Pennsylvania Real Estate Trust - CRE Short of the Year Foreclosure Scenario

This is part five of my forensic rant on what I believe to be the CRE Short of the Year and the dead REIT walking known as PEI. If you haven't yet read parts one [8] or two [9] or three [10] orfour [11], they are necessary in order for you to get the full picture. In the spirit of full disclosure, although BoomBustBlog is a subscription research site, I'm releasing this fee-only proprietary content for two reasons:

1. the share price has risen materially since the research was released, primarily due to the fact that so very little has been done to shed light on this company's true financial situation, and
2. this gives us a prime opportunity to once again demonstrate the thoroughness and rigor of BoomBustBlog forensic analysis.

If we look at PEI's response to the current weak macro economic environment, they are extremely defensive. Defensive - due to the reason that they realize where they stand. There has been no real capex over the last few quarters and (as I mentioned earlier conversations wiht clients) their strategy is to survive - moreso than to move ahead and fight with minimal odds. The mounting loan obligations and their struggle to fight each quarter is evident.

On top of this, a few of the properties have either been sold or have been used to raise mortgage finance, further making it tougher for the future years. In addition, the capacity to raise financing will dry up as all the properties stand 'effectively mortgaged' currently. Any imbalance in managing loan payouts can have a ripple effect. It will be interesting to see if the company manages to come out of it and if so, how it will do so. One thing for certain, with 3 senior managers getting a roughly $6 million slice of the cash flow pie while shareholders enjoy a mere $2 million slice in dividend increases, not only is there a lack of effective shareholder activism, but management appears to be ready, willing and able to drain the company's coffers via executive compensation faster than through cash return to shareholders. For a REIT whose mantra should be investor income, one would expect this to raise eyebrows at the very least.This REIT resembles the business/compensation model of Wall Street banks where employee compensation trumps ROI to investors as a corporate goal.

Subscribers, please refer toPEI Cashflows and Debt Preliminary Analysis [12]andPEI Sample Property Valuation [13]for the background to this document which is the 2^ndof 3 scenario analyses that detail the likely potential bankruptcy of PEI. Those who are interestedmay subscribe to our research here [14].

Scenario II : Foreclosure of properties

In this scenario we assume that the Company would go the “Jingle Mail” route through allowing foreclosure on some of its properties, particularly those which have loans due for repayment in the next couple of years (2012-2014).

We looked at the portfolio of 27 properties that we valued and screened them to find out properties that are likely to have loans that would incentivize foreclosure. Below is the table showing such properties:

We assume that in 2012 the company willpossiblyface foreclosure on (1) Beaver Valley Mall and (2) Cherry Hill Mall. The total amount of loans due on these properties in 2012 is USD 278 mn.

The following is likely to be the impact on revenues and operating expenses and net profit

Following is likely to be cash flow situation during 2012

If the company forecloses both its properties having loans due for repayment in 2012, itmayjust be able to meet its loan obligations for 2012. However, this is going to have a cascading impact on the company in the form of the following:

1. Interest rates on its existing debt will increase. As of now, in our assumptions for financial projections (below) we have assumed a reasonable increase of 120 bp, on average, for the company from around 6% currently.  This has materially increased its interest burden and its financial performance will deteriorate in kind.
2. The Company has close to USD 443 mn and USD 140 mn in loans due in 2013 and 2014, respectively. A foreclosure scenario will make it almost impossible (considering its already stressed financial situation) for the company to refinance such loans or extend their maturity. The Company with the current deteriorating operating performance will be under more stress to refinance its obligations.
3. The covenants under the revolving credit facility were recently revised under a modified agreement between the Company and the Lenders’ group led by Wells Fargo Group. Most of the revised covenants are considerably more stringent, making it highly unlikely the company will continue to have the credit facility under the agreement if the solvency ratios and interest coverage requirements are not met. These covenants are likely to be infringed if the interest rate on property loans is increased.

Projected Financials statements are furnished via the full foreclosure scenario document - Foreclosure Scenario Analysis (Commercial Real Estate) [15]. Click here to subscribe [14].

I will continue this analysis in several other separate posts - there's a lot more material to cover, nearly all of it drastically negative!!! In the meantime and in between time I'm available to discuss the finer aspects of the analysis in the subscriber retail investor's discussion forum [16] and individual property valuation discussions and higher end questions will be answered in the professional/institutional discussion forums. I will also be available to chat there as well.

The complete REIT analysis referred to in the chart can be found here for subscribers [14] (the property by property valuations are for Professional/Institutional subscribers only):

•  Fire Sale Scenario Analysis
  (Commercial Real Estate) [17]
•  Foreclosure Scenario Analysis
  (Commercial Real Estate) [15]
•  Sample Property Valuation
  (Commercial Real Estate) [13]
•  Cashflows and Debt Preliminary Analysis [12]