Description

Timely idea, rights offering coming to a close.  Buy 1 unit, exercise and buy an additional 1.31 shares of stock at $3.285 for a blended price of $3.47.  Check with brokers on the units for their deadlines, TDA is today, Fidelity is tomorrow.  Stock ex-rights is GECX and should revert back to GEC when this closes and when it gets trading again should probably be around the blended price.  

Great Elm Capital (GEC) is the former Unwired Planet.  Unwired Planet was a patent troll that generated a lot of losses and was ultimately shut down by activist investor Mast Capital.  The patent portfolio has been sold, so that's all history.  The only residuals are some cash that came in from MSFT case, with an offsetting smaller liability, and a $10m receivable GEC will get in June of 2018.  Other than that, there's a $1.7b NOL.  

GEC's current incarnation is controlled by Mast, they have the advisory contract for Great Elm Capital Corp, or GECC (a BDC formerly known as Full Circle).  The contract pays them 1.5% of total assets ex-cash plus incentive fees of 20% with a full catch up past the 7% hurdle rate.  GEC has invested $30m in GECC in a deal to get the advisory contract that closed earlier in the year, this investment should generate $2.7m in cash back to GEC.  

Let's get this out of the way, GECC is not the greatest set of assets.  Mast contributed some securities in the deal, the biggest of which is Avanti, a UK satelitte co that's indebted.  They contributed it at a mark of 78c and are taking a PIK instead of cash.  FULL wasn't known as the best collection of assets either, and it's management was terrible.  So GECC is kind of a dumpster fire, to be honest, but we haircut it to 20m, slightly below market.  The good news is they are converting the legacy FULL portfolio to cash faster than they expected.  Anyway, GECC has $3/sh in net cash, so a mark of $10.50 or so on $15 of BV implies the book is worth slightly more than 60% of where its carried (stripping out cash we get $12 of assets and $7.50 of market value).  This is probably fair.  So while not exciting, GECC's existence gives GEC some current income and fees, it is also a platform to do rights offerings and secondaries, etc to grow those fees.  

GEC recently re-initiated a rights offering to raise $45m, $43.3m net of fees, which was backstopped by Gracie Investments(a $1b+ family office, not Moelis affiliate) and what looks like Mast employees.  The offering is large, relative to GEC's current market cap of $40m or so.  Quite frankly, it looks designed to raise money from Mast and friends of the Mast.  They initially attempted to close this offering with the closing of the GECC transaction, but some technicality in the offering docs forced a restart resulting in a lower rights price.  

Anyway, they should have some cash to pursue deals.  Their site talks about fund management, merchant banking, etc.  Whatever it is, it'll be something intended to put a dent in the NOL.  The company had Jess Ravich on the board (he left the board b/c his employer TCW owns a BDC and deemed it a conflict of interest), of ALJJ fame, so maybe they'll use something out of that playbook.  They could also be looking to get their GP inside a tax sheltered entity, they already sold 80% of the GP to GECM for $10.8m.  Gracie and affiliates are putting up a good chunk of chage and I don't think they're in the business of doing Mast favors.  Having them involved also helps because someone else is involved if Mast unwinds.  I'm not exactly sure how it plays out, but the set up is attractive for at least at trade and we can see where it goes from there.  Here's the NAV:

Pro forma for the rights offering, FD sharecount is 24.1m. 

Cash of $8m (they have a little over $1m plus 3.4m net expected from msft settlement & about 3.4m reimbursement from GECC deal fees) plus rights offering amount of $43.3m=$51.3m

GECC stake of $30m marked to slightly below market @ $20m

Holdback amount on patent sale, rec June 2018 $10m, haircut $1m for waiting is $9m.

We're looking at about $80.3m or $3.33/sh in cash/securities/receivable.  

Guidance is to generate $2.7m in interest off the GECC stake, plus fees and incentives from the management contract of about $7m.  Expenses are expected to run between 45 and 65% of asset management fees (3.15-4.55m).  So earnings should be between $5.15 & $6.55m, or between $0.21-$0.27/sh.  Let's say this is worth about 5-6x or $1.05-1.62/sh.  To triangulate this, if we excluded the BDC income, just looked at the revenue off GECM contract and apply a revenue multiple of 4x, we get about $1.16.  Let's call it $1.15 or so.  

There's a note to Mast for the GP stake of about $10.8m or $0.45/sh.  Netting that out gets us to $4.03/sh ($3.33 cash/securities + $1.15 for GECM - $0.45 note).  

All in, i think we have $4.03/sh worth of value today, before you factor in the NOL.

Valuing NOL's is as impresice as it gets and it's more valuble the more credible the plan is to use it.  GEC has NOLs of about $1.7b, tax effected at an assumed 20% rate (new political regime and everything) is about $14/sh.  Value that however you'd like and throw it on top.  They're clearly working to monetize it, are cash flow/net income positive so you have to give some value to it.  Maybe it's worth 10% of the tax effected amount, or $34m ($1.40/sh).  

However you want to deal with it, I think a unit at the current price is a security trading near cash/securities/receivable, not burning cash and earning north of $0.21/sh, with a $14/sh tax shield.  Seems like a pretty good deal to me.  

Risks:

MAST looks to be in some trouble and this is perhaps their permanent capital vehicle life boat.  Peter Reed is heavily invested in this in a number of ways, from my DD, I understand that he's one of the best credit doc guys around but may be so-so on things like valuation.  They're heavily into Avanti, so if that winds up as a workout, it could be trouble or at the very least a big distraction.  If Mast unwinds in a disorderly way it could be a distraction from this entity as well.  

Catalyst

rights offering closing

post-offering deals