American Realty Capital Properties: Let's Play Make Believe!

User avatar
REIT Wrecks
Site Admin
Posts: 415
Joined: Wed Jan 27, 2010 2:31 pm
Contact:

American Realty Capital Properties: Let's Play Make Believe!

Post by REIT Wrecks » Mon Jul 18, 2011 6:04 pm

What do you get when you combine a big, fat personal guarantee with a triple net lease portfolio levered at 104% loan to value, negative operating cash flow to the tune of $2 million, $102 million in debt maturing in 45 days (some of which is full recourse), and a bunch of pesky cross-collateralization clauses? You get an IPO from Nick Schorsch and American Realty Capital!

If the above sounds like an ocean full of hot water, it is, and five executives at American Realty Capital are swimming in it. Their life preserver appears to be an IPO for "American Realty Capital Properties", which may allow them to escape this little disaster, assuming the IPO is successful. The prospectus claims that this money pit will allow investors to capitalize on a "significant market opportunity", but in truth, this overpriced IPO looks to be nothing more than an attempt to slip from the grips of their personal guarantees and turn their upside down equity into cash, courtesy of a highly questionable appraisal. But don't worry, all of this is fully disclosed in the prospectus, and that's what makes it OK to dump this underwater dirt on a bunch of unsophisticated retail investors and their advisors.

The American Realty Capital Properties IPO is a best efforts offering which expires on September 6th, just 61 days from the effective date. This is obviously a very short fuse, and it indicates some level of desperation to get the deal done. Should the IPO fail, $82.6 million in debt will go into maturity default, allowing lenders to foreclose on the portfolio. If this happens, the upside down equity in the deal -- currently owned by the five execs at American Realty Capital -- will permanently go "poof!".

Perhaps this is why the appraisal was not a self-contained, market-based appraisal, and also why American Realty Capital dictated certain critical assumptions in order to arrive at the $131 million valuation. Indeed, the prospectus truthfully and obediently declares that the properties were "not subject to an appraisal of their fair market values" and that "the price to be paid by us for the acquisition of the assets in the formation transactions may exceed the fair market value of those assets."

Not only did the appraisers completely ignore fair market value (let's just skip that little detail, shall we?), they also assumed a 6.25% capitalization rate, which is the rate American Realty Capital told them to use, even though 6.25% appears to bear little relation to reality. Capitalization rates are critical valuation tools, and they are always derived independently by an appraiser using a market-based approach, not some dictat by the seller.

Based on that assumption and several others, ARCP claims the portfolio is worth $131 million. However, the independent third party experts that I checked suggest the market capitalization rate for these properties is much higher, which would make the ARCP portfolio value much lower. In fact, CBRE's retail valuation group reports that average national retail capitalization rates as of Q1 2011 was 7.97%:
CBRE Retail Valuation Group - Cap Rate Trends Through Q1 2011.jpg
Where's Waldo?
CBRE Retail Valuation Group - Cap Rate Trends Through Q1 2011.jpg (53.71 KiB) Viewed 30660 times
Nevertheless, CBRE's data is not sufficient to besmirch American Realty Capital's little game of make believe as it deserves to be besmirched, so I also checked with Real Capital Analytics. Real Capital is another highly credible source of market information, and sure enough, RCA reported an average Q1 retail cap rate of 7.88%:
RCA Retail Cap Rate Trends Q1 2011.jpg
Where's Waldo? Is He Not Even on the Chart?
RCA Retail Cap Rate Trends Q1 2011.jpg (38.92 KiB) Viewed 30660 times
Finally, John Calkain, whose specialty is retail triple net lease brokerage, [url=http://www.calkain.com/reports/research/calkain_research16.pdf]reports a 2011 Q1 average national cap rate for triple net lease deals of 7.75%[/url]. So it seems that the 6.25% rate supplied by American Realty Capital to their appraisal minions at the Butler Burgher Group could have been, shall we say, somewhat optimistic, and therefore that $131 million valuation could be, shall we say, somewhat inflated.

Still, I could not be so sloppy as to smear ARC's incipient public company portfolio with the average national retail cap rate. This would be just as disingenuous as their imaginary 6.25%, since it would assume that ARCP's bank branches in Ohio and Michigan are no more desirable than some video store deal down the street, or the donut shop next door (or the $30 million Home Depot that was also thrown into the ARCP deal). So I checked on this too, and once again, John Calkain, the specialist, reports that triple net lease deals for bank properties are currently trading as much as 125 basis points below the national average, or at about 6.50%.

I then became curious about cap rates within the triple net lease retail bank branch niche, and it turns out that NNN deals for JP Morgan Chase, which Calkain calls "one of the higher rated retail tenants commonly seen in the net lease world", [url=http://www.netleaseadvisor.com/chasebank/]currently trade at about 6.40%[/url]. This is no surprise; JP Morgan Chase did not just survive the credit crisis, it thrived. It is now the largest financial institution in the United States with over $2 trillion in assets and over 5,000 retail branches from coast to coast. JP Morgan is rated A+ and Aa1 by Standard &Poor's and Moody's.

In contrast, ARCP's bank branches are leased to the American subsidiary of accident-prone RBS, which recently reported the largest loss in UK corporate history ($34.2 billion, and that's Billion with a "B"). RBS was subsequently taken over by the British government, and unlike AIG, there is no exit in sight. RBS is clearly no JP Morgan. With respect to the specific properties in the ARCP portfolio, they are located in Delaware, Connecticut, Illinois, Michigan, New Hampshire, New York, Ohio, Pennsylvania and Vermont, and RBS/Citizens reports that "further uncertainties cloud the near future because economic conditions remain difficult in our core regions in New England, the Mid-Atlantic and Midwest."

In complete candor, I can't say what the exact cap rate is without access to even more market data, but I can say it ain't 6.25%, and it's probably not even 6.50%. In all likelihood, the cap rate for these properties is much closer to 7% than it is to 6.25%. But one thing is certain: if American Realty Capital was truly interested in getting a real appraisal, not some piece of completely unreliable flim-flam, investors would not be stuck playing this insulting guessing game.

In addition to this obvious "red flag" on valuation, this deal has more red flags than a military base in China which would absolutely leap into the arms of anyone who bothered to open the prospectus (whew, what's that smell?), there is also the debt. The prospectus says that "sixty-two of our 63 properties are encumbered by mortgage indebtedness that is maturing in the short-term, which indebtedness we may not be able to refinance upon maturity."

The amount of this existing, non-refinanceable mortgage indebtedness is $82.6 million, and it matures in less than 45 days. The plan is to refinance this debt with $55 million in new debt, and $27.6 million in new equity raised in the IPO -- but that's happening only IF this hail mary IPO is successful. This indicates that the current owners of the portfolio, Nicholas Schorsch, William Kahane, Peter Budko, Brian Block, and Edward Weil, can't refinance the existing debt because they either don't have the $27.6 million in new equity that's required, which would be completely understandable, or they are unwilling to invest any further in the portfolio. Whatever the case, the fact that they're all pulling the rip cord on this deal is not exactly a confidence builder.

Yet another "red flag" is an additional $19.4 million in mezzanine debt, which was apparently not intended to remain outstanding beyond the initial maturity date on July 11th. This debt carries a blended coupon of 9.94%, more than 350 basis points above the senior debt. The mezzanine lenders have full recourse to an ARC subsidiary in the event of a default, and the loan carries a joint and several personal guarantee granted by two of the five ARC executives. Furthermore, the terms also provide for two one-year extension options that, if exercised, will cause the coupon to jump even higher -- to 10.125% in the first year and 10.625% in the second year. In that event, the debt also becomes subject to a lockout, meaning it cannot be prepaid. Terms like these are very generally referred to as "sunset" clauses, and the associated loans as "exploding debt", and their purpose is to make certain that the debt is repaid on time. However, this debt has already matured, which indicates that this debt is underwater too, and in the absence of new cash or some other miracle, those guarantees will soon be called.

In a nutshell, it appears that Messrs. Schorsch, Kahane, Budko, Block, and Weil are using this IPO to recapitalize a personal portfolio investment that is completely pear shaped, and probably not worth anything close to $131 million. On top of the bogus appraisal, the concentration of credit risk to a barely profitable European bank that remains in government conservatorship, and a narrow geographic concentration of assets, the cash flow from the portfolio has declined due to an August 2010 lease restructuring with the bank ("please help us, we can't pay the rent anymore!"). As a result, the vast majority of the portfolio's AFFO now comes from non-cash depreciation and amortization. Even so, the 7% dividend represents a payout ratio of between 95% and 130% on pro forma AFFO, depending on whether the IPO raises the minimum or the maximum.

This is slim coverage, and if the deal closes, ARCP's new lender plans to lock down ARCP management with a restrictive covenant that limits dividend payments to (i) 95.0% of AFFO or (ii) the amount required to maintain REIT status (this means a distribution equal to 90% of taxable income). Apparently, they are already keen to the usual non-traded REIT dividend trickery, and given the pro-forma payout ratios and this covenant, my guess is that the 7% dividend gets cut very soon after closing - assuming this grimy IPO even makes it out of the gate.

Interestingly, the offering is being co-lead by Ladenburg Thalman, which is said to be a front-runner to buy Securities America. Securities America is about to be cast off by Ameriprise, after it spent two years and hundreds of millions fighting fraud claims related to the sale of Medical Capital Holdings and Provident Royalties. So, it looks like birds of a feather do indeed flock together, except the American Realty Capital prospectus assures us that everything in this stinky little deal actually smells just fine ("to date, our track record has been excellent.") That may hold true true today, but in 45 days, if this IPO is successful, ARCP investors will be stuck holding their left over bags of manure.

User avatar
REIT Wrecks
Site Admin
Posts: 415
Joined: Wed Jan 27, 2010 2:31 pm
Contact:

Re: American Realty Capital Properties: Let's Play Make Beli

Post by REIT Wrecks » Thu Jul 21, 2011 8:29 am

[url=http://www.reitwrecks.com/forum/viewtopic.php?f=24&t=210#p708]Where is Woodrow??[/url] Has that progressive pillar of REIT reform gone into hiding?

If so, that would be too bad, because I'm confused. I need to be [url=http://www.investmentnews.com/article/20110717/REG/307179973]"educated"[/url]. I need to talk to someone who is a thought leader, somebody who is [url=http://www.nytimes.com/2011/07/20/realestate/commercial/nontraded-reits-face-increased-scrutiny.html]"changing the industry"[/url].

The question is this: how do American Realty Capital executives reconcile the 6.25% cap rate they are using to sell these grotty, legacy RBS/Citizens triple net lease assets out of their own personal accounts, given that they are purchasing very similar non-legacy RBS/Citizens assets with longer lease terms at a 9.11% cap rate at the same time?

Specifically, just six months ago, American Realty Capital purchased two RBS/Citizens bank properties with an average 7.8 years remaining at a 9.11% cap rate ([url=http://www.sec.gov/Archives/edgar/data/1410997/000114420411029106/v222374_10q.htm]see page 9 of the ARCT Q1 10Q[/url]), vs. the average five years remaining and 6.25% cap rate for the assets being dumped into ARCP.

This purchase at 9.11% completely contradicts the American Realty Capital statement that a 6.25% cap rate is [url=http://www.sec.gov/Archives/edgar/data/1507385/000114420411039083/v226640_s11a.htm]"an appropriate initial market rate of return"[/url] for these assets. It also implies that the 6.25% cap rate they instructed their appraiser to use materially misrepresents the true market rate of return for these assets. If this is true, this misrepresentation would appear benefit only the insider sellers of these assets, otherwise known as the the Five Guys Named Moe.

In terms of materiality, at a 6.25% capitalization rate, the $131 million valuation for the ARCP properties implies portfolio NOI of $8,187,500. However, if you were to take that implied NOI and apply a capitalization rate of 9.11% instead, you would come up with a portfolio value of $89.9 million, which would be $41.1 million less than what American Realty Capital and Ladenburg Thalman are saying it's worth, and much less than the value of the existing debt. How's that for progressive!

CREbuyer
Posts: 4
Joined: Fri Sep 02, 2011 1:54 pm

Re: American Realty Capital Properties: Let's Play Make Beli

Post by CREbuyer » Fri Sep 02, 2011 2:30 pm

looks like next week is the big day: http://sec.gov/Archives/edgar/data/1507385/000114420411049612/v233334_ex99-1.htm" onclick="window.open(this.href);return false;

pretty gutsy move in a market like this, but I guess when you are on the verge of default, no other choice

crabsofsteel
Posts: 39
Joined: Sat Mar 06, 2010 6:56 am

Re: American Realty Capital Properties: Let's Play Make Beli

Post by crabsofsteel » Fri Sep 09, 2011 7:11 am

$141MM of ARCP loans are in new issue CMBS, all originated by Ladder Capital, bought and securitized by Deutsche

CMBS name Loan Curr. Bal.
dbub11l2 Express Scripts Portfolio 28,710,000
dbub11l1 Walgreens ARC Portfolio 22,900,000
dbub11l2 ARC - NY Walgreens Portfolio 19,220,000
dbub11l2 ARC - Walgreens-WaWa Portfolio 17,590,000
dbub11l1 ARC IHOP Portfolio 12,450,000
dbub11l2 ARC - DaVita-Dillons-QuikTrip Portfolio 11,350,000
com10c01 Super Stop & Shop 10,800,000
com10c01 Advance Auto/Walgreens Portfolio 6,550,000
com10c01 Fresenius Medical Care Portfolio 6,000,265
dbub11l2 ARC - Walgreens & CVS Portfolio 5,632,000

azut
Posts: 4
Joined: Wed Aug 10, 2011 11:36 pm

Re: American Realty Capital Properties: Let's Play Make Beli

Post by azut » Tue Sep 13, 2011 9:59 am

So where are all the ARCP haters now? Looks like Schorsch & Co. pulled off a successful IPO in the middle of a bear market. Price is holding steady & even went up to 12.96/share, that's a 3.7% stock price increase in the middle of a bear market correction trend. No wonder you geniuses aren't saying anything about this now. I'll collect my 7% dividend on my shares on Oct. 15th & laugh all the way to the bank with the check. Thanks again for horrible advice & opinions from this blog.....For the most part, investors now can do exactly the opposite of what this blog says concerning American Realty Capital & Realty Capital Securities, and do extremely well. That's what my dividend checks are telling me. Thanks again. And NO I am not in the industry. Just a prudent investor who does not invest more than 15% of my assets in REIT-type securities.

CREbuyer
Posts: 4
Joined: Fri Sep 02, 2011 1:54 pm

Re: American Realty Capital Properties: Let's Play Make Beli

Post by CREbuyer » Thu Sep 15, 2011 6:47 am

http://seekingalpha.com/article/293215-american-realty-capital-properties-ipo-not-a-sleep-well-at-night-investment" onclick="window.open(this.href);return false;

sorry Azul, but the consensus out there is ARCP is a dog, and you are not fooling anyone by claiming to be an investor of these funds, unless you are also an ARC employee.

User avatar
REIT Wrecks
Site Admin
Posts: 415
Joined: Wed Jan 27, 2010 2:31 pm
Contact:

Re: American Realty Capital Properties: Let's Play Make Beli

Post by REIT Wrecks » Fri Sep 16, 2011 12:50 am

Indeed. One of the great mysteries of the ARCP price action is why this total pile of manure did not immediately plunge in open market trading.

The reason: ARC's wholesalers apparently could not convince even the most foolish, uninformed and deluded independent FA's to buy this barrel of stink for their clients. As a result, Schorsh and Kahane appear to have bought the majority of this terrible deal with their own money. After they signed their checks, they had the temerity to call it a successful IPO in a fusillade of happy press releases:

“This was an extraordinary execution,” observed Nicholas S. Schorsch, Chairman and Chief Executive Officer of the Company. “We succeeded in completing our IPO in the midst of a substantial economic correction and a series of natural disasters which affected New York City. This is a strong testament to both our team and the quality of the offering.”

In reality, nothing could be further from the truth. Schorsh and Kahane's transparently selfish efforts to bail out their personal portfolios actually failed miserably, and it looks they'll have to choke on their own chicken. This is as it should be. Check the anemic volume; they can't sell it because no sane buyer wants to own it. My bet: they fail to cover that 7% dividend in less than three quarters. Word to you Azut: [url=http://www.nytimes.com/2011/07/20/realestate/commercial/nontraded-reits-face-increased-scrutiny.html]Look out below!!![/url]

Lesson: Almost anything can be sold in the independent B/D channel, except total swine scat. Second lesson: Finra is bought and paid for, and the SEC is overwhelmed. Question: How did this dredge muck ever get publicly registered in the first place?

User avatar
REIT Wrecks
Site Admin
Posts: 415
Joined: Wed Jan 27, 2010 2:31 pm
Contact:

Re: American Realty Capital Properties: Let's Play Make Beli

Post by REIT Wrecks » Mon Sep 26, 2011 3:04 pm

The 13D filing indicates that Schorsch and Kahane each own 21.7% of the shares, and an additional 21.7% was purchased through American Realty Capital II LLC, in which Kahane and Schorsch are both member-managers. If so, that could mean they owned as much 65.1% at closing altogether, but the language in the filing doesn't make the aggregate insider holdings clear. Did they buy 21.7% in total, or 65.1%?

One thing is clear: they own between 21.7% and 65.1% of the common shares, and if it's true that they beneficially own 65.1% of the common shares through their interests ARC II LLC, then they would probably need to sell down to below 50% to comply with the IRS' 5/50 rule for REITs (the IRS stipulates that no more than 50% of REIT shares be held by five or fewer individuals during the last half of each taxable year). If THAT's true, then there may be some selling going on in the fourth quarter.

Separately, ARCP announced a 1.3 million follow on offering on September 22nd, such that American Realty Capital can transfer in more assets. The assets are as follows:

7 Advance Auto Parts (AAP) stores for $5,925,000 at an 8.74% cap with an average lease term of 8.2 years (all in Michigan).

21 Dollar General (DG) stores for $10,500,000 at a 9.38% cap with an average lease term of 7.6 years (in Missouri, Oklahoma, Illinois, and Arkansas).

1 Walgreen (WAG) store for $3,778,000 at a 9.15% cap rate with an average lease term of 20 years. (in Eastpointe, Michigan)

Given the cap rates, my guess is that these properties are being transferred in an attempt to meet the 7% dividend nut, but what about those lease terms and these locations? The stock is down from the offering price, but the decline started BEFORE the follow on was announced....this is still a bowl of worms.

http://www.sec.gov/Archives/edgar/data/1507385/" onclick="window.open(this.href);return false;

crabsofsteel
Posts: 39
Joined: Sat Mar 06, 2010 6:56 am

Re: American Realty Capital Properties: Let's Play Make Beli

Post by crabsofsteel » Wed Oct 05, 2011 7:53 am

from cre direct:

American Realty Capital Properties Inc., which last month had raised $69.8 million through its initial public offering of common shares, is looking to raise additional capital in order to buy another 29 properties.

The New York REIT is sponsored by American Realty Capital Advisors, an investment manager led by Nicholas S. Schorsch and William M. Kahane. It formed American Realty Capital Properties in order to provide liquidity to some of its early investors. The REIT owns 63 properties with 768,730 square feet in 10 states that are leased to RBS Citizens, Citizen's Bank of Pennsylvania and Home Depot.

The REIT had used proceeds from its IPO, along with a $51.5 million draw against a $150 million credit facility provided by RBS Citizens, to retire $82.6 million of debt that had encumbered the properties it acquired.

It has lined up another 29 properties that would allow it to diversify its portfolio by tenant, industry and geography. Those properties, which total 256,070 sf, are leased to Advance Auto Parts, Dollar General and Walgreens and would be purchased for $20.8 million, or $81.23/sf.

yommytec
Posts: 3
Joined: Fri Dec 09, 2011 2:23 pm

Re: American Realty Capital Properties: Let's Play Make Beli

Post by yommytec » Sat Dec 10, 2011 2:22 am

Thanks for the great post. I will like to check out about John Calkain's Q1 2011 reports unfortunately the link ( hyperlink in the body of your post ) is not working for me. Could it be that the link was pulled down or something?

Post Reply