share versus the $2.16/share shareholders have gained in book value (certainly not market value) in those three years.

Hunt's termination fee is 3x the average management fee of the last two years plus one year of average expense reimbursement, by my math that's roughly $25MM or $4.32/share.  Taking the $35.66/share proforma adjusted book value, subtracting the $4.32/share termination fee, gets you $31.34/share in liquidation value (let's pretend that ongoing net interest income cancels out liquidation expenses) which is 55% higher than the current stock price.

A straight liquidation might be unlikely to happen, this is an externally managed vehicle now after all, but the current structure doesn't appear to be work.  The company clearly doesn't have enough liquidity to continue with the Solar Ventures in its current construction, their revolver is being penalized due to the non-performing loans, and as confirmed by my question regarding their capital partner's eagerness to continue to invest post-February storm, it seems to me that a logical out would be to sell the Solar Ventures to Fundamental and then put the remaining legacy assets into a liquidating trust.

Other reasons why this makes sense:

• The Hunt platform has added no value to MMAC, the Solar Ventures all precede the Hunt transaction in 2018, no new investment verticals have been added that you could attribute to MMAC being apart of a larger investment platform.
• Former CEO Michael Falcone resigned unexpectedly, likely this was just a botched retirement, but given that there was no new blood at the Hunt level able or willing to come in and take leadership of entity (Falcone was months later named Chairman), might signal Hunt's wavering commitment to MMAC.
• The company has failed miserably at capturing the ESG trend.
• Due to the structure of the Solar Ventures and MMAC's minority interest now, their capital partner has the right to receive any distributions from the JV disproportionately until we're back to 50/50, which means that not only does MMAC not have cash flow to either pay a dividend and attract the yieldco crowd or repurchase stock like the good old days, but potentially as good loans roll off their capital partner could receive the full proceeds until the partnership is 50/50 leaving MMAC with more exposure to problem loans than they already have today.

Even if it doesn't voluntarily liquidate or pursue strategic alternatives, MMAC is fairly cheaper here.

PhenixFIN (f/k/a Medley Capital)

This is the old Medley Capital, PhenixFIN (PFX) is a BDC that internalized management as of the beginning of 2021.  Somewhat similar to ACRES Commercial Realty (ACR), this is a forgotten private credit lender that changed names and might not be on investors radar.  Book value as of year end was $52.94 versus a current share price of $33.15, or said another way, its trading at just 63% of book value.  No one would argue that PFX's assets are pristine, but the leveraged loan market (the asset class BDCs primarily own) has recovered substantially during covid, in fact, the riskiest of leveraged loans, those near default, rated CCC are currently trading at an average price of 91.4 cents on the dollar, a significant disconnect from where PFX's shares are trading.

But that analysis is a little too simple, PFX is basically running a shoe string operation right now, the CEO is a hedge fund manager without leveraged loan experience, they have indicated that PFX has hired an advisor to token oversee the portfolio without really naming a portfolio manager.  They don't appear to be originating new loans, I believe this portfolio is essentially in run off.  The balance sheet is atypical for a going concern BDC, at year-end they only had $14.8MM of net debt versus an investment portfolio of $160MM, making it if not the least levered BDC, close to it.  Just to emphasize the point, PFX has virtual no leverage and trades at nearly the biggest discount in the sector (and BDCs are supposed to mark-to-market their assets, but clearly these aren't Level 1 assets).

The company is buying back stock and recently entered into a 10b5-1 plan, presumably because they're not able to repurchase enough shares otherwise given the liquidity.  While not huge upside (my target is like ~80-85% of book, 25+% from here), PhenixFIN remains one of my higher conviction ideas, with limited downside and should either be formally put into liquidation or sold this year.  I've added shares in the first quarter.

Luby's
Luby's (LUB) is a restauranteur that is officially in liquidation now, LUB released its first filing under the liquidation method of accounting.  By making a few reasonable adjustments you can come up with a liquidation value higher than the stated $3.82/share versus the market price of $3.32/share today.

Liquidation accounting is nice because its simple, the company is tasked with valuing their net asset value assuming realized market value for the assets and subtracting their liabilities and any expenses they expect to incur during the liquidation.

The first obvious adjustment would be the PPP loan which LUB is considering a debt in the liquidation accounting, while they are under a current audit by the Small Business Administration, most believe that nearly all PPP loans made in good faith will be forgiven by the U.S. Government.  Forgiveness of the PPP loan is worth an additional $0.32 (or +9.6%) to the net assets in liquidation.

The other obviously conservative treatment is around the operating lease liabilities:

Under the going concern basis of accounting, we accounted for our operating leases as described below. Under the liquidation basis of accounting, we value the operating lease right-of-use assets at zero, since we do not expect to receive cash proceeds or other consideration for the right-of-use assets.

While they fully account for the operating lease liabilities at 100 cents on the dollar despite:

In fiscal year 2020, we terminated and settled our remaining lease obligation for 16 closed restaurant properties and negotiated an early termination date and reduced lease payment at one operating restaurant property. In the first quarter of fiscal year 2021, we terminated and settled our remaining lease obligation at seven closed restaurant properties. Subsequent to the first quarter of fiscal year 2021, we settled one addition lease obligation for a closed restaurant property. While the amounts paid to settle our lease liabilities varied, in the aggregate, we have settled these 24 leases for approximately 25% of the total undiscounted base rent payments that would otherwise have been due under the leases through their original contractual termination date. Although we can offer no assurances that we will continue to settle any lease obligation for less than its recorded values, any future settlements at less than the recorded value of the related lease obligation would increase our reported net assets in liquidation.

Per the company, all the restaurant and real estate assets are likely to be sold by the end of the fiscal year which is in August, with a final liquidation happening sometime in the early-to-mid 2022, my guess is the total distribution comes in at $4.25-$4.50 which is an attractive return from current prices.

ECA Marcellus Trust I & Sandridge Mississippian Trust I
Lastly, these are tiny nano-cap OTC oil and gas trusts, please be careful and do your own research before investing in either.  But I mentioned ECA Marcellus Trust I (ECTM) in my Year End 2020 post as a potential liquidation scenario, while the latest 10-K indicated that ECTM had not triggered the threshold for a liquidation as of year end, I still anticipate the trust doing so in the next several quarters, its current "NAV" is $0.97/unit versus a current price of $0.29/unit, leaving plenty of room for either bloated expenses or shenanigan's related to a liquidation auction.

Another similar vintage oil & gas trust is Sandridge Mississippian Trust I (SDTTU) which has already tripped its liquidation test threshold and is in the process of selling its assets and distributing the proceeds to unitholders.  As of 12/31/20, the trustee reported a net asset value of $0.31/unit versus a current price of approximate $0.22/unit.  $0.12 of that is cash, the rest is the remaining value of the oil & gas royalty, which the filings describe the valuation process as:

For December 31, 2020 as the Trust assets now meet the criteria for Held for Sale, the impairment was determined by taking the estimated fair value less the estimated cost to sell the assets. Fair value was derived from relevant market pricing related to the sale of a similar asset that was sold recently pursuant to a sale process conducted by a third-party advisor. 

So presumably the asset value is somewhat reasonably correlated to current market value, and then in terms of timing, it appears the trust should wrap up fairly quickly by the end of 2021:

The Trustee expects to complete the sale of the Trust’s assets by the end of the third quarter of 2021 and to distribute the net proceeds of the sale to the Trust unitholders on the following quarterly payment date. The Trust units are expected to be canceled shortly thereafter.

If all works perfectly, it likely won't, we're looking at a 40% upside from current prices.

Disclosure: I own shares of MMAC, PFX, LUB, ECTM and SDTTU

INDUS Realty Trust: GPT 2.0

I'm about a year late on this post, thank you to Sterling Capital (@jay_21_) -- one of the best follows on Twitter -- for pointing me back to the idea.  Also deserves a belated hat tip for collaborating on the ACR idea.  

One of my early successes was Gramercy Property Trust (GPT), originally a busted up commercial mREIT (favorite theme of mine) which following the financial crisis transformed itself into an industrial triple net lease REIT before eventually selling itself to Blackstone in 2018.  The architect of that transformation and value creation story was Gordon DuGan, one of the few CEOs I've kept a Google alert to keep tabs on where they go next.  Last March, DuGan popped back up as the new Chairman of Griffin Industrial Realty (GRIF is the old symbol), Griffin was an accidental real estate company, a 1997 spinoff from an operating company, Griffin spent the following two plus decades operating in the relative shadows slowly building out an industrial portfolio -- first in Hartford on historical land holdings and later expanding to PA, Charlotte and Orlando.  Bringing in DuGan signaled a transition for the company, late last year Griffin announced they would be rebranding as INDUS Realty Trust (INDT) and converting to a REIT.  On the investor day last fall, DuGan admitted to have never heard of the company prior to meeting the CEO at a REIT conference, but today I think the company is interesting (more of longer term value investment than event-driven) because:

• This is a jockey play, Gordon DuGan is a proven capital allocator, he did this once before, I have confidence he can do it again.  This is a somewhat similar playbook to GPT, take a small-cap industrial REIT (~$450MM) that is small enough to do one-off deals, institutionalize it, in the process the valuation re-rates up to the more liquid large-cap peers.
• Industrial REITs are richly valued, they trade for ~4-5% cap rates and have been major covid beneficiaries as ecommerce "last-mile" logistics and inventory management have become more critical.  INDT's growth is not in acquiring assets, but rather acting as a developer, industrial/logistics buildings are relatively cheap and quick to build, the arbitrage between yield on development costs and market cap rates is wide at this time.
• INDT raised a significant amount of equity this week in a secondary offering at $60, possibly weighting on the trading dynamics in the short term and creating a buying opportunity.  The equity raise is accretive to the long term value as that capital is put to work into new projects at attractive yields and it also helps improve the liquidity of the shares.

The current industrial portfolio is heavily skewed to the Hartford market where INDT had much of its undeveloped land, purchased long ago and some of that land is still held on its balance sheet at historical cost.  The company's strategy to diversify away from Hartford, instead focusing on their other markets of Lehigh Valley (PA), Charlotte and Orlando.

They point to the age and size of their assets as a differentiator, their buildings are newer and focused on the mid-sized market which provides them a lot of flexibility in the types of tenants they can attract while still being economical from a cost perspective.  I don't have a lot to add to their current portfolio, seems reasonably high quality with a diverse tenant mix.

Why INDT is unique is their ability to grow through development versus needing to rely on making sizable portfolio acquisitions to move the needle.  I'm generally a sucker for real estate development companies, my view is the market has a hard time valuing development assets correctly as they're non cash generating and thus not great for the REIT structure or investor base.  The problem with development companies is typically the long construction cycle, if for instance you're HHC, its 2018 and makes perfect sense to build a beautiful high rise office building on the Chicago River, by the time its complete in 2020, there's a pandemic and people are questioning if they'll ever go back into the office again.  A lot can happen in those two years before construction is complete and even longer to bring it to stabilization.  With industrial warehouse type properties, the construction is pretty quick and simple, 9-12 months, the product type is pretty homogeneous, you don't need a fancy architect to attract top tenants.  The timeframe from shovels in the ground to stabilization is shorter and the certainty of projected cash yield is firmer on construction costs.  This is a less risky form of development with much of the same upside.

INDT has historically been able to earn 7.7%-8.1% cash yields on their development costs, their current projects are estimated more in the 6.0%-6.5% range (guessing the difference is land cost, historical cost versus current market in their new developments), but with stabilized assets trading in the 4%-5.5% range, there's a lot of margin available to INDT's development platform to create shareholder value.

This week, the company issued equity at $60 per share giving them ample capital to pursue additional development opportunities later this year.  To illustrate what I think the company could be worth once this capital is put to work, I created the below back of envelope math.

The company still has a fair amount of non-core assets to be sold, so I assume those are sold at the price they're currently contracted at or book value which might be conservative, especially for the land holdings.  As part of their recent REIT conversion, they'll have a purging dividend that will be paid in part cash and part shares.  Then I also assume they'll sell the additional greenshoe shares, but maybe that's not a guarantee if the market's slide continues.  But then all that cash, plus incremental debt gets pushed into development projects at a 6.5% yield on cost, revalued by the market at a 5% cap rate.  The end result is roughly $82 per share, think of that as a target price a year out.  Probably a few mistakes in there, feel free to point them out.  One thing I am ignoring for now is the warrants that were issued last year as part of a private placement, those have a strike price of $60 which would raise additional capital as well.

My estimate is highly dependent on the market cap rate for industrial properties and their yield on cost for development, I ran a quick scenario analysis that shows what the math looks like at various assumptions.  Across the top is the development yield and down the left side is the market cap rate.

As you can see, the market is roughly valuing INDT at a 6% cap rate with little value being given to their development pipeline.  The math could really go in INDT's favor if they're able to issues shares closer to NAV or even above (many industrial REITs trade at a premium to NAV) creating that virtuous cycle that all REITs strive to get.  In summary, you have a proven capital allocator in a subsegment of the real estate market that should have continued tailwinds post-covid with a decently long but safe development pipeline to create significant value. 

Disclosure: I own shares of INDT