Holloway REIT insider loans raise an eyebrow

If anyone in a position of authority (public company executive or Director) is thinking about getting into the game of playing banker to your own TSX-listed company, or having the company play the same role for your outside interests, just think about the impossible situation it will put you in should there be a hiccup.

This summary note from the Blackmont Securities equity research group about Holloway Lodging REIT (HLR.UN:TSX) is instructive:

“Holloway Lodging REIT (HLR.UN-TSX) reported Q4/08 and year-end results lower than our expectation as funds from operation (FFO) totalled $0.7 million (or $0.02/u FD) and $11.2 million ($0.29/u FD), respectively. This compared to our FFO estimate of $0.34 for the year, with $0.03 of the variance related to higher operating expenses and the balance to a non-cash foreign exchange loss.

RevPAR during the fourth quarter and the full year declined 3.7% and 1.6%, respectively, on a year-over-year basis. During the fourth quarter, the trust also incurred a $3.0 million ($0.08/u) impairment provision related to mezzanine loans.

These mezzanine loans have been issued to a related party, Winport Developments LP, a company in which three trustees (including the CEO) have an ownership interest, which defaulted on the $11.5 million receivable held by the REIT. This loan is in regards to a property being redeveloped that is currently underperforming. The REIT has a further $12.7 million ($0.33/u) of mezzanine loans outstanding, largely to the above-noted related party.

Aside from the apparent conflicts of interest between the trust’s CEO, its Board of Trustees (which includes 3 members that have ownership interest in Winport Developments LP) and its unitholders, we believe a
slowdown in demand for lodging may adversely impact the realizable value of the remaining outstanding loans.

This is further aggravated by the fact that during the fourth quarter, the trust purchased ownership interests ranging from 2.5% to 19.0% in nine hotels from the same related party for $2.9 million.

Conclusion

We continue to recommend Holloway Lodging REIT as a SELL. This reflects our belief that the stock has above average risk given a worsening lodging environment, a small and concentrated portfolio in Grand Prairie, weaker than-expected operating performance from newly acquired assets, potential for further write-downs on investments, and the associated conflicts of interest between executives of the trust, related development / management parties and the unitholders.”

MRM