A Streetcar Named Value?: Small Cap REIT, Winthrop Realty Trust
Sometimes I feel like Marlon Brando screaming out that line from the top of his lungs. Except, I’ve been screaming out “VALUE!”, as in the deep value available in the market right now. There may not be another buying opportunity like this for decades! One area where I still see a lot of negativity is in the REIT sphere. Certainly, a lot of REITs are levered to the tilt and look to be in bad shape, but there are other REITs that appear to be getting punished for the sins of their peers. One particular REIT I like right now is Winthrop Realty Trust (FUR).
If I told you there was a REIT with a strong cash position and low leverage selling at a massive discount to its book value, would you think it was a buy? What if I told you it was also selling at a discount to its liquid assets and had a strong equity balance? If you said “no”, then you’ll find yourself in agreement with most of the market right now. However, it's times like these when it pays to be a contrarian and the fundamentals for Winthrop Realty Trust (FUR) might be screaming out “VALUE!” to anyone willing to probe beneath the surface.
Winthrop has been decimated just like nearly every other REIT trading on the open market. Just last month, it was trading above $11 and on Friday, it had dipped down to the $6 mark. If that drop seemed precipitous, take a look back in summer ’07, when the stock had peaked above $35. From those summer ’07 highs to the current lows, the stock has fallen over 83%! While no one should expect the stock price to reach $35 any time soon, as it appears unlikely that real estate prices will bubble up to their ’07 highs any time soon, there’s still a strong possibility that Winthrop could see significant returns from its current position.
It’s always frightening to jump in on a falling knife, but given Winthrop’s balance sheet, it’s arguable that buying into this company right now might be equivalent to buying $1 for sixty cents. There’s no reason this stock couldn’t hit the $15 – $20 mark in the next five years, but let’s take a look at some of the fundamentals to see why.
Cash Position and Equity
Even ignoring everything else about Winthrop’s business, it’s difficult for me to overlook their strong cash position. As of Winthrop’s 3rd Quarter financial statements (period ending September 31, 2008) they had a $180 million cash balance; or in other words, their cash position was roughly 80% higher than the $100 million market cap of the stock right now.
In their 4th quarter earnings call, Winthrop disclosed that this cash position had dropped down to $59 million; a significant decrease, but not necessarily anything to be alarmed by. In fact, the company used some of that excess cash to buy equity and debt securities and buy back some of their own preferred stock. In total, they now have about $96 million of cash, cash equivalents, preferred stock investments, and bonds, which compares favorably to their market cap of $100 million. In this sense, even ignoring the value of their properties, you are essentially paying $1 to get 96 cents and whatever else they have --- which might not be such a bad deal when you look at that “whatever else they have” piece.
Of course, a strong cash position is not nearly as meaningful if a company’s liabilities are too high in relation to their assets. However, this does not appear to be the case with Winthrop as they still have a strong equity position, as well. With $248 million in remaining stockholders equity, FUR’s current book value is approximately $15.50 per share. It’s also worth noting that Winthrop has a relatively low 55.2% liability/value ratio.
Of course, in this environment, book value can be a deceiving measure, so it’s definitely wise to take a look at a company’s assets, make probable discounts, and make adjustments to the company’s equity position for investment purposes. As many prognosticators expect real estate (RE) prices to drop another 20% to 40%, let’s adjust all FUR’s real properties for this “worst-case” scenario.
Winthrop has roughly $242 million in net RE investments. Let’s discount that by $100 million, which might be going way overboard, but for the sake of playing things conservatively, it might be prudent to do all the same. Let’s also take an additional $20 million discount for other accounts that could drop. Even with this significant discount of FUR’s assets, I still come up with an adjusted book value of $8, which is 25% higher than the stock price.
Earnings and Funds from Operations
Despite the economic downturn, Winthrop also still appears to be profitable when it comes to their ongoing operations. While they reported a $3.34 per share loss for their most recent quarter and a $4.59 per share loss for the ’08 fiscal year, most of this loss was due to non-cash impairment charges. Excluding the impairment charges, earnings for FY ’08 were $2.09 per share. They also managed to cut corporate expenses due to early extinguishment of debt and interest avoided resulting from the preferred stock buybacks.
Operating cash flows were $25.9 million for FY ’08 or roughly $1.60 per share; which is a good sign when dealing with a company trading so far below its book value. It’s also a 16.7% increase from FY ’07. Funds from Operations were negative $3.88 per share; excluding non-cash items, that figure reverses to a positive $2.84 per share.
Dividends and Management
Reading over headlines and earnings call transcripts, I am fairly impressed with management at FUR. Having such a strong cash position and not taking on too much leverage should display that this management team has some prudence, but beyond that, they seem to wisely re-evaluate their holdings at all times and find ways to earn better returns.
In early January, Winthrop bought back approximately 915,000 shares of its own preferred stock with a 25.5% discount to liquidation value. This brought the total number of preferred shares bought in a three month timeframe up to around 1.9 million, acquired with a 26.5% blended discount rate. I really like this move, particularly given their strong cash position; no reason not to wipe out liabilities at a discount if you can afford to do so.
As revealed in the most recent earnings call, Winthrop has reduced its base management fee by 40%. Another move you have to like as an investor.
Winthrop estimates a quarterly dividend of $0.25 per share based on recurring operating cash flow. CEO Michael Ashner states that the company pays out dividends based on recurring cash flows and non-recurring net profits. This might not sound ideal to some investors, but for those looking for long-term value from a smartly managed organization, I like this stance. There’s nothing I dislike more than seeing a company paying out an unsustainable dividend while levering up to disguise the fact that they can’t really afford it.
Management at Winthrop seems to have a conservative approach to evaluating their business and throughout the earnings call; one gets the sense that they are expecting the worst on some of their investments. I also like seeing this from a management team --- I want them to be prepared for what happens if things go sour.
As alluded to earlier, Winthrop has taken on about $36 million in debt and equity investments, with a near-even split between the two categories. CEO Michael Ashner suggests that the preferred stock bought into was primarily companies with little unsecured debt outstanding. It seems smart to me to put some of that free cash into some sort of investment vehicles; particularly given the deep discounts available in the market right now, so this is another move I like.
I can’t pretend to be an expert on REITs, but from all the info I have on Winthrop, particularly the financial data, this looks like it could be screaming out long-term value to investors! Yet, investors keep ignoring it.
I never give “buy” recommendations as I believe a good buy for one investor might be a bad buy for another; it all depends on the nature of one’s portfolio. However, this is the type of security that could fit in with a lot of different investment approaches.
Winthrop has good growth potential given the fact that its strong cash position might allow it to take advantage of some of the deep discounts available in the real estate market. It’s a good value stock because it is selling significantly below its net tangible assets and even with our disastrous 40% write-down on real properties, is still priced below book value. It might make a good selection for conservative investors because, even in a worst-case scenario, FUR’s assets will maintain some significant value. It also might not be a bad choice for investors seeking high-returns because it’s priced so low, it’s completely possible that it could see 100% - 300% price appreciation in the next five years.
My conservative valuation for this stock, mentioned earlier, is $8. Doing a more realistic valuation, I’d suggest this stock should be valued in the $15 - $20 range, even assuming the real estate market remains dismal for a considerable period of time. I find it difficult to come up with an upside value for this stock, but I’d suggest the $25 - $30 range might be possible; if somewhat unlikely in the next half-decade.
Tennessee Williams won a Pulitzer Prize for Drama in 1948 for “A Streetcar Named Desire”; if I’m right on this one, maybe I’ll eventually be rewarded with a Pulitzer Prize for "Value"; and then I won’t need to scream at the top of my lungs. While there is certainly no such thing as a “sure bet” when it comes to the stock market, this does feel like buying $1 for 60 cents to me and if you’re in for the long haul, I think it’s worth a look at any price below $12. Just be prepared to endure more short-term carnage, as it is difficult to predict when the market’s freefall will end; be prepared to hold for at least 2 to 3 years.
Disclosure: Author has no current position in FUR, but may initiate a long position within the next three months.