MPG Office Trust: recap
by PlanMaestro
More than a year ago, I wrote a thesis for the MPG preferred equity and left some open questions on the value of the common equity. A sharp price recovery discontinued that series; nobody likes much to write about stocks sold or priced too high.
Some recent events, specifically the resignation of the CEO Nelson Rising, prompted a selloff so it is a good time to continue the series and answer those open questions:
- “Not much in recourse obligations left, the OC strategy should restart cash flow generation, and there is cash, unencumbered land, a 20% participation in a profitable JV and large NOLs to carry them through the turnaround. The preferreds must be an easy kill, is there more value left for the common?”
- Do we think that the common is not only undervalued, but has more upside than the opportunity cost: the potential 3x of the preferreds and its higher preference in the capital structure?
As we discussed at that time, Maguire is a highly indebted REIT that is barely cash flow breakeven. Since that write-up, the company has practically eliminated all recourse debt and corporate guarantees so MPG may loose some valuable properties in the process but each mortgage is independent so a cash flow positive core will always survive.
The continuing debt restructuring is not the only recent news. The company also has a new name, MPG Office Trust, consequence of the firing and disentanglement of most business relations with Mr. Maguire, and a new CEO David Weinstein consequence of the divergent capital structure views of Mr. Rising and the board.
Over the last year my main worry with MPG has been a potential dilutive capital injection. I am not opposed to it at a property level, with a couple of asset sells if necessary, but I do oppose a capital raise at the corporate level because at the current valuation defeats the purpose of the well conceived debt structure.
Well, this worry has been mitigated with the leaks following the CEO resignation. I think it is pretty clear that the board had the same worries and is defending shareholders.
But Mr. Rising believed the company also needed to sell equity to stabilize its balance sheet, people familiar with the situation said. Other REITs were doing this. But MPG shares were at such a low level, board members felt that it would be too dilutive, these people said. Mr. Rising also had discussions with possible suitors interested in buying the company. But the board felt the price would be too low because of the company’s high debt load, these people said. – Wall Street Journal
Some of you will challenge this view that the market may be missing something. After all, MPG is not your usual small cap. It is widely known in the competitive REIT sector so it should not lack suitors if it had substantial value left.
The thing is, there is a long line of suitors. For a start,
- Winthrop Realty Trust was a large holder of preferreds and showed interest on a more active role before selling.
- Brookfield Properties has been mentioned as interested in several articles, including the WSJ article on the resignation of the CEO. One of their analysts has been a staple in recent MPG’s conference calls.
- Appaloosa has a very large position, close to 10%, in the common and most probably in the preferreds too.
- Third Point had a large 10% position that was sold. Daniel Loeb in one of his tirades complained about the company rejection of a $20 buyout offer in June 2008.
- Baliasny Asset Management, besides being implicated in the recent insider trading scandal, bought a 5% position between Q4 2009 and Q1 2010
- Robert Maguire, founder and former CEO, increased his position to close to 10% (prices between $1.4 and $2.5) while firing a 13D between February and March this year.
Quite substantial blue blood interest, specially for a company valued at only $100 million. The question is what are they seeing here. If you go the traditional way of valuing a REIT by using a multiple of NOI (net operating income) you would be disappointed. There is not much NOI.
At the same time, that method misses that MPG was known for their subpar NOI generation compared to its NAV (net asset value). The reason is that downtown leases were not paying enough while absorbing for decades the CRE bubble from the 1980s. Though, on the positive side, there is no new supply expected for years and, in the meantime, the office vacancy is below 20% in downtown LA so it will be absorbed rapidly after the downturn ends.
No new supply and continued downtown growth. I wonder what will happen next.
Past history is the way I have seen people arguing on behalf of MPG. They extrapolate its share price before the Orange County acquisition and conclude that it is worth more than $40 per share. But that is not right either: the OC debacle cost MPG significantly since they had to refinance and extract equity from the core Los Angeles CBD to buy those properties … properties that are being hand over.
There is value, substantial value, but it is going to take a long analysis. Please bare with me and let’s hope that this time the price does not jump before we finish the series.
Long MPG
This article was published in CGI Value two weeks ago
Variant Perceptions 
The price did jump a lot today LOL.
This is ridiculous, I will never finish this write-up LOL
I bought a small position early today, because I knew it would jump up quite a bit after your post, so I have to rush to get a good entry. I didn’t buy enough though. LOL
I guess lots of big players read your blog? Last time when you wrote about CRBC, it also went up a lot.
why don’t you write about GKK so we can get that up, too. LOL
It is very said for me that I spent days and days on GKK but still can’t figure it out. The realty part is simple, but the financial part is so complex for me, especially the CDOs. My only understanding on GKK’s financial sub is that they issued loans to buy the CMBS etc securities to build up their assets, and then bundle the liabilities into CDOs, become their own CDO manager, and then sold the CDOs out, but retained all the non-investment grade debt and equity on their own side(asset side right?). I don’t understand why this is better than the original financial structure. I think this probably increased their risks.
Zehua, I am dizzy. The CMBS is much less important than what it seems at first look. They are concentrated in CDO 2007, the one that exploded with Stuveysant, and that I did not include in the thesis in the comments section.
There are some in CDO 2005 and CDO 2006 but the loans inside the CDOs are more important.
[…] December 2010 update (the one that re-kindled my interest) […]
I couldn’t wait any longer for you to complete the analysis, so I did one myself (with full links back to your blog for people to read your excellent background on the situation):
http://skepticllc.com/2010/12/28/mpg/
I’ve laid out my calculations in pretty full detail, and would be happy to discuss further with anyone who is interested (please use the comment section on my blog to do so). I’m especially interested in hearing from people with a view on real estate pricing in MPG’s markets.
Cheers!
Thanks Skeptic, did you include the parking lots and hotel cash flow?
My analysis is along this route. The downtown office and residential transactions I have found are above $400 /sqf and I am pretty sure the replacement cost is above that. There is good margin of safety since the current stock price $2.7/share breakevens below $300/sqf, price that I think MPG could sell its properties blind with an arm behind their back.
The question now is how many buildings they will be able to keep after all is over.
Skeptic
Is it possible to gain access to your website? I wanted to read your MPG write-up to learn more about opportunity? Thx.
Hotel cash flow – yes (I broke it out separately from their other PLF square footage and applied a cap rate). My valuation puts the hotel at $163K/room.
Parking – yes and no. It’s included by definition in the EBITDA analysis I did (I think the parking lots generate about ~20MM per year in EBITDA). It wasn’t clear to me if the comps I was seeing in the market were with or without the parking when quoting price per square foot, so I want to be certain I’m not double counting. I’m still working on making that more explicit as I refine my valuation.
On the other hand – I’ve gotten a lot smarter about downtown LA real estate recently. Looks like the market was overbuilt decades ago, but it also looks like rents have shown signs of bottoming and vacancy is at least holding steady. That said, I’m not sure $400/ft is such a slam dunk.
This is the most recent direct comp I found:
http://www.cpexecutive.com/property-types/office/downtown-l-a-s-union-bank-plaza-fetches-a-whopping-332-psf/
I agree that replacement cost is probably closer to 500/ft, but I’m probably more cautious on the current valuations if you sold. I’m hoping to get a lot more data here in the coming weeks.
Thanks again for providing the lead here… I’m going to continue to work on this.
Happy new year! I learned a lot from you this year. Thank you so much!
Wish you make big $$ on the financial stocks next year!
Thanks, you too
[…] cash flow from several properties now fails to cover its mortgages. However, as the Skeptic LLC and Variant Perceptions blogs pointed out, the non-viable properties are backed by non-recourse debt, and do not affect the […]
Plan, I remember somewhere around here you have one or two posts about a big billion dollar fund’s heavy bet on AIG common stock. I cannot find it any more. Did you delete that?
Nitty gritty time in GKK, I set the odds at 95% Gkk comes away with a deal that costs them 100 million in unrestricted cash, three years, slightly higher rate, all realty cash flows immediately to corporate and the market will LOVE IT.
The money is made in the waiting. It looks like the extension will be for two years (KBS 8-K). I should write about this one Matt …
In 2 years there just happens to be another 602.7 million of debt coming due for GKK…and those have nice interest rates.
$220m, PB Capital Mortgage, is an internal mortgage from CDOs 2005 and 2006 so it does not have a problem extending. 801 Market and 801 Citizens Plaza are already accounted with some specifically reserved securities ($90m are already reserved). The $341 mortgage for Bank of America BBD1 maturing in December 2013 (3 years from now) is the only large issue until 2016. It should not have problems extending but even if we have another crash it does not compromise the whole company only the mortgaged properties.
It is also worth noting that most of this long term debt is low fixed rate so this company would thrive in an inflationary environment and at the same time is defending pretty well in this mild deflation.
http://newyorkrealestate.citybizlist.com/18/2011/5/10/Correction-Gramercy-Capital-Corp.-Announces-Maturity-of-Gramercy-Realty%E2%80%99s-790-Million-Mortgage-and-Mezzanine-Loans.aspx
As we worried before, the loss of GKK’s realty group is finally inevitable.
Their financial department is really hard to analyze, but now that the stock price is down again, I am planning to spend some time again and see if I can finally understand that part.
Plan, I am surprised that MPG’s flagship property Gas Company tower went into default. Also US Bank tower and Wells Fargo tower were placed into special servicing. These are all the company’s core assets.
However, it looks like they just want a loan modification on US Bank Tower and Well Fargo tower because they are not in default. I am worried if they have to dispose Gas Company Tower.
http://www.thestreet.com/story/11069895/1/mpg-office-trust-disposes-non-core-asset-and-commences-discussions-on-two-downtown-los-angeles-trophy-assets.html
Plan, I have a question regarding MPG’s tax indemnification for their big towers. They are restricted from selling these properties even if they operate at a loss, so does this mean that they are not allowed to directly dispose these properties? Personally I would really prefer to see these legendary towers preserved.
Why do they send a default notice for Gas Company tower even though it is not in default? Is this the first required step for loan modification? I think they don’t want to actually dispose this tower, but just to get the loan modified, right?
I think MPG common stock is a toast here. According to their 10-Q, their total square footage for non-default buildings are 5.3 Millions. Even if we apply a $500/sqft value to it, it has only the value of 2.5B, compared with its non-default loan of 2.4B, so the equity is only 100M in the most optimistic valuation.
If our theory bets on future real estate appreciation, that would be a different story, but that would be really long term investment.
I will still keep this in my watch list, as it may become a good investment a few years later, but for now, I think it is not that great.
Hi Plan, sorry to trouble you again. Could you please take a look at bottom of page 5? I am not clear if the effective portfolio’s 12,041,749 sqft already includes the parking sqft? I tried to call them but never gets answered.
http://google.brand.edgar-online.com/displayfilinginfo.aspx?FilingID=7919573-970-240846&type=sect&TabIndex=2&companyid=384985&ppu=%252fdefault.aspx%253fsym%253dMPG
COuld not open it but my understanding is that it doesn’t
Do you have any updates on this, Plan?
They transferred US Bank tower, Wells Fargo Tower into special servicing last March, but was transferred back to master servicing in June, with no loan modification. What does that mean? That means their attempt to re-negotiate the loan terms have failed?
They had one more year of losses, and since they don’t have a breakdown of each building’s income/expense, it is hard for me to project their income statement once they finish disposing all of the defaulted buildings. Do you have an estimate for that? I think that is the key in determining their upside after turnaround completes.