A REIT long idea for Brookfield dtla preferred stock
Known for their defensive nature and high income, real estate investment trusts have seen strong demand from investors since the financial crisis, as an alternative to low yielding fixed income. However, over the past 12 months, REITs have fallen out of favor with investors as the Federal Reserve has begun to increase interest rates, making yieldcos less attractive and riskier. Indeed, over the past 12 months the iShares Core U.S. REIT ETF has fallen by 6.8% excluding dividends while the Vanguard REIT Index Fund is down 9.5%.
Against this backdrop, Jordan Capital Partners, LP likes the look of senior preferred shares of Brookfield DTLA Fund Office Trust, which yield 7.625%.
Jordan presented this idea at the Valuex Vail conference held at the end of June.
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DTLA Preferred Stock: Bullish Thesis
Preferred stocks are an interesting asset class. The share class used to be well followed but has fallen off investors’ radars as corporate debt has become more prevalent. Offering a fixed coupon and more protection than ordinary shares, preferred shares are easier for small investors to trade as they trade on public exchanges in $25 to $50 increments. Preference shares are safer than ordinary equity but riskier than bonds, therefore they have tended to trade at a 300 basis point premium to long-term interest rates.
So what does Jordan like about the DLTA prefs? Brookfield is one of the world’s largest real estate companies managing $65 billion in total assets. DTLA currently owns six “trophy” office properties in Downtown Los Angeles with a total of roughly 7.5 million sqft of leasable space.
The opportunity exists here because DTLA is currently not paying dividends on the preferred. Unlike fixed income where such a move would constitute a default, the preferred shares are cumulative, meaning that when the company finally resumes payouts, it will have to make good on all missed dividends. Jordan estimates that the total deferred value of dividends is $15 per share, growing at 7.625% per annum for a total estimated potential return of 50% based on a share price of $25.
What’s the likelihood of the company being able to up-to-date payouts? Well, if the LA property market continues on its current trajectory, it’s high according to Jordan. Occupancy of the towers is 86.7%, and the company is generating positive free cash flow in the region of $40 million. A $130 million improvement plan is currently underway in the towers, and when complete, Jordan’s analysts estimate that the company will be throwing off enough cash to meet its payout obligations. At ~90% occupancy DTLA will generate enough cash to start paying off the preferred stock rapidly. As well as the attractive financials, Brookfield’s Chief Investment Office has also made clear his intentions to redeem or meet the obligations on the preferred stock fully:
“…Once the portfolio is stabilized and recapitalized, more cash may be available to pay the accrued Brookfield DTLA Preferred Stock dividends. In addition, a recapitalization of the portfolio by Brookfield DTLA could lead to payment of the accrued dividends and/or redemption of the Brookfield DTLA Preferred Stock altogether, requiring payment of $25.00 per share, plus all accrued and unpaid dividends to the preferred stockholders…”
With a 50%+ return expected, the DTLA preference shares look to be an exciting hidden value play. If you’re interested in discovering more of these hidden value opportunities, You should sign up to ValueWalk’s exclusive Hidden Value Stocks quarterly magazine.
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