Current Price: $10.06
Offer Price: $10.00 – $12.00
Upside: 19%
Expiration Date: 10th December
This tender offer expires in two days, however, your broker might have a different deadline for participating in this tender offer. There is a guaranteed delivery clause.
Closed-end fund NexPoint Strategic Opportunities (NHF) has launched a tender offer to exchange 30% outstanding shares at $10-$12 per share. The consideration will be paid 80% in newly issued preferred shares and 20% in cash. Preferred shares will be tradeable with a liquidation value of $25/share and with 5.50% annual dividend yield. The outcome of this trade depends on the final tender price (between $10-$12) as well as the market price of the newly issued preferred shares. If preferreds trade at par value ($25/share or 5.5% yield), then the tender offers 19% upside at the upper limit vs 1% downside at the lower limit. There is an odd-lot priority.
The tender has a high likelihood of getting priced materially above the lower limit:
- NHF is trading at a substantial (43%) discount to NAV and management is trying to close the valuation gap by selling non-RE assets at close to book value and then converting the company to REIT (the process has already started). It is likely most of the shareholders will wait for the conversion to play out instead of cashing-out in the tender offer.
- The offer is value accretive for non-tendering shareholders as common stock is acquired at a large discount to NAV.
- Management owns 8.5% of NHF and does not intend to participate in the offer.
- The tender offer is large for c. 30% of all outstanding shares. If the offer is undersubscribed it will automatically get priced at the upper limit.
- 80% of the tender offer consideration will be paid out in preferred shares with no established market price as of yet. This likely limits the visibility of the upside from this trade and will discourage the participation of at least some of the shareholders.
Preferred shares have a reasonable chance of trading close to $25/share (i.e. close to 5.5% dividend yield):
- You can find current yields on other REIT preferred stocks here. Most of these trade at 6%+ yields (which would translate into $23 or lower preferred price). However, yields on storage (PSA and NSA) and single-family rental (AMH) REIT preferreds stand at/below 5.5%. These two sectors are where 50% of NHF real estate portfolio is focused (chart below). So with that in mind, there is a reasonable chance investors will price the newly issued preferreds close to par value. A similar conclusion has been made here.
- The preferred dividend seems to be very safe – during H1’20 NHF generated $19m of net investment income and $29m during 2019. This compares to $6m planned annual dividend for the preferreds and $19m for the remaining common shares (at a current rate of $0.6/share).
- Recently NHF preferreds received investment-grade (BBB) rating. However, it is worth noting that other REIT preferreds with investment-grade ratings are trading at higher yields than 5.5%.
- Preferred shares have more than sufficient asset coverage in case of liquidation.
Conversion to REIT
Earlier this year, in August, NHF shareholders have approved to change the company from CEF into a diversified REIT. The conversion is expected to take place in 2021 and in order to complete it, the company will have to sell its non-real estate assets (about 30% of the portfolio). It’s likely that it will be sold at/close to NAV and will act as a catalyst to close or at least significantly narrow the current discount between NHF NAV and its share price. The latest NAV stands at $17.70/share and the fund currently trades at 43% discount to NAV. The fund has a rather unfocused/messy portfolio (see here) with 60% of the assets classed as Level 3 (i.e. no available market quotations), so some of the discount is definitely warranted. However, pre-covid this discount stood at only 15% on average (during 2018-2019).
The conversion to REIT would offer multiple benefits such as considerably higher liquidity, inclusion in various indices, and appeal to a wider investor base. Also, REIT structure opens doors for higher leverage, while it’s worth noting that Nexpoint (NHF asset manager) primarily specializes in RE, so this change will allow them to use their competencies more efficiently. Finally on average REITs trade at better valuations than CEFs.
Given materially lower historical discount, upcoming asset sale and pending conversion into a REIT there seems to be plenty of upside and catalysts for non-tendering shareholders. Also, the current exchange offer is expected to increase NAV/share for non-tendering shareholders (by 10% if all shares are accepted at the upper limit) which should further limit their willingness to participate in the offer.
Below is NHF portfolio composition as of Q3’20:
I have been in this for a while and plan NOT to tender…….NAV accretion and better transparency in 2021 could take this much higher
Do you have any more thoughts on the portfolio?
Does fidelity offer/do guaranteed delivery?
Guaranteed delivery is basically whether the company will accept shares that are not settled…..Not a Fidelity issue….Completely separate issue is whether the brokers move up the expiration date by a day or so, so they don’t get sued if you tender at the last minute on the last day and they don’t process it in time…..so they say “best effort” on the last day.
Not so happy about the REIT conversion plan. It would be much better for investors if they open-ended or liquidated! But thanks for reminding me of this one. I think it’s still undervalued here. I wouldn’t be likely to tender unless they paid more in cash.
I’m no CEF expert, but isn’t the level of fees and expenses particularly high here? More than half of investment income is eaten by management fees, other expenses, commitment fees and interests (2019 figures). Yield on current market cap is 5.6%. Looks about right to me given the perceived quality of the portfolio? Said otherwise, the wide discount-to-NAV may be justified.
I’d be pretty surprised if a 5.5% preferred on this one traded at par.
Unersubscribed by about 20%…..would have priced at upper limit but they extended until Jan 4
Very annoying…
At least the monthly dividend of $5ct per share is now going to be payable to those who intend to tender (payable on 31 Dec, record date 22 Dec)
I find this to be quite positive. A clear sign that most shareholders prefer to hold on to shares rather than tender those at 20% premium (even if the value for part of the consideration is not fully clear). To entice even more shareholders to participate, management might need to improve the terms. In the meantime, shares are likely to trade up, further discouraging shareholders from tendering in the $10-$12 range. We might reach the indicated 19% return even without any risk on the price of preferred shares.
I would have expected IB to return my shares during the extension, so that I can sell them if I want. Instead they leave the temporary ticker for the tender offer in my portfolio.
At all brokerages they stay tendered unless you withdraw which you are entitled to do
I’ve withdrawn my tender at 12. The stock price has moved nicely, and doubtful about where the preferred will trade.
I withdrew as well and I see it is now 28% undersubscribed. If most tender participants were short-term holders that purchased to capture the discount from $12, I suspect most are not interested in holding the preferred for the long term and would look to sell when it starts trading. There could be an attractive buying opportunity for the preferred if it trades down significantly at the open caused by the short-term NHF investors selling the new pref shares. Anyone else have a view on that?
I bought NHF before they announced this tender but I still tendered at $12 and am indeed hoping to sell these preferreds for close to par. There’ll definitely be some sell pressure, but maybe there’s buy pressure from certain hedge funds/institutions who aren’t allowed to buy NHF stock but are allowed to buy preferreds? The bond market is huge and everybody is scrambling for yield so in that sense it might be unlikely to trade at a big discount.
It would seem liquidity going to be an issue in this one
Final results out Jan8 Friday before market open. NHFpA the preferreds started trading same day, opened about $24.50 but quickly dropped, closing the day with 11k volume at 23.70. Today, opened at 23.70 and again quickly dropped to 22.70 mid-morning. I assume most brokers are posting the preferred shares today before market open.
Decent profit: Buy NHF at 10.10, receive cash of 12 x 20% + preferreds 12 x 22.70/25 x 80% = $11.10. 10% profit. Coincidentally, if you held the stock and did not tender, you can sell for 11.10 now also. Somehow the stock went up also the last two days.
Risk was the tender range of $10 to 12, would have been an 8% loss if tender was priced at $10.
After the initial undersubscription was announced around Dec 11, DT correctly pointed out that this news is positive. One could have bought at 10.70 after this news: less profit of 4%, but with less risk.
Thanks for summing up the trade.
Curious to see what they will do with UDFI shares, as that is technically not real estate. Kind of doubt they can get that resolved this year.