TPRP - Tower Properties

[mjohn707]

Hey guys,

 

Just a heads up that I posted an article on SeekingAlpha:

 

http://seekingalpha.com/article/4033393-security-like-best-tower-properties

 

It is a PRO article which means that it will only be viewable by the public for the next 30 days.

 

Those valuation numbers seem a bit optimistic, just to make sure I understand, what is the maintenance capex number you're using to calculate AFFO?

 

Maintenance capex is covered under Maintenance & Repairs on their Income Statement. Quoted from their annual report:

 

"Maintenance and repairs are charged to expense as incurred.  The cost of additions and betterments that improve or extend the useful life of the property are capitalized.  Applicable interest charges incurred during the construction of new facilities are capitalized as one of the elements of cost and are amortized over the assets’ estimated useful lives.  The cost of assets retired or sold and the related accumulated depreciation are removed from the applicable accounts and any gain or loss is recognized as income or expense.  Fully depreciated assets are retained in the a

ccounts until retired or sold."

 

Additionally, I ding them for 100% of "Purchase of Equipment and Furniture" which would be considered "additions or betterments that improve or extend the useful life of the property" for conservatism.

 

I think you're double counting the income from the Commerce Bank stock, you're adding it into your AFFO calculation and then subtracting it from your enterprise value.  I don't think this makes a big difference but it's not the right way to think about it.  Also, you're not including a portion of the maintenance capex.  Over the last 8 years, the total of equipment and furniture and purchased tenant improvements averaged around 2.5M a year, and I think that's a more accurate amount to use for maint. capex.  I think you're too optimistic about the new properties, they'll have operating expenses associated with them as well.

 

That's all nitpicky stuff, but the gist of what I'm trying to say is that you're way too optimistic on value.  I think the real AFFO might be around 9M-11M, and that this thing is maybe around a 66 cent dollar or so, and it's nowhere close to a 33 cent dollar.  Every assumption you're making seems optimistic to me

 

I agree that the dividend income from Commerce Bank stock should not be included, so we are talking about a -$0.2 million per year adjustment to my annualized AFFO numbers - taking 2016 AFFO from $10 million to $9.8 million and 2017 AFFO to $11.8 million to $14.8 million from $12 to $15 million. "The Company received dividend income from ownership of Commerce Bancshares common stock of $165,702 for the nine months ended September 30, 2016. " That is not a substantial adjustment.

 

Also, you have to remember, in my 2016 AFFO estimate there are 3 months that the New Mark Apartments did not generate revenue (they were sold). A $35 million property at an assumed 7% cap rate would have made an additional $0.6M in AFFO. Therefore, with these two adjustments, we are still above the headline numbers from my article ($10.4M in 2016 and $12.4M to $15.4M in 2017).

 

Tenant leasehold improvements are not maintenance capital expenditures. These are things that leaseholders pay for throughout their lease term. Try to rent some office space as is and then try to rent the same office space with different layout, additional lights, and security doors - you will pay more for the additional items and the company leasing them to you will earn their profits back throughout the lease term. They have to because the next tenant might not want the same customized options. If you think that companies leasing out office space will do these things out of the goodness of their heart I have some magic beans to sell you :P

 

Even assuming 100% of Equipment and Furniture is maintenance capital expenditures is a stretch. A lot of these items are similar requests. If you ask for the company leasing you office space to buy you desks for all of your staff - this is a growth capital expenditure as the company leasing to you will be compensated for it!

 

Of course the new properties will have operating expenses... but $35 to $47.5 million of assets earning call it an estimated 7% cap rate... that is a $2.5 million to $3.3 million AFFO boost... it is quite substantial!

Remind me again how you’re calculating that they’re putting into earnings 35M-47.5M of new assets?  I think you’re doing a little double counting in this too.  Will these assets have any debt associated with them or will the entire operating income flow to AFFO?

 

About the tenant improvements, you can’t add the amortization of these amounts back to AFFO like you’re adding depreciation back.  We add depreciation back because we recognize that to some degree it’s an accounting fiction and it doesn’t represent an actual economic expense, that the properties actually have a stable or even increasing value over time.  Do the tenant improvements have the quality, or will every potential tenant want a potential office space configured differently?  Aren’t we getting paid for the value of these improvements over our lease term and just matching expenses to revenue when we amortize the improvements over the term of the lease?

 

[HowMuchValue]

“Remind me again how you’re calculating that they’re putting into earnings 35M-47.5M of new assets?  I think you’re doing a little double counting in this too.  Will these assets have any debt associated with them or will the entire operating income flow to AFFO?”

 

Of course they will have debt associated with them. However, the 6601 College Blvd Expansion had no debt drawdown as of Q3 2016 (i.e. the expansion project was entirely funded from previous Tower Properties profits). The middle paragraph in their recent filing gives that information: http://www.otcmarkets.com/ajax/showNewsReleaseDocumentById.pdf?id=23068 ($1million funded December 1, 2016, $0 before that, will draw down $15 million by May 31, 2018).

 

Additionally, the building itself had very minimal debt associated with it as per the 2015 annual report talking about 6601 College Boulevard Page 4:

“The building is subject to a mortgage deed of trust securing a loan that matures on April 1, 2016 that had a balance owing of $170,059 at December 31, 2015.”

 

Therefore, the money they will borrow against 6601 College Blvd after finishing the project will be able to be used for any other purpose (reinvesting in new projects, paying a dividend, or buying back shares).

 

For the Hutton Farms Expansion, as of Q2 2016:

“the Company has a construction project in progress at the Hutton Farms apartments that has a related contract totaling $9,993,000 with change orders. The construction contract includes an expansion of 87 units in 45 buildings on the 16.415-acre property that is contiguous to the Hutton Farms apartments. The project began in the third quarter of 2015 and will be substantially completed in the third quarter of 2016. Through June 30, 2016, additions associated with the Hutton Farms construction contract totaled $8,533,000, therefore the remaining construction commitment at Hutton Farms is $1,460,000.”

This means that they funded at least $8.5 million with previous Tower Properties profits.

 

They later borrowed $7.5 million on September 1, 2016. Therefore, the money they borrowed against the Hutton Farms expansion could be used for any other purpose (reinvesting in new projects, paying a dividend, or buying back shares). In this case, it was used to buy more rental property (as can be seen by the Q2 2016 and Q3 2016 Cash Flow Statements which show that Purchases of rental property was $11.7 million in the first half of 2016 and this jumped to $18.1 million as of the first 9 months of Q3 2016 – indicating that $6.4 million of rental property was purchased).

 

“About the tenant improvements, you can’t add the amortization of these amounts back to AFFO like you’re adding depreciation back.  We add depreciation back because we recognize that to some degree it’s an accounting fiction and it doesn’t represent an actual economic expense, that the properties actually have a stable or even increasing value over time.  Do the tenant improvements have the quality, or will every potential tenant want a potential office space configured differently?  Aren’t we getting paid for the value of these improvements over our lease term and just matching expenses to revenue when we amortize the improvements over the term of the lease?”

 

You can add the depreciation of the tenant improvements back. The reasoning that you can is because you are fully taking into account the maintenance and repairs of these improvements on your income statement as expenses. Let’s use an example:

If you were going to sign a lease and you ask for security swipe cards on every door and on the garage doors for a building parkade, then the leasing company would spend the bulk of the cost to install this system and it would be capitalized under Leasehold Improvements. The leasing company would charge you a bit more rent.

 

If the electrical components of one swipe card gets water spilled all over it destroying it, replacing the component but would fall under maintenance and repairs on the income statement. The reasoning it would not end up as a capital expenditure is because it would not improve or extend the useful life of the property.

From their annual report, this is when they would capitalize something (i.e. classify it as a capital expenditure instead of as an expense): “The cost of additions and betterments that improve or extend the useful life of the property are capitalized.“

 

Replacing a swipe card component doesn’t improve or extend the useful life of the property so it would end up as an expense. Therefore, you can add back the depreciation of the leasehold improvements because maintaining them in their current state is already accounted for as Maintenance and Repairs on your income statement.

 

[HowMuchValue]

I should probably answer the second part of your question and make it a bit clearer. If we are talking about office reorganization, this would be a one time thing at the beginning of a lease. It would cost the company doing the leasing some money up front (the investment) and it wouldn't cost them any continual operating expenses. The return on their investment would be the higher lease rate for the duration of the lease where they would recover the money they put in up front plus a reasonable return on capital.

 

If the next company that wanted to lease that space wanted a different arrangement, the company leasing it out would have an additional investment to reorganize it, and then they would recover the money they put in plus a reasonable return on capital over this lease.

 

In these cases, money that was put into the Lease Tenant Improvement buckets are directly resulting in higher revenues and do not have additional associated cost with them, therefore they are "growth capital expenditures" as opposed to "maintenance capital expenditures".

 

In equipment cases, since the company has many office buildings at many different ages, we already see the net effect of equipment needing to be replaced by seeing how much the company spends on maintenance and repairs over time. If they put in a desk as a leasehold improvement, and charge a higher rent for doing so, and the desk breaks, they replace it as an expense on the income statement. Therefore by deducing the full amounts of all items on the income statement we are capturing the cost to replace anything required. If we were to deduct a depreciation charge as well as a replacement charge we would be double counting those expenses.

[mjohn707]

I should probably answer the second part of your question and make it a bit clearer. If we are talking about office reorganization, this would be a one time thing at the beginning of a lease. It would cost the company doing the leasing some money up front (the investment) and it wouldn't cost them any continual operating expenses. The return on their investment would be the higher lease rate for the duration of the lease where they would recover the money they put in up front plus a reasonable return on capital.

 

If the next company that wanted to lease that space wanted a different arrangement, the company leasing it out would have an additional investment to reorganize it, and then they would recover the money they put in plus a reasonable return on capital over this lease.

 

In these cases, money that was put into the Lease Tenant Improvement buckets are directly resulting in higher revenues and do not have additional associated cost with them, therefore they are "growth capital expenditures" as opposed to "maintenance capital expenditures".

 

In equipment cases, since the company has many office buildings at many different ages, we already see the net effect of equipment needing to be replaced by seeing how much the company spends on maintenance and repairs over time. If they put in a desk as a leasehold improvement, and charge a higher rent for doing so, and the desk breaks, they replace it as an expense on the income statement. Therefore by deducing the full amounts of all items on the income statement we are capturing the cost to replace anything required. If we were to deduct a depreciation charge as well as a replacement charge we would be double counting those expenses.

I really don’t how to explain this is a way that’ll make you understand it, but you can’t add back the leasehold improvement amortization to your estimate of cash flow, it just doesn’t make sense in this case, and if you’re adding it back and capitalizing it at 12 times or whatever you’re really compounding your error.

 

In reference to the 35-45M in new assets you’re using to calculate your 2017 estimate of AFFO, you’re double counting assets.  The company is not going to suddenly have 35-45M in new assets put into income in 2017 over 2016 without either exchanging assets or incurring new financing costs.  I just don’t how to explain this to you, but I think you’re getting lost in the details of what new assets and new liabilities are coming online and what old assets and old liabilities are going out, which can get very confusing.  In most cases it’s not even necessary because we can always fall back on the basic accounting equation and get a general idea of what is going on without getting buried in detail.

 

Finally, I think it’s often useful to go at an estimate of value in more than one way just to sort of check your figures and make sure they make sense.  In the case of a real estate company, it’s usually easy and reasonable to look at the assets from both a NAV perspective and a cash flow perspective.  It’s really easy in Tower’s case because they give you the footage they own by building and number of apartments owned by complex, and they include sale and purchase prices whenever they buy or sale properties.  I think if you compare the NAV numbers implicit in your cash flow valuation of the equity to the company’s recent property transactions, you’ll see your numbers are too optimistic

 

[HowMuchValue]

I should probably answer the second part of your question and make it a bit clearer. If we are talking about office reorganization, this would be a one time thing at the beginning of a lease. It would cost the company doing the leasing some money up front (the investment) and it wouldn't cost them any continual operating expenses. The return on their investment would be the higher lease rate for the duration of the lease where they would recover the money they put in up front plus a reasonable return on capital.

 

If the next company that wanted to lease that space wanted a different arrangement, the company leasing it out would have an additional investment to reorganize it, and then they would recover the money they put in plus a reasonable return on capital over this lease.

 

In these cases, money that was put into the Lease Tenant Improvement buckets are directly resulting in higher revenues and do not have additional associated cost with them, therefore they are "growth capital expenditures" as opposed to "maintenance capital expenditures".

 

In equipment cases, since the company has many office buildings at many different ages, we already see the net effect of equipment needing to be replaced by seeing how much the company spends on maintenance and repairs over time. If they put in a desk as a leasehold improvement, and charge a higher rent for doing so, and the desk breaks, they replace it as an expense on the income statement. Therefore by deducing the full amounts of all items on the income statement we are capturing the cost to replace anything required. If we were to deduct a depreciation charge as well as a replacement charge we would be double counting those expenses.

I really don’t how to explain this is a way that’ll make you understand it, but you can’t add back the leasehold improvement amortization to your estimate of cash flow, it just doesn’t make sense in this case, and if you’re adding it back and capitalizing it at 12 times or whatever you’re really compounding your error.

 

In reference to the 35-45M in new assets you’re using to calculate your 2017 estimate of AFFO, you’re double counting assets.  The company is not going to suddenly have 35-45M in new assets put into income in 2017 over 2016 without either exchanging assets or incurring new financing costs.  I just don’t how to explain this to you, but I think you’re getting lost in the details of what new assets and new liabilities are coming online and what old assets and old liabilities are going out, which can get very confusing.  In most cases it’s not even necessary because we can always fall back on the basic accounting equation and get a general idea of what is going on without getting buried in detail.

 

Finally, I think it’s often useful to go at an estimate of value in more than one way just to sort of check your figures and make sure they make sense.  In the case of a real estate company, it’s usually easy and reasonable to look at the assets from both a NAV perspective and a cash flow perspective.  It’s really easy in Tower’s case because they give you the footage they own by building and number of apartments owned by complex, and they include sale and purchase prices whenever they buy or sale properties.  I think if you compare the NAV numbers implicit in your cash flow valuation of the equity to the company’s recent property transactions, you’ll see your numbers are too optimistic

 

Two different situations, A and B.

 

A: You have $2 million in cash and you build a building that costs $10 million. You borrow $8 million up front to pay the engineers and construction workers to build the building. The building is finished and now you have $2 million in equity and $8 million in debt.

B: You have $10 million in cash and you build a building that costs $10 million. You use the cash to pay the engineers and construction workers to build the building. At the end of construction you now have a building worth $10 million and $0 in cash. After it is finished, you borrow an additional $8 million. Now you have a $10 million building, $8 million in cash, and owe $8 million in debt.

 

You are assuming that A happened for these two enormous expansion projects. In fact, B happened for both of them. Please look at the filings and my past references.

 

For leasehold improvement amortization, you are double counting those expenses. Depreciation is an estimate of the decrease in value of assets over time. You either count the depreciation or you count the required maintenance expenditures to keep them in usable condition. In this case the maintenance expenditures are also on the income statement because of accounting quirks. If you would like to subtract the full amortization you should remove the appropriate amount from the maintenance & repairs expense on the income statement in your calculation of AFFO.

 

I strongly encourage you to look at Tower Properties from a NAV perspective. Every previous analysis I have seen has not included the fact that real estate appreciates over time and it can be quite dramatic for older buildings compared to their book value. Kansas City real estate has appreciated by 14.75% alone in the last 2 years. https://www.neighborhoodscout.com/mo/kansas-city/rates/

[mjohn707]

I should probably answer the second part of your question and make it a bit clearer. If we are talking about office reorganization, this would be a one time thing at the beginning of a lease. It would cost the company doing the leasing some money up front (the investment) and it wouldn't cost them any continual operating expenses. The return on their investment would be the higher lease rate for the duration of the lease where they would recover the money they put in up front plus a reasonable return on capital.

 

If the next company that wanted to lease that space wanted a different arrangement, the company leasing it out would have an additional investment to reorganize it, and then they would recover the money they put in plus a reasonable return on capital over this lease.

 

In these cases, money that was put into the Lease Tenant Improvement buckets are directly resulting in higher revenues and do not have additional associated cost with them, therefore they are "growth capital expenditures" as opposed to "maintenance capital expenditures".

 

In equipment cases, since the company has many office buildings at many different ages, we already see the net effect of equipment needing to be replaced by seeing how much the company spends on maintenance and repairs over time. If they put in a desk as a leasehold improvement, and charge a higher rent for doing so, and the desk breaks, they replace it as an expense on the income statement. Therefore by deducing the full amounts of all items on the income statement we are capturing the cost to replace anything required. If we were to deduct a depreciation charge as well as a replacement charge we would be double counting those expenses.

I really don’t how to explain this is a way that’ll make you understand it, but you can’t add back the leasehold improvement amortization to your estimate of cash flow, it just doesn’t make sense in this case, and if you’re adding it back and capitalizing it at 12 times or whatever you’re really compounding your error.

 

In reference to the 35-45M in new assets you’re using to calculate your 2017 estimate of AFFO, you’re double counting assets.  The company is not going to suddenly have 35-45M in new assets put into income in 2017 over 2016 without either exchanging assets or incurring new financing costs.  I just don’t how to explain this to you, but I think you’re getting lost in the details of what new assets and new liabilities are coming online and what old assets and old liabilities are going out, which can get very confusing.  In most cases it’s not even necessary because we can always fall back on the basic accounting equation and get a general idea of what is going on without getting buried in detail.

 

Finally, I think it’s often useful to go at an estimate of value in more than one way just to sort of check your figures and make sure they make sense.  In the case of a real estate company, it’s usually easy and reasonable to look at the assets from both a NAV perspective and a cash flow perspective.  It’s really easy in Tower’s case because they give you the footage they own by building and number of apartments owned by complex, and they include sale and purchase prices whenever they buy or sale properties.  I think if you compare the NAV numbers implicit in your cash flow valuation of the equity to the company’s recent property transactions, you’ll see your numbers are too optimistic

 

Two different situations, A and B.

 

A: You have $2 million in cash and you build a building that costs $10 million. You borrow $8 million up front to pay the engineers and construction workers to build the building. The building is finished and now you have $2 million in equity and $8 million in debt.

B: You have $10 million in cash and you build a building that costs $10 million. You use the cash to pay the engineers and construction workers to build the building. At the end of construction you now have a building worth $10 million and $0 in cash. After it is finished, you borrow an additional $8 million. Now you have a $10 million building, $8 million in cash, and owe $8 million in debt.

 

You are assuming that A happened for these two enormous expansion projects. In fact, B happened for both of them. Please look at the filings and my past references.

 

For leasehold improvement amortization, you are double counting those expenses. Depreciation is an estimate of the decrease in value of assets over time. You either count the depreciation or you count the required maintenance expenditures to keep them in usable condition. In this case the maintenance expenditures are also on the income statement because of accounting quirks. If you would like to subtract the full amortization you should remove the appropriate amount from the maintenance & repairs expense on the income statement in your calculation of AFFO.

 

I strongly encourage you to look at Tower Properties from a NAV perspective. Every previous analysis I have seen has not included the fact that real estate appreciates over time and it can be quite dramatic for older buildings compared to their book value. Kansas City real estate has appreciated by 14.75% alone in the last 2 years. https://www.neighborhoodscout.com/mo/kansas-city/rates/

 

I think we're going to have to agree to disagree on this one, good luck with your investment

[HowMuchValue]

I can agree to disagree on the leasehold improvements. It is a technical accounting thing and in the end it probably makes about $1 million difference in our AFFO estimates anyway. Warren and Charlie talk all the time about 10% disagreements in their valuations.

 

Let's finish the discussion on my A and B analysis though. I really think you are missing out on $35 to $47.5 million worth of value which is ENORMOUS compared to a $61 million market cap. If you can truly see an error in my analysis, please point it out because I would like to know!

 

If you really don't want to, I understand, we will see it through the results in the next 2 years anyway (takes time to ramp up leasing from 0 to 100% so it might not be till the second half of 2017 that we really start to see the earning power).

[mjohn707]

I can agree to disagree on the leasehold improvements. It is a technical accounting thing and in the end it probably makes about $1 million difference in our AFFO estimates anyway. Warren and Charlie talk all the time about 10% disagreements in their valuations.

 

Let's finish the discussion on my A and B analysis though. I really think you are missing out on $35 to $47.5 million worth of value which is ENORMOUS compared to a $61 million market cap. If you can truly see an error in my analysis, please point it out because I would like to know!

 

If you really don't want to, I understand, we will see it through the results in the next 2 years anyway (takes time to ramp up leasing from 0 to 100% so it might not be till the second half of 2017 that we really start to see the earning power).

 

The 8 year average capex is like 2.5M, so we're like 1.5M apart on that.  If you want to discuss it further PM me and we can schedule a time to talk about it over the phone or something if you're comfortable, and I'll try to explain my objection

[SugarRE]

My 2 cents.  I own this and agree its undervalued, but I fall more on the side of mjohn707.  This is old, tired real estate in less than robust markets (I believe the appreciation stat quoted was for SF).  I pulled detail on all of their buildings last year and its not even close to A real estate save for some of the newer apartments...a seven cap rate would be very generous.

 

Again, I do own and think its undervalued with little chance of going down, but I think the upside stated here is a very aggressive assessment.

 

[SugarRE]

Any insight on the move today?

[mjohn707]

One share today, which I guess is not really unusual.  You can buy my shares for 25K if you're interested ;)  No idea what's going on

[mjohn707]

The company is tendering for 2M in shares between 16.5–17.5K per share.  I’m curious if they’ll get any traction being that the most recent trades have been above that price range

[HowMuchValue]

They sure were sitting on a lot of liquidity at the end of Q3 2017: 20.3 million in cash plus 2.8 million in undrawn borrowings on 6601 college blvd plus 11.9 million in undrawn line of credit = 35 million. That is about $8,300 per share in easy to access liquidity.

 

Seems like they bought an office building in Overland Park, Kansas at 7301 West 133rd Street for $6.2 million post quarter without borrowing any money.

 

I hope they do get some traction on the share buyback - although I agree with the current price above their offering price range it would probably only be large holders who would consider it.

[mjohn707]

Just received a letter from my broker that the company has amended the tender offer from 16,500-17,500 a share to 18,500-20,000 per share, and changed the total amount from 2M to 3M.  Guess they didn't get much traction for the offer at the lower price.  Recent trades have been around 20,000, so I'm still not sure that this is going to be a high enough number to get the number of shares they're looking for

[HowMuchValue]

Yeah seems like the company agrees with us that their shares were quite undervalued at 16.5-17.5 when raising the tender offer price by 12-14% before the offer even expires. Gotta give them props for trying to buyback as many undervalued shares as they can get their hands on  :D

[mjohn707]

Yeah seems like the company agrees with us that their shares were quite undervalued at 16.5-17.5 when raising the tender offer price by 12-14% before the offer even expires. Gotta give them props for trying to buyback as many undervalued shares as they can get their hands on  :D

 

Yeah I wonder how this all will play out

[HowMuchValue]

Wow the amount of liquidity they probably have on hand right now is ridiculously high in comparison to the current share price. By my estimates it seems like they have about $50 million of liquidity (commerce bancshares stock, cash, untapped line of credit, cash generated in q1 2018, and if they borrowed 50% of The One and Two Liberty Plaza buildings and 50% of Deer Creek Woods Bldg #3). This is $50 million / 4,173 shares outstanding =  ($12,000/share.

[Foreign Tuffett]

Anyone have any thoughts on the valuation here?

[mjohn707]

Anyone have any thoughts on the valuation here?

 

I think it's somewhere in the order of 24-27K per share on a liquidation-type basis depending on how you'd want to handle the deferred taxes.  Brighter lights will have to weigh in on whether and how much you'd want to pay for the continuing business

[HowMuchValue]

Still extremely undervalued.

[henrysalt]

Bumping this topic up again. Has anyone kept tabs on this company? Haven't seen any public information in years. I'm not even sure how to purchase the stock.

[mjohn707]

Bumping this topic up again. Has anyone kept tabs on this company? Haven't seen any public information in years. I'm not even sure how to purchase the stock.

 

You can buy it with any broker that lets you buy OTC names I think.  I still follow and own it

[KJP]

Bumping this topic up again. Has anyone kept tabs on this company? Haven't seen any public information in years. I'm not even sure how to purchase the stock.

 

 

All quarterly and annual financials are publicly available:  https://www.otcmarkets.com/stock/TPRP/disclosure