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Regency Affiliates (RAFI)

February 9, 2017

I’ve recently picked up a small position in Regency Affiliates (RAFI), not an easy thing to do at the price I wanted to pay as the liquidity is almost zilch.

I first read about RAFI in a 2013 post over at OTC Adventures. At the time I remember thinking that the company looked interesting but the potential value recognition catalyst appeared to be about 5 years away, so I took a pass and put it on my ‘potential’ list that I file away (sometimes only mentally). As it happens, a few weeks ago I was browsing through Barrons weekly list of new annual highs and lows and I recognized the name Regency Affiliates (on the ‘new lows’ list of course, I rarely peruse the new highs). So I took a jog over to their website to see if there was any news that might have caused the stock to drop. I didn’t immediately see any, but that didn’t surprise me; illiquid stocks like Regency can make significant price swings on just a small amount of volume. Then I thought I might check to see if they had published any recent financials. Regency is a ‘dark’ company (no financials filed with the SEC) and so I didn’t expect to find much. But just when you least expect it! Yes, the company participated at a microcap conference in October of last year and made a presentation that was available on the website!

Basically the presentation was a valuation of the company. And while I found the presentation interesting, more interesting to me was why a CEO who owns almost 50% of a company would be making a presentation showing the company to be significantly undervalued by the market. But lets leave that till later.

The presentation confirmed the basic outline of OTC Adventure’s post. The only update was that between then and now the company made a rights offering (to qualified investors only… a bit of a caveat here that management can be self-serving) raising about $9 million last Spring and investing those funds in a self-storage facility in PA. This means the company now has 4 assets; Cash, a 50% interest in a Maryland property currently under lease to the Social Security Administration, a 50% interest in a co-generation plant serving a Kimberly Clarke manufacturing plant in Alabama and the new investment in a Pennsylvania self-storage facility. Per management’s calculation the shares are undervalued some 35-60% (upside of 60-135%). Take a look at their calculations. They don’t seem unreasonable. The two main risks are that the Social Security Administration doesn’t renew their lease in 2018, which I think is very unlikely, and that Kimberly Clark doesn’t renew their co-generation contract for the Alabama power plant, which I also view as somewhat unlikely. The other risk of course is that management does something stupid with the free cash flow or makes some self-serving investment. This is entirely possible because apparently in the early 2000s they did something similar, but more recently they have been using cash flow more judiciously, paying down borrowings in each of their investments.

The real question here is what is management’s game plan and is there an exit strategy. The CEO owns close to 50% of the equity and is 60 years old, i.e. heading towards retirement at some point in the next decade. This is not a company that is likely to be bought out given the diversity of the assets. Potentially, the assets could be sold off individually. But if that was management’s intent then why buy a the storage facility just 9 months ago? So I have to conclude that management’s short-term strategy is to opportunistically buy undervalued assets that will accrue in value over the long-term, but that their long-term game plan and/or exit strategy is still unclear, or possibly even unformulated. The question is why suddenly participate in a micro-cap conference? The most obvious response would be that Management is trying to boost the stock price. But if the stock price is so undervalued why doesn’t management simply buy more and eventually buy out all the public shareholders?  That would provide the most upside. Perhaps they don’t have the means. More likely is that they might want to use equity, combined with funds from refinancing the MD property (once the lease is renewed), to potentially make a large acquisition. If this is the case, then the current undervaluation of the shares is merited as there is some risk that the funds might not be effectively invested. For shareholders looking to close the value gap the best outcome, of course, would be for management to return any cash from a refinancing in the form of a dividend or share buyback . Ironically, returning the cash from a refinancing would probably do more than anything else to get the company’s share price up and the company’s market value closer to its intrinsic value.

For me, despite the risks, the shares represent an attractive investment in a basket of undervalued assets with the potential of a value-enhancing catalyst happening within the next two years. Yes, the attractiveness, is somewhat limited by the risk that management could poorly allocate future free cash flows, but, given the asset value, I see limited downside and I like investing alongside management where they have significant skin in the game. My hope is that the cash freed from refinancing the MD property will, at worst, highlight value of the company to the investment community and at best be returned to us patient shareholders.

  1. Rodrigo Pantoja permalink

    Nice write-up! Indeed difficult to say why management/Hyde Park doesn’t simply buy the company out… Looks promising.Thanks for posting!Best, Rodrigo Pantoja MBA Candidate – April 2017

  2. Spare me the platitudes permalink

    So what size of a position do you take in something like this, “an attractive investment in a basket of undervalued assets with the potential of a value-enhancing catalyst happening within the next two years.”

    • I generally try to target 20 stocks for a fully invested portfolio, so 5% in each position. That said, I allow myself a bit of leeway; a small position would be around 2.5% and a large position 10%. RAFI is a small position.

  3. Rob permalink

    Thanks for the post, I read through it….then the presentation from RAFI Managment. I got a number of red flags waving in my periphery. First (and the largest), Mr. Levy. His association and actions while at Essex Crane have been fun to watch. This really killed the whole idea for me. His compensation, treatment of his own CEO, the proxy battle/entrenchment, etc. has been incredible. Beyond that, in his presentation he represented self-storge as having high barriers to entry. Enough said. Finally if Levy, in his heart of hearts, wanted to realize the share price appreciation and he/his compadres thought there was value, they’d simply buy back stock or sell assets – you were spot on. It’s irrational to do otherwise if the gap to value is truly as large as he says.

  4. Rodrigo permalink

    Kimberly-Clark will no longer be a client of MESC after 2019… I wonder what the residual value of the power plant is.

    I have also spoken to a person from DTE recently and he mentioned that all options are being considered regarding the power plant, including shutting it down after 2019.

  5. Yes, bad news on the MESC front. In retrospect I wonder if management knew this was going to happen or likely to happen; were we investors being taken for a ride? Anyway, I feel stupid for being too optimistic given management’s track record.

    However I will note that in the Fall 2016 company presentation (cited in my post) where management provided a range of valuations for the company, the ‘low’ valuation reflected the Kimberly Clark contract not being renewed, and still management came up with a valuation of over $14/share.

    Now we just have to wait and see what happens with the renewal of the lease on the SSA-occupied property, and, if the lease is renewed, whether management refinances the property and how they allocate the funds. I don’t see any point in selling now unless the price rallies, which I think unlikely. I may even double down if the price falls further.

  6. Arthur Wellesley permalink

    I think this one looks OK. Management strategy seems to be to use the power plant cash value and any Woodlawn refinancing proceeds to turn the business into a self storage business which can get a proper rating and proper liquidity. True, they could take it out at a cheap price today but, on balance, they will probably make more money if they grow it and simplify it. If the SSA re-leases it is a steal anyway, in my view.

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