HMG/Courtland Properties, a pile of cash, securities, and real estate for 52% of book value

All value investors are supposedly looking for the proverbial dollar trading for fifty cents.  How one defines a dollar and fifty cents differs greatly, but in theory we're all looking for the same thing, a discount.

Investing in assets at a discount is akin to swimming in the baby pool of investing.  An investor identifies an asset, determines their value, invests at a discount and waits patiently.  You don't need to be an professional swimmer to be in the baby pool, and you don't need to be a professional investor to invest in asset mis-valuations.  Asset mis-valuations are simple to analyze and if an investor is correct with their valuation and buys at a discount they will do well given time.

Even though some investors are satisfied to spend their whole career investing in simple investments most aren't.  Professional investors don't want to stagnate, they challenge themselves to learn new industries and more advanced analytic techniques.  Retail investors tend to mimic professionals.  If professionals are investing in distressed debt, free cash flow yielders and companies with moats then when professionals talk about investing they'll discuss these types of investments leading retail investors to believe this is the only way to invest.

In many ways it's a shame that investors neglect simple and easy investments to chase the complicated and popular investments that are all over the financial media.  The company in this post is neither complicated or exciting, but it could offer investors an attractive return.

HMG/Courtland Properties (HMG.NYSE) is a publicly traded REIT.  The company consists of cash, investment securities, and various investment interests in real estate ventures.  Most importantly they have a market cap of $12m against a book value of $23m.  The company trades for 52% of book value.

The company doesn't have much in the way of earnings.  They have a very small stream of revenue related to an office building they own.  Their other income consists of gains from marketable securities, dividends from those same securities, and income from other real estate ventures.  Whereas income is volatile their expenses are not.  The REIT pays an advisor to 'manage' the investments, they also pay directors lavishly and have other real estate related operating expenses.  For being such a simple operation their expenses are not all that low.

What an investor is purchasing when they buy HMG/Courtland is essentially a managed real estate fund at a discount.  The key to an investment is the quality of the assets being purchased.

Starting from the company's most liquid asset to least they have $6.5m in cash and $11.6m in marketable securities.  The marketable securities consist of traded REIT stocks and traded REIT preferred shares.  No single REIT position is larger than $400k.  This means the company's portfolio owns about 28 individual positions.

The company also has a direct ownership interest in an office building worth $797k that generates roughly $85k in rental income.  Besides their office building they own stakes in various partnerships, affiliates and a note receivable.

In terms of liabilities HMG/Courtland Properties owes $2.4m to an affiliate and has $200k in accounts payable.  The market is valuing the company for $3m less than net cash and investments.  At this level an investor gets an office building and the investments in private real estate development for free.

The problem with the investment is that their operating income doesn't cover their operating expenses.  The company is reliant on gains from marketable securities, dividends from securities and dividends from joint ventures to meet expenses.  If any of those income sources drops for a period of time the company will be operating at a loss and be reliant on using their cash and securities to operate.  When companies survive off of their assets for an extended period of time the investment is affectionately known as a melting ice cube.  In a situation like this an investor is making a bet against time.  The bet being that the market will value the company higher before the company's asset value erodes to market value.

An investor's best bet at outrunning the melting ice cube scenario is the HMG/Courtland's investment into new real estate development.  At present the company has agreed to commit $1.8m for a one third ownership interest in a new joint venture.  The joint venture plans to build and develop 250 condos on 9.5 acres in the Orlando, FL area.  Each partner in the project will contribute $1.8m and the entity plans to raise an additional $27m in financing to complete the development.  When completed HMG/Courtland will either receive dividends as a result of rental income, or sell their stake.

The company has had success in the past developing properties and then selling them.  In 2013 they sold their interest in Grove Isle Yacht Club for $24.4m for a gain of $19m.  If they are able to do it again their investment in Florida condos might turn out to be just as lucrative.

An investment in HMG/Courtland is a bet on their ability to turn their real estate investment interests into considerable gains.  If they don't an investor is well protected by the company's cash and securities.  The big question is whether management can turn the condos into cash before they burn through their assets.

Disclosure: No position


3 comments:

  1. I don't understand. Why hasn't any activist investor come in and unlock value in this company a la Warren Buffett?

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  2. I'm going to stay away. Real estate returns are usually, in what I've seen of long term history, somewhere in the 6% to 10% range. If you look at their income statement they have been negative net income of negative 1 to 1.7 million. If you divide 1 to 1.7 million by book value of 23M, you get negative 4.3% to 7.4%. So I would expect long term these assets would grow by 1.7% to 2.6%. The only way this becomes interesting is if someone replaces the current operators with something lower cost.

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  3. I suspect the reason why an activist hasn't tried to unlock the value is because management and the board control over 60% of the stock so voting them out is virtually impossible. Typically, one would think that high insider ownership creates an alignment of interest between management and outside shareholders in that management has an incentive to have the stock trade at fair value. However, given the amount of money being paid to insiders, the capitalized value of the pay check may be worth more than the fair value of the insiders' stake. If that is the case, there would seem to be no incentive for management to take actions (e.g. asset sales, dividends, etc.) to bring the market price up to fair value.

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