Grey Owl Capital Management’s interview with Value Investor Insight regarding New Senior Investment Group Inc (SNR), a new position they established in the fourth quarter of 2015.
Grey Owl Capital Management's new position New Senior Investment Group Inc (SNR)
Given how the market is currently pricing its shares, one might assume New Senior Investment Group is a poorly managed, secularly challenged business. Ignoring the market’s view can yield a much different assessment.
One description of the value investor’s task is to identify inexpensive stocks, determine why they’re cheap, and then assess whether the negativity reflected in the share price is warranted. Opportunity knocks if the answer is no.
A current case in point: New Senior Investment Group. The publicly traded real estate investment trust owns independent-living and assisted-living U.S. housing properties targeted at seniors. Average monthly rents are a middle-of-the-road $3,200 and are paid in over 90% of the cases by private-pay sources.
At just under $10, the stock trades on the company’s estimated 2016 adjusted funds from operations [AFFO] at roughly half the multiple of peers. On the estimated $240 million run rate of its net operating income [NOI] within a year, the shares trade at a 9% cap rate, vs. 6% for peers.
Among the most important reasons the shares are poorly regarded: New Senior Investment Group management is handled externally, a construct of which REIT investors are leery due to potential conflicts of interest. The external manager is an affiliate of Fortress Investment Group, a well-known firm with more than $70 billion in assets, but which took a reputation hit recently from shuttering its flagship macro hedge fund. New Senior Investment Group itself is highly leveraged, with net debt of $1.9 billion that is 8x the firm’s estimated normalized NOI. Also concerning to some, dividend payments have been irregular.
While acknowledging the concerns, Jeff Erber and Eric Brugel of Grey Owl Capital Management believe they’re overdone. The underlying business is sound – the portfolio weathered the financial crisis with little difficulty – and management has proven adept in both increasing occupancy rates and lowering costs at acquired properties. Fortress has also proven adequately incented to act in shareholders’ interest, one key example being a new $100 million stock buyback plan instituted to increase shareholder value, even though shrinking the capital base is not entirely in Fortress’ interest as an external manager.
The debt – the vast majority of which consists of property-level mortgages with fixed interest rates and maturities in 2020 and beyond – is manageable, with normalized annual NOI at 3x annual interest expense, says Erber. As for dividends, he says, any timing irregularities have been for technical reasons and the key point is that AFFO, assuming rent increases and modest occupancy and cost improvements in newly acquired properties, should support a quarterly 30-cent dividend by next year – a 12% yield on today’s share price.
At even an 8% cap rate on normalized NOI, Brugel says, New Senior Investment Group shares would go for just over $12. With a peer-level cap rate of 6%, they’d trade at $20. “The stock to us just isn’t trading in a way that’s connected to the fundamentals,” he says. “We don’t know exactly when that changes, but in the meantime the dividend is paying us nicely to wait.”