Quick Pitch: Regional Health Properties (RHE-PA)
Preferred Stock Exchange – 100% Upside
They say the third time is a charm and it seems that’s how it will be for Regional Health Properties. The company has just come back with another attempt to redeem its Series A preferreds. This case is also a pretty interesting example of governance/voting structure engineering to overcome certain shareholder approval issues (as is the recent debacle with APE/AMC lawsuit). The preferreds have only $10m capitalization with very limited daily trading liquidity, so this idea is for small personal accounts only.
The investment thesis and exchange terms have not changed much from the last year (covered on SSI here). The timeline and deadlines were moved forward by around 1 year, the accumulated unpaid dividend increased by c. $4/share, and the voting structure has been amended to ensure approval. The preferred holders are in favor of this transaction. For anyone interested in this setup, I recommend reading in full through the previous pitch by Brett on SSI.
RHE is an under-scaled real estate investment company that owns and manages long-term care and senior living facilities. For many years, the company has had an overhang of very expensive $25 liquidation preference, 10.875% rate Series A preferred shares for which it stopped paying dividends in Q4 2017. Since then the unpaid dividends have accumulated to $17/share. Total liquidation preference of Series A preferreds stands at $110m vs $6m RHE book value as of Q3’22. The company has been trying to get rid of the Series A overhang since 2021. The two previous attempts have failed. In the current offer, RHE wants to exchange its Series A preferreds for new Series Bs. This exchange and the cancellation of any unpaid dividends would allow RHE to materially improve the capitalization of the company and open opportunities to raise equity capital for scaling up.
The terms of the exchange offer:
- The new Series B preferred shares would have an initial par value of $10/share, which would gradually increase to $25/share over a few years.
- All accumulated unpaid dividends for the current preferreds would be eliminated.
- The offer also entails a redemption schedule, by which RHE will gradually redeem 2/3rds of Series B shares at par over the next 4 years, and a penalty dividend payable in common shares if RHE falls behind on the redemption schedule.
- Series B would pay no dividend till 2027, but after that, the dividends would be set at 12.5% rate.
If the offer goes through, and management sticks to the redemption schedule, the Series B preferreds would deliver 25%+ IRR over the next 4 years and then leave the stub with a substantial passive income stream.
Management is incentivized to proceed with the redemption schedule in order to outrun the par value increases. Otherwise, the company will be stuck with a similar situation as today a couple of years down the line. Once the offer goes through and management starts buying/redeeming Series B preferreds, the share price is likely to inflect closer to $10/share par value.
Preferred shareholders have agreed to the previous offer and therefore are very likely to agree to the current one. The holdback was from the common shareholders – not because they opposed the transaction, the company simply did not manage to gather 50% of these common shareholders to vote (more on this below). Generally, this exchange seems to be more beneficial for the common shareholders than for the owners of the preferreds.
Last year’s offer required approval from 2/3rds of Series A preferred owners and the majority of common shareholders. Series A shareholders’ vote was easily secured right from the start. However, the main issue was getting enough common shareholders to vote. Lack of participation resulted in a number of vote adjournments and eventual exchange offer termination after less than 50% of total common shareholders expressed support for the transaction. Those that participated in the meeting overwhelmingly voted in favor of the transaction. Out of 1.77m of outstanding common shares, 0.91m participated and 0.82m voted in favor (or 90%. of the votes cast). Thus the company was short only 3.6% of votes to get this transaction passed a year ago. It wasn’t the case of common shareholders rejecting the transaction – instead, almost half of them were simply absent from the meeting. This phenomenon is not exactly uncommon, especially in obscure nanocap stocks, where the majority of shares are held by rather passive retail investors. The exchange offer is undoubtedly beneficial for the common shareholders as it will materially improve the company’s capitalization, open opportunities to grow the portfolio, and scale up the business.
This year, the same approval requirements are present – 2/3rds of Series A holders and the majority of common shareholders. Given that the transaction terms are essentially identical to the last year’s offer, the Series A preferred shareholder approval should be assured. According to the recent proxy, management had again met with the largest Series A shareholder Charles Frischer to discuss this new transaction. Charles was supportive of the last year’s offer and this proxy disclosure suggests he is also supportive of it today.
More importantly, RHE has finally found a way to overcome the common shareholder approval problem. The following scheme was set up. On February 28, each common shareholder of record as of Feb 27, will receive 1/1000th of newly issued Series E pref shares per each common share. Each 1/1000th of Series E shares will have a voting power of 1,000 vs 1 vote per common share. For example, if you own 1 common share, your voting power will suddenly increase to 1,001. The best part – all shareholders who will be absent before the opening of the polls will have their Series E shares immediately redeemed and their voting power reduced. So votes of each absent share will be counted as 1 whereas the votes of each present share will count as 1,001. This should remove any obstacles for the vote to pass.
The meeting date has not been set yet. I would expect the exchange transaction to close over the next quarter. And then the outcome and upside on the newly received Series B preferreds will mostly depend on whether management sticks to the agreed redemption schedule.
The largest pref shareholder Charles Frischer (17% stake in prefs and 4.4% stake in commons) issued a letter to management saying he is ready to support the exchange, but with one change. Management has to add additional language into the terms of the new preferreds to protect pref holders from getting stranded or subverted in a change of control scenario. Frischer referred to the last year’s merger between Cedar Creek and Wheeler, where the CDR pref holders got pretty screwed due to the change of control exception indicated in preferred prospectus (see related discussion on WHLRD thread).
The same clause is also present in the new RHE’s Series B pref terms (here, page 103). I don’t think RHE management purposefully intended to slip this deal and screw pref shareholders afterwards. According to Frischer, management allowed attorneys representing pref holders to inspect pref exchange terms and even covered the costs at RHE expense. So most likely this issue will get resolved soon as Frischer has already sent management the needed protective language to be added.
Interestingly, Frischer also urged the management to market RHE for sale, once the exchange is approved. A potential sale could provide an opportunity for a play on the common shares, however, it would be a very risky bet due to the extremely high leverage at RHE. More thoughts on the common play can be found in last year’s RHE write-up.
Thanks for your work on this. From today’s filing.
On April 25, 2023, Mr. Frischer has stated to the Company that, based upon the facts and circumstances as he understands them as of such date, he is prepared to fully support and vote his shares of Series A Preferred Stock in favor of the Exchange Offer and will tender his shares of Series A Preferred Stock as well.
Any concern for the rising accounts receivable in their last quarter? Haven’t had a chance to dig into it yet, wondering if you had thoughts.
Thanks for the write up. But I have a few questions.
You show a 12.5% coupon rate but what underlying amount is that based upon? In other words, if someone were to buy the Pfd shares today and not sell any at all as redemptions occurred, what would happen if they were never sold? What would they earn in the long run on that investment and could the Pfd be forcibly taken away at some point in the future in some way?
The underlying amount will be based on liquidation value, which will gradually go over the next 4 years. When the coupon payment starts, in July 2027, the liquidation value should be $25/share (see liquidation value schedule in the RHE pitch from 2022). However, once the outstanding number of series B pref shares drops below 200k, the liquidation value will be reduced to $5/share. This is a mechanism to incentivize management to conduct share redemptions.
If the offer goes through and management sticks to the redemption schedule, the combination of that and increasing liquidation value alone will generate 25% IRR for the next 4 years. The calculation table can be seen in the older RHE write up here: http://ssi.wpdeveloper.lt/2022/04/regional-health-properties-rhe-pa-preferred-stock-exchange-100-upside/
After the redemption schedule ends, you will retain a minor stub that will pay $3.125/share in dividends (75% yield at current prices) as long as liquidation value stays at $25. Once the liquidation value drops to $5/share, the dividend will be $0.625/share for a 15% yield at current prices.
The key risk is that even if the offer goes through, management may find excuses not to redeem shares and/or not pay dividends after 2027 (as has happened with the current pref share class). The current proposal does include a protection clause against the failure to redeem shares. Specifically, if within the first 18 months the company fails to redeem at least 1m shares ($10m – first round of redemptions), a penalty dividend will be due distributable in common stock, equal to 250 000 common shares times the percentage of the 1 million pref shares not redeemed. However, at current prices the penalty dividend doesn’t amount to much. Even if the whole 1m pref shares will be left untouched, the penalty dividend would be valued at only $840k. The only other thing that adds confidence in management keeping their word is pressure from activist investors, specifically the largest pref holder Charles Frischer.
Thanks, dt, I appreciate your detailed response. They just issued the docs for the exchange so I wonder if the terms meet your expectations or if there were any changes…
As an aside, if they need to get to 200k outstanding to drop the dividend rate down, then if someone were to own 200,001 shares of the pfd they could black that and force payments of $3.125 forever? I suppose RHE could force-redeem those shares at $25 at that point or, if they are worried about that kind of eventuality they could redeem more shares at lower prices earlier in the calendar.
My primary concern is that the company again just does nothing. It would have been nice if there were more penalty shares allotted to the pfd should RHE fail – if they can’t get this done by 2027 then the pfd owners should end up owning a very significant % of the overall common shares… I am worried that the company balks and we end back where we started but, I suppose, the docs as set out would then put the pfds at least in a stronger position than they are currently and the liquidation preference would be back to $25 again (but without the accrued divs from the past).
The company is indeed incentivized to redeem the pref shares as fast and cheap as possible. That would be the ideal scenario here. However, as you say, the main risk is that the management might walk back on their promises and screw the preferreds. The fact that, as I understand, management primarily owns the common stock (around 10%) and is financially misaligned with the pref holders doesn’t help either. Nonetheless, this saga has been ongoing for quite a while and there is a prominent activist involved. I hope that the management cares for its reputation enough to play along the redemptions schedule at least initially. That’s all that’s needed for this trade to work out in the short-term. Longer-term play is a different animal and, I think, is much more complicated and risky. If after the exchange management sticks with the buybacks/dividend schedule and we start approaching the 200k threshold, this trade will already be a winner disregarding how the final leg works out. And if one particular shareholder decides to accumulate 200k + 1 share to maintain large dividends, management can always simply cancel the dividends (they could also do the same right after the exchange).
By the way, it’s pretty strange that RHE-PA hasn’t been trading for over the last two weeks. Haven’t seen any announcements that would explain why it suddenly stopped trading. The company uploaded the amended S4 for the exchange offer, however, the amendments seem minimal. I am guess negotiations with Frischer are still ongoing regarding the additional change of control language he requested. Given how long it has taken them to change a few lines of text it is a bit concerning.
Frischer bought about 70,000 shares from December to January at prices from $1.67 up to $3.27. So I guess he would be ready to support the exchange to a Series B with initial par value of $10.
commenced an offer to exchange. Should we submit for this exchange?
https://finance.yahoo.com/news/regional-health-properties-inc-announces-150000879.html
RHE has finally commenced the exchange offer of Series A prefs into new Series B prefs. Interestingly, the potentially dangerous change of control clause, which Frischer previously wanted to remove, is still there (page 84 of the new tender offer). The largest pref shareholder previously said that he won’t support the exchange unless that clause is adjusted and management adds language into the terms of the new preferreds to protect pref holders from getting stranded or subverted in a change of control scenario. That hasn’t happened, however, surprisingly Frischer has now changed his mind and is supporting the offer (from S-4/A on April 27):
“On April 25, 2023, Mr. Frischer has stated to the Company that, based upon the facts and circumstances as he understands them as of such date, he is prepared to fully support and vote his shares of Series A Preferred Stock in favor of the Exchange Offer and will tender his shares of Series A Preferred Stock as well.”
It really doesn’t look good that management has refused to add the protections and left a big hole in the exchange terms. This virtually straps away the redemption rights of the pref shares in an M&A scenario and makes it a weak/nearly toothless security. I think this has now become a material overhang to the thesis. Coupled with the uncertainty on whether management will actually keep its word and redeem the new prefs according to the plan, the situation has become much less attractive now. Even if the exchange offer goes through (which it likely will) pref shares will probably keep trading at a very wide discount to par. Not sure if we can expect pref holders to reject this offer, especially after Frischer (owns 17% of pref shares) has decided to support it. Yet, its puzzling how he just changed his mind like that, and what his plans are after the exchange is completed.
Overall, its a complex/almost black box type of the situation to me. Maybe in the short term, if the management starts redeeming pref shares, there will be some spike in the market value. Maybe thats what Frischer’s game plan is (they’ve had to persuade him to support the offer somehow). But other than that, and especially for the longer-term, this is a very risky play as management’s financial incentives are clearly misaligned with the pref holders and these recent actions have strongly confirmed that again.
By the way, RHE has issued an interesting exchange presentation featuring RHE’s equity liquidation value calculations (10th slide). The table shows that the exchange would lower RHE’s pref shares overhang from the current $118m to $28m, which would raise common equity liquidation value from the current -$62.88/share to $8.17/share.
Presentation – https://www.bamsec.com/filing/149315223019111/3?cik=1004724
New exchange offer document – https://www.bamsec.com/filing/149315223018998/1?cik=1004724
S4/A from April 27 – https://www.bamsec.com/filing/149315223014029?cik=1004724
Hi dt, I found the below on pg. 91 regarding the redemption of Series B (assuming the exchange is successful) upon Change of Control. Are there additional redemption rights you believe should be included in this section?
If a “change of control” of us by a person, entity or group occurs, we (or the acquiring entity) will be required to redeem the Series B Preferred Stock, in whole but not in part, within 120 days after the date on which the change of control has occurred, for cash at a redemption price equal to the then-applicable liquidation preference per share of Series B Preferred Stock (subject to the last paragraph under “—Redemption”), plus all accumulated accrued and unpaid dividends thereon (whether or not earned, approved or declared) to, but excluding, the redemption date, without interest.
Thanks for spotting this. I have mistakenly looked at the terms of Series A instead of Series B (all in the same filling). As you suggest the previous exception from the change of control has now been removed and the preferred redemption would apply also in case RHE is acquired by the publically listed company. Appears that Frischer convinced management to remove this clause and my previous comment regarding this is incorrect.
Is anyone else having difficulty figuring out how to exchange shares? My custodian (Fidelity) doesn’t know anything about the exchange and getting someone on the phone from the “Information Agent” (Morrow Sodali) seems to be impossible. I’ve left numerous voicemails and an email and no response. Given the urgency from the company for the exchange, this doesn’t bode well.
Doesn’t it need to be voted on first?
Its my understanding is there are two steps to this process. The first is exchanging shares and the period to exchange is now open (May 25-June 27). The vote occurs at the special meeting to approve the process. If approved and “your shares” haven’t been exchanged, then they won’t be exchanged. If you exchange and the process doesn’t get approved, your shares will remain A shares. If I’m wrong, I would love to be corrected on this.
I think just wait. The offer was just announced on May 25, and usually brokers need some time to get the information and set up the exchange process. The company deadline is midnight June 27, and the brokers usually have a deadline up to two days earlier. So, there’s plenty of time to exchange.
Yes just wait a couple weeks until mid-June. It takes some time for Fidelity and other brokers to receive the tender instructions that allow them to process your tender. There is nothing to gain by tendering today vs. tendering in mid-June. I plan to call Fidelity the week of June 12.
RW and DT, big thanks for sorting out the “change of control” provisions. Thus, tendering is certainly attractive, right? Or even buy more now and tender? (illiquid though, bid/ask 4.65, 5.50)
How about the common stock RHE, is buying this worth the risk/reward? As DT pointed out, if the preferred deal goes through, the common stock would benefit tremendously (from a big negative liquidation value $63/sh to positive $8!).
I’m not sure how conservative/aggressive the price per bed assumption is that management used to calculate the estimated portfolio value so unsure about common. They also need to fund the pref redemptions somehow…a new common issuance could reduce the $8.17 /share value if they try that option.
I plan to tender the pref.
If anyone is still wondering, the exchange offer has already been announced on IB.
The exchange offer was approved on June 27. The exchange will close by June 30 with 80% of preferred A shareholders who have properly tendered converting into newly issued B shares. Moreover, shortly after the announcement, Charles Frischer released a 13D stating that the company is well-positioned to explore an outright or a partial sale of the assets in order to buy back the preferred shares.
Results: https://www.bamsec.com/filing/149315223022686?cik=1004724
13D filed by Frischer: https://www.bamsec.com/filing/119380523000869?cik=1004724
No point in buying the series A now correct – whoever didn’t tender gets stuck with this fall?
What is the new ticker, not available until tmrw I guess?
Yes, I think Series A is close to worthless now. Par/redemption value has been reduced to $5 and the only scenario where these Series A owners might see any value is if RHE is acquired by a non-listed buyer.
I am guessing the 20% of Series A that did not participate in the exchange, were simply not aware of the offer.
Anyone got the B shares? When will it trade? Symbol? Thanks!
I’ve got the RHE PRB shares in my IB account, but there’s no pricing data or anything there.
IB showed the price of RHE PRB was 2.06. Is it correct?
I still don’t see any pricing data at Fidelity. I called the RHE CEO today to ask when the Bs will start trading but got voicemail.
RHEPB is trading in pink sheets, maybe started today. Bid/ask now $5, 9.25. Minutes ago it was 5, 14.
Actual trades 100 sh at 7.50, then 8. (I think both at bid.)
Value – see write-up and DT comments above. Liquidation $10 increasing to 25, and management plans to redeem at these prices but may not actually do.
I would think worth at least the $10/sh.
I can see it on Finance Yahoo at $8/share, but it’s still not showing on my IB account. I wonder if this is also the case for others with different brokerages.
Just wondering if there is anything new with this thing…
The preferred share exchange was completed in mid-2023, but buying RHEPB is basically impossible as the stock is completely illiquid.
RHEPB – anyone following this?