07/03/22 04:42 PM EDT

SUNDAY NIGHT REIT READ | 7.3.22 | (HR, HTA, WELL, MPW, NXRT)

Rob Simone, CFA

Takeaway: Hope everyone enjoys the holiday weekend!

Cartoon of the Weekend: Break-Up

It is 7.3.22, and Active Short MPW is overvalued by approximately ~$15.64/share. By the way, apparently there is an undisclosed SEC probe of MPW underway, as per the below Disclosure Insight report released after the close Friday, 7.1.

Tickers: HR, HTA, WELL

Subsector: Healthcare

Headline: ISS urges "cautionary support" for HTA merger

Late last week Institutional Shareholder Services (ISS) issued a report on the planned merger between Active Long Healthcare Realty (HR) and Healthcare Trust of America (HTA), throwing "cautionary support" in favor of shareholders approving the combination. Not exactly a ringing endorsement, but may not matter in the end if you are long of HR.
Recall that three weeks ago REIT activist investor Land & Buildings (L&B) issued a report advocating AGAINST the transaction, arguing that higher leverage for "New" HR post-close, portfolio dilution from a higher concentration of off-campus assets in HTA, and a superior $31.75/share offer for HR from Welltower (WELL; just moved to DMZ) all justify shareholders voting "No."
The threshold for deal approval is high, with 66.67% of HR shareholders needing to vote in the affirmative for the combination to proceed. L&B noted HR shareholder dissatisfaction in its conversations, as well as its own intention to vote "No" (although unclear its position sizing), and we can concur from our discussions that there is a high level of discontent generally among HR shareholders.
With HR and HTA essentially trading on top of each other on an absolute dollar/share basis, the market is effectively ascribing a high probability of break-up given the ~$4.82/share special dividend owed to HTA. HTA holders were set to receive one share of HR + $4.82/share in cash in the form of a special dividend which represents the "spread."
We have preferred HR to HTA since the beginning and are staying long HR for several reasons: (1) from the beginning the hurdle seemed high to garner enough support for approval, and spiking the deal would essentially "restore" HR roughly to its pre-announcement condition/valuation and take out any potential upfront dilution less the $163 million termination fee (~$1/share) owed to HTA, (2) the WELL offer on the table + WELL's commitment to cover the termination fee (+15% upside from here) provides support, (3) the fact that a combination along with planned asset dispositions + G&A synergies likely eliminates most-if-not-all of the potential upfront dilution to HR holders, and lastly (4) HR is a great Quad 4 option. There is also a chance that in a negotiation WELL could modestly raise its offer for HR, and if HTA terminates HR would itself be owed a ~$281 million (~$2/share) breakup fee.
At the same time, there appears to be nothing but downside to HTA from here under a termination scenario and barring a "topping" offer, given than they ran what appears to be a largely unsuccessful sale process with HR as the winning bidder. The risk seems skewed in HR's favor here.
In the end this became a game of picking your basis, and having gone long HR around ~$27/share with upside to the low-to-mid $30/share range immediately and potentially the mid-to-high-$30 range within ~1 year post close is a pretty attractive risk-reward.
In our view HR messed up by not collaring the stock portion of the offer which created reflexivity to the downside, but fortunately we became involved after the fact and there are multiple paths to a successful long side investment.
The HR shareholder vote is scheduled for 7.10.22, with potential close occurring 5 days later. Buy HR here in a world where it is increasingly hard to find long ideas.

Tickers: NXRT

Subsector: Apartments

Headline: Adding to Active Short list

Consistent with our increasing bearishness of residential broadly, and particularly the Sunbelt, we are adding NexPoint Residential (NXRT) to the Active Short list alongside Camden Property Trust (CPT) (see Figure 1 below).
We see the following issues in a Quad 4 + RoC slowdown that should impact NXRT in an outsized negative way: leverage that is entirely too high at nearly ~12x adj. net debt / EBITDA (meaning there will be an outsized impact to the equity), relatively poor tenant demos versus some of the larger operators, small size of the platform which isn't great in a Quad 4, and the external management structure which, all else the same, should garner a discounted multiple/cap rate vs. the rest of the Sunbelt Apartment space. On our numbers we have NXRT trading essentially in-line with MAA, which is crazy.
We see a likely downward re-rating with potential downside to ~$45/share (~30%) from here, or roughly ~18x forward EBITDA prior to any meaningful earnings revisions.

WEEKLY VALUATION HANDBOOK PDF

Figure 1: Updated Position Monitor