PTZIF - Greenhaven Road Capital - Patrizia: A Hidden Asset

Summary

• I outline our new holding, Patrizia, a German asset manager.
• There are a lot of parallels between KKR and Patrizia.
• Patrizia has earned tens of millions of euros per year in performance fees, indicating a history of profitable investing and a history of realizing fees.
• In the end, fundamentals matter and I think they are on our side with Patrizia.

The following segment was excerpted from this fund letter .

PATRIZIA ( OTC:PTZIF )

Another company where the Greenhaven Road view is decidedly different than other market participants is a new investment in a German asset manager, Patrizia. My view is so different that I have feared it is wrong, but after extensive review of financial statements and time talking to the company, I think I have identified a hidden asset. The question is, how big is it?

Patrizia is a German real estate business that has transitioned from being “asset heavy,” owning large stakes in several property developments, to an asset light manager with $57B in AUM. When it was an asset heavy property developer, valuation metrics like price to book made a lot of sense. As it has transitioned to asset management and away from ownership, these metrics make little sense and it’s no longer appropriate for the company to be covered by REIT analysts. There are a lot of parallels between KKR and Patrizia, including what I believe is the market’s underappreciation for the strength of its balance sheet.

In very round numbers, Patrizia was valued at €700M at the time of our first purchases. We were paying less than €8 per share for a company with €2.4 of cash per share, just under €2 per share for their ownership share of a large housing development in Berlin called Dawonia, and €3.85 per share for their earned but not yet realized incentive fee for the portion of Dawonia they do not own but have developed and managed for investors. I realize that property values in Berlin have likely declined and a haircut should be applied to the value of the real estate and the incentive fee, but it is hard to argue that we were paying more than a couple hundred million euros for the asset management business.

The asset management business has three sources of revenue. The largest and most durable is management fees: the €57B in AUM generated approximately €245M in management fees in 2022. The smallest source is transaction fees, which relate to fees earned when a property is bought or sold. These fees are estimated to total approximately €30M in 2022, down as uncertainty has slowed transactions. For the final source of revenue, the company has guided to 2022 performance fees of €55M.

Now, here is where we return to arcane accounting. Under international accounting rules, as I understand it, for its funds in which Patrizia itself owns less than 5%, performance fees are only recognized upon exit. This applies to every fund except the one that holds Dawonia, which recognizes fees prior to exit.

The result? The incentive fees that will crystallize upon exit appear nowhere in the financial statements. KKR, which operates under U.S. accounting rules, discloses incentive fees that are earned but not yet realized, but Patrizia, which operates under European accounting rules, cannot.

If European real estate returns to 1990s levels, this earned but unrealized incentive fee asset is effectively nonexistent, but Patrizia has earned tens of millions of euros per year in performance fees, indicating a history of profitable investing and a history of realizing fees. I don’t have an exact valuation for the net present value of the performance fees that have been earned but not yet realized, but I am comfortable that it is greater than zero and likely hundreds of millions of euros. Patrizia’s share prices has been highly correlated to German REITs, but I think an asset manager generating hundreds of millions of euros in management fees with an invisible asset of embedded incentive fees should not be valued using book value. In the end, fundamentals matter and I think they are on our side with Patrizia.

Editor's Note: The summary bullets for this article were chosen by Seeking Alpha editors.

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