Nesbitt Burns retail clients get mixed signals

COMMENT

Off The Record These

are not the best of times

for a group of retail clients of

which was the lead manager on a $197.5million offering of income-participating securities (IPS) completed earlier this year by

Clients of other firms who were in the syndicate are also less than pleased with what has happened to this particular investment. “It’s a very sensitive topic,” said one market participant, who has heard all the criticisms — even though unitholders have received all their scheduled monthly distributions.

The clients are angry for a couple of reasons: The security for which they paid $10 in March, and which was sold on the basis of a 10%-to- 11% yield, is down by more than 30%; and they keep getting different signals from different parts of BMO Nesbitt Burns.

For instance, back in March the underwriters used various arguments to justify the $10-a-unit issue price. Now the firm’s analyst argues the units should hit $9 within a year.

First a little background: IPSs are a security issued when a U.S. entity Canadianizes its operations and converts to an income trust. During the past couple of years, about 10 such offerings have been made. In FMF’s case, 19.75 million IPSs were issued with each IPS costing $10. The IPS was based on FMF’s core business of residential mortgage loans, which originate through a network of 3,000 independent mortgage brokers operating in 38 U.S. states.

FMF’s issue started trading in late March. Since then, the units have continued to slide. Indeed, the issuer has posted the dubious distinction of never having traded at the $10 issue price. According to Bloomberg, the stock has traded in a range of $9.65 to $6.75. The units hit a new low of $6.65 yesterday.

Over that period, FMF’s unitholders have received three lots of monthly distributions, with a fourth one scheduled to arrive in the middle of next month. Each distribution is 9.16¢ per IPS: 1.28¢ of dividends and 7.28¢ of interest.

So what’s going on?

Brokers, who are presumably reflecting the concerns of their clients, are upset about two major developments: Analyst report

According to Bloomberg, Atul Shah, an analyst with BMO Nesbitt Burns, compiled a report on FMF in early August. On Aug. 3, Shah said FMF was rated a “market perform” with a 12-month target price of $9 per unit. On Aug. 2, the units closed at $8.73.

Shah’s report implied there was little upside in owning the units over the next 12 months. On the day of Shah’s report, the units fell to $8.25 on higher-thannormal volume.

Since then, the units have continued to drift lower: Indeed, on just eight of the 33 trading days since then have the units closed higher than on the previous day.

On Aug. 29, again according to Bloomberg, Shah raised his ranking to “outperform” from “market perform” — though he maintained his $9 target. On Aug. 26, the day before his report was noted on Bloomberg, the units closed at $7.10. Shah, whose firm is the only one to have published research of FMF, wasn’t talking yesterday. “ We don’t talk to the press,” he said. Content of analyst’s report When an issuer files a prospectus for an initial public offering, it also files a greensheet — a summary document that details the highlights of the offering. The document, which normally runs to eight pages, also includes a socalled comparables list.

That list shows the multiples that attach to existing public companies. The idea is to demonstrate that the multiple the issuer hopes to extract for its offering is in line with companies that are in a similar line of business.

On the greensheet, eight issuers were highlighted. Of the eight, four were Canadian — DirectCash Income Fund; Firm Capital Mortgage Investment Fund; Home Equity Income Trust and Royal LePage Franchise Services Fund. The rest were other IPS issuers: Atlantic Power; Keystone North America; Medical Facilities Corp., and Student Transportation of America.

The so-called current yield for that group of comparables was 8.2% while for FMF’s issue the “expected cash-on-cash yield of 10%- 11%, paid monthly, compares favorably with comparable funds,” said the greensheet.

Fast forward a few months, and BMO Nesbitt Burns analyst Atul Shah decides to prepare a report on FMF.

In that report, Shah also added a comparables list — a list that included seven U.S. mortgage REITs. No Canadian companies — and no other IPS issuers — were deemed to be comparable with FMF. Shah’s list of comparables has a target dividend yield of 12.3%, which compares favourably with the 12.5% expected for FMF. The differences in the two lists of comparables have the brokers — and their clients — seeing red.

BMO Nesbitt did not return calls seeking comment yesterday.

Financial Post

bcritchley@ nationalpost. com