Rarely do you see language like this in an investment recommendation. Calling Cole REIT III fees "astronomical and extremely inappropriate," and noting that Cole REIT III suffers from misleading accounting, conflicts of interest and illiquidity, P-Solve said not only that they could not recommend Cole, but that they would "implore [the town of West Warwick] not to make this investment." P-Solve, citing hundreds of years of collective investing experience, said they had "rarely, if ever, seen an investment more inappropriate than this one." But you don't have to take my word for it. Their memo is here, and you can read it for yourself:
Incredulously, despite P-Solve's strong opposition, the West Warwick Pension Board voted unanimously to approve the investment. After the vote, the Providence Journal did an absolutely wonderful job of picking off some voluptuous quotes from the board members, including some choice indiscretions from the board's chairman, a fellow named Terry Rouselle, who is perhaps best known for running the local liquor store. According to the Journal, Rouselle said that Cole guaranteed the town a 7% return.
It was a 7-percent guaranteed return,” Rousselle said. “They promised us 7 percent."
It's certainly possible that Cole representatives made such claims in person, but it's more likely that Rouselle has simply spent too much time around the hooch, and not enough time scrutinizing the fine print. This is what Cole says in its most recent 10-K:
We may be unable to pay or maintain cash distributions...Actual cash available for distributions may vary substantially from estimates."
Frankly, I find it more than curious that a board could vote unanimously in favor of an investment like this, given the opposition of their advisor and their own ignorance of the facts. As P-Solve's letter points out, the board was "introduced" to Cole REIT III by Jeffrey E. Bogosian, who is a local stock broker friendly with the board. Bogosian, of course, stood to earn a substantial commission if the board made the investment. In fact, according to P-Solve, the total upfront commissions and the fees were so excessive they would be sufficient to pay all of the town's advisors for an entire year.
But it gets even worse if you're a retired firefighter, cop or sanitation worker in West Warwick. Not only was Rouselle completely uninformed, it's quite possible that his ignorance stems from basic illiteracy. What else could explain this dandy statement from the chairman?
We get 7 percent monthly. I don’t know what their management fees are. I don’t really care,”
If Rouselle doesn't know, it's abundantly clear that he should. I attach "Exhibit 1" from P-Solve's July memo to the board, and it provides explicit detail on Cole's management fees:
It's too early to tell whether Cole REIT III will be a decent investment, but it's clearly not suitable for the town of West Warwick, whose managers are not even capable of reading a memo from their own independent advisor. Talk about low hanging fruit. However, at this point, Cole is doing just as expected: paying dividends using offering proceeds and borrowings, while paying themselves "astronomical and extremely inappropriate fees." In fact, in 2009, while it got busy paying dividends using cash from new investors and loan proceeds - not earnings - Cole paid itself $14.1 million in acquisition fees and $1.3 million in asset management fees. How can this even be legal, nevermind sensible?
According to Cole, the Company funded its $21.8 million in 2009 dividends using Adjusted Funds From Operations ("AFFO") of $18.6 million and by borrowing $3.2 million. Even by this generous measure, Cole paid a dividend that was almost 20% more than they earned. However, Cole's reported AFFO also appears to include the aforementioned $14.1 million in acquisition fees. If so, backing those fees out would result in AFFO of only $4.5 million and a 2009 dividend that was $17.1 million in the hole. In fact, according to the Cole REIT III 10-K, 45% of the dividend was funded simply by returning shareholders' own money.
This is not the kind of "investment" that the seniors of West Warwick need and deserve. Furthermore, it's clear that the current West Warwick Pension Board is not competent to run an ice cream truck, nevermind a $30 million retirement fund. Before they can do any further damage and expose their members to even more potential harm, they should be removed, and the new board should insist that Cole return the town's money immediately, in full and without penalty.
Rouselle's reaction to all this? “I don’t know how that memo was leaked. It should have stayed within the board.”
Below is P-Solve's resignation letter. To print, email or share this post, click the "+share" button on the bottom right.
[Update: The town of West Warwick now has its money back. For more on that, read Cole REIT Redemption Flip Flop: Are Some Shareholders Special?
Cole REIT Redemption Flip Flop: Are Some Investors Special?
Cole REIT Has Dividend Problems
Non-Traded REITs Are Designed to be Sold, Not Bought