Adler - fast forward 2 years - Positioning
All,
Please find our thoroughly updated analysis of Adler here.
We’ve missed the early bird deadline, mostly for the lack of freely available documentation, but we have committed to taking position in the Jan. 26s and will be taking some of the new money too. Some of the position could be replicated by owning shares in Vonovia or LEG, but we think Adler bonds together with New Money should perform better by some admittedly uncertain 25% over the next two years.
Positioning:
We have taken a position in the ADJ Jan. 26s at 42c/€ for 4% of NAV and will be participating pro rata in the new money. We expect to make money/trade well in the 12.5% PIK / 1% OID Super Sr. leg of the trade and to mostly sail sideways in the bonds (setting off some 2% growth and Consus completion against the New Money PIKing from below), assuming no material market improvement over the coming two years.
- Like anyone entering asset-based positions these days, however, we are ultimately more positive than that. At current prices, we are also creating the assets at a discount to Vonovia and LEG and we see significant optionality in bettering the underlying assets.
- Our base case is (has to be) that absolutely nothing will happen at Adler in the next two years, safe for some finishing touches on those projects that are already funded and nearing completion. We are therefore looking straight at the next round of negotiation in 2025.
- Our position in the Consus convertibles has been repaid for approx. 3% of NAV.
It ain’t fair:
- Because under the restructuring proposal the X-Holder group aims to use German bond law to vote each bond separately, the outcome is not required to be equally beneficial to all bonds. Under the proposal, those bonds falling due within the next two years, which need to either extend or refinance, are receiving priority over those that do not.
- This translates their priority by maturity into a contractural priority, which would not happen in a scheme. But once in a scheme, the shortest-dated bond no longer carries that threat of acceleration. In this case (once it was agreed that the 23s needed to be "bought out at par” the 2024s and the Convertibles still carried that threat and so they argue they want to be compensated accordingly.
- Never mind that a significant portion of the New Money will be round-tripping back to the same providers.
2025:
- If nothing else happens, we will find ourselves at the same crossroads again in 2025, having to term out bonds and giving Adler yet more time. Assuming the holders remain largely unchanged, and no major innovation in the jurisdictions involved, the preference should remain to amend the bonds under German bond law.
- However, one difference will be the proximity of maturities of the outstanding debt. With bonds maturing in six-month intervals, we think it will be harder to draw the line between those that should benefit from a better ranking and those that should not.
- Nevertheless, doing a 2.0 sequel of this current transaction, i.e. transferring value again away from the longest-dated to the shorter-dated bonds remains an option and that is why we have chosen to be in a large bond that matures only half a year after the current deal horizon.
- Buying the 2029s today at a 5-point relative discount means buying the risk of being subordinated again for 1/7th of market value today. Even though we think it unlikely, we find the risk somewhat incalculable/terminal/fatal.
Valuation:
- We are valuing Adler’s yielding assets by using the generally acceptable discount rates used industry-wide in H221 and are adding 2% 2022 YTD Bund movement to them. The result is a meagre 61% average valuation compared to BV., which is well below the share prices of the competition.
- As regards development properties, we are valuing the Forward Sales and Build2Sell assets at 87% and 81% respectively, as those will be finished and sold/have been pre-sold.
- We are valuing the Build2Hold assets at an aggregate 49%, which reflects heavy discounts on two assets that will not be developed - at least not by Adler. That is offset somewhat by the strong valuation of two smaller projects in that category which are also set to be finished over the next two years.
- The Upfront Disposal projects are worth 48% in our valuation, in particular, due to their inclusion of a land bank consisting of a number of long-term assets that have neither zoning nor permits and in some cases not even sheep grazing on them. These assets (along with most others) had been bought and then given extreme value uplift on an aggressive residual value methodology that set the snowball rolling in the first place.
Mietspiegel:
- We note therefore that our valuation of the yielding assets is more conservative than that of the riskier and less liquid development assets. One explanation for that is the Mietspiegel - German legislation limiting rent rises relative to inflation. As a result, the income on the yielding assets will be falling in real terms.
- One way to circumvent the Mietspiegel is to refurbish apartments. Following refurbishment along certain criteria, landlords are entitled to raise rent irrespective of this legislation. There are however restrictions in place and management has refused to give further detail on Adler's specific position. We understand the ADO portfolio has a good chance of circumventing these restrictions relative to Vonovia and LEG. This could make parts of the portfolio attractive to buyers - even in this market.
- Notably, development assets - in so far as not significantly pre-leased (not generally the case here) - can command a fair rent whenever they come to market. These assets may need some re-design to cater to a different use profile in some cases, but they are not subject to the real earnings / discounted value reduction that yielding assets suffer from.
- It is worth keeping in mind as well that Germany continues to suffer from a structural shortage of housing. If development stops (it has) because it is unattractive, that will become a political issue and we expect the solution to benefit the landlords, developers and land owners.
Wolfgang
E: wfelix@sarria.co.uk
T: +44 203 744 7003
www.sarria.co.uk