Piedmont's Third Tranche Release
The third tranche in Piedmont's listing is occurring this week, as shares are being delivered to custodians.  This likely explains Piedmont's (PDM) small price drop over the past two days.  All Piedmont shares should be full listed by February 2011.  Remember that the breakeven price per share is $25.14.  The current price is approximately $18.20 per share.

I don't want to jinx PDM's shares, but with one more tranche release left, it looks like Piedmont's strategy of spacing share liquidation has helped stabilize the stock.  Rightly or wrongly it appears that deferred liquidations are the new model for sponsors that are looking for liquidation.  The IMH deal I wrote about over the weekend is spacing its sales, and another large REIT is contemplating using the tranche method, but over an 18-month period compared to Piedmont's which took about a year. 

It's not the tranche strategy that stabilized Piedmont's share price, it is a good underlying business.  Entities with shaky business models or suspect financial statements won't have the same results as Piedmont.  The results could be just the opposite of Piedmont's, where a stock's price drops after the initial IPO and continues to drop, especially before and after each tranche release, until all shares are liquid or the company suspends tranche releases in an attempt to halt liquidations.  Investors will be in a frenzy to sell if a company is trending down.

Atlas Hits A Gusher
Well, Atlas Energy Inc.'s stockholders hit a gusher.  Today Chevron acquired Atlas for $3.2 billion or $43.34 per share, a 37% premium over Monday's closing price.  Atlas stockholders will receive $38.25 in cash and $4.09 of units in Atlas Pipeline Holdings.  Chevron's attraction was all Atlas' acreage in the Marcellus Shale natural gas region, which spreads over Western New York, Western Pennsylvania, West Virginia and parts of Ohio.  Atlas controls 622,000 acres in the Marcellus Shale formation with 1 trillion cubic feet of natural gas reserves.  A  Bloomberg article quotes an RBC analyst who figures that Chevron paid $9,000 per acre.  Last spring Atlas entered into a joint venture with India's Reliance Industries, Ltd, at $14,000 per acre.  While not a direct comparison, Atlas contributes its Marcellus Shale lease interests to its limited partners at a value of $45,000 per acre. 

For many years Atlas tapped a network of independent broker / dealers to raise capital for limited partnerships, which in effect were a form of corporate finance for Atlas.   The Atlas oil and gas partnerships are long-lived programs, so I am guessing there must be some kind of plan to continue to manage or to liquidate these assets.  The syndication business is moving to Atlas Pipeline Holdings, so I am guessing Atlas will keep the pushing out its rich, sponsor-feed energy programs.  It looks like any  assets in Michigan and Marcellus Shale (some that are owned by partnerships) are staying with Atlas and will be managed by Chevron.  I have read through Atlas' 8-K discussing the acquisition, but other than what is stated above, there is not much more information.   This is a fluid situation that needs watching.

IMH IPO - Where's My Checkbook?
I had not thought about IMH and its combination of the IMH management company and the IHM Secured Loan Fund lately.  But earlier this week I checked IMH's website and it looks like the consolidation has been approved, and on October 28, 2010, IMH filed a pre-IPO S-11.  I guess IMH and investors in the IMH Secured Loan Fund figured out the senior management compensation issues enough to get the consolidation approved (there are lawsuits filed so the saga is not over).   I always felt that the whole compensation argument was like arguing over carpet and wallpaper on the Titanic. 

I am not going to read the whole S-11, but will cherry-pick a few highlights.  These comments are out of context and if you're serious about this investment you should read the entire document. 

• For the first six months of 2010, IMH posted a loss of $45 million, of which $39 million was loss provisions and impairment charges.  The operating loss for the first half of 2010 was approximately $6 million.
• Accumulated losses are $454 million.
• "Substantially all of our commercial mortgages are in default, and currently performing loans may default in the future."  Yikes.
• IMH is using outside consultants to workout its defaulted loans.  I am curious how much these firms or individuals will receive for their workout efforts and how much IMH will net on any asset recovery?
• At June 30, 2010, IMH estimated that it had $15.9 million in cash funding requirements for existing loan commitments.  At June 30, 2010, IHM listed $3.5 million of cash.
• Existing investors only receive partial liquidity on the IPO, and are having their  equity diluted.

IMH has wide latitude in making investments with net IPO proceeds. It does not look like it is going to attempt to save any of its existing loans or assets.  It will be originating new loans and acquiring exisitng loans to take advantage of the real estate upheaval and aftermath of the credit crisis.

My question with IMH has always been its valuation for exisitng assets.  It still lists nearly $300 million in total assets, about half its asset value at the end of 2007.  I estimate that IMH has lowered valuations about 50%.  Is this enough?  I don't know, but my gut tells me it is not.   Land values have dropped considerably, and more than 50%, especially in the location and in the pre-development space where IHM operated.    The market's appetite for this IPO will tell us whether IMH was accurate in its asset valuation.

I never thought that IHM Secured Loan investors had much of choice but to approve the consolidation.  Snark aside, I hope this investment works out for investors.

Defies Belief
United Development Fund III, LP, (UDF III) is a limited partnership that raised capital to originate and service land and development loans to home builders, both third party and affiliated, that are based in Texas.  It raised its capital starting in late 2006 and finished in early 2009.  At the end of the second quarter, approximately a third of UDF III's assets are affiliated transactions.  On October 22, UDF III released its required per unit valuation in an 8-K that states that the value per unit is $20, the same value that the units were originally issued.

The 8-K lists a variety of valuation methodologies (income, market and asset) and resulting valuations.  Valuations were determined by the general partner and by a third party.  The valuations ranged from a low of $18.05 per unit to a high of $26.19.   The general partner determined the low-end valuation, and the high value was determined by the third party valuation firm.  The passage below discusses the general partner's value reconciliation process and how it arrived at the $20 per unit value:

In determining the Partnership’s estimated unit value, the General Partner considered the independent firm’s range of estimated values per unit of between $18.80 pursuant to an asset approach methodology and $26.19 pursuant to one of the valuation analyses used in the market approach methodology, as well as the lack of marketability discount discussed above. The General Partner also considered its own determination of the Partnership’s assets, less liabilities, of $18.05 per unit, as well as the General Partner’s estimates and projections regarding the execution of the Partnership’s business model set forth in the prospectus regarding the Partnership’s initial public offering of its limited partnership units and the General Partner’s expectation that a public trading market for the Partnership’s units is not likely to develop. The General Partner then determined the estimated value per unit of the Partnership’s limited partnership interests to be $20.00 per unit, which is within the range of values provided by the independent firm.

We are to believe that an original $20 unit price, which paid approximately $2.80 per unit (14%) in offering costs and netted approximately $17.20 per share in net investable proceeds with which to make loans, is still worth $20 per unit?  Well, I don't and here is why.  In general, UDF III took that $17.20 and made loans, and the loans pay interest and principal.  Fine, but the loans don't appreciate, they're generally repaid at par, and some loans don't even pay current interest as is common in the construction industry, principal and accrued interest are due at maturity.

Here is an example:  let's say the fund made a $1 million loan with a twelve-month term and 12% interest.  At the end of a year the fund would get its $1 million back, plus $120,000 in interest.  From that interest the fund needs to pay investors a 9% distribution on the original $20 per unit price, which is approximately $104,650 of the $120,000 the loan earned in interest.  The balance would be applied to the initial 14% load recovery, which only reduces the load by a small amount, so to fully recover the load, the money would have to be recycled 10 times!   Below is the transaction example described above using a $20.00 unit price and fully investing the net proceeds.  It shows that an excess $.26 that could be applied to the initial $2.80 load:

Initial Value:    $20.00
Load:                 $2.80
Net Proceeds:  $17.80

Loan $17.20 @ 12% for one year
Interest:          $2.06

Pay 9% on $20.00 per unit
Distribution:   $1.80

Excess proceeds  $.26 per unit

An astute reader may wonder what happens to loan origination fees and servicing fees.  I believe the bulk of these fees are are paid to the general partner and affiliates and don't stay at the fund.  UDF III's general partner does not have to use the small amount of excess interest to paydown the load, it can use to as part of a new loan or for other partnership purposes. 

I don't see how the independent valuation firm could possibly derive a value of $26.16 per unit.  (Actually, I suspect loan income was somehow capped at a low cap rate with little regard to the actual underlying asset.)   Behringer Harvard and Inland need to find this valuation firm and call it immediately.

This post is not questioning UDF III's business model.  That is a subject for another post or posts, because UDF III's affiliated dealings are worth analyzing.   This post is asking how a mortgage fund with a 14% load is able to publish a value that overcomes its load (and in one valuation significantly exceed the offering valuation) when a portfolio of mortgages does not grow and the fund does not keep origination fees.

Good For Intel and Bill Gross Reference
Here is a link to a Yahoo Finance article and a Bloomberg article on Intel investing up to $8 billion in new and renovated manufacturing plants in Oregon and Arizona.  I am glad Intel resisted moving these plants and jobs overseas.  The United States is a manufacturing nation and the rise of low paying service jobs at the expense of manufacturing jobs has been a drain for years.  I didn't know that Intel already manufactures 75% of its microprocessors in the United States.

The latest Bill Gross Investment Outlook is worth a read and ties in directly to Intel's domestic production investment.  He predicts and extended period of low returns on stocks due to low inflation, low interest rates and high debt.  The high stock returns of past thirty years are not likely to be repeated, unless (second paragraph is the key and the bold type is Bill Gross'):

The predicament, of course, is mimicked by all institutions with underfunded liability structures – insurance companies, Social Security, and perhaps least acknowledged or respected, households. If a family is expecting to earn a high single-digit return on their 401(k) to fund retirement, or a similar result from their personal account to pay for college, there will likely not be enough in the piggy bank at time’s end to pay the bills. If stocks are required to do the heavy lifting because of rather anemic bond yields, it should be acknowledged that bond yields are rather anemic because of extremely low new normal expectations for growth and inflation in developed economies. Even the wildest bulls on Wall Street and worldwide bourses would be hard-pressed to manufacture 12% equity returns from nominal GDP growth of 2 to 3%. The hard cold reality from Stan Druckenmiller’s “old normal” is that prosperity and overconsumption was driven by asset inflation that in turn was leverage and interest rate correlated. With deleveraging the fashion du jour, and yields about as low as they are going to go, prosperity requires another foundation.

What might that be? Well, let me be the first to acknowledge that the best route to prosperity is the good old-fashioned route (no, not the dated Paine Webber road map utilizing hoped for paper gains of 12%+) but good old-fashioned investment in production. If we are to EARN IT – the best way is to utilize technology and elbow grease to make products that the rest of the world wants to buy. Perhaps we can, but it would take a long time and an increase in political courage not seen since Ronald Reagan or FDR.

More companies need to follow Intel's lead and invest in production in the United States.

What It Owns
In the next week or so I am going to keep reading the 10-Q for the REIT referenced in the last two posts.  I want to pick two of its properties and try to figure out exactly how much the REIT has invested in these properites, determine the debt, if any on these properites, and finally try to figure of some kind of return or cash flow figures.  I hope to figure a cap rate - net operating income divided by purchase price.  I am only going to look at the 10-Q.

Finding this information should take twenty to thirty minutes.  I am not sure of any REIT that lists its investment, debt and income in one table, so I am not expecting that, but the data should be disclosed and easy to piece together.  I will let you know my findings or whether I threw my hands up in disgust.

LOC Clarification
In the last post I discussed a line of credit.  I was not questioning the line of credit in itself or its mechanics.  I was showing exasperation on opaque disclosure.   Why does a line of credit warrant such nonsensical misdirection?  Why not just state, "We obtained a $X million line or credit, of which $Y million is available to us based collateral assigned to secure the line of credit and borrowing limits against the collateral.  We have borrowed $Z million on the line of credit."  If a company goes out of its way to obscure something as straightforward as how much it used on its line of credit, it makes me question the entire disclosure document.

Intentional Obfuscation
I am still catching up on the second quarter 10-Q readings.  The excerpt below is from the footnotes from a major non-traded REIT discussing its new $150 million credit facility: 

Draws under the credit facility are secured by a pool of certain multifamily communities directly owned by our wholly owned subsidiaries, where we may add and remove multifamily communities from the collateral pool in compliance with the requirements under the credit facility agreement.  As of June 30, 2010, $73.6 million of the net carrying value of real estate collateralized the credit facility.  The aggregate borrowings under the facility are limited to 70% of the value of the collateral pool, which may be different than the carrying value for financial statement reporting.  As of June 30, 2010, available, but undrawn amounts under the credit facility are approximately $32.9 million.

What does the above say?!?  I read it that the $150 million line of credit is really only 70% of $73.6 million, or $51.5 million.  So the actual line of credit is $51.5 million not that stated $150 million.   How much is outstanding on this line of credit?  Sharpen your pencil.  Rather than just stating the amount outstanding, the undrawn amount on this line is given.  So you have to figure out the amount available and then subtract the undrawn amount.   Using my math, if the amount available is $51.5 and the undrawn amount is $32.9, million the amount outstanding at quarter end must be $18.6 million.

Does this number tie to balance sheet?  No effing way.  The amount listed on the balance sheet for credit facility payable is $10 million.  Nonsense.

The above is but one example of repeated obfuscations.  Try and figure out the total acquisition price for each property from information in the 10-Q.  The details of this non-traded REIT might as well be in hieroglyphics. 

Here is what you need to know about this REIT:   It is paying a 6% distribution, which was recently lowered from 7%, and is not generating operating cash flow.  In the first six months of 2010, the REIT had operating cash flow of -$70,000, but still declared $25 million in distributions.  There is no obfuscation in that discrepancy. 

(This REIT is not even able to disguise its lack of cash flow by playing with FFO and MFFO figures, like other non-traded REITs.  Its FFO was more than $1 million negative and its MFFO was just shy of $5 million for the first six months of 2010, both well off the $25 million that the REIT declared in distributions.)

In rare moment of clarity, the REIT says "future distributions my change over time and future distributions declared may continue to exceed cash flow from operations."  In other words, the REIT will keep overpaying its distributions until it can't, then it'll cut its distribution.  You can't say you haven't been warned.

It is troubling that this REIT has more than twenty properites, many that have achieved stabilized operations, and still can't generate meaningful operating cash flow.  There a number of apologists for this REIT in the broker / dealer community, and this REIT is still raising tens of millions of dollars per month.  I am guessing some broker / dealers will keep selling this REIT until the weight of its business plan causes it to collapse and then look for an external excuse, like the real estate crisis or the economy to justify their decision to keep selling this REIT.  Good luck with that.  The sustained lack of operating cash flow tells the whole story.

If You Build It, They Won't Come
I am in a foul mood today.  I just read this article on Bloomberg about Dubai's commercial office market and how some buildings, horror of horrors, may stay vacant for ever.  Well, no sh*t Sherlock.  Dubai was a real estate market that was non-existent ten to fifteen years ago - nothing but desert - and only became viable with easy money and a flood of construction and real estate related jobs.  Dubai is a middle east version of Las Vegas without Vegas' charms of vice and entertainment.  When Dubai's real estate musical chairs stopped, people, like in Las Vegas, woke up and realized they were stuck in the middle of a freaking desert and those that could headed for the exits. 

Why?
Microsoft is releasing nine new phones that will operate on its Windows operating system.  Why?  The smart phone game is over for the foreseeable future with Apple's iPhone and phones running Google's Android software.  Does Microsoft remember Zune?  Microsoft software is so over-engineered that there is no way this phone operating system will be easy to use and not kill the phone's speed and ease of use.  Microsoft needs to stick with what it does best - designing productivity software.   I always thought anti-trust complaints against Microsoft in the 1990s were a joke, and Microsoft has proved why.  Is it me or is Microsoft always late to the party and wearing a powder blue tuxedo?

Good News Comes in Threes
The third Reis property report of the week was released today.  It showed that vacancies and lease rates at retail properties have leveled off.  Here is the Reuters' article.  The report cautions that the rent and vacancy stabilization is to recent to signify a trend, and that pending lease renewals may push up vacancies.  I will take the good news where I can get it.

Apartment Vacancies Drop
Calculated Risk reported on the third quarter Reis apartment update this morning.  Apartment vacancies dropped to 7.2%, from 7.8% in the second quarter.  Lease rates, net of concessions, increased to $980 per month.  Calculated Risk stares that vacancies bottomed early this year, and that excess housing inventory is being absorbed.  The Reuters story on this news is here.

Office Vacancy at 17-Year High
I read over at Calculated Risk (which got its data from Reis) that commercial office vacancies are at a seventeen-year high.  I linked the Calculated Risk graph below:

https://blogger.googleusercontent.com/img/b/R29vZ2xl/AVvXsEgdRxzXI5hi2OVj9DkbeJK9aKB6olsuRZWwqe8SPePtBuFxDRahxXF48yHzyV1JEHsCK5NyiuiC-AzemiXqFZtzVdvJwSiZmYQSbDgN2a8n__p5kXjz6lKZmCSxLyu64AO_Vd51/s320/OfficeVacancyRateQ32010.jpg


Graphically, it looks like the rate of decline in occupancy rates has slowed and looks to be leveling out.  Rents appear to be stabilizing, too.

Home Run
In April 2009, I posted on Normandy Real Estate Partners and Five Mile Capital Partners buying the landmark John Hancock Tower in Boston for $20 million of equity and the assumption of $640 million of debt (Normandy and Five Mile bought the mezzanine debt and foreclosed on the property).   Today, I read that the building is being sold for $930 million to Boston Properties, which includes the assumption of the $640 million in debt.  I am not sure if Normandy and Five Mile invested any more than their $20 million in improvements or had to plunk down some cash to lease the building, but on the surface, $270 million profit on a $20 million investment in about eighteen months is incredible.

Hard To Believe - AIG to Repay Government
AIG took over $180 billion in tax payer "bailout" funds during the credit crisis.  It has filed to repay this money.  I thought that the government would never get its AIG money back.  While most other Wall Street firms have repaid their TARP money, I figured the AIG money was lost.  If you don't remember, AIG got in trouble because it provided unregulated insurance, in the form of credit default swaps, to other Wall Street firms, protecting these firms against losses against their subprime debt securities and other, similar, securities.  I still hear complaints about "bank bailouts," but with AIG, the largest recipient of tax payer money, attempting to repay its government money it is hard to argue against the success of TARP.

UPDATE:  Ooops.  I had a typo in the original post.  The correct amount to bailout AIG was $180 billion, not $180 million.

Inland American Valuation Is $8.03 Per Share
I am traveling and completing research reports, so I will post more on this valuation over the weekend.  Inland American announced this afternoon that an original $10.00 per share investment in the REIT is now worth $8.03.  That is an amazing valuation.  If you figure that 15% of the REIT's initial value was lost to offering costs, the REIT only lost about 5% of its value in the worst commercial real estate market in years.  Who would have thought that the Inland American's focus on hotels and retail properties - two of the worst performing commercial real estate sectors during the slump - in 2006 through 2008 would have proved so prescient.  Somehow Inland American eluded the decline in a commercial real estate market that has lost over 40% of its value from its peak.

Los Angles Times Article on Housing
I meant to link to this article last month, but didn't for some reason.  Here it is now.   The article discusses how private equity and wealthy investors are buying foreclosed homes and then trying to quickly sell them.  The professional investors are moving in as small investors are getting pushed out.  Many purchases are at court house steps.  This sounds like an easy way to make a quick profit, but it's not that easy.  First you need cash to close the deal.  What would trouble me is buying homes on the court house steps.  These transactions are pretty much "as is," and sight unseen.  You don't know the condition of the home, so it is just a gamble. Here is an example from the article:

Competition at the auctions is brutal, said Bruce Norris of Norris Group, a real estate investment firm in Riverside.

Norris unwittingly bought a house that was the site of a gruesome double murder. No one else bid -- a rare occurrence that showed others knew the history -- leaving Norris with less cash to bid for other houses.

"It's a very lonely place out there," Norris said.

That's only one of many risks in the foreclosure business. People who've lost their homes through foreclosure sometimes vent their anger by smashing walls, knocking over water heaters or ripping out toilets.

"We've literally had people take $20,000 of cabinetry out and feel perfectly justified doing it," Norris said.

What's The Over / Under?
Inland announced today that is releasing the estimate per share value of its non-traded REIT Inland American on September 24.  There is an accompanying conference call late on Friday.   (Is there a coincidence that the 24th is a Friday, the usual day for releasing bad news?)   Inland American's portfolio is full of limited service hotels and retail properties, among other types of real estate.  Inland American raised over $7 billion and bought much of its portfolio in 2006 through 2008.  Does anyone want to start the guessing at a per share valuation?

Here is a quick back of the envelop guess.  Inland American's FFO per share for the first six months was $.2487 per share, and is $.497 on a straight annualization.  Using simple FFO multiples of 9 to 12 gives a per share value of $4.48 to $5.97.  I figure Inland will adjust the number in the REITs favor.  (I am not sure whether a third party is providing the valuation.)  I would set the over / under at $6.25 per share.

Positive Hotel News
Here is a Bloomberg article on an improving hotel market.  Rents and occupancies are up, and sales are following this trend.  I have been thinking that hotel metrics should be improving making the hotel asset class an attractive investment in the rebounding economy.  The travel deals available a year ago are no longer available.  Here is the heart of the article:

A rebound in business and leisure travel is helping the U.S. lodging industry recover after last year’s recession sent occupancies to a 30-year low. Hotels can boost rates quickly to take advantage of economic growth, while tenants at offices and retail properties tend to sign multiyear leases. 

“Hotels have already absorbed the downturn,” said Richard Jones, executive vice president of acquisitions and operations at Atlanta-based developer Portman Holdings LLC. “It’s not as evident what exactly the impact of this downturn is going to be for other commercial real estate.”

Owners of offices, shopping centers and other buildings with pre-recession leases are now signing agreements that will result in “significant cuts in rental income” said Jones, whose company develops lodging, office and retail properties.

Income for hotels, meanwhile, is rising. Revenue per available room, or revpar, in the top 25 U.S. markets rose to $73.87 during the first half from $71.08 a year earlier, according to Smith Travel Research Inc. of Hendersonville, Tennessee. Occupancies climbed to 63 percent from 59 percent during the period, while remaining below 2008’s 66 percent.

The article goes on to compare and contrast hotels with other classes of real estate, and makes the case that hotels can respond quicker to an improving economy.   One important point that the article did not mention is new construction or lack thereof.  The hotel sector was overbuilt during the heydays of easy credit, and limited service hotels seemed to litter many corners.  I don't suspect there is any pending new hotel construction, except maybe some major metropolitan infill, and would be surprised if any sizable hotel development is even in the planning stage.

More Housing
I saw this summary of a government report on Fannie Mae and Freddie Mac last week and thought it interesting.  One third of all mortgages originated in 2005 and 2006 were subprime or Alt-A mortgages.  Over 2005 and 2006, government agencies issued 45% and 44%, respectively, of mortgage backed securities.  This compares to today, where agencies issue of 95% of mortgage backed securities. 

Reading this report, it's clear that government agencies did not cause the housing market bubble.  The market worked well, too well.  People wanted any kind of mortgage to get into the housing market.  When the agencies could not meet demand, or had standards that were too strict, the private market stepped in and created and originated mortgages, and then bought, packaged and sold these into non-government mortgage backed securities.  

The housing market is still recovering from the excess of the mid-2000s.  If the agencies eased their mortgage purchase standards it would help the housing market by increasing demand.