When we last touched on Center Coast Brookfield MLP & Energy Infrastructure Fund (CEN), we said it was coasting towards a distribution cut simply based on its payout ratio. The fund, like most others in the MLP space, has been annihilated.
While our call was a relatively bearish one (we were bullish and wrong on MLPs), we still think that at this point investors need to look deeper into the numbers behind the fund. In other words, the risk associated with this fund has not gone down, but actually gone up as the fund has decreased in value. We explain our rationale below.
The Distribution Cut
CEN did cuts its distribution about right on schedule but it was aided no doubt by the 6 sigma sell-off on March 9.
“The Fund declared a decrease to its monthly distribution from $0.1042 per share to $0.03 per share, payable on April 23, 2020 to stockholders of record on April 15, 2020. The ex-distribution date is April 14, 2020. Based on the NYSE closing price of $2.36 on March 11, 2020, the Fund’s annualized distribution rate was approximately 52.98%. The previously declared monthly distribution for March will not change.”
Investors might be using the monthly amount and extrapolating to an annual 36 cents worth of dividends, but that is also impossible as we shall explain below.
As we write this, CEN still traded at a 16% premium to a reduced NAV.
Source: CEF Connect
Just straight off the bat, generating 36 cents of a $1.16 of NAV would be beyond impossible. But the problems do not end there.
Updated profile, not pretty
CEN did provide an update on March 25, and we go through it segment by segment and explain what impact this has on the CEF.
“Recent market conditions, including the sharp sell-off of energy and energy-related securities, including MLPs and energy infrastructure companies in which the Fund invests, have led the Fund’s adviser, Brookfield Public Securities Group LLC (“PSG”), to take certain actions impacting the Fund, including paying down all of its revolving credit facility in order to maintain the Fund’s desired leverage levels and asset coverage ratios that have become elevated as a result of the decline in the value of the Fund’s portfolio holdings.”
Source: CEN Update
We all know that CEFs got hit harder in the downturn than most asset classes and we shall have another article addressing this at some point. In CEN’s case, the CEF basically just paid off its credit facility. But the reduction in leverage did not stop there.
“The Fund intends to utilize leverage within the limits imposed by the Investment Company Act of 1940 (the “1940 Act”) as well as the terms of its outstanding Series A Mandatory Redeemable Preferred Shares (“MRPS”), which is a form of leverage under the 1940 Act. Each MRPS share has a liquidation preference of $25,000, resulting in an aggregate liquidation preference of $50 million for the Fund’s outstanding MRPS. In order to maintain asset coverage levels required by the MRPS, the Fund has provided notice of its intent to redeem a portion of the MRPS in accordance with their terms. On March 30, 2020 (the “Redemption Date”), the Fund will redeem 1,254 MRPS, having an aggregate liquidation preference of $31,350,000. The redemption price per MRPS share will be the liquidation preference of $25,000, plus accumulated but unpaid dividends and distributions up to, but excluding, the Redemption Date, plus a 1% redemption premium. After giving effect to such redemption, the Fund will have 746 MRPS outstanding, with an aggregate liquidation preference of $18,650,000.”
Source: CEN Update
CEN redeemed over 60% of its preferred shares as well and paid a small premium to do so. So credit facility paid down and preferred shares reduced by 63%. Well, what is left?
Assuming these numbers are completely accurate (and in current market conditions, they possibly are not), CEN’s assets are now just a shade over $57 million.
Subtracting out the $18 million of outstanding preferred shares, we get an equity value of under $40 million. This means that its private investment in KKR Eagle Co-Invest LP has ballooned as the CEF value has declined. CEN did mention this, but left out the exact impact.
“As previously noted, the sell-off in the midstream energy space during this market downturn has had an outsized impact on the valuation of the Fund’s assets. Portfolio holding declines in excess of 60% over a short period of time combined with the impact of the Fund’s leverage has caused the size of the Fund to be significantly reduced, including the percentage of the Fund’s portfolio that is invested in liquid, publicly traded, securities. As a result, the Fund’s private investment in KKR Eagle Co-Invest LP will be a significant portfolio holding in the Fund going forward, which may cause the Fund to be more susceptible to certain risks associated with such investment.”
Source: CEN Update
What is unclear at this point is how exactly is CEN valuing its private company stake in KKR Eagle Co-Invest LLP. At last check, this was said to be worth over $45 million.
Source: CEN annual report
That was aided by a generous EV to EBITDA multiple which we had noted even back then was never, ever going to be realized.
Source: CEN annual report
If the value of KKR has not been marked down, then the entire equity value of the fund is lower than the value of KKR. That essentially makes paying any distribution impossible. Based on all the information, CEN thus enjoys the lowest distribution safety rating on our proprietary Kenny Loggins Scale, even after the cut.
Dangers for holders here
Firstly, paying a premium for (almost) any fund in this market is just plain wrong. CEN is no different in that regard. But beyond that if it consists largely of just the KKR Eagle Co-Invest LLP, investors will have a liquidity problem as well. CEN cannot sell this asset and there is no way in Hades that it gets anywhere close to even half that marked value in today’s market. A fair value write down could be rather immense. This might not happen at once, but over a period of time and may force even further preferred share redemptions alongside selling what little publicly traded assets are available.
The Best Option
At this point, a roll into another existing fund would possibly be the best option for CEN. Absolutely no investor is going to be keen on holding a CEF which comprises almost exclusively of one asset. Such a roll likely would be done at NAV, but determining the NAV in this market, again with one large illiquid asset is very treacherous. The fund at the other end would likely be very skeptical (or at least should be skeptical) of what CEN comes up as fair value. Last valuation was at 11.5X EV to EBITDA and in this market anything over 7X EV to EBITDA would be very generous. We are not sure as to what that would mean for the KKR Eagle valuation, but we suspect it would be a very big haircut. Even that valuation assumes that EBITDA remains constant here, and that is a big “IF”. Remember that the equity will suffer far more than the drop in the EV-EBITDA multiple on account of the debt which must be repaid.
The fund has been beaten to a pulp. We are not claiming by any stretch of the imagination that this was what we expected when we released our bearish note. If we did, we would have shorted this to the high heavens. Investors still need to ask themselves what is the best step now. For those who continue to want exposure to MLPs, we would recommend that they shift over to some ETFs, or make a direct investment in some MLPs. Less leveraged CEFs are a good option as well, but the visibility here is very poor with what has been a once-in-a-generation selloff. Despite the fund being down so much, we are recommending that investors exit.
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Please note that this is not financial advice. It may seem like it, sound like it, but surprisingly, it is not. Investors are expected to do their own due diligence and consult with a professional who knows their objectives and constraints.
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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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.