August 16, 2009 - 9:07pm EST by
2009 2010
Price: 1.70 EPS $0.22 $0.26
Shares Out. (in M): 18 P/E 7.7x 6.5x
Market Cap (in $M): 31 P/FCF 10.6x 8.5x
Net Debt (in $M): 188 EBIT 3 4
TEV ($): 219 TEV/EBIT 10.6x 8.5x

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InterRent REIT (IIP.UN on TSX) is a residential-focused micro-cap Canadian REIT whose strategy is the ownership and management of apartments buildings in Ontario's secondary markets (essentially markets outside of the Greater Toronto Area).  Its portfolio consists of approximately 4,000 units located in Ontario.  Ottawa and London are its two largest markets.

Investment Case

InterRent has a Net Asset Value (NAV) of approximately $2.00 using an 8.0% cap rate.  It currently trades in the market at $1.75 implying roughly 15% upside.  The real opportunity with InterRent lies with their convertible debentures that trade at $85 versus a $100 par value (IIP'Z on TSX). 

The purchase of InterRent Real Estate Investment Trust 7.00% Subordinated Convertible Debentures, due January 31, 2013, represents an interesting investment opportunity.  It could be categorized as a low-risk, modest-return opportunity. Please note that all numbers are in Canadian dollars, unless otherwise noted.

Let's assume one were to buy the convertibles at $85 and hold till maturity.  This would result in a YTM of just under 13%.  But it gets more interesting than that.

InterRent REIT is in the midst of strategic negotiations with the current result being 2 interested parties willing to take a partial interest in InterRent by injecting cash into the REIT.  Though it is difficult to ascertain who will win (the CLV group is the leading party at the moment), if one of the two parties launches a bid for the entire REIT, the convertibles must be taken out at 101% of the principal amount plus accrued and unpaid interest.

In other words, buying the convertible at $85 gives the opportunity for a takeout at $101 plus interest over a short-term horizon (call it 6 months or so), resulting in a YTM of 47%.

Let's assume that in the end, one party wins out and just takes a partial interest in the REIT in exchange for a cash payment.  The return of 13% is still okay and there is now more equity in the firm beneath the convertible holder.

Investment Risks

 The risk with this investment is what happens if, for some reason, we return to last fall, then liquidity issues could cause this to fall into the $60s.  The gross face amount of this convertible issue is only $25 million. 

 Also, for the REIT, debt (including converts) to Gross Book Value is approximately 69%.  Despite this high level of leverage, because the firm is in the apartment business, its debt is backed by CMHC ("Canada Mortgage and Housing Corporation", in other words the Canadian federal government) lessening this concern (apartments were one of the few real estate asset classes that were successfully issuing debt last fall and this past winter during the peak of the credit crisis).


Successful resolution of the strategic negotiating process




 Successful resolution of the strategic negotiating process

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