Real Estate and REIT. Downsides. Check my work please.

[Laxputs]

1.In a real-estate holding company, like a REIT, if the debt is all secured to the properties, what is the downside to the unit holders?

 

2.Suppose the company had 100 debt all secured to properties and 10 cash and 10 shares. Suppose cash flows equaled all the expenses and property values equaled debt. The shares trade at 1$. In a simplified version, could we say there is very little downside to the unit holders as their value is covered by the cash on the balance sheet and the debt is non-recourse?

 

3.The value of the REIT is based on its assets and cash flows. And if cash flows aren't enough to cover cap-ex, interest, etc., in theory, the REIT would not be of much value to holders if there are no plans for asset divestitures. Correct?

 

TIA

[ScottHall]

One thing to note is that just because debt is secured doesn't necessarily mean non-recourse. In a bankruptcy situation, for example, if you have a first lien on an asset and that asset turns out not to be enough to cover your claim, the remainder will generally become a general unsecured claim.

 

That's not to say that there's no such thing as non-recourse debt... there is, obviously. You just need to make sure not to conflate the two in your head.

[yadayada]

Uusually REIT investors care a lot about dividend. You could argue wether the REIT has no value then. I compare some of those net nets to a safe with money in it, except you cannot access it unless the owner feels like opening it with their key. Sure there is value, but only in theory. Even Graham looked for catalysts.  I think you gotta look at incentives here. If there is large inside ownership then it is likely something will happen in the near future. Unless they are paying themselves a large salary.

 

Usually if the discount to assets is very large though, if even some positive news comes a long, it can rerate significantly.

[Laxputs]

One thing to note is that just because debt is secured doesn't necessarily mean non-recourse. In a bankruptcy situation, for example, if you have a first lien on an asset and that asset turns out not to be enough to cover your claim, the remainder will generally become a general unsecured claim.

 

That's not to say that there's no such thing as non-recourse debt... there is, obviously. You just need to make sure not to conflate the two in your head.

 

Thanks for this.

[Laxputs]

If the company only uses "secured" in their filings and does not use the work "non-recourse", how can I determine if it is in fact non-recourse debt in a bankruptcy situation?

 

Asset values actually cover debt currently but those values could change. Their loan to appraised value is less than 80%. If those details matter.

[ScottHall]

If the company only uses "secured" in their filings and does not use the work "non-recourse", how can I determine if it is in fact non-recourse debt in a bankruptcy situation?

 

Asset values actually cover debt currently but those values could change. Their loan to appraised value is less than 80%. If those details matter.

 

Read the credit agreements if there are any, not the 10-K.