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Medalist Diversified REIT: A High-Risk Term Preferred Stock IPO

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Introduction

Almost all exchange-traded fixed-income securities have their PAR value of $25. Sometimes, though rarely, some of them are very tiny issues, as by “tiny issues” I mean less than 1M shares. Lately, such have been YCBD-A (0.50M shares), OTC:YGYIP (0.58M shares), SCCB (0.92M shares), PRIF-D (0.83M shares) and OTC:OCCIP (0.8M shares). As might be expected, these are placed on the market by very small companies. In this article, I want to present the newest preferred stock of only 200,000 shares, issued by a $17M market cap company, Medalist Diversified REIT, Inc (MDRR).

The New Issue

Before we submerge into our brief analysis, here’s a link to the FWP Filing by Medalist Diversified REIT.

Source: SEC.gov

For a total of 200,000 shares issued, the total gross proceeds to the company are $5M. You can find some relevant information about the new preferred stock in the table below:

Source: Author’s spreadsheet

Medalist Diversified REIT, Inc 8.00% Series A Cumulative Redeemable Preferred Stock (NASDAQ: MDRRP) pays a cumulative fixed dividend at a rate of 8.00%. The new issue has no Standard & Poor’s rating and is callable as of 02/19/2022, maturing on 02/19/2025. Currently, the new issue trades well below its par value at a price of $20.56 and has a Yield-to-Maturity of 12.87% and a Yield-to-Call of 18.87%. The dividends paid by this preferred stock are not eligible for the preferential 15-20% tax rate on dividends. They also are not eligible for the dividend received deduction for corporate holders. This means that the “qualified equivalent” YTM and YTC would be sitting at 10.73% and 15.72%, respectively.

Here’s how the stock’s YTC curve looks like:

Source: Author’s spreadsheet

The Company

Medalist Diversified REIT, Inc. is focused on acquiring, renovating, leasing and managing income-producing properties, with a primary focus on commercial properties, including flex-industrial, and retail properties, and multi-family residential properties. The Company invests primarily in properties across secondary and tertiary markets in the southeastern part of the United States, with a concentration in Virginia, North Carolina, South Carolina, Georgia, Florida and Alabama. The Company has three investments, such as the Shops at Franklin Square, a 134,299 square foot retail property located in Gastonia, North Carolina; the Greensboro Airport Hampton Inn located in Greensboro, North Carolina, and the Shops at Hanover Square North, consisting of two parcels of land containing a 73,440 square foot retail center located in Mechanicsville, Virginia. Medalist Diversified Holdings, L.P. is the Company’s subsidiary.

Source: Reuters.com | Medalist Diversified REIT, Inc

Below, you can see a price chart of the common stock, MDRR:

Source: Tradingview.com

The company’s last declared quarterly dividend (payable on March 10) is $0.125, which translates into an annualized payout of $0.50. With a market price of $3.76, the current yield of MDRR is at 13.30%. As an absolute value, this means it pays $2.24M in dividends yearly. For comparison, the yearly dividend expenses for the newly issued Series A preferred stock are around $400,000.

In addition, MDRR has a market capitalization of around $16.87M, which makes it the smallest “Diversified REIT” (according to Finviz.com).

Capital Structure

Below you can see a snapshot of Medalist Diversified REIT’s capital structure as of its Quarterly Report in September 2019. You also can see how the capital structure evolved historically.

Source: Morningstar.com | Company’s Balance Sheet

As of Q3, MDRR had a total debt of $51.94M ranking senior to the newly issued preferred stock. The new Series A preferred stock rank is junior to all outstanding debt and equal to other future preferred stocks of the company. At this point, MDRRP is the only outstanding preferred stock.

The Ratios Which We Should Care About

Our purpose today is not to make an investment decision regarding the common stock of MDRR but to find out if its new preferred stock has the needed quality to be part of our portfolio. Here’s the moment where I want to remind you of two important aspects of the preferred stocks compared to the common stocks.

  • Preferred shareholders have priority over a company’s income, meaning they are paid dividends before common shareholders.
  • Common stockholders are last in line when it comes to company assets, which means they will be paid out after creditors, bondholders, and preferred shareholders.

Based on our research and experience, these are the most important metrics we use when comparing preferred stocks:

  • Market Cap/(Long-Term Debt + Preferreds). This is our main criteria when determining credit risk. We prefer market value vs. book value as the main reason is that equally valued common stocks should have equally valued preferred stocks. The bigger the ratio, the safer the preferred. Based on the latest annual report and taking into consideration the latest preferred issue we have a ratio of 16.87/(51.94 + 5) = 0.30, which seems pretty low.
  • FFO/(Debt and Preferred Payments). This also is quite easy to understand approach. One can use EBITDA instead of earnings, but we prefer to have our buffer in what is left to the common stockholder. The higher this ratio, the better. The ratio with the data from the Income Statement and the Cash Flow Statement is 0.259/(2.110 + 0.400) = 0.10. Except it is quite leveraged, MDRR also has extremely low coverage of its liabilities payments.

Fixed-Rated Term Securities

Since there’s only one more term preferred stock, issued by a REIT, Gladstone Land Corp’s LANDP, which also is with a negative Yield-to-Call, I will proceed to the comparison with all other term securities with a close maturity date. The next charts contain all preferred stocks and baby bonds that trade on the national exchanges, pay fixed distribution and have less than 10 years to maturity, with a positive YTC.

  • By Years-to-Maturity and Yield-to-Maturity

Source: Author’s database

  • By Yield-to-Call and Yield-to-Maturity

Source: Author’s database

Change of Control

If a Change of Control Triggering Event occurs with respect to the Series A Preferred Stock, unless we have exercised our option to redeem such Series A Preferred Stock as described above, holders of the Series A Preferred Stock will have the right to require us to redeem (a “Change of Control Redemption”) the Series A Preferred Stock at a price equal to the liquidation preference of $25.00 per share, plus an amount equal to any accumulated and unpaid dividends up to but excluding the date of payment, but without interest (a “Change of Control Payment”).

Source: S-11/A Filing by Medalist Diversified REIT, Inc

Use of Proceeds

We intend to contribute the net proceeds of this offering to our operating partnership in exchange for Series A Preferred Units and our operating partnership intends to use the net proceeds from this offering received from us to acquire additional properties, for working capital, for general corporate purposes, and to repay outstanding debt. In addition, we intend to use a portion of the net proceeds of this offering to place an amount equal to the first four quarterly dividends of the Series A Preferred Stock, or $371,111.11, into an irrevocable escrow account with such funds to be released to the holders of Series A Preferred Stock upon the declaration of such dividends.

Source: FWP Filing by Medalist Diversified REIT

Addition to the iShares Preferred and Income Securities ETF

With the current market capitalization of only $5M, MDRRP cannot be an addition to the ICE Exchange-Listed Preferred & Hybrid Securities Index, thus it will also not be added to the iShares Preferred and Income Securities ETF (PFF) which is important to us due to its influence on the behavior of all fixed-income securities.

Conclusion

The company’s common stock chart cannot be defined as very encouraging. Furthermore, its leverage and debt payments coverage seems bad. I’m also worried about the fact MDRR intends to use a part of the proceeds for the preferred stock’s first-year dividends. Aside from that, the new preferred stock IPO is issued with only 200,000 shares, that personally, I don’t remember a $25 security to be issued in such a small issue. Unfortunately, despite it’s a term preferred stock, the new IPO cannot be defined as anything more than speculation (if the tiny issue allowed it to be purchased at all). Generally, I would stay away from the company and its preferred shares.

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