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Co-produced with Beyond Saving.
A battleground stock is one that develops a large amount of short selling. The short sellers “battle” with those who are long on the stock. Battleground stocks are not for the faint of heart. Prices can move irrationally and by large amounts on any news.
They can be extremely profitable, both for long and short positions. Indeed, it is very common that both walk away with large gains. How is that possible? Stock returns are time-dependent.
The return for any long investor is measured by the price they sell at minus the price they bought at, plus dividends paid.
The total return for a short seller is the price they sell at, minus the price they buy at, minus any dividend paid, minus any borrowing costs.
In other words, the short seller profits from buying back the shares at the lowest possible price. The long position profits from selling at the highest possible price. If both close their positions simultaneously, then one is doing better than the other. However, there is no reason the two have to close their trade on the same day or even in the same year. It is very possible for a stock to decline to a very low price now, and then go to a high price in the future. Just like a stock could be a high price now and go to a low price in the future. Prices change, it’s what they do.
I don’t participate in shorting. My investment style is to buy a company and hold it indefinitely. The longer the better. My goal is not to sell my shares for a higher price, most of my returns will come from collecting dividends. Therefore, I am not terribly concerned with what the price might do next month, next quarter, or even next year. Time is on my side.
For the short seller, time is not on their side. They have carrying costs for their positions, so they need to accurately estimate when the price will fall. I’m being paid to hold my position, the short seller is paying to hold their position. There are a lot of short sellers in Medical Properties Trust, Inc. (NYSE:MPW) that are making bank. They will almost certainly close their positions with very large profits. Good for them.
As a long investor, this is where I have to make a decision. Are the short-sellers pointing out risks that will cause my long position to be permanently impaired and cause a dividend cut? I’m perfectly fine holding for years for a price to recover, but during that time, my priority is to make sure I’m getting paid. As long as I’m paid, I can wait forever.
Or are the shorts profiting off of short-term trends that will eventually turn around? Is it likely that the shorts will eventually close their position, realize their gains and move on, allowing me to just hold through the downswing collecting my dividends?
Medical Properties Trust – yield 11%
Medical Properties Trust, Inc. seems like an unlikely candidate to become a battleground stock. It is a real estate investment trust, or REIT, that is a landlord of hospitals. A business that is generally very boring.
However, the COVID disruption created an opportunity. Hospitals faced significant financial headwinds in 2022 as they were required to pay back COVID-era advances and at the same time, were facing record labor costs as temporary staffing costs went through the roof. Some hospitals were forced to file bankruptcy, others haven’t filed yet but show signs of strain. MPW just went through a tenant bankruptcy with Pipeline Health. The net impact was minimal, as the new restructured Pipeline is continuing the lease with the only concession from MPW being a modest deferral of rent that will be paid back with interest.
Now MPW is dealing with Prospect Medical Holdings, a larger tenant that hasn’t filed for bankruptcy but is dealing with clear financial issues. MPW is likely going to defer at least some of its rent.
This provides a lot of fodder for the shorts, and it does create some tangible near-term headwinds for MPW.
MPW Issues Low Guidance
Medical Properties Trust reported NFFO (normalized FFO) of $1.82 and AFFO (adjusted FFO) of $1.42. Both are up about 4% year-over-year. The focus of the market is completely on guidance, which came in at $1.50-$1.65 NFFO. While management did not provide AFFO guidance, they did disclose in the earnings call that at the low-end, $1.50 NFFO, AFFO would be approximately $1.29.
We’ve discussed previously how we consider AFFO a superior metric to measure dividend safety, as AFFO excludes “straight-lined” rent, which is non-cash. At $1.29, AFFO would cover the current dividend by 110%. The low-end of guidance is a “worst-case scenario” estimate from management, so it is very comforting that the dividend is covered even in the worst-case scenario.
Management spent a very significant portion of the earnings call discussing the moving parts in guidance. Let’s talk about what is impacting guidance.
From the Q4 run-rate NFFO of $1.71/year, MPW expects positive impacts of +$0.05 from rent escalators and +$0.03 from already announced transactions, including the Steward transaction.
You might have read some articles speculating about rent reduction as the operations of Steward’s Utah properties are acquired by CommonSpirit Health, an investment-grade rated company. The new lease is at a lower rate at 7.8% of MPW’s $1.2 billion cost basis and has a different rent escalator that will be at 3% flat, as opposed to Steward’s CPI-based escalator. The rent difference will be $6 million on a cash basis or $0.01/share per year. MPW also disclosed that a portion of that $6 million would be reallocated to other Steward properties under the master lease. In short, the negative impact is less than one penny compared to 2022 rent, a small price to get exposure to Steward below 20% of their portfolio.
Prospect Takes Center Stage
The main culprit behind the reduced guidance has nothing to do with Steward, but rather it is Prospect Medical Holdings, Inc. – MPW owns $1.5 billion in hospitals leased to Prospect, and its rent accounts for approximately 11.5% of MPW’s revenues as of Q4 2022.
You might remember Prospect from last quarter’s earnings calls. MPW owns properties leased to Prospect in Connecticut, Pennsylvania, and California. MPW identified that Prospect’s Pennsylvania and Connecticut properties were underperforming. The Connecticut properties are under contract to be sold to Yale University for $457 million, expected to close mid-year.
The company is clearly struggling, failing to recover after COVID, and MPW is in negotiations with Prospect and several third parties, which could lead to partial or full rent deferral. Due to the uncertainty of negotiations, MPW has put Prospect on a cash basis.
The $1.50 low end of management’s guidance assumes that Prospect will pay no rent at all in 2023 and that no proceeds from any sales or repayment of loans will be received in 2023. In other words, the low end assumes Prospect is a big fat $0 for 2023 (although expecting recovery in 2024).
The high-end of guidance assumes that rent is paid on the Connecticut and California properties but that no rent is collected on the Philadelphia properties. It does not include any assumption for reinvesting the proceeds of the Connecticut sale.
Management said numerous times that they expect a full recovery of their initial investment and possibly even a gain. The $457 million from the sale of the Connecticut properties should come relatively quickly. The rest they expect to recover in 12-18 months, likely through the sale of Prospect’s managed care business and possibly through a restructuring of Prospect itself which is currently being negotiated among MPW, Prospect, and Prospect’s other creditors. Management stated that the finances of the Pennsylvania properties were improving in Q4, but that a few months does not make a trend.
We recently saw a similar situation with Pipeline Health, a much smaller tenant that filed bankruptcy last year due to an Illinois property that was underperforming. MPW’s lease was accepted and full rent was paid.
The bottom line is that being a landlord provides significant leverage in these situations. Any rent deferrals will come with hooks designed to maximize MPW’s recovery.
Conclusion
With guidance, Medical Properties Trust, Inc. management is being conservative and assuming that they don’t receive a penny from Prospect. Yet even with that outlook, MPW is still covering its dividend with a reasonable margin of safety.
For the shorts, it is a victory. It helps them cast doubt on MPW, worries some long positions, and encourages them to sell. Note there are some short activists that are heavily invested in shorting MPW. They have been publishing “reports” decrying the end of the world.
These reports routinely use a grain of truth combined with outlandish assumptions, conspiracy theories, and scare tactics. We’ve seen them pounce on news about Steward Malta losing a court case, even though MPW has nothing to do with any properties in Malta and Steward itself spun those properties off from the parent company. You would have to believe that MPW acquired properties, failed to list them in their 10-K where all their properties are listed, collected $0 in rent from these properties, paid no money for these properties, and now somehow has a financial loss when those properties that they never paid for and never collected rent for are taken. We can readily accept that, on occasion, bad actors will falsify SEC filings. We’ve seen it happen in the past. Yet usually those bad actors are inflating their numbers to make their earnings look better, not deflating them and hiding revenue! That MPW has secretly owned the Malta properties for three years without telling anyone defies all logic.
When the short reports get that silly, it gives me comfort. They can say whatever they want, and make whatever accusations they want. Go ahead, drive the price down. I can reinvest some of my dividends at a higher yield.
We’re very happy to collect our dividend while we wait for the real situation to be resolved. From time to time, REITs have to deal with a struggling tenant, it is part of being a landlord. Management will have the option to use the proceeds from Prospect’s properties to reduce leverage or reinvest depending on economic conditions.
Until these shorts close their positions, we can expect Medical Properties Trust, Inc.’s price action to be much more volatile than you would otherwise expect. Let the shorts collect their profits. We have time on our side. We are happy to collect our dividend while we wait for them to move on. A year or two down the road, Prospect won’t matter, the capital will be extracted and reinvested. Steward will be a much smaller portion of MPW’s portfolio just with the Utah transaction alone. The real issues that the shorts have brought to the table will be resolved. The imaginary ones will disappear because they never existed. With prices this low, I’m happy to keep buying and collecting my dividends.
