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As my readers should have gathered from my previous posts, I believe GGP is running into a cash shortfall over the next three operating years. Roughly 5% of their properties are candidates for foreclosure, due to LTVs in excess of 100% (basically, underwater) or sparse to negative cash flows. To further illustrate this point, I have carried out a GGP valuation under the additional two scenarios - 'Foreclosure' and 'Sale of unencumbered properties to meet financing requirements'.

 Foreclosure of properties

Since most of the GGP property specific mortgages are on a non-recourse basis, it actually stands to gain on foreclosure of its highly leveraged properties as the value of these loans are considerably higher than the value of the properties. Since these highly leveraged properties are primarily a drag on company’s overall valuation, the company’s valuation stands to gain on foreclosure of these properties despite taking into consideration additional cost of borrowing (even assuming a 300 basis point increase in the interest cost on refinancing). In view of the fact that GGP would still have to raise additional finance after allowing foreclosure, GGP may opt not to foreclose its properties and instead may sell some of its properties to re-pay its upcoming debt obligations.

 

The following is an extract from GGP’s 3Q2007 earnings release highlighting that GGP itself considers the foreclosure option under its non-recourse mortgages as a valuable benefit:

 

 

“But yet, the fact that we use primarily non-recourse mortgage debt, which is a different tack than some of the larger REITs who use unsecured debt as their principal source of debt capital, is in our view something that has always been undervalued or underappreciated in terms of its significance. We don't expect ever to default on a loan, but that is the benefit of the bargain you make with the lender. That's the definition of non-recourse. And if there was a property with a loan maturing that was worth substantially less than the loan amount, it would certainly be something that we would have the option to do without doing anything that's inconsistent with the arrangement that we made. So as I said, I don't expect we'll ever do it, we don't anticipate ever doing it. But I think the fact that you could do it if there was a serious problem with a particular asset is a valuable benefit.” Bernard Freibaum - General Growth Properties Inc - EVP, CFO

 

 

Sale of unencumbered properties

 

In case the company sells a few of its office properties to re-pay its debt, there is no impact on valuation since the benefit from interest savings will be more or less offset by loss of present value of properties sold. Moreover, since re-paying debt through re-financing additional debt or through sale of its properties is more of a financing decision (and not an operating decision) there will be no significant impact on the company’s valuation as such.

 

Foreclosure of properties scenario

In light of tightening liquidity conditions under the current credit market scenario, we believe that GGP might find difficult to raise additional financing. In order to meet its financing needs, GGP may have to allow foreclosure on some of its highly leveraged properties. The following parameters were used to identify the list of properties likely for foreclosure:

·         Properties with huge amount of debt outstanding maturing over the next 2-3 years

·         Properties with high LTV (greater than 100%)

·         Properties with low cap rates


Based on these three parameters, we have identified a list of 12 properties which are likely to be foreclosed amongst the GGP's portfolio of
approximately 260 properties. To accurately reflect the additional cost of borrowing due to negative market sentiments owing to foreclosures of above properties, we have increased the cost of additional borrowing for GGP by 175 basis points to approximately 7.5% (under the base scenario).  To reflect additional penalty for foreclosure, we believe that although GGP would gain on foreclosure of these properties by not having to re-pay its excess of loan over present value of properties, GGP would face difficulty to meet its refinancing needs. As a result, we have assumed that GGP will have to sell some of its unencumbered properties to generate enough cash refinance its debts due for repayment – this is in addition to allowing the properties to foreclose.

We have assumed that GGP will be able to sell these properties at a discount of 15% owing to few buyers for retail shopping centers in the current market scenario. We have also considered 8% cost on sale of properties.

In addition to an increase in interest rates and sale of unencumbered properties, in the model we also have reduced GGP's expansion and
re-development plans which would further reduce the need for additional financing, but will also limit future NOI.

Based on the above analysis, GGP's valuation under 'foreclosure' scenario is approximately $20.6 per share (on CFAT basis) versus previous estimates of $28.4 (reference the foreclosure analysis chart below).

Sale of unencumbered properties

Under the scenario of 'sale of unencumbered properties' we have assumed that GGP will have to sell a few of its office properties to meet additional financing (there are reports of 2 of their office properties up for sale).  Again we have assumed that GGP will have to sell these properties at a discount of 15% and incur 8% cost on sale of properties.

Based on the above analysis, GGP's valuation under the foreclosure assumption came to approximately $25.30 per share (on CFAT basis) versus previous estimates of $28.4 per share (please refer sale analysis chart below).

The Numbers as We See Them…

The new valuation numbers, assuming recession and assuming GGP either sells off assets and/or allows foreclosure.

Summary of GGP Valuation (Base case assuming recession)

 

 

 

 

$ mn except per share data

               

 

 

       

Recession

 

Base Case

 

Optimistic Case

NOI Basis

               

 

Consolidated valuation as per Portfolio Valuation

$28,903

$29,487

$30,872

less: Debt

     

($24,074)

($24,074)

($24,074)

Estimated value using PV of NOI basis

 

$4,829

$5,413

$6,798

Add: PV of other income

     

$2,289

$2,412

$2,572

GGP's estimated market cap (NOI basis)

 

$7,118

$7,825

$9,370

 

           

No of shares

     

243.8

243.8

243.8

Estimated share price ( PV NOI basis)

 

$29.2

$32.1

$38.4

 

           

Current share price

     

$36.4

$36.4

$36.4

Upward (Downward) - NOI basis

   

-19.8%

-11.9%

5.5%

 

               

 

Cash Flow After Tax basis

               

 

Estimated Value using Cash flow basis

 

$3,882

$4,520

$6,061

Add: PV of other income

     

$2,289

$2,412

$2,572

GGP's estimated market cap (CFAT basis)

 

$6,171

$6,932

$8,633

 

               

 

Estimated share price (PV CFAT basis-most optimistic methodology, as opposed to present value of NOI)

$25.3

$28.4

$35.4

 

     

 

 

 

 

 

 

Upward (Downward) - CFAT basis

 

 

-30.5%

-21.9%

-2.8%

 

 

 ggpsale.jpg

 

 ggpforeclosure.jpg