Alesco Agony Reaches a Crisis Point

With the seizure of Indymac Bancorp, Alesco Financial's (AFN) CDO agony has reached a crisis point. Alesco reported that the seizure of IndyMac will cause AFN to record a realized tax loss of approximately $86 million. The realized tax loss is expected to significantly offset AFN's expected 2008 taxable income including the non-cash income relating to the CDOs that are failing overcollateralization tests as of June 30, 2008.

In addition, subsequent to the original IndyMac deferral, four additional banks elected to defer interest payments on their trust preferred securities, which has resulted in the failure of overcollateralization tests in two additional CDOs in which Alesco holds equity interests. That makes six failing CDOs in the AFN portfolio.

Without taxable income, Alesco can remain a REIT for the remainder of 2008 without a dividend obligation. However, as its portfolio of CDOs continue to crumble, one has to wonder if Alesco's business model can remain viable.

Disclosure: none

Comments

[Jim Lawrence:]

Read your article about AFN, and first I want to thank you for the coverage you have given shareholders on AFN over the past year. You have helped me to decide to stay in the stock. I am very concerned now about the position AFN is in. However, I am considering the management at AFN. Though they have been very evasive on their web site, they have been vigelant in their decisions. Plus I still don't see any inside trading...I think I will still hold for the dividend cut, and the chance for stock price to increase.

2008 Jul 16 08:44 AM

[Smooth Jazz:]

Good points, but you didn't mention that the failed CDOs only hit 41% of their taxable income, suggesting the last 2 CDOs are much larger contributors that the 2 that are offline. In other words, 59% of their taxable income (approx 50cents per year) are still coming from contributing businesses, a nice chunk of income for a $1 stock with over $100M in cash.

And while you noted that the $86M was a tax loss, you didn't mention the fact that this allows them to save on paying out cash for "Phantom Income". Or that they are no longer subject to counter party risk on that cash. Finally, you failed to note that AFN has over $100M unrestricted cash, $88M of restricted cash available for additional investments, a viable CLO generating approx 24cents in income per year, and no short term recourse debt.

If they had recourse debt and facing imminent firesales into this market, I would agree with you that they faced an imminent crisis. While the TruPS business broken is broken, their huge cash position provides a significant cushion.

2008 Jul 16 10:55 AM

[helplessobs...:]

Great article and great comments. Maybe this is a diamond in the rough.

2008 Jul 16 11:57 AM

[Patrick Harden:]

Smooth, good points. I guess my point was more to illustrate that the TruPS model they are using is pretty much broken at this point. Unfortunately the stock is getting hit hard today as a result of last night's disclosures. I do like AFN management and I do support the Cohens in general (author is long RAS).

2008 Jul 16 11:58 AM

[copesetic:]

Rait(ras) should buy Alesco,the synergy is palpable and nobody would have to move !(there are in the same Building)-long AFN

2008 Jul 16 01:02 PM

[sr9web:]

In a less hectic market environment, AFN would not be boxed into a corner like this. And, having looked into to it, I am persuaded that the portfolio AFN owns will have considerable value down the road. However, it would seem that this stock is going to scrape bottom for the next 3-6 months minimum. After that, I believe as AFN adjusts its portfolio from it's current composition to a more fruitful mix, this nadir will pass and things will improve. Having said that, one wonders if there will be any more dividends - the recent portfolio changes could send that either way. My guess is there will be only two modest ones of about .10 each this year - but beyond that - who knows? Less than this, and virtually everyone might head to the exists. More than that and cash which could be better used elsewhere is squandered. Based on the current cash position, it would seem that there is no question that AFN will be fine regarding the 2012 convertible debt. That said, some clarity regarding dividends over the next 6 months would help fence sitters like myself evaluate more clearly the merits of holding this name. If I had to guess, I'd say that AFN will make it through this and 6 months from now, will definately have more value per share than is evident today. Whether or not one wants to come along for the ride between now and then, is an open question. For me, this name now a bottom fishing play - and I'm not ready for any more of that quite yet.

2008 Jul 16 01:19 PM

[Smooth Jazz:]

<I guess my point was more to illustrate that the TruPS model they are using is pretty much broken at this point. Unfortunately the stock is getting hit hard today as a result of last night's disclosures. I do like AFN management and I do support the Cohens in general (author is long RAS).>

I hear you. The TruPS model is DEFINITELY broken. In a Seeking Alpha post yesterday, Prudential Speculations described some possible scenarios for them going forward including focusing on the leveraged loan franchise they have built, DeREITing and using the cash to rebuild the platform around something other than bank TruPS. Btw, RAS (common and the PFD B & PFD C) is my largest holding in the REIT space. Your Mortgage REITs journal is a fantastic blog and I check in often. GL to you.

2008 Jul 16 01:51 PM