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UCASU: Navigating for the new normal

10/16/2020

By Beth Senko, CFA

OTC:UCASU

READ THE FULL UCASU RESEARCH REPORT

The pandemic continues to throw uncertainty into the economy and markets, making it difficult, if not impossible, for many to look past 2020, or even next week. Recent studies suggest that in the past three months, between six and eight million Americans have fallen into poverty, creating additional concerns for landlords and other small businesses.

In response to the increased likelihood of protracted disruption as opposed to a v-shaped recovery, UC Asset (OTC:UCASU) continues to move its portfolio away from residential investment to supporting commercial property owners and, more recently, neighborhood revitalization. We continue to believe that this move away from short-term, high-turnover investments, to longer-term investments with a recurring income stream, will allow UC Asset to scale its investments while helping to insulate results from short-term market swings.

Revitalizing neighborhoods - SHOC

UC Asset’s initial investor pitch in 2016 included a commitment to invest in underserved neighborhoods around Atlanta. In late September, the Company announced plans to revitalize clusters of distressed residential properties in neighborhoods in close proximity to major airports, renovate them into cost-efficient home offices, and market them as shared accommodation on platforms such as Airbnb, to serve business travelers who prefer renting a shared home-office than staying at a conventional hotel. The Company refers to this as “SHOC” (shared home office concept).

UC Asset has successfully invested in individual residential properties near Atlanta’s airport. The SHOC strategy is more comprehensive and its success will likely require buy-in from community stakeholders and local boards. We believe the timing is good for starting these discussions and we look forward to additional details before we add this to our forecasts.

Staying flexible

As the residential real estate demand began to soften in late 2019, UC Asset began to divest many of its properties either through sale or lease. The pace of divestitures accelerated as the pandemic took hold. UC Asset saw several in-contract property sales cancelled and the Company has quickly pivoted to reduce its holdings while building its cash reserves. In April, the Company leased out several residential properties to pay off outstanding debt and create modest cash flow. UC Asset sold two completed properties in July at a modest profit and built its cash balance to $1 million. Last month, the Company sold its 72-acre development property outside Dallas for $1.3 million, with a buyback option and listed an additional residential property in Atlanta for $1.3 million. As a result, we expect the Company to have cash reserves in the $2-3 million range once all the transactions close.

The shift in strategy was not without pain. In the first half of 2020, net assets per common unit fell $(0.25), due largely to the economic impact of the pandemic. Most of the decline stemmed from unrealized losses of $0.9 million to adjust the value of the investment portfolio in the first quarter. The rate of decline slowed in the second quarter with net assets per common unit falling $(0.07), compared to $(0.18) in the first quarter of 2020.

We expect a decrease in net assets from operations of $(1.3) million for 2020, down from our previous estimate of $(1.0) million. Our model includes $(0.9) million in unrealized investment losses for the year, reflecting unrealized losses of $(1.4) million in the first half, partially offset by potential gains later in 2020 from commercial portfolio investments and recently announced contracts for residential property sales.

On a per-unit basis, we look for net assets from operations to decline $(0.22) in 2020, compared with an increase of $0.07 in 2019.

Our modeling forecasts net assets of $16.8 million by 2024, compared with $8.7 million reported in 2019, a compound average annual increase of 14%. On a per-unit basis, we forecast a compound average annual increase of 5%, or $1.90 per unit by 2024. UCASU currently trades at 0.3x its 2019 per unit NAV (in a depressed market), down from a 50% premium in July. A return to its pre-pandemic multiple this brings us to a per unit valuation on 2024 estimates of approximately $3.00. However, if the current multiple doubles to 3x NAV, our price target on 2024 numbers rises to $6.00 per unit.

Enterprise value/EBITDA becomes a more relevant method when leverage comes into play. Under our forecasts, we expect operating cash flow to improve dramatically beginning in late 2022-early 2023, as commercial property owners are able to offset UCASU’s mortgage supplement payments. Enterprise value will likely rise along with EBITDA, leading to higher price per unit.

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