Crossroads Capital: Liquidation Could Lead To Big Returns

| About: Crossroads Capital, (XRDC)

Summary

Over 50% upside using conservative assumptions.

BDC trading at a deep discount to NAV, with over 70% of the market cap in cash.

At this valuation, a lot can go wrong before you lose money, and just a little bit going right can result in potentially large upside.

Crossroads Capital (NASDAQ:XRDC) is a BDC trading at a deep discount to NAV, with over 70% of the market cap in cash. The current management plans to sell investments and distribute cash to investors. Upside is over 50% if one uses modest assumptions about value realization.

The Simple Math

Market Cap: About $20 million (about $2/share)

NAV: >$50 million (>$5/share)

Net Cash: About $14 million (about $1.45 per share).

The non-cash assets are mostly tech company equity, and of course GAAP Level 3, so one shouldn't use full NAV as a base case. Some of the largest exposures include online dating site Zoosk, HR software as service company SilkRoad, "digital lifestyle media company" Mode Media, and molecular diagnostics company Metabolon. There is a very low probability of any near-term glorious IPO exits of these companies (although the portfolio was mostly assembled under Timothy Keating, an experienced venture capitalist, so they're probably not all duds either). Zoosk did terminate its IPO due to unfavorable market conditions recently. The current market price of XRDC seems to imply absolutely zero chance of any upside in the equity positions. Crossroads Capital has written down some investments, and fair value is marked at about 94% of the cost of its portfolio. Also note, about 71% of the net assets are "restricted securities," (see footnote 2 on page 8 of latest 10-Q), so a liquidation is unlikely to be quick and easy. Fortunately, the new management is well known for cost control, so it's also unlikely much cash will be wasted if the process drags on.

At this valuation, a lot can go wrong before you lose money, and just a little bit going right can result in potentially large upside. For example, if investors get 75% of the cash and 50% of the fair value of other investments, the upside is over 50% for investors at the recent price of $2/share.

The Messy Backstory

Crossroads Capital can be found in a capital markets trash dump on the outskirts of the former Nick Schorsch/American realty capital empire. It changed its name and stock symbol twice in as many years (formerly BDCA Venture, formerly Keating Capital).

Then known as Keating Capital, it started out as a non-traded offering, and listed on NASDAQ in late 2011. They did make some savvy pre-IPO investments. However, the stock price didn't perform too well, and it didn't have economies of scale. Getting deleted from Russell Microcap index in Summer 2014 certainly didn't help, but it was far from the only problem. The external BDCA Adviser was sold to an AR Capital affiliate. Among the reasons cited by management were "opportunities available from being a part of a larger platform, and "the reputation and experience of BDCA Adviser and AR Capital." AR Capital and its affiliates sure did have a reputation and experience in aggressive capital raising (to put it politely). Keating Capital changed its name to BDCA Ventures (indicating it was managed by the same group as the other BDCA non-traded REITs). However, a series of unfortunate events occurred, starting with an accounting scandal at an affiliated company. It was not good timing for joining up with AR Capital. Performance and stock price languished while management continued collecting proportionally large fees without doing much, until activist Bulldog Investors took a position.

Enter the Bulldog

Bulldog Investors originally invested because they were fans of Keating's capital allocation skills. They started with a 13G (passive) in December 2014, then switched to a 13D (active) in March 2015, and included a polite letter which managed to weave in references to Robert Burns, Kenny Rogers, Steve Mcqueen, and John Maynard Keynes in under two pages. Management basically stonewalled them and ignored their suggestions. Bulldog Investors kept buying shares, and had to file a complaint against the board of directors in court just to solicit proxies, but they ended up successfully getting board representation and implementing a shareholder value maximization plan (read: liquidation or sale). Shortly thereafter, the new board terminated the management agreement with the external AR Capital affiliated adviser. (Sidenote: Affiliates of the dethroned management allegedly committed proxy fraud at another fund).

On January 25, 2016, management released an 8-K confirming the plan to sell portfolio investments and distribute cash. Additionally, they also increased the size of share buybacks.

Now Crossroads Capital is in good management hands and in the process of liquidating/looking for buyers. An orderly sale of the portfolio involves significant uncertainty, and will probably entail oddly-timed cash flows, but the simple math makes the risk/reward quite favorable for a total return focused investor.

Disclosure: I am/we are long XRDC.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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