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Seritage (NYSE:SRG ) is completely misunderstood by the market, and, in defense of all the bearish arguments this misunderstanding has been warranted. I previously discussed Seritage in depth back in November 2021 with an article found here. The timing was not fortuitous as the stock fell sharply from the $15 level at the time of my analysis, before heading down to below $9, and is now hovering around $12 per share.

In the last 5 months, so much has changed and while the stock price does not yet reflect it, I have a very strong level of conviction that myself and other investors are likely to wake up and see shares of SRG significantly higher over the next 90 days. How much higher? That's the million-dollar question. I think when the dust settles, what is left of Seritage will be over a $20+ share price in the next 90 days. Depending on the assets Seritage retains, and the depth of analysis the company provides on the remaining assets, I believe Seritage could be a $30-55 stock over a longer period of time. This would be up from the ~$12 level shares trade at today. Re-rating to over $20 will simply come from short covering and a true unveiling of the value of the various parts of the company. The market is ignoring what Seritage is telegraphing to investors, and when the full plan is truly unveiled, the move higher for the stock should be fast and furious.

Seritage's value has always been obscured by a massive amount of cash burn to fund current operations, re-development of properties, and paying over $100M annually on what was a $1.6B term loan (which has now been paid down to $1.44B).

What has changed? The company's recently announced Strategic Review is a game changer. Seritage wanted to be a full-fledged REIT. The company wanted to re-develop assets, generate significant rental income, and over time use that income to continue to re-develop even more assets. The market has spoken and made it clear via the stock price that the strategy of taking time to be a REIT is not going to be rewarded. Oftentimes investors have to watch companies simply ignore the market, bury their head in the sand, and continue marching forward with the same strategy that the market will not reward. Not Seritage and not this time. The company has a new CEO, an interim CFO with expertise in asset dispositions who was appointed 4 days after the previous CFO exited (hint: nothing happens in 4 days unless it was planned), and whose largest shareholder is clearly agitating to create near-term value for shareholders (and himself).

In the last 90 days, Seritage has announced the Strategic Review with Barclays (BCS), terminated their REIT status effective as of 1/1/22, provided a whole new level of disclosure with which we can use to value the company's assets, seen their largest shareholder leave the Board of Directors (in order to likely participate in asset acquisitions or acquiring the company), and made it crystal clear that big changes are coming.

Just today, and likely the tipping point for me on leading me to my belief of what comes next, the Vice President of Operations with oversight for operations and management of the entire Seritage retail portfolio left the company.

What are the tea leaves saying? I believe the tea leaves including the termination of the REIT status, and the VP of Operations leaving, mean that Seritage is likely to sell their entire multi-tenant retail portfolio. This is a portfolio of 38 assets with ~5M square feet that is currently generating over $50M of Net Operating Income "NOI". This portfolio could be worth anywhere from $800M to over $1B depending on how the company sells it, either as a bulk sale, or in pieces. I previously detailed how the company is also selling 63 "Non-Core" assets with almost 10M square feet. I detailed this in my previous article, and will touch on it again later, but I believe the remaining assets in this group will generate between $400M and $600M in proceeds.

Disposing of these two asset classes would mean Seritage would then have the funds needed to pay off the entirety of their $1.4B of debt. This would leave Seritage with an Enterprise value of roughly $550M ($660M Equity based on 56M shares outstanding at the current stock price less ~$100M in cash). It would also free the company up to selectively mortgage certain remaining assets (i.e., Aventura, UTC, and others) that are income-producing properties to fund future development and densification of properties the company still owns.

So now investors should ask the question of how can Seritage sell all of their revenue generating assets. They still have expenses, don't they? Of course, they do, but the majority of their operating expenditures are tied to the assets that would be sold. Consider the following: Seritage generated ~$115M in revenue in FY 2021 while paying ~$108M in Interest Expense. Eliminating the interest expense completely, while retaining other assets that will soon start to generate revenue, will leave Seritage in a position where they can be cash-flow neutral at worst. That is a much better position than the company is in today and would occur much quicker than I or any other investors were assuming. Remember, the bearish argument on Seritage is that it will take too long to create value from the great assets that nobody really disputes have a ton of value. You now have a CEO and Board telling you that they will unlock that value in the near term.

I believe the writing is on the wall. The above is my prediction. The question is what are the remaining assets worth and how do shareholders benefit. I believe the remaining assets are worth at least $1.5B with upside to $2.5B (or more). If the asset sale scenario I laid out above comes to fruition, investors will own Seritage at a $550M Enterprise Value with the potential to see between a ~3x and ~5x return on their investment. That means the stock could go from the $12 level to between $30 and $55. I believe just a whiff of the above predictions coming true sends the stock on a beeline for $20 per share or more.

Another great contributor on Seeking Alpha recently wrote an article (also before much of the recent news) about Seritage. This contributor has been consistent in saying there is significant value in Seritage but the "unlock" is too time-consuming and costly and that the stock is thus valued at the discount we see today. In some of the comments of the article, this author believes the take-out price for Seritage could be as low as $15 per share and he notes, which I agree with, that Eddie Lampert could be part of any acquisition to take the company private. I agree with him on Eddie Lambert taking the company private but disagree on the valuation and believe that Eddie would take what is left of the company private if he did so after the major asset sales I am suggesting. Eddie said as recently as November 2021 that the company was undervalued when it was $15 a share. There is no earthly chance that Eddie could now come in and take the company private at $15 per share. From a fiduciary standpoint, the Board could not allow this, and lawsuits would ensure this never happened. Nothing has changed. Seritage is not even close to running out of money which would be the only plausible reason for a fire sale a far below fair value.

In fact, fundamentally, the company is much more valuable now that they have laid out a strategic plan to unlock the value of their assets in the near term. I think Eddie could be involved taking the company private, but it would be the remaining assets, and the remaining Enterprise Value. At $15 per share, Seritage would currently have an Enterprise Value of almost $2.2B when you factor in the debt. I am making the argument that the company sells certain assets to wipe out the debt and what is left is still a significant pile of Premier Assets, JV Assets, Residential Land for future Apartments/Housing, and between 5 and 10M square feet of potential future entitlements through densification. Without the debt, $15 per share is around a $700M Enterprise value. I am making a very firm argument that the remaining assets would be worth well in excess of that number both on a present value and future value basis. The added benefit to a potential acquirer of the remaining assets is that they could very likely be cash flow neutral allowing for ample time to slowly, and appropriately, unlock value without the burden of burning cash while they wait.

Again, the company has already told us they intend to "unlock" value for shareholders in the "near term". This is a low volume stock that typically trades about 300,000 shares a day. There are over 7M shares sold short currently. The bulk of the outstanding stock is held by Eddie Lampert and large institutions. This is both a special circumstance where the company has emphatically telegraphed, they intend to unlock value, in the near term, and where short-sellers are likely to be trapped. Very rarely do you see companies explicitly talk about unlocking value in the near term and I believe the outcome for Seritage shareholders is going to be outstanding.

It is hard for anyone to argue that Seritage is not either going to be sold in whole, or in part, based on what the company is telling us. It is also hard to argue that the full value of the company can be achieved by an outright sale. There are too many different parts and pieces to find the right acquirer for the entire company who would not expect a material discount to fair value because of the complexity involved. Thus, I believe Seritage takes the easiest path forward which is selling the assets that buyers can value. Seritage buckets their assets into 5 categories:

- Non-Core (i.e., already marked for disposition/sale)

My thesis is that part of the reason that Seritage is converting from a REIT to a C-Corp is that they are going to sell their Multi-Tenant Retail assets which produce almost all of the company's current income. The IRS rules for REIT qualification maintain, among other things, that almost all income has to come from real-estate resources and that almost all of that income has to be distributed to investors.

The market for acquiring REITs, or income producing property, is very strong. A fellow contributor noted in an article here that in 2021 the M&A volume in the REIT space set a record at $150B so there could not be a more opportune time for Seritage to be marketing prime, leased up, income producing assets. Even better for potential acquirers, Seritage's Multi-Tenant Retail portfolio has been substantially redeveloped in the last 5 years and converted from Sears/K-Mart big box stores into the multi-tenant platform that exists today. Buying assets that have recently been completely redeveloped should allow these assets to transact at a premium. Also, the crazy inflation environment we are in today should be music to the ears of investors given Seritage owns assets that benefit in an inflationary environment. Further, many of these leases will be up for renewal in the coming years allowing an acquirer to capitalize on lack of retail space available for lease by charging tenants even higher lease rates in the future.

I believe the sale of the Multi-Tenant Retail portfolio is relatively straight forward. The below table shows the current NOI for the Multi-Tenant portfolio, the future NOI from signed leases not yet open, and provides a range of valuations based on cap rates:

This portfolio of assets is already generating over $50M of NOI and has signed leases (not yet opened) that would take NOI to almost $60M. Within this ~5M square feet of leasable assets, there is almost another 750K of completed space that is not yet leased. The valuations in the table above are based on 85% occupancy. If you assume closer to 90% occupancy, which is still conservative based on occupancy rates at most REITs today, you would pick up another $3-4M of NOI which would be worth another ~$60M of valuation.

Seritage told us in the company's Q4 2021 earnings release that the company sold ~$175M worth of assets during 2021 at a blended in-place cap rate of 5.3%. Being very conservative, and assuming that these assets were sold at a 6.5% cap rate, this portfolio is worth over $900M.

I would tell you that I think $900M is a good estimate for a valuation if Seritage tried to quickly sell the entire portfolio to one buyer. I believe the valuation is also conservative because of how recently these properties have been re-developed and the fact that Seritage has likely spent between $300-500M over the last 5-years just developing these 38 properties. In the recent earnings report, the company confirmed that almost all spending required for these properties is complete, with this comment:

The remaining capital expenditures in the multi-tenant retail portfolio are primarily focused on tenant improvements.

It is extremely reasonable that any number of REITs or Private Equity firms could jump at the opportunity to pay $900M for this portfolio of assets. But, I don't know if Seritage would sell for that price. The reason is densification opportunities. Remember that Seritage owns the land on which these assets are built. The average site is over 13 acres in size which creates opportunities for denser retail, office buildings, apartments, and outparcel pads depending on the entitlements of each property. Seritage noted in their Q4 earnings release that they have 50 outparcel pad opportunities they have identified today and has previously told us that number could be as high as 125. If we stroll back down memory lane, we find this article, where Seritage sold just over 30 outparcels (fully built and leased) to a REIT for almost $100M. Outparcel pads involve the land owner, delivering a pad to a retailer, who then builds out their own restaurant/office/bank/etc. It's reasonable to believe that each outparcel pad could be worth up to $1.5M when you consider fully leased buildings, that the retailer will build, were worth $3M in recent transactions. 50 outparcels could add another $75M to the valuation of this portfolio if Seritage decided to retain them and sell on a one-off basis.

Ultimately, I believe the floor valuation of the Multi-Tenant Retail portfolio is $900M in a bulk sale which would be seen as a discounted value for a portfolio sale. If Seritage sells the assets piece meal, they could likely command a higher value, and get up to $1.2B in total proceeds.

I went into great depth in my previous article listing all of the disposition assets to be sold and arriving at a valuation. Readers should refer back to that article for the detail but here is a summary of where I stand today.

Seritage lists 63 assets with ~9.5M square feet of leasable space in this category. These assets sit on almost 800 acres of land. ~1.5M of the space is leased and another ~200K has signed leased. Let's assume that the ~1.7M of Leased/Signed Lease space is valued using a cap rate of 7.5% as these are likely less desirable assets. Assume the lease rates are only $12 per sq ft and that NOI is equal to 70% of the revenue. That math (1.7M x $12 x .70) gets us a valuation of about $190M on the leased assets. That leaves us with 8M square feet remaining. There are some very good assets in this group and some very poor assets as well. Over time, across many years, Seritage has consistently averaged close to $50 per foot in value for vacant assets when you blend the good and the bad. This would mean we should expect to see ~$400M (8M x 50) of proceeds from these vacant assets. Combine that with the leased assets of $190M and you get the high-end of the range I suggested of almost $600M of value for these assets.

In the Q4 21 earnings release, Seritage noted that the company had ~$150M of assets already under contract to be sold. Since the new CEO took over, the company has been quick and aggressive in disposing of these non-core assets. My estimated range was $400-$600M in proceeds from this group of assets. If you take the mid-point, we get to $500M.

To recap, I believe Seritage is likely to sell their Multi-Tenant Portfolio for a minimum of $900M and their non-core/disposition portfolio for at least $500M. The total proceeds of $1.4B would be enough to effectively pay off all of the company's debt. Your enterprise value for the company is now simply a function of the 56M shares outstanding, times the share price, less cash on hand. Which today would equal ~$550M.

Where it gets exciting for investors is what the company has left. Again, I detailed much of this in my previous article, but feel like it is worth bringing it to the forefront here again. The remaining assets:

With just the categories noted above, which are all either on the Balance Sheet or related to assets that are producing income or will produce income in 2022, we have a total of $1 Billion in value. This comes from ~$300M from Aventura/UTC, $400M from JVs, and $300M from Construction in Progress for future income producing assets.

That is $1 Billion in value that I am not assuming Seritage disposes of through the Multi-Tenant Retail portfolio sale or from the disposition of the non-core portfolio. Seritage has ~56M shares outstanding including the operating units (which should be thought of as no different than common shares for valuation purposes). With just the small number of discrete and retained assets noted above, we get a valuation of $18 per share. This is the easy stuff that anyone can value without much work.

The call option opportunities get slightly more complex to value when you consider whether the company would seek to just dispose of these in a fire sale or whether they would choose to truly create value over time for each asset but the list is massive. I provided the below table in my previous article and am highlighting again here for effect:

Remaining Asset Valuations (Author Estimates)

I already discussed the outparcels previously, so if you remove that the $3.6B of value would decrease to $3.3B. Seritage has spent a significant amount of money already on infrastructure improvements for Dallas Midtown which is a project in the heart of Dallas that is entitled for 2M+ square feet of mixed-use space. The project in Alexandria, VA is entitled for 4M+ square feet of mixed-use space.

Let's just assume for simplicity's sake that Seritage contributed all of these assets to JVs at 25% of their built-out value. 25% of $3.3B is $800M. That is another $14 per share in value.

That brings us up to $32 per share in value. To get to that number we are talking about present value for assets where costs have been incurred and significantly discounted present value for future projects. Again, Seritage is now in the business of unlocking future value of assets in the near term, and that should be music to investors ears.

I would urge investors to read the earnings release and supplemental report from Q4 2021 to see all the additional assets noted above that I have not even included in my valuation to get to $32 per share of discrete value that would be remaining at Seritage after the suggested portfolio sales. I would be more than happy to see my $12 shares go to $32 per share. The rest is just icing on the cake and the margin of error is massive.

In the Q4 2021 earnings release Seritage noted the following related to their entitlement efforts around densification on the land that they own:

Approximately 2.3 million square feet of office/life science space entitled as of the date of this release, and pursuing entitlements on additional 3-4 million square feet

You really can't put a value on 5 to 7M square feet of income producing property that can be entitled in some of the best markets in the country. Yes, there is significant cost to build out this infrastructure. But, my point is that Seritage is putting themselves in a place where they can be cash flow neutral so that they can create significant value over time. They will do JVs with other entities, use project specific financing, and operate in a world where they control the most valuable asset known to a developer: entitled land (which they are not making any more of).

Something big is coming. No analysts follow this company. Big time REIT investors are no longer interested in Seritage as this will not be a massive cash flow distributing machine in the future. I think investors might have freaked out when Monish Pabrai, a well-known large investor in Seritage, sold a lot of his stake in the last 6 months. Many investors were in Seritage for the potential to own this company at a low basis and reap substantial yield/income in the future from the REIT paying dividends. Seritage is never going to be a REIT paying dividends. This is now a one-time play for investors looking to reap the rewards from a company that has figured out that it is time to get out of their own way and unlock the value of their assets.

The company has told us what they are doing. It is clear as day what is coming (at least to this investor). I will be more than happy to double, triple, or quadruple my investment and never collect a dime of REIT distributions. This is what makes a market. This is a special situation. The only question in my mind is does the company keep assets like Aventura and UTC and use the NOI from those assets to cover their minimal overhead while embarking on a multi-year effort to take what should be a $30 valuation into a $50 valuation or more. Either way, I will be happy, because I think we are going to find out very quickly which path they are choosing and I will be happy to double my money at a minimum when the market figures out the path they choose.

This article was written by

Disclosure: I/we have a beneficial long position in the shares of SRG either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.