Friday, December 3, 2021
HomeValue InvestingClark Road Worth: Capstead Mortgage Corp: Reverse Merger with BSPRT

Clark Road Worth: Capstead Mortgage Corp: Reverse Merger with BSPRT

Capstead Mortgage Company (CMO) is without doubt one of the oldest publicly traded mortgage REITs courting again to 1985.  Capstead has a reasonably easy enterprise mannequin, they personal adjustable price residential mortgage securities issued by a authorities sponsored entity like Fannie or Freddie, then lever it up 7-8x and pay out considerably all of the ensuing internet curiosity unfold within the type of a dividend.  Capstead is traditionally effectively managed, they had been one of many few mortgage REITs to keep up their dividend all through the pandemic and did not get parts of their portfolio liquidated on account of margin calls like so many others.

However occasions change, the returns obtainable doing this “arbitrage” aren’t what they was once, forcing increased and better leverage to the purpose the place it does not make loads of sense.  In July, Capstead agreed to a reverse merger transaction with a public however non-traded traded REIT, Profit Road Companions Realty Belief (“BSPRT”), with the proforma entity transferring ahead with BSPRT’s administration workforce and present center market CRE mortgage technique.  Capstead is presently an internally managed REIT, the market likes these higher because the incentives are extra straight aligned, however as a part of this reverse merger, the brand new mixed entity will swap to an externally managed construction.  To compensate Capstead shareholders and entice them to vote for the transaction, BSPRT and their administration entity are paying a 15.75% premium over Capstead’s guide worth in money plus CMO shareholders will obtain shares within the new entity on a book-for-book foundation.  The brand new entity shall be referred to as “Franklin BSP Realty Belief” and commerce underneath the ticker FBRT, the exterior supervisor Profit Road Companions is a subsidiary of Franklin Sources (BEN).

The 6/30 guide worth of CMO was $6.35/share, 15.75% of that’s roughly $1/share in money.  The inventory is buying and selling for $6.77/share, if the proforma trades for guide worth, that is 8.5% upside for a deal that doubtless closes within the subsequent month or two.  This can be a pretty easy funding thesis, actually two questions it’s worthwhile to have some confidence in answering:

  1. How a lot, if any, has the guide worth moved in CMO since 6/30?
  2. What premium or low cost to guide worth ought to FBRT commerce at?

For the primary one, company ARMs have little to no credit score danger and fewer rate of interest danger in comparison with different mounted earnings securities.  Simply taking a look by company bond ETFs, they appear fairly steady because the center of the summer season, is perhaps some slight fluctuation however I do not suppose its a stretch to suppose that the guide worth has been comparatively steady.

The second is somewhat trickier, a lot of the bigger (FBRT shall be ~4th on this record in measurement) externally managed industrial mortgage REITs are buying and selling close to or above guide worth.  You possibly can in all probability toss out the highest and the underside on this record, Starwood Property Belief is the unique and greatest run of the bunch and STWD bailed out TPG RE Finance Belief throughout the pandemic as TRTX had a CMBS securities portfolio that was margin referred to as and liquidated.

Most of those are family names, Profit Road Companions will not be what I’d name a family identify however they’re a big CLO supervisor and have been using the construction inside BSPRT for a while now with success.  They launched the private REIT about 5 years in the past, have had no losses within the portfolio in that point and the portfolio seems fairly wholesome right this moment with just one doubtlessly downside mortgage (rated 4 beneath, its a self storage mortgage, guessing its not materially underwater).  Regardless of being non-traded, BSPRT is public and does file with the SEC, you could find their filings right here.

That is successfully an enormous capital increase for FBRT/BSPRT, they will let the outdated CMO portfolio run off or promote opportunistically to fund their pipeline of recent CRE loans, I like that they’ve a reasonably clear portfolio freed from legacy points and dry powder to place to work within the post-covid world, there needs to be loads of low danger alternatives as we all know which sectors/markets are probably the most impacted by the pandemic, what developer enterprise plans make sense, and many others.  When you’re a rising mREIT, downside belongings in the event that they pop up naturally turn into smaller and smaller.

Moreover, the reverse merger has two structural options as a part of the deal that ought to assist assist the inventory as soon as the proforma firm is listed:

  1. $100MM repurchase program, with $35MM being funded by an affiliate of administration, the repurchase program would kick in put up shut if FBRT is buying and selling beneath guide worth.
  2. Roughly 94% of BSPRT shareholders shall be locked up for six months put up merger, so there should not be the concern that that is a right away liquidity occasion and all BSPRT shareholders will promote on the first probability they get.

On prime of these, they’re additionally going to pay a major dividend, they cite they’ve executed over 10% ROEs and are going to pay all of it out in a dividend, which means if this trades even reasonably beneath guide worth it might have a double digit dividend yield which ought to appeal to retail buyers.  General, a fairly easy and hopefully quick length thought, I am going to flip the shares in the event that they commerce for guide instantly, in any other case I will be content material to attend 1 / 4 or two, accumulate some dividends and await the low cost to slender.

Disclosure: I personal shares of CMO



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