A Case for Liquidation of REIT SuperTel Hospitality

Includes: CDOR, GGP
by: Tim McPartland

SuperTel Hospitality (SPPR) has been one of our favorite little REIT's over the years and we have owned both the common and preferred shares at different times, but it appears they have now about reached the end of the road.

Headquartered in Norfolk, NE. they own Super 8's, Comfort Inns, Hampton Inns and other economy level motels -- most deep in the heartland with many in very small towns.

Back in 2006 and 2007, the company was on the acquisition trail with bunches of additions to their property portfolio during these years. It is our belief that when funds were flowing freely and occupancies were high, the company got a bit ahead of themselves and their ability to find and purchase attractive properties got increasingly difficult. In the end they purchased poorly performing motels and they now are paying the price.

(Click to enlarge)

We had anticipated that SuperTel would have their house in order by the 1st quarter of 2011, but with their recent earnings release, we think that not only were we too optimistic, but it would appear that the curtain may soon be drawn on the company. The company has sold some properties and has 16 properties currently offered for sale -- nothing appears to be improving company performance.

The chart below shows some basic information on the company. As you can see they not only don't have net income (not unusual for REIT's), but they don't even have a positive Funds From Operations (FFO). Note this chart shows the consolidated information for the company--while they are now separating properties into 'continuing operations' and 'discontinued operations' (properties held out for sale) in their reporting.

Historical SuperTel Hospitality Data

Year End 12/31 Properties Revenue Net Income Funds From Operations Div/Sh Debt/Equity
2006 88 77M 3.7M 11.1M .365 1.0
2007 115 112M 4.1M 15.4M .4625 2.2
2008 123 125M 7.3M 14.9M .51 2.3
2009 115 105M -28.9M -16.9M 0 2.9
2010 106 102M -12.1M -1.7M 0 3.2
3/31/11Q 105 22M -3.7M -1.1M 0 3.4

Obviously performance isn't getting much, if any, better. We have been in an economic recovery for a year or so and there is no improvement. Normally with a REIT you might be able to look forward to when the poorly performing properties are gone and conclude that there are brighter days ahead. That isn't the case here. Of the companies 105 properties 16 are for sale -- and removing these from the 1st quarter numbers does NOTHING to help results.

This chart shows the continuing operations (properties not for sale) for the 1st quarter ending 3/31/2011 as compared to a year ago.

Quarter Ending 3/31
Quarter Avg Daily Rate % Occupancy Rev Per Available Room
2010 $45.65 55.6% $25.39
2011 $46.58 55.7% $25.95

Essentially no improvement in the last year -- and these are the good properties (supposedly). A futher analysis shows that the 'continuing operations' performed worse than those held out for sale.

In January, 2011 the company had to borrow $1.95M to fund operations. In March, 2011 waivers and amendments to loan covenants had to be obtained from lenders -- some of these extending maturities of debt. The company has approximately $77M of debt maturing in the next 18 months. We have seen this scenario play out before (with other companies) where amendments and waivers keep being made until 1 of the lenders stops the music. This was the case with giant REIT General Growth Properties (NYSE:GGP) in 2009 and they had decent FFO even as they entered Chapter 11 -- that isn't the case here. Without improving financials in the immediate future we believe it is likely that SuperTel will end up being liquidated (or at a minimum filing Chapter 11 and reorganizing).

The company has a couple of long shots to either dodge this bullet or at least forestall potential liquidation.

The company has stated (reference the above 1st quarter report link) they will likely need to sell common shares or debt. Given that it is not highly likely that they will be able to borrow -- a common share offering is more likely -- but selling equity when you are a $1.40/share company is not a real attractive alternative. This would be highly dilutive to current holders and in the end will not be helpful, given the poor ongoing performance of properties.

The second long shot is that the 2nd and 3rd quarters show terrific turnarounds from last year when financials were anemic. We think with $4/gal gasoline the odds of rural motels performing well grows dimmer by the minute.

Here's how we think events may play out for SuperTel

Preferred stock dividends could be suspended anytime - -it could happen very soon as the company is borrowing to fund operations and we believe it is likely they will suspend to save cash. This would save the company $1.5M annually.

If 2nd and 3rd quarter FFO remain as poor as they have been in the last couple of quarters and there are no buyers for properties at values the company needs to survive (pay off debt) the company will end up selling properties at prices at or below the level of debt owed on them. The longer gasoline remains at $4/gal the less likely there are many buyers ready to pony up decent prices.

Assuming that SPPR can make it until September they will then have $5M of debt that must be refinanced--and then another $14M will mature before year end. Unless 2nd and 3rd quarter FFO is tremendously better than recent history 1 of the lenders may refuse to refinance debt -- or even to extend it -- this would cause an immediate default and Chapter 11 filing. All common and preferred holders would likely lose 100% of their investment

At this point in time the company must make a decision whether reorganization is even a reasonable option -- or if given the poor performance of the properties if it is just better to fire sale the properties and lock the doors. It is likely to be years before the company will be productive (paying dividends).

What do we think are the odds the above wil play out? We think 50/50 (although we really see nothing to think that it won't happen). We do know one think for sure -- we will not be investing in SPPR or any of its preferred shares in the near future.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.