Bear of The Week – 3rd April 2011

Stock: Centro Properties Group

Stock code: CNP

Share Price: $0.061 (as at Friday 1st April, 2011)

Broker sells:

Calibre Investments (28/3/2011, share price was $0.063 that day)

Chart: Share price over the year to 25/03/2011 versus ASX200 (XJO)

On March 01, 2011 Centro Properties Group released details on its restructuring plan including selling its US assets to Blackstone Real Estate Partners for $9.2bn; and a proposed debt to equity swap with senior creditors for its remaining assets and ownership in the new Centro.  With $100M left to appease hybrid debt and convertible debt holders who are owed roughly $1.5bn, you can’t blame ordinary security holders for feeling that they have been left holding the bag.

Company Description

Centro Properties Group (CNP) is an Australian Real Estate Investment Trust, with funds under management across Australasia and the US.  Centro is the second largest retail property owner/manager in Australia and the third largest shopping centre owner/manager in the US.

Centro invests in shopping centres through its managed funds which include listed and unlisted property investments.  Investment properties are typically focused on non-discretionary retail spending shops such as fresh food, supermarkets and other everyday needs.  Centro describes its operations on its corporate website in two business segments:

1.    Investment Activities, where Centro receives distributions from investments in its managed funds. These funds are diversified funds and property ownership funds.

2.    Services Business Activities, where CNP generates revenue in the form of fees from three main areas: property management, leasing and funds management. CNP provides personnel, systems and facilities to deliver these services.

Earnings

CNP reported a half-year profit of $553.4m versus a $63.2m 2009 half-year loss.  Profitability was driven by $204.9m worth of property revaluation increases and $266.4m of foreign exchange gains. Underlying profit was $48.2m, a drop of 42 per cent from $82.7m in the prior period.

CNP also reported that net cash flow fell from $42.2m to only $4.6m.  Property investment and service business income was $101m and $108.2m for the half-year which was lower for both when compared to the prior period in 2009.

Centro is currently saddled with $18.4 billion of debt, and $5.5 billion due at the end of 2011. CNP is currently undergoing a restructure that involves selling some of its global assets.

Corporate Challenges

Even though Centro’s half-year report was in the black, management reiterated that restructuring CNP was unavoidable due to its capital structure.  Management highlighted the continued deterioration in net cash flow, $3.1 billion headstock debt to be refinanced in December 2011, $16.5bn property assets and $16.0bn debt, as significant challenges facing the company.

The additional challenges was CNP members’ equity of -$1.6bn; exposure to interest rate risk to 66 per cent of headstock debt that is subject to variable interest rates; and foreign exchange exposure.  Lastly, there’s the issue of higher costs associated with its ongoing ligation.

Restructuring

On March 01, 2011 Centro announced that is currently undertaking the following steps as part of its restructuring plan. Subsequently CNP released a news release on March 23 describing the key points of the restructuring plan:

1.    Entered into a binding stock purchase agreement with BRE Retail Holdings, Inc, an affiliate of Blackstone Real Estate Partners VI, L.P. (“Blackstone”) to sell all of its US assets and platform for an enterprise value of approximately US$9.4 billion

2.    Headstock Debt Restructure – Centro has agreed with holders of approximately 73% of Centro’s senior debt (“Senior Lender Group”) to progress a creditors scheme of arrangement to effect the cancellation of all Centro’s senior debt in consideration for substantially all Centro’s Australian assets. The Senior Lender Group has agreed that, subject to conditions (including all relevant approvals being provided for the creditors scheme and the amalgamation described below being implemented, $100 million will be made available for ordinary security holders and other stakeholders who are junior to the senior lenders; and

3.    Discussions of Australian Funds Amalgamation – Centro has entered into discussions with its senior lenders, Centro Retail Trust (CER), and other Australian managed funds with a view to amalgamating their respective portfolios to create a listed fund (“Amalgamated Fund”) owning a retail property portfolio of high quality Australian regional and sub-regional shopping centres. Centro’s share of the Amalgamated Fund would be distributed to its senior lenders as part of the scheme of arrangement described above.

Litigation

The legal action is being led by Smartec Capital, a private company associated with Margaret Lou and other Asian investors primarily out of Hong Kong and China. Smartec is a relatively small Centro shareholder, with a stake of about half a per cent, but is part of the CSA, a group of investors that own more than 11 per cent of the company’s securities. They are challenging the $US9.4 billion sale of CNP’s US shopping centres to Blackstone in the NSW Supreme Court.

Centro Shareholders Association filed for an order requiring Centro to open its books for inspection. If the application by Smartec Capital is successful it could lead to a second action aimed at forcing a shareholder vote under stock exchange listing rules, which give the ASX the power to force a company to seek shareholder approval for significant deals.

Basically, Smartec is arguing that the sale of the US properties is not necessary and value-destroying. Centro is countering that the deal is the best route and possibly the only way to a recapitalisation.

Analysts

Steve Collette of Calibre Investments has a sell recommendation on Centro Properties Group recently commented:

“The company’s gearing has been reduced after the recent sale of US assets. It requested a trading halt on March 24, 2011 pending an announcement. In any case, we believe this stock carries excessive risk relative to any potential return.  It’s one purely for the punters.”

Chart Analysis

The daily chart of CNP has been in a clearly defined down trend over the past nine months – identified by a series of lower highs and lower lows.

Conclusion

Investing in distressed companies is a difficult game to say the least. Not only do investors need to be able to value a company to determine its intrinsic value, one also needs to understand what caused the financial distress and what solutions are available to the company.

Investors need to understand how receivership works, the order of priority for creditors, debt covenants, etc.  Dealing with distressed companies may provide opportunities for some, but to compete with the hedge funds and sophisticated funds that play there, you need to have access to information and must understand the rules to the game.

Factoring the risk reward and complexity of the Centro deal, tread carefully. If excitement is what you’re looking for, then head over to roulette table and put your money on black.

Please note that TheBull.com.au simply publishes broker recommendations on this page. The publication of these recommendations does not in any way constitute a recommendation on the part of TheBull.com.au. You should seek professional advice before making any investment decisions.