7% of Book Value; 1x EBITDA; Cash is 2.5x Larger than Market Cap

The Wild World of Public Non-Traded REITs

There’s a stock trading at 6% of book value and LESS THAN 1x EBITDA.

This stock trades at 39% of its cash balance.

The company repurchased 20% of its shares LAST YEAR.

But there’s a problem.

I can’t buy it. You probably can’t buy it. But someone is buying it.

I’m writing this post because I want to find that someone.

Before we begin, the security I’m discussing is extremely illiquid. I don’t own this security and nothing I say is financial advice. I’m not your fiduciary. My name is Dirt, and this is the internet.

Highlands REIT, Inc. (Ticker HHDS) was created in 2016 when it was spun out of InvenTrust Properties Corp.

HHDS was formed to hold non-core assets of InvenTrust.

Today, HHDS owns 13 apartment houses, 3 retail properties, 1 office property and 1 correctional facility.

Valuation

Now, let’s play a quick game of Value That Security.

Here are some metrics. HHDS has:

• $205MM of book value.

• $16.7MM of net operating income (NOI) in 2023.

• $17MM of NOI in 2022.

• $85MM of net debt.

• 57% of NOI generated from multifamily assets

What do you think? Is Highlands worth book value? Is it worth half of book value?

If we want to value the business at an 8 cap, the equity must be worth $124MM.

Within the last two weeks, HHDS has been valued as low as $14.4MM.

That’s less than 1x NOI, and 7% of book value.

What the hell?!

Structure

Highlands is a United States based REIT. So by law, it’s required to distribute 90% of its taxable income in order to maintain its favored tax status.

Here’s the kicker, there are no earnings.

Depreciation and SG&A drive GAAP earnings below zero. Importantly, operating cash flow is consistently positive. So the business generates cash while booking a GAAP loss.

But the story gets more interesting.

Most companies valued at $14MM might have a few hundred shareholders of record. Apple is valued at $3.5 Trillion, and it has 23,000 record holders.

Highlands has 143,000 record holders.

What is some tiny REIT doing with 143,000 holders of record?

That’s insane.

Here’s my theory: When Highlands was spun out of InvenTrust, every shareholder was given ownership individually. There are 143,000 separate people/entities that own this stock. And this stock was an afterthought. It was just a few noncore assets being spun out of a $2 billion REIT.

I’m guessing InvenTrust shareholders received their HHDS stock and thought “what am I supposed to do with this?”

Over time, those shareholders have been selling.

With endless supply of sellers, and limited demand from buyers, shares could get crushed. A shrewd investor may do well to scoop up shares on the cheap.

But I’m not the first person to realize this.

Competition for Buybacks

An outfit called Mackenzie Realty Capital (Ticker: MKZR), must’ve realized how cheap HHDS shares were.

Every so often (maybe twice a year) Mackenzie would tender for HHDS shares. These tenders would normally be at the low end of the trading range. But they must’ve worked because Mackenzie kept doing them.

By the middle of 2023 Mackenzie owned several million shares.

HHDS, perhaps wanting to ward off future material purchases by Mackenzie, announced a tender offer in October 2023. While Mackenzie was tendering at $0.04/share earlier that summer, HHDS was willing to pay $0.12 - $0.17/share. What’s more, HHDS was committing $20MM to the share buyback.

HHDS would repurchase 13-19% of its shares if fully subscribed.

A few weeks later, HHDS increased the buyback to $25MM!

In the end, $23.7MM was spent to buy in 169MM shares - nearly 20% of the outstanding share count.

One has to wonder, would HHDS have continued to raise the buyback authorization if it was fully subscribed at $25MM?

HHDS levered up to buy in its shares, but even so, net debt was a mere 26% of gross property value after the buyback. There was obviously 10’s of millions of additional collateral to borrow against.

Dirt Enters the Party

Last fall, when the buybacks were announced, I stumbled across the Highlands saga.

I make my living digging up unknown data points about obscure companies - so HHDS was immediately interesting.

I’m not the sharpest tool in the shed, but even my ass knew I should buy as many shares as possible to sell into the tender.

Shares would regularly tick down to $0.01 or $0.02. I had a hunch management might extend the buyback if fully subscribed, but even if they didn’t, I’d be tendering at a minimum of $0.12. Management was going to buy in 13% of the business, if the tender was fully subscribed. At the low end, I’d have recouped ~80% of my cost basis by selling 13% of my shares. This would leave my remaining basis at an absurdly low price.

So, I set out to get shares.

HHDS showed up as an expert market security, even though it’s SEC registered.

But I found that the traditional expert market brokers couldn’t buy shares.

Then I went to alternative market brokers. They’d be happy to take my money, and told me I could get as much volume at $0.10 as my heart desired.

The problem - my heart didn’t desire shares at $0.10. I wanted them at $0.01 or $0.02.

Dirt Exits the Party

I worked on this project off and on for several months.

I saw what Mackenzie and Highlands management were up to - and I wanted a piece of the action myself. If I were them I would’ve been doing the same thing.

Finally, I hit a wall.

I figured I couldn’t find a way onto this market.

And so now, a year later, I begrudgingly exit the party.

I wanted to keep HHDS and other similar REITs to myself. I envisioned Dirt building up tiny little $20,000 - $30,000 positions in these stocks over a period of years. Value would be unlocked, and one day I’d make several times my money.

But that didn’t happen.

So, I’m telling the story here. And I’m hoping someone out there will read this, reach out to me personally, and introduce me to this world.

I realize this article may be read by a bunch of people, and in doing so, I may ruin someone’s party.

I don’t want to piss on anyone’s birthday cake.

Rest assured, if you read this article, and reach out to me, I’ll be discreet.

Email me at dirtcheapstocks@gmail.com

Lessons Learned

This isn’t my normal type of case study. But it’s the kind of thing I’m interested in. I spend my time digging into companies that nobody cares about. The stories fascinate me.

For investors with a thin wallet, and an enterprising mindset, there is a lot of money to be made. All it takes is endless curiosity and thousands of hours of work.

I’m forever confused by folks who have a million dollars to invest, and choose to buy giant companies.

Maybe there’s a social aspect - people want to talk about their stocks at parties and on the internet. Maybe folks want consensus - two dozen estimates for next quarter’s EPS makes you feel safe.

I don’t know.

What I do know is this - if you’re willing to go to weird places and do real work, there is money to be made.

Maybe it’s not in HHDS, but it is somewhere.

DISCLOSURE: THIS IS NOT INVESTMENT ADVICE. I MAY OWN THESE SECURITIES. I MAY BUY OR SELL THESE OR ANY OTHER SECURITIES AT ANY TIME. I MAY NOT TELL YOU IF AND WHEN I BUY OR SELL. THESE STOCKS ARE ILLIQUID AND YOU SHOULD UNDERSTAND THE IMPLICATIONS OF THAT IF YOU BUY THEM. THIS IS NOT TAX, LEGAL OR FINANCIAL ADVICE. I AM NOT YOUR FIDUCIARY. THIS IS THE INTERNET AND YOU’RE LISTENING TO A GUY NAMED DIRT.