Current Price – C$2.40
Liquidation Value – C$2.89+
Upside – 20%+
Expiration Date – TBD
TZZ is Canadian non-bank lender investing in commercial and residential mortgages. Since 2016 the company is in orderly liquidation mode and has already sold down majority of its portfolio and distributed the proceeds to shareholders. At the moment there are 5 mortgages remaining (+1 in default) on the portfolio with net value of C$35.5m – these mature or are expected to be sold by the end of 2019. BV per share (after taking into account open market buybacks during Q2 2018) works out C$2.89 which is 20% upside to the current share price.
So far the liquidation has proceeded smoothly and management has promptly distributed any available proceeds to shareholders through special and regular dividends, tender offer and open market repurchases (below BV). If the remaining mortgages get sold prior to their maturities, then liquidation of the company will happen earlier. Until then interest from the remaining mortgages is expected to cover admin expenses and the wind-down costs – income from non-past due mortgages is c. $190k per quarter whereas admin expenses stood at $135k in Q1 2018. The remaining performing mortgages (C$33m) are probably not yet sold specifically to support any admin expenses before the final wind-down.
Future management incentive fees are already provisioned and take into account current BV of net mortgages (my calculations show potential additional incentive fee of only C$70k).
Problematic loans and fadditional upside
Company has 2 past due mortgages and one in default.
2 past due loans (C$6.4m gross with C$0.4 provision) are expected to be repaid shortly (partial payment made already), however two extensions have been made.
Two mortgages with the same borrower with an aggregate carrying amount of $6.4 million (December 31, 2017 – $6.4 million) were not performing and were past due on their maturity dates. Subsequent to the year end, the borrower made an offer which the Manager accepted where the borrower made a $0.6 million loan repayment in January 2018, and agreed to repay the loan in full with interest by the end of March. The borrower asked for an extension of the March date to allow additional time to arrange alternative financing, an expected repayment date of May has been set. Currently there is a fair value provision on the properties totaling $0.4 million (December 31, 2017 – $0.4 million).
If the loan get’s repaid and provision is reversed, that is an additional C$0.04/share in liquidation value.
Another loan is in default since Q2 2017 (C$3.4m fully written off) and the mortgaged property is currently being sold.
In the second quarter of 2017, a mortgage went into default when a borrower breached the terms of a forbearance agreement. The Manager took legal action and a receiver was appointed. The property was marketed for sale and bids were accepted in Q1 of 2018. Management reviewed the offers and is currently pursuing and negotiating the most attractive offer. The total fair value adjustment recorded on the property is $3.4 million (December 31, 2017 – $3.4 million).
Any recovery from the sale of the property for TZZ would mean additional upside for shareholders – every $1Cm equal to C$0.1/share.
I would expect outcome on both of these situations to be announced together with Q2 results expected in mid August.
- Currently performing loans might run into difficulty and further problems might surface regarding the two past due mortgages. However, average portfolio LTV is 92.7% and the interest rates charged are very low (2.25%) so I assume the portfolio is considered quite safe.
- There might be additional liquidation expenses that will not be sufficiently covered by the ongoing income from mortgages. However, management so far has acted in the interest of shareholders and I would expect them to continue to minimize any fees. If additional C$1m is required to wind-down of the company, then liquidation value drops by C$0.1/share.
- Liquidation might take longer than expected, if any of the problematic loans do not get resolved by the end of 2019. Q2 management commentary on the portfolio should shed some light on this.
- Stock liquidity is low.