Business Valuation In Chapter 11

Pershing Square's much anticipated second quarter letter finally leaked onto Dealbreaker recently, and it was interesting getting some perspective from Bill Ackman on the fund's performance, successes and candid admission of mistakes and missed opportunities during that period.

I won't reiterate the various comments made in the section around General Growth Properties beyond two quotes. Firstly the final comment:

"..GGP is a highly leveraged company and there continues to be substantial uncertainty about the potential outcomes for GGP security holders." Pershing Square Q2 2009 Shareholder Letter

It was good to see an appropriately cautionary note raised around General Growth Properties share valuation, and to make sure that those currently looking at recent returns remember that this remains a risky investment. However that is also why in theory despite large rises to date, it still remains potentially excellent value.

The headline $40/share figure that everybody has latched onto comes from Ackman making a very high level statement that the REIT most comparable to GGP is Simon Properties. That is definitely true in terms of size, portfolio quality and overall market position, although obviously not in terms of risk. Ackman uses this purely to demonstrate that assuming GGP risk reduces as Chapter 11 negotiations proceed, and clarity is gained relating to shareholder dilution, then we should look at General Growth eventually trading at an equivalent cap rate.

That gives a $40/share figure based on the current portfolio and capital structure, but crucially assumes a best case scenario of zero dilution for shareholders. It merely highlights potential, and is not intended to be some sort of predication of future value. Anybody reading the report and assuming otherwise would be wise to consider further this comment:

"The balance of GGP's value should inure to the benefit of the company's shareholders. As a result, the company's valuation will likely play an important role in determining recoveries for shareholders." Pershing Square Q2 2009 Shareholder Letter

Determining Value In Chapter 11
So what are the crucial factors that will determine GGP company valuation within Chapter 11, and how is this process going to work?

This e-zine article on determining value within Chapter 11 does make a number of interesting points about factors that could impact GGP. To my mind the key factors are as follows:

1. Valuation Experts
There will be various external specialists within the commercial real estate sector able to provide an accurate market assessment of the current asset valuations of General Growth Properties. Representatives will be put forwards behalf of the creditors and debtor (GGP).

2. Valuation Methodologies
Methodologies will need to be applied, and will be scrutinised by the Court in detail to ensure impartiality and accuracy. These typically consider a wide number of factors: potential competitors available to purchase assets (i.e. market demand), industry trends (i.e. falling property values, occupancy rates and profitability) and general valuations of comparable rivals - this goes back to SPG.

3. Assumptions
Any disagreements will be submitted to the Court for resolution. One example in the article is a case where valuation cited by the creditors applied a 'bankruptcy taint' impairment if the company remained whole - presumably due to reputational damage. In GGP's case I do not think this will apply due to market conditions and the business continue to operate meantime.

4. Asset Liquidation vs Going Concern
Here valuation experts will give an assessment on which scenario maximises value, and will account for extenuating factors such as exceptional market conditions. It may be within this that some sell off of assets is agreed and included in the plan to reduce leverage.

"The premise of value utilized in the valuation process assumes either a 'going concern' or 'liquidation' of the subject. The Bankruptcy court utilizes the outcomes of these different assumptions-based approaches to make its determination."

Company specific risk will be the main consideration here, and in the case of GGP, there is a particularly strong case for its viability as a going concern: i) positive cashflow generation, ii) ability to raise DIP financing in a distressed market, and iii) voluntary servicing of creditors despite an automatic stay.

The coming months will see some interesting discussions around the above points, and it will be this determination of value and willingness to extend maturities that will ultimately decide how much or little equity value is retained by common shareholders.

Exploiting Loopholes

The golden rule with tennis, as with finance, is to always put your money on the Swiss. Tough luck on poor old Andy Roddick though, the guy was rightly gutted and is too good to only win a single major in his career so let's hope he comes back and wins another.

So the final legal submissions have now been made - this includes General Growth's post-hearing submissions against MetLife and against ING Clarion and Wells Fargo. The Committee of Unsecured Creditors, and the unsecured lenders ING Clarion, Helios AMC, and of course MetLife. They are really just summarising the arguments already put forwards, although additionally MetLife submitted a motion to dismiss evidence submitted by GGP because the "Movants [MetLife] were not provided with a copy to review."

The evidence itself is a summary of the MetLife Debtor groups that own the two malls in question in this appeal. Ultimately they were included to provide evidence of the consolidation benefit to GGP that would come about from their inclusion in Chapter 11. Again, whether this is accepted or rejected is arbitrary and will have little bearing on the overall decision.

Additionally I recommend reviewing two interesting analysis papers discussing the impact of the GGP bankruptcy on the CMBS industry. The first is entitled The GGP Bankruptcy So Far: Grounds for Concern, Sources for Hope, (thanks to GGP Freak for bringing that to my attention - you mentioned it is from a post on one of the boards so perhaps you could post the link). Either way, the article provides an interesting additional summary from legal experts.

It agrees that the notion of 'bad faith' is unlikely to stand up to analysis and sway the impending decision, although here the authors focus on the eleventh hour dismissal of independent directors as the other key factor instead of GGP's ability to prove its decentralised structure and hence requirement to include SPE's in Chapter 11 not directly in default. As I have said previously, many of the arguments being made in this case are being made for the cameras, and this view is clearly shared:

"in the GGP bankruptcy, it seems that the independent director issue may not be fully pursued because of the practicalities of the situation. In the view of some, even if the motions to dismiss are not granted, it is important that these arguments are made, if only to force a decision that will at least provide a benchmark against which lenders can attempt to structure and price transactions going forward."

Also interesting is this observation on the impact of the agreed DIP financing loan from Farallon Capital Management, part of which will be used to pay off the Goldman Sachs loan: "Using the $400 million DIP loan to retire the Goldman Sachs facility effectively increases the leverage on these assets by almost 100 percent."

The second article 'CMBS Bankruptcy Remote Structuring and the Recession: Revisiting the Benefits', was published last week by the Bureau of National Affairs. It provides a much more detailed analysis of CMBS structuring, and crucially an analysis on how the GGP rulings to date are impacting the industry. One telling remark is that the SPE bankruptcy remote structure has been "largely untested" to date, and only once these are resolved will the credit markets be able to move forwards with confidence and accurately rate and price risk into credit investments.

Where this article is useful is in summarising key ways in which SPE's "theoretically mitigates" risks:

1. Independent Directors to vote/approve the commencement of bankruptcy proceedings - the controversial one that we know about from its alleged 'misuse' during GGP's filing, which illustrated contractual holes.
2. Limits Debt that an entity can incur - both secured and unsecured, the court rulings have upheld this concept and ensured that GGP will not be able to load them up with additional debt as a result of their inclusion in Chapter 11.
3. Ensure that SPE assets/liabilities are not consolidated with those of a parent or affiliate that is involved in a bankruptcy - in reality this has not taken place in GGP's case from their inclusion in Chapter 11 either, although there would be a significant benefit from consolidation of net cash flows and of course negotiations.

As if anybody needed confirmation that the markets were being presumptuous about CMBS's, the article comments: "CMBS sponsors and lenders, supported by many of the credit rating agencies, relied heavily on the assumption that the remote bankruptcy provisions, specifically the independent director provisions, in the SPE’s governing documents would provide protection against an SPE borrower filing for voluntary bankruptcy."

Where the article becomes much more interesting is an examination of the circumstances in which GGP has been able to utilise cash flows as a collateral. Normally it would not be allowed, unless the lender consents, or the debtor convinces the court that "the lender’s interest in the cash collateral is ‘adequately protected.' "

This notion of 'adequate protection' means proving to the court that "the collateral is not being dissipated to the ultimate detriment of the lender. Typically this condition is satisfied if the property continues to generate cash flow and the lender is given a lien on post-petition income to replace the cash collateral that is expended." Despite the turbulence in commercial real estate valuations, it is fair to assume that the value of the assets exceeds debt in all cases before the court at present.

As such this is precisely what the Courts have awarded all of GGP's lenders who have appealed for their respective malls to be removed from Chapter 11. Despite a lien on cash collateral not being as appealing to lenders than instant access to the cash flows from the malls, income is safeguarded by the decisions made by Judge Gropper, by ensuring they are serviced and repaid in the event of liquidation.

The article concludes a summary of ways in which the GGP rulings to date are impacting the industry and a realistic assessment of the next steps relating to restructuring. Ultimately the ability of GGP to control the independent directors of its SPE's is seen as a key weakness in the current structure of SPE's. The legal authors point out that despite this it is very much legal, :

"Despite the fact that the removal and replacement of the independent directors may have violated the spirit of the original agreement with the lenders, GGP’s actions were permitted under state law and do not appear to have been prohibited by the organizational documents of the SPE borrowers."

In fact, the article even advises lenders able to who have the opportunity to "revisit the governance terms of borrower SPEs, would be well advised to consider modifying the 'remove and replace' provisions relating to the independent directors."

In many ways this suggests that GGP's bankruptcy is unique in another sense, due to timing and its ability to exploit weaknesses in the contracts that will be closed in the future. That being the case, any investors contemplating on taking positions in other REIT's in a similar position to GGP should exercise caution. It would be unwise to simplistically assume that other companies will necessarily be able to exploit this loophole for long, and so need to investigate the underlying SPE structures and contracts.

And finally:

"As the GGP bankruptcy progresses, given the uncertainties in the valuation of commercial real estate in the current markets, it will be interesting to see whether GGP attempts to reduce required interest payments based on the current market value of its properties and, if it does, how the bankruptcy court will determine the valuations of these properties and how reduced values will affect the commingled use of cash collateral."

Bear in mind how early into the bankruptcy process this all is - decisions made now can be amended throughout GGP's period in Chapter 11 on appeal. Meantime all of the information is before the court, suggesting a ruling is impending.

Addendum: just tidied up this post - you could tell I wrote and posted it during the Wimbledon Final, what a bloody mess it was...

Big Fish Tantrums

I was dialed into the steering committee meeting yesterday for the post-insolvency / time wasting project , and who should dial in but the COO of the bank!

To put that into context, for those unfamiliar with working in the sector and the sheer size of the big investment banks, imagine a combination of a medieval king and Paris Hilton all rolled into one. Vast power, able to behead on a whim, combined with plenty of preening and a vast ego.

Thus he had not stopped by to listen and learn, only to be heard. Aww, bless him - isn't he cute?

We were treated to a 15min speech, although I wasn't bothered as I am not running this whole affair; it certainly didn't stop me reviewing the latest Court docs from GGP while he rambled on. In short though, he had dropped by to tell us all how pissed off he is that we have been beaten to the punch in delivering our insolvency solution by a major rival (announced in the WSJ on Tuesday).

Never mind the fact that ours will be far superior, applying not just in the US but globally, and crucially enabling Hedge Funds to margin securities rather than having to fully fund their positions - the whole point of Prime Brokerage after all. Nope, at the top this was a big corporate race, picture all the CEO's lined up in their sacks and jumping as fast as they could to the finish line. In his eyes we have lost - the trifling details are an irrelevance.

So the Court decision relating to GGP is going to take more time to reach a conclusion. Given the length of my four legal analysis posts, which in themselves are a hugely condensed summary of the arguments put forwards, I would have been surprised had the Court managed to review all of the submissions that have been flooding in right up until the last minute, much less reach a considered opinion so quickly.

The only public information out there is that the Court could take until the end of June before deciding on whether the proceedings by MetLife, Wells Fargo and ING Clarion Capital to remove their underlying collateral from the GGP bankruptcy filing are upheld. This ruling is important, as it would of course enable GGP to negotiate from a position of greater power with many more creditors, while using the combined cashflow as required, and should be able to secure more favourable extension terms. Regardless of the decision however, it will be useful for GGP to focus on its restructuring plan - expected that some time in August.

In an unrelated announced on Wednesday, Jim Graham, GGP's Director of Public Affairs also announced that the company had "very recently" made the decision not to sell the Bridgeland development as previously planned, and instead develop the site itself. This directly reflects the improvement in GGP's position since it filed for Chapter 11 and received DIP financing.

No longer is the firm desperately seeking ways to avoid Chapter 11, and is instead making considered decisions in-line with both Adam Metz and Bill Ackman's comments about there not being any rash asset sales. An encouraging sign that demonstrates mutually aligned interests with common shareholders.

Other minor points of interest this week:

• Pershing Square submitted a motion on Wednesday for their Chief Legal Officer, Roy Katzovicz, to start receiving paper copies of all notices and papers going forwards. No reason is given, but it suggests that the fund will be taking an increasingly active involvement in GGP's legal maneouvering, planning and positioning over the coming months.
• GGP have settled the DIPS financing claim with Brookfield Financial LLC and Goldman Sachs. The original claim was $5.78m, and the settlement is for $2.75m, and is fully supported by the committee of unsecured creditors.
• Ahead of the deadline for objections by unsecured creditors, various claims have been filed. This includes the occupant at various malls J.C. Penney, filed a limited objection and reservation of their rights to the inclusion of related SPE's into the GGP bankruptcy filing. They add nothing to the actual case beyond suggesting GGP's inclusion of relevant malls "blatantly ignore the due process rights of numerous Lien holders - including J.C. Penney - who have Liens in or on property owned by the Debtors [GGP]".
• A similar limited objection claim has been filed by A&K Endowment Inc, and many others - mostly around proposed amendments to establishing alternative procedures under Chapter 11.

Legal Analysis IV: GGP's Final Response

Okay this is starting to get excessive, but then this run up to the court hearing tomorrow has seen some interesting arguments going on behind the scenes. Yesterday GGP submitted their final response to the creditor's case ahead of the hearing on Wednesday, which is a baby at a mere 100 pages.

One key part of that was a dissection of the motion to dismiss the Chapter 11 case of the Fox River Shopping Center LLC by FRM Funding. FRM Funding had by then already submitted a motion to withdraw its objections to inclusion in Chapter 11. Although no reason was given, the case is covered in GGP's submission, and in all probability it was an assessment by FRM's legal team on the strength of GGP's case that lead to the withdrawal.

A quick review of GGP's final response to the creditor case:

1. MetLife / FRM funding 'bad faith' arguments fundamentally flawed
GGP point out that just because certain GGP subsidiaries are operationally sound with strong cash flows does not mean they could ignore the realities of the credit markets or their duty to maximise value. In other words willfully waiting until default and potentially being forced to liquidate individual entities would be an abuse of their duty to all.

GGP's team reiterate that the wider market problems meant that anticipating future problems refinancing all loans was nothing more than a realistic assessment of the credit markets, and hence the Chapter 11 filing was made in good faith. Additionally they note that the debtors do not even attempt to show that GGP's chances of a successful "reoganization is objectively futile."

GGP also refute that Chapter 11 is being used as a "sword" to gain a tactical advantage in negotiations with secured lenders (note: it is in reality, but let's ignore that), and instead refer to it as a "shield" that will protect the firm as it restructures the debt. In that case is Bill Ackman a knight in shining armour and MetLife the evil dragon?

It does illustrates the highly subjective nature of filing under bad faith. You can argue it both ways, but you need to have definite proof to make the mud stick, and the creditors case is not strong enough. Weil Gotshal & Manges also point out inconsistencies between creditor cases, with MetLife arguing the credit market problems persisting for a year or more is "sheer speculation" by GGP, while ING and Helios agree that the CMBS market has disappeared.

2. GGP filed for Chapter 11 protection for the same reason that ING and Helios debtors filed
This being the collapse of the CRE financing markets and the advantage of "participating now in an integrated, consolidated restructuring of project entities". This makes an effective point by illustrating that other creditors were filing against GGP by this stage, and undermines suggestions by those creditors objecting just because GGP filed first that taking no action was a viable option.

3. GGP filings included loans that had already cross-defaulted
Hence did not give GGP "a reasonable prospect of refinancing before maturity, and certain other loan characteristics that further exacerbated the need for a restructuring." This point is again particularly strong, as it demonstrates the financial stress that GGP was indeed under during the months of financial limbo when it moved into technical default on loans without declaring Chapter 11.

Additionally GGP dismiss this further by arguing: "There exists no basis in law or in fact for overriding these reasonable business judgments made by the Subsidiary Debtors [GGP] on the advice of sophisticated financial, restructuring, and legal experts."

The 'loan characteristics' referred to above are covered in more detail in this WSJ article from yesterday, which shows an increasing recognition by the wider industry and US government now that there are problems with the entire CMBS market. This goes back to the point that ultimately (due to tax reasons, as it turns out), many of GGP's lenders were largely unwilling to even discuss refinancing of any loans not due within a short period of time - a fundamental structural flaw of the credit markets.

GGP has to my mind received a significant boost from these potential plans to amend the tax laws to enable lenders to talk earlier. This gives a powerful argument that GGP really was forced into Chapter 11 due to market failings and exceptional circumstances, and hence should be fast tracked back out.

4. Dismissal for lack of good faith should be granted "sparingly, with great caution."
The defence elaborate further with previous court decisions that support GGP's case, stating that a petition for bad faith should only be granted when: "it is clear that on the filing date there was no reasonable likelihood that the debtor intended to reorganize and no reasonable probability that it would eventually emerge from bankruptcy proceedings."

The defence then go into detail dismissing all of the bad faith arguments that ING, Helios, MetLife and FRM have made in their filings, claiming none have merit.

5. GGP filings for bankruptcy had full corporate authority
GGP move onto FRM's claims around technicalities in the Fox River SPE filing, and rebuff with some telling quotes back from the original derivative contracts.

For those who have read my previous comments on the CMBS industry and how contracts used to be sold, you will know I have long said that nobody did any due diligence in the good old days. It was a zip 'em and sell 'em on mentality, and frankly nobody in the banks cared as long as people bought them. Only now are people running around complaining.

Let's face it, if you did due diligence you would never have sold CMBS contracts with this explicitly in the wording:
"Nothing contained herein or omitted herefrom shall prevent the shareholder(s) of the Company [GGP] from removing an Independent Manager with immediate effect at any time for any reason."

GGP's lawyers state that the loan documents include no legal opinion regarding whether Fox River was bankruptcy remote. Even more damning, and probably the final nail that forced FRM to withdraw their motion was the legal assessment of Fox River, which refutes the notion Chapter 11 would not enable any substantive consolidation (of assets and liabilities).

6. MetLife's 'speculation' on the outcome
In MetLife's recent response, they made a convincing case about GGP acting in bad faith, but a key point was that it was indeed based largely on speculation on their part. At the heart of this was an argument that there was no point moving into Chapter 11 because when it comes time to approve any restructuring plan, "there might not be any other impaired creditors and it [MetLife] might vote against a plan."

This response from GGP is all you need to say on the matter:
"..if creditors could get a bankruptcy dismissed at the start of the case simply by claiming they may not agree to a plan of reorganization, as MetLife claims, then chapter 11 would be rendered useless as creditors can always assert they will not agree to any impairment of their claims."

The defence conclude that all of the creditors seeking dismissal of the bankruptcy petitions are seeking "to impose a requirement that debtors face imminent collapse before seeking chapter 11 protection. But no such requirement appears in the actual text of the Bankruptcy Code."

Everything continues to point towards a favourable outcome for GGP, although law is a hornet's nest, so you never quite know what will come out when you start playing with it.

Legal Analysis III: Creditors Make The Case

Well, L arrives into Heathrow tomorrow morning after her indulgent week of girliness in Chicago at the Bridal Shower. As such I had better spend today tidying up this dump - it's amazing how a week without the missus demotivates me in keeping the place clean.

The final part of this legal analysis series takes a look at the arguments being submitted before the Court next week by the creditors, with respect to having various SPE's (and hence malls) removed from inclusion in GGP's Chapter 11 filing. This gives the other side of the case, and hence an opportunity to assess how convincing this and their chances of overturning the earlier decision really are.

This article focuses on the case being proposed by MetLife, and the investment fund Clarion Capital, which are two of the group of secured creditors being heard on Wednesday 17 June by Judge Gropper. Examing the various arguments proposed by the creditors:

1. Chapter 11 cases not filed 'in good faith' - the specific loans in question were all current and not in default. Upon closer examination, the creditor's claims around the filing are unconvincing in this respect. As GGP's defence team state in their response, calling it 'woefully inadequate' in establishing the burden of proof, I agree having reviewed everything they have put forward.

The creditors give evidence from previous claims to back them up throughout of course, and suggest that GGP is ineligible in this case, due to it being financially healthy and not insolvent:

"..given the enormous powers a chapter 11 debtor is given by virtue of the automatic stay, the exclusive right to file a plan, and the ability to discharge debts, these powers should be limited only to those facing financial stress."

If all GGP's problems due the credit market turmoil of the last 9 months do not equate to financial stress then I am not sure what does! The creditors then go on to cite the recent court ruling that has allowed a construction company to file a lien against General Growth to recoup owed construction costs, despite being in Chapter 11. In that case, the court stated:

"They [GGP] do not need a litigation respite, as do many chapter 11 debtors... Nor are they financially troubled debtors that seek in good faith to avoid a preclusive judgment in State court that would prejudice legitimate efforts to preserve value for the benefit of all of their creditors."

Insolvency is not a requisite for filing Chapter 11 anyway, as the creditors admit. The above Court ruling is quite different from establishing bad faith and I see nothing that suggests proof that GGP are doing anything other than attempting to sort out their problems. The only point worthy of consideration is below, although it is more than debatable that this is an abuse of Chapter 11, since it is precisely what the legal code is there to do - facilitate the move out of bankruptcy:

"The Debtors’ use of chapter 11 as a sword to obtain a tactical advantage in any negotiations to extend the Loan, when such Loan was not in default and does not mature until a year and five months after the Petition Date, is an abuse of chapter 11 that the good faith requirement is designed to prevent."

2. Loans in question were not due to mature for a significant period of time - as such there was "no present need [for] the.. debtors to file for relief under Chapter 11 of the Bankruptcy Code." Additionally MetLife claim that GGP "did not contact MetLife, one of the largest insurance company providers of real estate capital, about a loan extension prior to the Petition Date."

This point has been refuted in evidence submitted by GGP, regarding widespread creditor unwillingness to discuss extensions on all but loans due imminently. This cites that in some cases GGP were even refused the names of underlying creditors to contact. Thus, GGP may in this case have not been able to identify who to contact - either way, this point is secondary in the context of point 4 below.

3. The malls in question do not have any other significant creditors - thus GGP will not be able to cramdown a plan over the Lenders' objections.

This is a particularly weak point; citing dimissal of this SPE because it is primarily comprises a single lender, hence there is no advantage in Chapter 11 inclusions since GGP will still have to fully service them and negotiate with a single lender.

That again is refuted by the evidence submitted by GGP regarding how unwilling many lenders were to renegotiate loan terms and extensions pre-Chapter 11. It also ties back to the point that individually, lenders act within their own interests, which are not directly aligned with those of the company, other creditors (especially unsecured), shareholders or wider credit markets.

This Providence Journal article also suggests MetLife argued that GGP's attempt to 'cramdown' a wholesale reorganization plan for its mall properties will "hurt the insurer's financial interests." I do not see how that can be argued, nor have I found this point being made in the court submissions.

Being negatively financially impacted cannot be realistically argued as a motion to dismiss, beyond it 'hurting' MetLife and other creditors ability to negotiate: they do not wish to be forced to the table without holding all the cards. However all are having their loans fully serviced by GGP throughout the period at pre-bankruptcy rates, thus in theory should not lose out at all financially.

4. Chapter 11 were not filed with any reorganisational purpose - "the Debtors filed bankruptcy to improve their negotiating position by increasing the pressure on the lenders to accept refinancing terms."

Here is the reality of this entire dispute, and the primary reason for arguing for their inclusion is to obtain leverage in efforts to extend the maturity of loans. The rest is largely window dressing, and this is directly opposed by General Growth's claim of operating a centralized business model. I do not hold much credence with GGP's claim in this respect, but it can be very effectively argued and elaborated upon on the day in court, without creditors being able to disprove it.

The heart of the argument is that the creditors will continue to be fully serviced and do not lose out, whilst GGP gain the useful leverage from an automatic stay, and can utilise additional cashflow from the assets while enhancing their ability to restructure and negotiate loans.

Ultimately Judge Gropper has already indicated willingness to agree with the need for keeping GGP's "centralized business model" in tact, and for considering this case in the wider context rather than just those of some self-interested lenders. I see nothing submitted to the Court by MetLife or the creditors that will change that decision, and expect a favourable ruling for GGP next week.

Addendum to original post: late yesterday Wells Fargo issued this direct response to GGP's defence. Here they reiterate the original two points that prove 'bad faith' (inclusion of an SPE that generates sufficient capital to service its creditors, and inclusion of loans not imminently due to mature is unnecessary).

Additional points raised:

• Wells Fargo cite the US government actions and potential expansion of TALF as an unknown, and that should have been relied upon by GGP as a reason to hold off declaring Chapter 11 and certainly including subsidiaries - a bizarre argument that will be rejected.
• The Debtors [GGP] "brazenly replaced their Independent Managers on the eve of their bankruptcy filing in order to obtain a unanimous vote in favour of the bankruptcy filing."
• SPE Operating Agreements require the Independent Managers "consider only the interests of Subsidiary Debtors and, therefore, are precluded from considering the needs or concerns of any entity other than the Subsidiary Debtors."
• GGP's claim that the SPE's were essential as part of the GGP 'family' filings is "completely undercut by the fact that numerous affiliates of the Subsidiary Debtors were not placed into bankruptcy."

Key points here are that General Growth's actions in replacing directors was legal - it is expressly allowed under the terms of the CMBS contracts - and that although filing Chapter 11 is in the wider interest, it is intended for a positive reorganisational purpose that would benefit the entity too, so is therefore not 'bad faith' as interpreted in the spirit of the law.

The final argument around not all subsidiaries being included is the most interesting point, and refers to the joint ventures and other such subsidiaries not able to be placed into Chapter 11. This provides a strong argument against GGP's slightly dubious 'centralized business model' excuse, so it will be interesting seeing how this impacts the Court's decision. I see this as the main factor that could swing a decision against GGP next week.

The latter point is expanded upon by citing that GGP's explanation of the filings being "done to maximize the value for all stakeholders, including the employees, lenders, vendors and equity" is untrue, and instead were "solely for the purpose of maximizing the value of equity." That is correct, although it is arguable that employees, lenders and vendors will also benefit at a collective level from the GGP group having a greater ability to restructure.

In summary, I think the key issue around good versus bad faith is that (as quoted in Wells Fargo's submission), this is "a balancing process between the interests of debtors and creditors which characterizes so many provisions of the bankruptcy laws and is necessary to legitimize the delay and costs imposed upon parties to a bankruptcy."

In other words - was the decision to include GGP subsidiaries in Chapter 11 in the best interests of debtors and creditors, and does that legitimize the delay and costs? The previous Court ruling suggests that this decision has already been made, and in that context despite creditors whinging about it being unfair, it will not be overturned given that the 'cost' to them is actually only in terms of their leverage when negotiating with GGP during restructuring.

Legal Analysis II: GGP's Plans

Well, I will start to get back to posting on topics other than GGP from now on, but it has certainly been an interesting period.

The Court submissions by GGP are lengthy enough to warrant further summary and analysis. Most interesting are the statements outlining the anticipated path through Chapter 11 by Adam Metz, CEO of General Growth Properties, and James A. Mesterharm, the restructuring advisor and MD of AlixPartners.

Thanks to Ryan for pointing out that I forgot to link to the source in my previous post - this can be found here, and as a warning is a weighty 200 page document.

ADAM METZ - Chief Executive of Corporate Propaganda
Metz's lengthy statement is here on Scribd, and it almost feels like Bill Ackman drafted passages, some of it sounds so familiar. There are assurances that GGP has a viable operating model that "is performing well with stable cash flows."

Adam Metz goes into a lot of detail on the circumstances leading up to the filing, which I will not bother to reiterate here. Additionally he repeats many of the points summarised in my previous post. However Metz does so to highlight key facts that the Court may take into account when making its decision, including:

• GGP properties are performing well - certainly this is true relative to peers, with GGP having the second highest occupancy rate in the sector despite its problems. Additionally the firm expects to not be resiliant during the weaker economic environment.
• GGP employs approximately 3,700 people directly - as well as having a significant impact on communities. I am not sure that will pull Judge Gropper's heartstrings, given the same could be said for most large bankruptcies, but you can't blame them for throwing it in there.
• GGP operates a centralized business model - somewhat tenuous, the argument is that the services offered to national client (retail chains) and decision making are out of Chicago, and is an integrated model that would suffer if effectively broken up. This ties in with the case for including SPE's in the Chapter 11 filing.
• GGP has filed to restructure its finances and de-leverage its balance sheet - placing the blame firmly on the collapse of the credit markets: "GGP did not commence these Chapter 11 cases because its operational model is flawed or because its properties are undesirable or performing poorly."
• Credit refinancing problems are market wide and not specific to GGP - "even properties that have been performing well with strong credit quality are unable to attract refinancing" and "GGP's ability to divest assets is severely limited because prospective buyers also have limited or no ability to finance acquisitions."
• Failure to negotiate refinancing terms with lenders was also due to the structure of the CMBS process - specifically that this "impeded those efforts." This goes back to the first post, and that when a single lender acts in its own interest, that is to go bankrupt and claim, despite it not being in the wider interest.
• Chapter 11 will provide a forum for negotiations - GGP envisage this effectively forcing its diverse groups of secured and unsecured lenders to the table, with "the protections necessary for the company to preserve and enhance value by continuing its operations uninterrupted, and the tools necessary to achieve a sustainable, long-term capital structure."

GGP's Chapter 11 Goals
According to Metz, GGP is aiming to achieve the following under Chapter 11 - again none of this is surprising:

• Reduce and restructure GGP's debt - effectively deleveraging the balance sheet as much as possible.
• GGP will present its business plan to the Court and key constituencies "in the next few months", and begin reorganisation negotiations.
• "Seek a consensual plan of reorganisation with its mortgage lenders, bondholders, and other corporate-level creditors." If this is not possible, then apply the Bankruptcy Code to push through an agreement for GGP to "reduce its corporate debt, extend the maturities, adjust rates, or otherwise restructure the company's mortgage debt."
• "Explore strategic alternatives, including sales of assets, and.. available sources of capital", which means they will be open to limited asset sales, particularly offloading joint ventures.
• Proceed through and quickly emerge from Chapter 11 - and there I was thinking they were going to take their time.

JAMES MESTERHARM - Restructuring Tsar
Mesterharm goes into similar details around the causes of GGP filing - namely that it is not a result of the company performance per se, but due to the credit markets. He comments that "there currently is no capacity in the real estate finance markets to refinance the GGP Group's debt on terms that are commercially acceptable."

This section confirms that GGP reported 2008 consolidated revenue of approx $3.4bn, with $29.6bn assets versus $27.3bn in total liabilities, of which $6.58bn is unsecured. I recommend browsing pages 62-66 of the document to give an idea of all the debts that are maturing between now and 2012.

As part of proving the case that GGP have done everything that can reasonably be expected to avoid filing for Chapter 11, Mesterharm highlights the wide ranging operational changes to conserve and improve liquidity, including hiring new management and cost reductions. They even made the sacrifice of "terminating two airplane contracts" - I wonder if poor old Adam has to slum it in cattle class with the chavs these days?

Mesterharm then moves onto how the $375m of DIP financing will be used. One point of note on that is that GGP state they have sufficient cash to not need an interim order to access the DIP funds "prior to entry of a final order" - a good indication of their cashflow strength. Otherwise the DIP loan is intended to provide sufficient working capital during Chapter 11, and repay the Goldman Sachs $225m loan from last year.

Unfortunately there are not yet any actual specifics on that all-important restructuring plan, but overall it has been reassuring to review GGP's submission and not find any skeletons in the closet.

Legal Analysis: GGP Make The Case

I found Goldmans claim for administrative expenses against GGP for making a DIP offer (and having it rejected) highly amusing - if ever you needed an illustration of why they make so much money..

On 31st July, there will be a hearing to determine the extent and value of the lien by the creditor George Reed Inc (GRI), which are secured by the property 'Elk Grove Town Center LP'. What makes this case more unusual is that Elk Grove, and ergo GGP, owe more than $1m in unpaid progress payments (construction costs) to GRI. The deadline is being contested by GGP due to insufficient time to respond, which "failed to comply with procedures".

I have just finished reviewing GGP's court defence, and a summary is below:

1. GGP and its subsidiaries are "a fully integrated organization"
Therefore General Growth requires the revenues generated by the project-level subsidiaries for the servicing of their debts.

2. The CMBS Market GGP Relied Upon To Finance Its Properties Is "Dead"
This point is made to illustrate that it was standard CRE practice to refinance mortgages before they came due and for lenders to sell these onto the CMBS market. This is gone under current conditions, and approximately $9.9 billion of GGP's project-level subsidiary debt matures between now and 2012.

3. Unable To Renegotiate, Each Of The Debtor-Subsidiaries Determined That Chapter 11 Protection Maximized Value
A key point, is that when each of the individual entities acts within its own interest, this does not necessary act within the wider interests of the company or markets:

"When GGP approached several of the master servicers to discuss loan restructurings, it was told that the servicers would not even consider discussions unless the loans were within thirty to sixty days of default."

"Amazingly, in some cases the master servicers were even unwilling to reveal the identity of the special servicers whose consent was required for any loan restructuring."
GGP Court Submission 'OPPOSITION OF THE OFFICIAL COMMITTEE OF UNSECURED CREDITORS TO MOTIONS TO DISMISS OF ING CLARION CAPITAL LOAN SERVICES LLC AND WELLS FARGO BANK'

4. The Debtors Filed For Chapter 11 Protection
Due to the crisis, GGP and its subsidiaries (boards of the entities) met for over a month "to evaluate the data and determine whether filing for bankruptcy was in the best interest of that entity." As expected, the crux of the defence is that this is in everybody's wider interest:

"GGP entities whose mortgages were to mature in the next few years determined that filing was the best way to maximize their company’s value for all stakeholders, including employees, equity holders, and secured and unsecured lenders."

5. The Movants Remain Adequately Protected
In other words, the creditors asking for SPE removal from Chapter 11 should be paid in full anyway, and as even they cannot argue, all have been fully serviced so were not in default. Additionally GGP has "more than sufficient cash flow to service its debts to Movants."

The defence also goes into some detail around how the Movant's secured interests remain intact and protected, given the Court has upheld the need for each Debtor-Subsidiary to continue paying interest on loans at the non-default contract rate.

GGP makes a highly convincing argument in my opinion. It cites that the movants have failed to establish bad faith (a legal term, but ultimately this must be 'proven' by the Movant's to overturn the original decision). The lawyers have a field day shredding the creditor's case:

"Movants thus fall woefully short of discharging their burden of establishing the 'substantial evidence' necessary to prove bad faith. The 'bad fath' standard is meant to weed out bankruptcy petitions that seek to abuse the bankruptcy process."

As I have commented on previously, the industry overstated objections regarding the impact of this case, and stretched credibility. Here GGP's legal defence make the same point that arguing bankruptcy filings by all of the Property Owners will 'wreak havoc on the structured finance markets if permitted to proceed' is baseless:

"Movants offer no evidence that the filings have disrupted markets. Indeed, this Court has acknowledged that their concerns are 'hyperbole.'"

Overall the case seems very strong, and I cannot find anything in the objections that comes close to overturning this. It supports an industry source who confided that the credit industry objections are largely for the cameras (read: the clients). The reality is that CMBS sold to date did not come with adequate legal protection - as such they have too many legal holes for GGP not to win this argument.

Different Worlds, Different Priorities

I had an exhausting long weekend in Chicago for a Jewish wedding, so have spent this week jetlagged and wishing L would give me just 5mins respite from wedding planning. I swear, every evening it's something or other - yesterday selecting invitation designs for the UK reception, another time the cake design or colour of ribbons for the chairs.

It won't get any easier tonight, as L took it upon herself to invite two friends (of hers) over for dinner, leaving me to keep my eyes open into the early hours and feign interest.

As I walked over here to my lunchtime bolt hole to write an entry, on this glorious summers day here in London, I mulled over Bill Ackman's PR offensive yesterday, in which he effectively drew a line in the sand with respect to GGP's reorganisation plan, and how if this was put into place he could see a conservative cap rating lead to a 13-fold increase in his investment return upon emergence from Chapter 11.

The plan that Ackman has suggested is very simple: extending most of GGP's $27bn of debt for 7yrs, which he argues will solve all the company's problems without requiring asset sales.

It certainly sounds feasible, although would be highly unpopular with many creditors. However in principle if the court agreed to such a proposal then that is precisely what could happen. All indications to date are that Judge Gropper agrees that taking decisions that protect the wider CRE market are in the public interest. Widescale loan extensions will nonetheless be fully serviced by GGP due to its viable operating model, so this seems quite feasible.

I had envisaged widespread 2yr extensions with limited asset sales, but Ackman is clearly setting out the case with the ideal scenario for common shareholders.

Anyway, there was a certain irony that I was toying with how it would feel to bag over £1 million profit from a trade as I wandered down one of the City's many backroads, when I overheard a middle aged woman - presumably talking on the phone to her husband - arguing over whether it was him or her that was supposed to have paid the £1000 for the mortgage that month.

Different worlds, different priorities. It makes me realise how much of a bubble I live in sometimes when I overhear a conversation like that.

I think that it is fair to say that the market has started to consider GGP as a potential investment opportunity now, rather than after bankrupcty. This is part of the market reassessment after the Court's positive rulings in GGP's favour relating to the SPE inclusion in Chapter 11, amongst other things, earlier this month. I was disappointed by the lack of market response initially, but I think it took time for investors to digest the implications.. I forget most are not so close to the detail.

The end result on closing yesterday, is that the share price has now risen by exactly 200% since GGP filed for Chapter 11 and opened at 60 cents a share on April 17. Not a bad return in 6 weeks for anyone bold enough to buy that day. Although I am averaged in above $1 myself, I am already sitting on a significant unrealised profit, which feels rather better than a loss, however meaningless.

Round 1 To GGP As CMBS Industry Overplays Its Hand

I will move off so many updates on GGP soon, not least as I am busy looking into other investment opportunities. However there was enough news late yesterday to warrant an update.

Firstly on DIP financing, after swinging between bidders (and worth noting that bidding for DIP financing is in itself a rarity), GGP turned down both Pershing Square and a consortium lead by Goldman Sachs, and instead opted for the group lead by hedge fund Farallon Capital Management.

Details seem largely unchanged from before at $400m of funding with a 12% interest rate and no warrants, apart from a lower exit fee and now a potential 8% equity repayment option - that is subject to GGP's equity value upon emerging from bankruptcy.

At present the exact details of the DIP financing are not available, although The Washington Post quotes Ackman as saying: "This is the best DIP loan that has been done since the beginning of the recession, and it could be the best DIP loan ever in terms of the structural features that are favorable to the company."

All indications had been that the Court hearing yesterday was going to rule in GGP's favour. So it proved, with both DIP Financing approved, and Judge Gropper, presiding over GGP's case, ruling for the SPE's inclusion in the Chapter 11 filing.

This brings the inital phase of proceedings to a conclusion, after much legal wrangling (and whinging) on both sides. Various lobby groups representing the CMBS industry, fearing the ramifications from investors if their products did not deliver on the promised bankruptcy protection, launched into the most hilarious claims.

The end result was that they stretched credibility and overplayed their hand.

"The GGP bankruptcy filing could - if passed - be disastrous for the CMBS [industry] in the US" warned Conor Downey, a partner at Paul Hastings. He then went on to claim that such a ruling would somehow lead to an enormous downgrade of CMBS debt and that none could attain triple-A rating again.

The highly impartial Mortgage Bankers Association also added their voice, stating grave concerns over the 'catastrophic' impact of such a precedent.

An official from the CMSA (Commercial Mortgage Securities Association) also over-exaggerated the situation by stating: "It is not an exaggeration to say that if a CMBS lender cannot get comfortable with the isolation of the real property asset to be financed and hence the cashflows derived from the operation of such asset, then no such financing will occur."

Yes, except that this does not mean CMBS lenders could not get comfortable with isolating the asset being financed. Fortunately the seasoned Judge Gropper was unimpressed with such overstatement. Even earlier in the week, such claims had been dismissed as "hyperbole".

Judge Gropper overruled the objections yesterday, rightly saying that lenders rights were protected and General Growth should have access to cash collected at its subsidiaries. The notion that commercial mortgage backed securites somehow mean lenders have a legal right to control the cashflow is clearly wrong. It would hinder a viable company, capable of fully servicing its debts to those creditors, from moving out of bankruptcy.

Where GGP had been out of line was an implicit suggestion in the bankruptcy loan that the underlying collateral for the existing CMBS loans (i.e. malls) could be used as collateral for the new DIP loan. That illustrates what CMBS do provide - a guarantee that the asset cannot be misused, and will always be there to enable repayment for the creditors, even in a bankruptcy.

Matt Reid, a senior financial analyst at DBRS made a telling observation, by stating that "the GGP bankruptcy is unique in that most of its CMBS loans are performing reasonably well with strong debt service coverage and likely equity value above the mortgage debt."

Additionally Reid concurs with my previous analysis into the motives for including SPE's: "After reviewing the bankruptcy filing documents, we think the motivation for the filing of the SPEs is to generate better negotiating leverage with the special servicer to extract the value above the CMBS mortgages, while keeping such debt current. The plan is to use this cashflow as working capital during the reorganisation process, which could be several years. Such a ruling would be positive for unsecured creditors."

Round 1 to GGP and unsecured creditors then. It will be interesting how (or if) this impacts the share price later today upon opening.

CMBS Industry Gets A Wake Up Call

I have been following recent events in the commercial mortgage backed security market with interest since General Growth Properties filed for Chapter 11 on April 16.

The headlines have recently been around an alternative DIP financier being announced.  This is good news for GGP, because it has improved terms - in particular relating to potential equity dilution, which is the primary threat to common shareholders. Pershing Square had both a 4.9% warrant and a 5% equity conversion clause linked to the DIP repayment.

By contrast the new DIP terms removes the warrant, although replaces the 5% equity conversion with 6% (and demotes DIP financing to a junior lien on cash collateral - in effect making repayment less prioritised versus other secure debt to appease creditors). The equity conversion is considerably less than previously however, and as I said before ought to have minimal impact on the firm, as this could only be exercised upon successful emergence from bankruptcy. By which time the firm capitalisation should be hugely higher.

Of more interest were the recent details around the degree of investigation and preparation that GGP put into their bankruptcy filing, designed to ensure they maximise leverage when negotiating with creditors further down the line.

Firstly, it should be said that the issue here all comes down to one of expectations. Those lenders who entered into the various credit products being sold by the banks over the last 5 years, such as commercial mortgage backed securites, were reassured during the sales pitch by the way they were structured.

I know because I work with credit sales people at the banks, and their oily schmooze would be enough to convince me that they know what they are talking about, were I not familiar with the legal grey area in the detail beneath the surface.  In the event, salesmen just regurgitate a well-honed sales pitch, whether they're selling CMBS's or used cars.

"Debt is tiered by risk and reward, so if you take out the higher grade debt in this product, you will be first in line for repayment in the event of a default" schmoozes the salesman.

"But what about if they go bankrupt, and take the whole thing down with them?" asks the nervous-but-greedy investor. "Surely then being first in line isn't going to be any use."

"Ah but that is all factored into the inherent design of this product", reassures the schmoozy salesman. "Commercial mortgage backed securities from DodgyBank Inc are structured with the issuer to be held through a 'special purpose vehicle'."

"What the hell is that?" asks the nervous-but-curious greedy investor.

"It's a clever legal structuring of the debt, that provides additional insurance. The holder of the security and underlying collateral is not the company that owns the malls, it's an independent legal entity which is bankruptcy remote. That means if they go under, your asset does not, so you are guaranteed to be first in line if they default as all the cash flows towards repaying you."

"Wow, that's awesome - I can't lose! Put me down for $10 million on one of the really big REIT's.. hmm, that fast growing one 'General Growth Properties' looks good."

Of course, had these idiots bothered to do some due diligence, they would have read the finer print and worked out that the companies had far more control over those special purpose vehicles (aka 'special purpose entities' or SPE's) than they realised.

In GGP's case, they had the power to hire or fire the directors of the SPE's for the underlying assets (malls) as they so chose. As such, they did just that in the weeks leading up to bankruptcy. Unsurprisingly all 166 SPE boards then subsequently backed having their malls enter Chapter 11 with GGP, so this was firstly quite legal.

In papers filed Wednesday in U.S. bankruptcy court in New York, General Growth argued the CMBS investors' objections to including the SPEs "appear grounded in the misperception that 'bankruptcy remote' means 'bankruptcy proof'."

Now the battle ground is set between GGP, which wants to strengthen its position, and outraged creditors that wish to prevent the malls which their loans are secured against being included in bankruptcy (and the cashflows going to elsewhere in the business).

Unfortunately for the creditors, as the Wall Street Journal reports yesterday, GGP have prepared a significant argument to the court by pledging "to continue paying interest on its mortgages, possibly making it more difficult for CMBS holders to argue they should be allowed to foreclose. It also pledged to provide its mortgage lenders 'adequate protection,' meaning they will have an administrative claim in any liquidation scenario to cash flow drawn from their properties by the parent company."

Whatever the court decides will have far-reaching implications for the wider credit markets, but the odds are strongly in favour of GGP persuading the courts to go ahead with this, as it is very difficult to argue this is not in the wider interest of the market and commercial real estate industry to allow this to happen.

Otherwise the only news today is that I snapped after nearly 5 hours of wedding related shopping on the Kings Road earlier.  After a row with L about how all she seems to want to do with time off is go shopping, and how I have better things to do (such as finish the functional spec), she has gone off for a hair appointment, and I'm contemplating whether this is what married life is going to be like.

Perhaps I ought to Google 'marriage pre-nup'...

Speculation Drives GGP

I have been making some positive progress on the business plan for the financial website I am planning to create (sorry, will not be discussing specifics as you would expect on a blog!) A high level plan for its initial marketing and revenue generation has been completed, and since I have brain dumped most of the site ideas, I am going to formalise those along with specifics on the design and structure this weekend in a functional spec.

I have started to look into vendors that can build the site, but am so far fairly unimpressed with the package solutions on offer - not to mention all the bullshit extras thrown in like registering the domain name (and controlling it), that presumably appeal to the average lamer they are targeting. I will be telling them exactly what I want, and otherwise will need full control over the daily content management.

It will require some time and effort to assess what is on offer, but I am looking to approach around about 10 vendors for build estimates, options and support contract costs over the next week. I need that not least so that I can complete the financial component of the business plan, including necessary start-up capital and first year trading costs.

After my last entry on Saturday, discussing my increasing confidence in GGP's prospects - not least from Bill Ackman's recent comments - the share price on Monday underwent such an unusual increase (greater than 200% at one point), that the firm issued a statement on the trading activity to confirm there was no known basis.

I was not entirely surprised to see speculation growing from institutions and others that GGP has significant potential for common shareholders. A 98% discount alone tells you that it is clearly not a fair reflection of value. The price as of today has predictably dropped back to around 85 cents since the highs of $1.35 earlier this week - since I was waiting at around 75 cents for falls to buy more, I am happy to hold and continue waiting for a better buying opportunity (ideally somewhere under 50 cents).

In the meantime, additional support for the notion that GGP will eventually complete negotiations with lenders and file for a prepackaged bankruptcy came in the form of real estate magnate Sam Zell, who commented:

"I do not believe GGP will be liquidated," Zell said at a recent New York University real estate investment trust conference. "I expect the company to file bankruptcy. It will do a prepackaged. It will be reorganized and it will be taken public."

The net impact of this would be a controlled bankruptcy application with a pre-agreed plan of restructuring - this would enable the firm to sort that out under Chapter 11 protection in much less time, and theoretically with less court interference. It would then emerge from this and should see a huge increase in share value.

At the same time, the existing evidence points to TALF funding continuing to trickle down through the system and have an increasingly positive impact on the credit markets throughout the remainder of 2009 and into 2010.

Everything right now seems to point towards GGP being an excellent long hold for anybody not risk averse. Consider this final point: the consensus view in and outside the US government now is that the commercial real estate sector is a huge and vital component of the US credit market that must be supported. As well as CRE being more viable than the multitude of small home owners in the domestic market, many have also commented on the devastating impact that a Chapter 7 (liquidation) of GGP would have - not just on the firm and its shareholders, but more importantly on the wider market.

Too big to fail? I think people are soon about to work out that this doesn't just apply to the banks, and that the major REIT's are also in that same boat.

Calamity Chain(saw)

Like investors, banks so often make the mistake of under or overreacting to situations. In this case, the growing consensus at the bank is that this has been a level of cuts too far.

Suddenly all manner of tasks, from day to day tedium to vital projects, are facing significant delays. Trading, Operations and Support teams were left scrambling to try and fill the holes left by 'resources moving on', which is the amusingly non-descript corporate phrase being used to describe the practice of mercilessly firing bright, hard working employees who mostly have done nothing to deserve it. The most bizarre part is that countless teams are finding experienced experts who survived being randomly moved onto other teams that are in worse trouble. To my surprise the firm is managing to now also utilise fewer resources less efficiently.

Perhaps it's me, but the whole thing indicates a pea-brain level of decision making at the top. Presumably there is an inverse relationship between salary size and common sense.

As such my life has suddenly timewarped and gone from manageable back to an earlier time in my career, with far too much hands-on crap. I was busy working long hours before, but suddenly the lunchtime stroll I was regularly taking in the City to somewhere where I write this blog has become a luxury. I spent 6hrs solidly in meetings from 1pm yesterday for example. So much for work life balance anymore - our masters at the top appear to naively have expected us to simply deliver as much as before (perhaps because that was mostly possible in the previous round).

It is perhaps telling that Asset Management have already been given tacit approval to start hiring, which says everything you need to know about how close we are to reaching the bottom. I think we are there, but that is dependent on when the credit markets start to thaw.

On that subject, it is good to see that the UK and US governments are pushing on with policies to pump much-needed funds into the economy. I don't subscribe to the public hysteria about letting the banks rot, but that is hardly going to surprise anybody. What some people do not appreciate is that governments are not spending our money - they spend that and more before we pay taxes each year - but that due to circumstances, they are simply increasing a number in the computers at the Bank of England and Fed.

Quantatitive easing in this case is not really about printing money. In theory it will be about buying up assets that push money out to the credit markets and (in theory) encourage lending, and then selling those to the private sector once normality starts to return (paying off the money it has created). The issue is ensuring that the money is circulated rather than holed up. It is rather like if the government sent a £1000 cheque to everybody. Two years ago I would have been online to book a holiday within a minute, but today it is just as likely I might save that for the all-too-likely rainy day, thus making no actual improvement in the economic situation. Actually not in my case, I would just get on and invest it as I do most of my savings.

On that subject, GGP remains at historic lows in the 40 cent range right now. Indications are that asset sales are on the way, which should enable several loans to be paid off. There are currently fears circulating about GGP needing to dilute shares hugely through an issue to pay off additional debt next year - that is unfounded given that at these low levels the firm is worth a mere $100m, when its balance sheet indicates $3-4bn is more accurate. It would effectively hand the entire firm to a single creditor, which nobody would want. The creditor would want cash, not to inherit the mess GGP is in, and nor would it benefit significant shareholders currently negotiating such deals.

I am still optimistic that patience will see a resolution to the GGP refinancing impasse, and Chapter 11 remains a useful bargaining tool for the firm in securing fairer terms with its creditors. Having looked into this in more detail, I am starting to conclude that the UK needs to implement similar protection laws here, although hasten to add I am no expert so that is just an aside.

Finally, it was amusing to see Gordon Brown on the front page of the Metro on the way into work this morning. The caption read he was being greeted by congressmen, although as with most things relating to him, on closer inspection it was less impressive. Those eager, outstretched hands turned out to be teenage pages, who work for the senators there on secondments. Very impressive Gordon, I'm sure your vacuous speech will save the world (again) as well.

Coping with Investment Nerves

It is interesting how, on a reasonably substantial trade such as my long position in GGP, even after so many years of investing I still myself effected by emotion. Having steadfastly held since early December 2008, and increasing my position as the stock fell to $1, until now I have had few concerns. However with global markets continuing to fall hard this week, GGP now sits priced at a mere 45 cents - back to near its lowest ever price. I made the mistake of calculating my paper loss: currently about £54,000.

Of course being an unhedged trade is the root cause behind that figure; I have equal upside and downside exposure here, which is never desirable. However without access to short facilities or options (outside the bank I work for), my choices here are limited. Enough to make me look at that unrealised loss and think the usual: "ouch, my net worth is lower by x amount", "God, I wish I had never got into this" and "if only I had waited until now, I could have bought TWICE as many shares for my money!"

Falling prey to such thoughts is a fallacy. Nobody can 'know' the short-term movement of stocks (despite confident assertions by junior trader). With hindsight my only wish is that I had acquired my position in GGP more gradually to give a wider spread position - that would have given me a better opportunity to take advantage of its steady falls to date. Still, to put it into context, should the price move back to where it was 5 weeks ago now, I would be sitting on an unrealised £35,000 profit.

That is a big 'if' of course. At present the reason for the increasing decline is that other investors are acting upon their own fears that GGP will probably file for Chapter 11 and that common shareholders will lose everything. I have to constantly remind myself of my previous analysis on this, and that fundamentally nothing has changed to date.

As such, I am not going to do anything - although I am toying buying another £10k's worth of stock at these low levels. An RBC Capital analyst summarised the situation GGP faced relating to the credit market seizure and refinancing the Las Vegas malls:

"Basically we had a very large, very successful company asking banks, insurance companies, anyone who is interested, 'Please lend me money on two very, very good retail properties.' And the lending community simply said, 'No.' "

I recall mulling over the psychological aspect of all this some time ago; that when GGP stock cooled off again from the period in which I first purchased, that fear would possibly reassert itself and push the price back down. I toyed with selling in the January rise - which turned out to be from the hedge fund Pershing Square making further substantial purchases - but decided the $2.25 price was too far below my target exit price.

Of course with hindsight, I should have sold then and bought now, but if we could see the future we would all be millionaires very quickly. It seemed quite possible that the price would stay in the same range as December, and at any moment could increase significantly. Quarterly earnings are on Monday, mall purchase deals are still potentially out there, and there is potential for government refinancing of the CMBS market through the starting up (at last) of the Term Asset-Backed Securities Loan Facility (TALF).

One thing's for sure - the GGP pressure pot is close to boiling now, and something is going to blow and start to move this whole situation further. I am inclined to believe now that it will be through government intervention, given the entire commercial real estate sector faces these same refinancing issues in 2009/2010.

Banking on Bankruptcy

The situation with my GGP trade is continuing to progress (slowly), and looks to be gradually moving towards some significant news. That will bring a resolution to this period of financial limbo, which has seen continual loan extensions that only prolong the uncertainty and depressed share price.

On Friday, GGP announced that they were cancelling their quarterly analyst call outright, and postponed their earnings release by a fortnight.

There are a range of possibilities why, but this article gives some detail into one - namely the expiry this week on a forebearance agreement (this is an effective extension to a loan while the lender promises not to force a default and the borrower negotiates and is unable to comment in public). If GGP were to file for Chapter 11 this week, its quaterly earnings becomes "a sideshow" by comparison.

Hopefully GGP will file for Chapter 11 bankruptcy protection. As I have said before, I believe this scenario will also work well for GGP and its shareholders. It just may take 3-12mths before I start to realise the gains, which is unfortunate but as I have said - a key rule of investing is patience.

As this article illustrates in some detail, the prospects from an REIT going under are considerably different from a normal company - particularly one with assets that exceed liabilities. To quote an unnamed source from a Reuters article: "General Growth has problems with liquidity [i.e. servicing refinancing its debts] rather than solvency [i.e. operating cashflow]." With assets that exceed liabilities on its balance sheet (ignoring marking to market that should improve that further), and a positive cashflow, it all points to this being very profitable for shareholders when it emerges from Chapter 11 in the future.

Two interesting quotes:

"Bankruptcy experts, however, say that many of the worries may be unfounded. The sector may not have been tested by a big bankruptcy yet, but enough is known about how the companies are structured and how a bankruptcy proceeds that experts think the industry should emerge fine, even from a series of bankruptcies. Further, there is reason to believe that because REITs control a tangible base of assets through large portfolios of real estate, these firms may be more likely to survive bankruptcies than other companies that’s value is harder to pin down or could be subject to liquidation."

"Experts say REIT shareholders are more likely to retain some value simply because of a REIT’s underlying assets. “Most shareholders get nothing in a bankruptcy because most companies have no assets, and that’s not the case with REITs,” Jerome says. “It all comes down to valuation of the real estate assets. Even if those valuations have decreased, it’s going to come back up. And, if the REIT has to go into bankruptcy, it’s not the end of the story for shareholders as long as the company still has something of value.”"

I remain confident that GGP is hugely undervalued. Its share price is so depressed at present due to shareholder fears that Chapter 11 would wipe out the value of their holdings. However given that GGP ought to have a share price of around $20/share by my valuation (half what it was at its peak in the summer), and is currently at a mere 80 cents, you get a sense of just how low it is right now. Certainly $10/share within 2 years is very realistic.

Therefore it will not require even much excess value of assets versus liabilities to remain on its balance sheet for common shareholders to see a huge increase in the stock price and their returns. Another possibility would also be that GGP is bought out during the process, which again would mean big returns for me as it would doubtless be at a share price upwards of $7/share. To put that into context, I would be looking at a £250k profit in such a scenario.

There are other factors to stir into the mix - opportunisim and political. There remains a distinct possibility that one of its rivals will take advantage of the huge discount to merge (or buy outright) GGP. One candidate would be Developers Diversified Realty Corp (DDR), which has a market capitalisation approximately twice that of GGP at present, due to it having less issues around solvency. A combined entity would instil all-importance confidence in lenders and would realistically lead to GGP shareholders receiving a shareprice in the $5-10 range I would estimate.

The political element comes from the extension of the TARP for funding commercial real estate lending, and the progress of Barack Obama's current funding bill through the Senate. I need to complete more research into this as I am not particularly up to date, but it is possible that lenders are receiving indications that funding will be made available at some point in the future, which would enable refinancing.

That would certainly explain why there have been continual extensions without apparent resolution - an effective delay until the TARP situation is clarified, as that is obviously the preferred solution for all parties. If so then there may be another extension again with regards to loans due on 12 February for the two Las Vegas malls mentioned in the Forbes article.

So much to consider, and all you can do with a trade of this complexity is complete analysis, stick to your strategy and remain detached from emotion throughout. If I were to lose my entire stake on this trade (around £80,000) then so be it and I will have learned a huge amount along the way. However all my analysis points towards my acceptance of this risk yielding a significant reward in the future.