After more than two years of holding a number of Italian real estate funds, two of them are now in the final stage of liquidating their assets.
Europa Immobiliare Uno has already sold 85% of gross real estate value since my original investment. In total, sales prices were only slightly below appraised values. Currently, the fund assets consist of EUR 93.0 m in cash, EUR 13.6 m in real estate, EUR 8.2 m of assets held in special purpose vehicles (for foreign properties that were not directly held by the fund) and EUR 0.6 m in other assets. Hence, the fund’s current NAV is EUR 115.2 m compared to a current market cap of EUR 106.6 m. Europa Immobiliare Uno will distribute EUR 60.3 m to unit holders on April 12, 2017.
The remaining three properties in the portfolio consist of two barracks leased to the Italian Government to accommodate the Carabinieri. The lease terms end in 2021 and 2023. In addition, the fund owns an empty logistic asset. Negotiations with a logistics company in buying the property are ongoing.
In the 2016 annual report released on March 22, 2017, management provides an indication of what the market value of the remaining portfolio might be. As the fund’s life time will most probably expire at the end of 2017, there is a time constraint to sell the remaining assets. Therefore, management believes that the three remaining properties combined can be sold for only EUR 13.6 m in the current market environment compared to an appraised value of EUR 20.2 m as of December 2017. This implies a 34% discount to appraised value. I believe that this should be a realistic outcome. As far as I understand, sales negotiations are ongoing. For instance, at this price the two barracks trade for a 15% rental yield. Though not a great asset, this price should be attractive to some potential buyers.
Last summer, I sold half of my position in Europa Immobiliare Uno. At the moment, I can buy fund units at the same price (adjusted for distributions), although the price risk has been reduced substantially given additional property sales in the meantime and a more precise guidance provided by management.
After next week’s distribution, when 56% of the current fund market price will be returned to investors, the stub will trade at a 13.4% or EUR 7.2 m discount to NAV. Hence, the combined sales price for the three properties can fall by another 52% before I lose money on this investment. In a best case scenario, in which I assume a disposition of real estate at NAV, this investment can add roughly 15% to the stub unit price until mid 2018.
For the portfolio I bought an additional 1.6% position from March 23, 2017 (annual report release date) until April, 5, 2017 at a VWAP of EUR 939 per unit.
There is something strange going on here. Management has postponed the release of the 2016 annual accounts for several times this year. They are now targeting a period between end of April and the beginning of May to publish the annual report. Why are they doing that? There are multiple possible reasons for that but most likely this is linked to the unknown outcome of ongoing sales negotiations.
My hypothesis is as follows:
30 days after the release date of the annual reporting, the fund manager has to invite to the annual general meeting. Officially, Unicredito Immobiliare Uno’s lifetime ends on December 31, 2017. At this point in time all properties need to be sold. However, the fund’s articles provide for another 3 year extension option. An extension of the fund’s lifetime has to be concluded at the general meeting.
So I assume that management has started the sales process of the fund’s largest asset (73% of remaining gross real estate value). If they reach an agreement with a buyer within the next weeks, chances will be very high that they can sell the remaining portfolio until yearend. Consequently, an extension of the fund’s lifetime will not be warranted and the fund can be wound up until mid 2018.
Of course, the fund manager (in this case Torre SGR) is interested in earning fees and therefore keeping AUM under his control. Hence, an extension might be in his interest. However, fees were reduced at the beginning of 2015 from 1.5% of NAV to 1.15% (except for cash held at fund level at 0.75%). In addition, Torre SGR is a pure play real estate manager with AUM around EUR 1 bn. I believe that for them the reputational damage of another extension of their most known fund by far outweighs the limited economic benefit of three additional years of reduced fee income.
From my perspective, this scenario will become true with a 20% to 30% probability. Moreover, I believe that this scenario is not reflected in the current unit price:
As of June 2016 and adjusted for recent property sales, the fund assets consist of EUR 114.6 m in cash and short term investments, EUR 166.2 m in real estate, EUR 8.7 m in assets held in special purpose entities and EUR 4.6 m in other liabilities. Hence, the fund’s current NAV is EUR 284.8 m compared to a current market cap of EUR 196.8 m. Overall, property value can fall by up to 59% before invested capital will be lost.
The fund’s major asset comprises a luxury residential redevelopment in a prime location in Rome. The planning and approval process is in the final stage. Therefore, I think it might be the right time now to hand the project over to a developer. The current proposition provides for 24,000 sqm of saleable area split over 150 units. According to this article, average prices are expected to reach EUR 10,000 per sqm. Consequently, the total project volume will be roughly EUR 240 m. Currently, the land and the existing building (the plan is to exchange only the façade but to keep the structure of the building that was originally completed in the 1970’s) is valued at EUR 125.2 m. Providing for a project developer margin of 15% of the total sales volume (EUR 35.8 m), this leaves EUR 77.8 m or EUR 3,260 per sqm for construction costs. Construction costs might be a bit low, but overall the numbers seem to validate that this asset should be worth at least EUR 100 m (which would then imply construction costs of more than EUR 4,000 per sqm).
The remaining properties (27% of gross real estate value) consist of residential properties in Rome (and to a small extent in Milan) which I believe can be sold at appraised value. In addition, the fund owns two retail properties. Due to their inferior quality, a sale at 50% of appraised value leading to a loss of roughly EUR 11 m can be expected.
Based on these assumptions, the liquidation value is roughly EUR 250 m providing for an upside of 27% based on the current market price.
There is optionality that an investor can earn this premium until mid 2018.
Otherwise, the fund’s lifetime will be extended until the end of 2020. Nevertheless, I believe that a large part of the current fund assets will be returned to unitholders before that date. In addition, I expect unitholders to get a larger share of proceeds from the redevelopment given that the fund management might step in as project developer to earn the profit margin.
For the portfolio, I bought an additional 1.4% position from March 31, 2017 (date of last press release) until April, 5, 2017 at a VWAP of EUR 1,218 per unit.
A note on the liquidation process in general
As of yearend 2016, the lifetime of three Italian real estate funds (including Invest Real Security, Estense Grande Distribuzione and BNL Portfolio Immobiliare) expired.
In the case of Invest Real Security, briefly before yearend 2016 the fund sold the remaining five properties at discounts to appraised value of 60% to 80% realizing an enormous value destruction for unitholders. Hence, it is of importance to focus on (i) the capable and incentivized investment managers and (ii) real estate holdings that are attractive to a large number of potential buyers.
Apart from that, once the funds have matured the final liquidation process seems to be smooth. As far as I understand, the liquidation has to be completed 180 days after maturity. Hence, the remaining liquidity has to be distributed to unitholder until the end of June 2017 (in the case of the three funds mentioned above). Therefore, the process seems to be less complicated than for instance in the case of the wind up of German open end real estate funds that have to keep restricted cash for years to provide for potential claims (i.e. from buyers, tax authorities, etc.) before they can return the cash to unitholders.
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