Real Estate Credit Inves... Share Discussion Threads

[kenny] 23/3/2013 22:21

There seems to be some confusion about the cover test.

The cover test was introduced to protect the current preference share issue on the occasion of splitting the company into a core, RECI, and a cell, being ERII. The principle was fairly simply – it was to ensure that upon creating a new class of shares (the cell ERII to take the legacy pre-crash bonds), that at no time in the future could the cell shareholders be paid excessive dividends and other distributions such that the liability to pay the pref divis or capital repayment fell unduly upon the core, RECI, without recourse to the cell. In other words, the cover test was not solely created to protect the preference shareholders. Its other main purpose was to ensure that the cell did not over distribute to the detriment of the core, RECI, which retains the primary liability to repay the existing prefs.

The above is, effectivly, stated in the prospectus of 11.07.11. It is also stated that failure of the cover test does not affect the ability to pay dividends on RECI shares. This highlights the fact that the cover test is solely a restriction applying to the cell and not the core. RECI is free to organise its affair's in any manner it likes because the cover test does not apply to it. Indeed, it could over distribute in order to deliberately "bust the cover test" to ensure that the cell does not distribute its funds. I do not seriously suggest this as it would be outwith the spirit of what the split was intended to acheive - I merely give this example to demonstrate that the cover test is a restriction on ERII alone.

Now turning to a hypothetical issue of a new preference issue made by RECI of let's assume £50m at say a 6% coupon.

The cover ratio is set at 2.39 - the cell cannot distribute if the ratio is less than 2.39. From the prospectus:
"The PCC Cover Ratio, as at any date, will be calculated as follows:

Core Total Assets + Cell Total Assets
Divided by
Final Capital Entitlement (£) x Preference Exchange Rate

where Core Total Assets and the Cell Total Assets are determined by reference to the balance sheet values from the most recent publicly available interim accounts, net of any proposed distributions expected to be made to the holders of Existing Ordinary Shares and Cell Shares and any declared but outstanding distributions to the same."

If the test remains on assets alone, ignoring pref liabilities, then adding £50m to assets clearly increases the ratio (not decreases as someone posted)- increasing cover therefore enabling the cell to make distributions. More likely and in order not to unfairly benefit cell shareholders, the cover ratio for the cell could be amended to assets after deducting the liability for the second pref; rather than gross assets. In other words, the test would be unaffected by a second pref issue e.g. £50m of assets added but also £50m of debt deducted; so the net result is netural for cover test purposes.

As I posted previously, a new pref issue would not itself be affected by the existing cover test because it would have no interaction with the previous split. The new issue would have as backing for repayment; simply the £50m raised itself plus the current NAV of the core of about another £50m*.

Therefore, I think a twice covered* preference issue could be launched at 6%, maybe even 5.5%, and be sold out quickly. (See the fixed income BB for discussion of other recent issues at this sort of yield which have all sold out very quickly). There is nothing to prevent a company issuing a preference share at a lower coupon than a previous issue; many companies have done so, not least UK banks.

* To be entirely accurate, RECI would then have two preference share issues totalling about £100m with assets of about £150m covering them jointly.

[kenny] 22/3/2013 22:18

The issue of a new preference issue would NOT be prevented by the cover test. In fact the cover test on the 8% prefs would be improved.

Any new pref issue would not have a cover test - this was perculiar to the split of the legacy assets off to the cell. Trust you now agree there is no restriction on another pref issue?

[jonwig] 22/3/2013 16:20

Kenny - you may be right on that - my post was based only on the comment you cited.

[kenny] 22/3/2013 15:20

Jonwig - I have read that statement on the RECP board. However, I can find no factual basis to support it. I have looked at the document creating the preference shares and the later cell share prospectus. There is no mention in those terms.

The only applicable point I found was as follows:

"The rights conferred upon the holders of the shares of any class issued with preferred or other rights shall not (unless otherwise expressly provided by the terms of issue of the shares of that class) be deemed to be varied by the creation or issue of further shares ranking pari passu therewith."

Accordingly, I believe the company is free to issue further classes of preference shares - but if anyone can find a document which confirms the company cannot, I would be interested to know. Incidentally, the statement on the RECP board may be correct as it refers to "debt" only - preference shares are not debt.

[davebowler] 22/3/2013 13:08

erstwhile2 -I'd be interested in your view on this Phoenix bond -PEARL GROUP HOLDINGS 6.5864% Floating Rate Perp

[jonwig] 22/3/2013 12:58

Kenny, I'm in agreement with your argument, but would pick one point of fact: company articles I believe forbid issuance of any debt ranking equal to or senior to RECP.

GRY on RECP is about 6.5%.
Hence a 6% yield would be tough to get away. What happens in 2017 is a different matter.

[badtime] 22/3/2013 12:06

Ah it's back

[kenny] 22/3/2013 11:38

erstwhile2 - I am struggling to understand your figures. Have you looked at the Liberum note of 28 February 2013, as that gives a great deal of detail. For example, a projection of earnings of 17.4p, pre dividends, for the year to 31.03.14. Importantly, that projection of 17.4p of earnings does not include any potential value accuring from an increase in NAV arising from movement in credit spreads.

The accounts for the year to 31.03.12 should be published in June and that might make the figures a bit clearer for you.

[badtime] 22/3/2013 11:03

erm what was ersts viewpoint...it seems to have gone

[davebowler] 22/3/2013 10:58

erstwhile2 -interesting viewpoint.
However the running yield on underlying investments is 13% odd and many of the bonds are held at a discount to par so it is quite possible for a higher rate than 10% to be achieved over the next 4.5 years.

[pyemckay] 22/3/2013 10:27

correct holts, the company mentioned it would be reviewed when it was merited. We were getting 8% only a few months ago and i didnt complain then. I cant see them adjusting the payout if it is marginally below 6% over a few quarters. possibly if it dropped nearer 5% it would be reviwed.

only my thoughts from a happy holder.

[holts] 22/3/2013 10:21

I think someone contacted the company about the six per cent payout , the answer being it was an intention with no timescale for implementation.

[wirralowl] 22/3/2013 10:12

6% of NAV would appear to be closer to 2.25p per quarter, so maybe we will see a dividend increase in future? However, it could be the Divi is calculated against the NAV on a 12-month rolling basis, hence the seemingly slightly lower payout?

[owenski] 22/3/2013 09:56

If they pay out 6% of NAV, wouldn't that put the potential yield higher than current payout? Not sure on this point so advice appreciated

[kenny] 21/3/2013 23:26

Investec have today issued a long note which is now up on the company's website:

It ends:

"In conclusion
We like the real estate backed debt space and continue to consider RECI shares as highly attractive with good yield credentials as well potential for further NAV upside. RECI provides a differentiated investment approach to recently launched pure real estate loan funds as the managers opportunistically buy and sell property backed bonds in the secondary markets and apply portfolio protection through hedges, as well as providing direct real estate backed loans.

RECI ordinary shares have a dividend policy to pay out 6% of NAV per annum. On that basis the shares currently yield 6.1%. The shares trade on a 2.0% discount to NAV. We view RECI shares as attractive and would be unsurprised to see the shares trade up to a small premium to NAV considering the quality of the portfolio and its income stream as well as the future capital growth potential."

[kenny] 21/3/2013 14:25

Thanks Dave.

In my opinion, RECI is still cheap so in view of the recent fall in the share price, I have used the opportunity to top up today albeit my trades may not be reported today.

DYOR because I am a long term investor who has no idea about how to time buys and sells.

[davebowler] 21/3/2013 10:16

Liberum;
Real Estate Credit Investments (RECI / BUY / 146.5p) – Unchanged NAV

Highlights:

n NAV: NAV per share at 15 March 2013 was 149p (unchanged from 28 February) after adjusting for the 2p dividend. Portfolio growth on the bond portfolio was mitigated by a reduction in the value of derivative assets.

n Bond portfolio +0.6%: The bond portfolio increased by 0.6% in the month driven by gains in the Annington Finance bond.

n Activity: £0.2m of acquisitions at an average purchase price of 0.66 and an effective yield of 11.7%. A further loan investment is anticipated within a month (loans currently account for 19% of GAV).

Liberum View:



n Bond portfolio growth continues to impress and it has recorded a positive fair value movement 14 months out of the last 15 (+39.5% over the period).

n RECI trades on a 1.7% discount to NAV (vs. an average premium of 3.3% for the four other listed real estate debt funds. We think this is unwarranted as RECI is the top performing listed debt fund since the beginning of 2012 (+58.7% NAV total return) and the portfolio is fully invested.

n Our conservative 157p price target implies 14% total return and there is considerable upside risk to our numbers from credit spread tightening and early bond repayments (the bond portfolio is priced at a 26% discount to par). RECI remains our top pick in the listed debt sector.

[chester] 21/3/2013 07:18

Gary - I was refering to the share price.