Carpathian plc’s prime Polish property investments are currently up for sale. There should be a substantial return of capital coming to Carpathian’s shareholders soon. The shares are trading at a 64% discount to their underlying value and Activist Hedge Funds Weiss Asset Management and Laxey Partners and their clients have increased their stakes in July 2010 to 21% and 39% of the share capital.
Carpathian was established in 2005 to invest in Central and Eastern European commercial real estate. Carpathian’s primary focus was to be on shopping centres, supermarkets and retail warehouses in Croatia, the Czech Republic, Hungary, Poland, Romania, Lithuania and Latvia. Carpathian was admitted to trading on the AIM in London in July 2005. The company’s shares are listed on the London AIM Market and can be found under the Bloomberg ticker CPT:LN
The PROPERTY PORTFOLIO
The portfolio is divided into the Core investment Property Portfolio (“Core”) and the Non-core investments which comprise development properties and other areas.
THE CORE PORTFOLIO
The Promenada Shopping Centre in Warsaw comprises over 55,000 sq m of prime retail and office space. In 2009 Promenda had a gross lettable area of 53,472 sqm and net operating income of €10.0 million. Our local contact told us that the Promenada shopping mall was one of her favourites. She described it as a very good location, with a successful mix of mass market offers and more sophisticated brands, which is often pretty tricky to achieve. The two malls, which she likes the most in Warsaw are Promenada and Galeria Mokotow, although the latter is smaller than Promenada. Promenada had a valuation at 31st December 2009 of €157.5m. The debt due on Promenada at 31st December 2009 was €102.5m. Net equity therefore in property would have been €55m.
Carpathian acquired another company in June 2009 called Poldrim for €6.2 million in cash. Poldrim owns a 5,500 sq m plot of land comprising 2,300 sq m of existing retail space anchored by a Go Sport unit and 61 car parking spaces. Poldrim has an annual net operating income of €450,000, giving a yield on acquisition of 6.9%. The property adjoins and completes the ownership of the Promenada shopping centre.
“Agrokor” is located in Croatia and had a valuation at 31st December 2009 of €46.0m. The debt due on Agrokor at 31st December 2009 was €40.1m. Net equity therefore in property would have been €5.9m. The properties are let to Croatia’s largest retailer Konzum. In 2009 Agrokor had a gross lettable area of 31,647 sqm and net operating income of €4.3 million.
Gdansk/Osawa is located in Poland and had a valuation at 31st December 2009 of €32.5m. The debt due on Gdansk at 31st December 2009 was €21.2m. Net equity therefore in property would have been €11.3m. In 2009 Gdansk/Osawa had a gross lettable area of 13,167 sqm and net operating income of €2.9 million.
Lodz/Tulipan, Poland, had a valuation at 31st December 2009 of €29.0m. Debt due on Lodz at 31st December 2009 was €15.8m. Net equity therefore in property would be €13.2m. In 2009 Lodz/Tulipan had a gross lettable area of 9,621sqm and net operating income of €2.5 million.
Total equity in the core properties included above is €85.4m, which represents 89% of the equity in the €96.1m Core Portfolio. The net operating income (“NOI”) of the above came to €19.7m and also represented 89% of the total NOI of €22.0m on the Core Portfolio Investment Properties.
The core properties in Hungary and Romania are experiencing operational difficulties, which are typical of the problems experienced by the whole retail sector in those two countries, which have been severely hit by the economic crisis. The Antana Logistics Park in Budapest, Hungary is one of the biggest properties in the portfolio with a gross lettable area of 36,997 sqm, but only has a NOI of €0.5 million, due to a 50% fall in income as a key tenant moved out in February 2009. Likewise the Macromall in Brasov, Romania, has a gross lettable area of 7,489 sqm and a low NOI of €0.6 million.
THE NON-CORE PORTFOLIO
Post the 2009 year end, the Company disposed of the Arad development project and Cluj development site in Romania. The valuation of these properties was €27.3m and the loans were €47.9m. This sale effectively marked Carpathian’s withdrawal from the development sector and the removal of €48m of loans from the balance sheet after 31st December 2009.
The remaining development projects were Riga, which was nearly finished construction, being due for completion in September 2010, and the Baia Mare and Satu Mare land plots in Romania, which were to be disposed of. These three developments had a valuation of €58.5m at 31st December 2009 and €39m in outstanding loans. The net equity therefore was €19.5m
The third part of the non-core portfolio was the problem area, as it contained the Plaza Portfolio in Hungary, which is a country with huge economic problems. The loan value of the Plaza Portfolio is €42.1m, whereas the latest valuation is only €32.9m. The loan on the property was effectively in default at 31st December and the equity was negative in the amount of €9.1m. These centres suffered from high vacancy (20%) and a service charge losses (€0.75 million per annum), so during the first quarter of 2010, Carpathian decided to de-recognised this portfolio and the financing bank took over the properties.
The remainder of this part of the non-core portfolio comprised the “Point Portfolio” in Hungary/Czech Republic and “Bibilonas” in Lithuania with valuations of €52.5m and €22.5m respectively. The loans outstanding had about the same values.
CARPATHIAN’S FINANCIAL STATEMENTS for 2009
There are 232.1 million shares in issue and the market Capitalisation of Carpathian plc based on €0.25 share price is currently €58m. Looking at the last set of published results from Carpathian, at 31st December 2009 the net assets were €75.7 million, or €0.326 net assets per share (“NAPS”) (2008: NAPS were €0.821). There was cash at the bank of circa €40m. The borrowings due in under one year were €102m. The borrowings due in over one year were €262m. €275m, or 70% of debt was re-scheduled in 2009. The bulk of the assets were in Investment Properties, held on the balance sheet at €453m. From 2008 to 2009 there was a net cash outflow of €20.6m. However, the net assets fell a whooping €115m, from €191m to €76m, as the Eastern European Investment portfolio was written down.
Based on a valuation by Property Valuers Colliers, there was a negative fair value adjustment of €56.7 million made to the investment and development portfolio. This comprised an uplift in value of €6.5m relating to the core portfolio and a reduction to the non-core portfolio of €63.2m.
A further impairment loss of €32.3 million was recognised in relation to loans receivable from a joint venture holding a Riga development. This was to reflect the present market value of this investment, which had been hit like all investments in the Baltic States.
Analysis of the yearly change in NAPS must also take account of a dividend of €4.5 cents per share paid in January 2010. It is worth noting that the company reneged on its statement in May 2009 to issue further dividends to bring the total up to €9.2 cents per share by May 2010.
In their 2009 Overview the company stated that: “2009 has been a year of relative stabilisation. After 18 months of virtually frozen property markets within the CEE region, we now observe the return of genuine investment buyers in addition to the opportunistic “vulture” vehicles.” It’s ironic that it is the vulture vehicles are causing management to act and release shareholder value and that a Board which has just written €100m off its balance sheet is casting stones at opportunistic hedge funds, which are creating liquidity for them.
The good news about the property portfolio is that 71% of the equity value is located in the strongest CEE market, i.e. Poland, which was Europe’s only major country not to enter recession.
The total portfolio valuation is €488.2m (2008: €528.3m). Of this €352.9m is classified as “core assets” (2008: €345.3m) and €135.3m as “non-core” (2008 €145.39m).
The company stated that income collection within the core portfolio was good – being 96% and that vacancies were 7.4% by rental value. That number sounds much lower than the 10-11% number being cited for US malls and we wonder if the weighting using rental values gives a true reflection of the state of affairs.
CURRENT TRADING AND PROPERTY SALES
On 27th July the Board of Carpathian plc made a surprise announcement, especially given that it was just 10 days before its AGM. They stated that two potential sale transactions were currently being explored. The first was its “Blue Knight Portfolio” of provincial shopping centres across Poland which was under offer for sale. The second was the prime shopping centre asset of Promenada, in Warsaw, for which one party had been selected as a potential buyer. They stated that due diligence could typically take several months before any conclusion is reached. The prices offered were close to the 2009 year end valuations.
The Board added that the trading performance of the portfolio were in line with expectations. However, Macromall in Brasov and Antana Business Park in Budapest continued to struggle with low occupancy levels.
We contacted a local Romanian stockbroker who lives near Brasov. She knew Macromall and described it as being relatively small, but she added that Brasov was a great town and that the people were well and that the purchasing power was above average. We can only conclude that something has gone wrong with the management of the Macromall investment, although the original choice of the Brasov location was correct.
CARPATHIAN’S ADVISER
CAM is the Property Investment Adviser to Carpathian. CAM and its parent company CPT LLP are responsible for managing the core portfolio of assets and transactions within Central and Eastern Europe. The Investment Adviser’s contract was recently replaced and will expire on 31st December 2011. This contract was structured to provide a performance incentive CPT LLP to implement sales to return best value to the shareholders.
The agreement with CPT LLP involves a capital performance payment based upon actual cash available for return to shareholders. CPT LLP receives 10% of any return above a distribution to shareholders in excess of a €17.25 cents per share and 25% of any returns to shareholders over €34.5 cents per share. The effective hurdle is set at €36.4 cents to allow for a capital performance payment. It’s also noteworthy that the capital performance payment shall be payable in cash. We are not impressed by the terms of this agreement, as management have written down the assets by over €100m in 2009 and now expect to be paid a bonus of 10% of those values, if they are realised in cash. It’s clear why the activist shareholders like Laxey Partner and Weiss are moving in.
POSSIBLE TAKEOVER BY LAXEY
It appears that Carpathian plc are getting ready for a share buyback. The pressure from activist Hedge Fund Laxey must be working.
On 14th July 2010 Carpathian PLC gave notice of its Annual General Meeting, as well as a surprise announcement of a possible return of surplus Cash. The AGM was held on 6th August 2010. The Board concluded that it is in the best interests of the company and shareholders to propose a scheme by which cash could be returned to shareholders, although the timing and order of disposals was uncertain.
The company previously announced that it would distribute excess cash to shareholders where possible. Now the board has established a scheme to return cash to the shareholders in a flexible form. They are doing this in advance of realising the value of the portfolio. The intention is to enable the board to generate and payback the excess cash from portfolio sales, without having to convene any further general meeting of the shareholders.
The board proposed a structure to allow future cash distributions by the company to be effected by the bonus issue of newly created classes of shares, to be issued pro rata to shareholdings when the company is in a position to return cash to Shareholders. This will be through either a share buyback or dividend, at the discretion of shareholders.
The sudden willingness of Carpathian to communicate with their shareholders, in their Trading Update on 27th July, may be related to the activist Hedge Funds moving in as we had anticipated. Weiss Asset Management LP increased their holding on 20th July 2010 from 35 million 49 million shares representing 21.1% of share capital. The Weiss announcement came just weeks after Laxey Partners stated on 6th July that the funds under the discretionary management of Laxey Partners Ltd had risen above 27%. The share price moved up strongly in anticipation of some action at or before the AGM on 6th August, but nothing happened at the AGM.
Laxey Partners Ltd disclosed that it had increased the funds under its discretionary management to 66,281,742 ordinary shares, representing 28.55% of Carpathian’s share capital on 24th September 2010.
WHAT IS CARPATHIAN WORTH?
The most up-to-date valuation of Carpathian’s portfolio was disclosed in the accounts for the year ended 31st December 2009. At that date the company had at a net asset value per share of “NAPS” of €0.32.
During the first quarter of 2010 Carpathian de-recognised the Plaza Portfolio in Hungary and the financing bank took over the properties. The loan value of the portfolio was €42.1m, whereas the valuation was only €32.9m, giving a negative equity of €9.1m. This equates to a saving, or addition to NAPS of €0.039.
The other relevant post-balance sheet event was the company’s disposal of the Arad development project and the Cluj development site in Romania. The valuation of these properties was €27.3m and the loans were €47.9m. This sale removed the loans from the balance sheet after 31st December 2009. The addition here to NAPS was €0.089.
The NAPS, adjusted for both transactions since 31st December 2009, would be €0.448. The performance fees of the portfolio manager CPT LLP for realising this value would be 10% of any return above €0.1725 per share and 25% of any returns to shareholders over €0.364. Therefore fees to CPT would amount to €0.039 per share, leaving €0.409 for shareholders.
The board stated on 27th July 2010 that both the “Blue Knight Portfolio” of provincial shopping centres across Poland and the prime shopping centre asset of Promenada, in Warsaw, were for sale and that one party has been selected as a potential buyer for Promenada. They added that the prices offered were close to the 2009 year end valuations.
At 31st December 2009 Gdansk/Osawa had a net equity value of €11.3m, whereas Lodz/Tulipan had a net equity value of €13.2m. The company’s crown jewel Promenada had a net equity valuation at 31st December 2009 of €55m. Therefore these three Polish investments had a collective value of €79.5m or €0.34 per share.
CONCLUSION
The shares are currently trading at €0.25, whereas the net assets per share, adjusted for transactions after 31st December 2009 and potential fees to the asset manager CPT, is €0.41. This represents a potential upside of 64%. This is why Weiss Asset Management increased their stake to 21% of the share capital, as recently as 20th July 2010, and Laxey Partners raised their interests and those of their clients on 2nd July to 39%.
The Polish investments are currently up for sale. These are quality portfolio investments and they alone should quickly recoup 84% of the NAPS, which means that a substantial return of capital is coming to Carpathian’s shareholders soon.