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Morningstar revises value of FCE upward, but warns of increased uncertainty

Less than six weeks after Morningstar analysts declared the stock of Forest City Enterprises essentially worthless (though other analysts disagreed), they now report an increased fair value estimate, to $4 per share. (The number is attached to a document available to subscribers only.)

Why? "[I]n large part because of our reduced expectations of bankruptcy and slightly lower cost of capital assumptions." The market is more optimistic, given that the stock closed yesterday at $7.19.

Debt strategy

The analysis states that, while "Forest City has an unhealthy level of debt and material debt maturities over the next couple of years, its use of nonrecourse property-level debt, secured by collateral but nothing else, means that it can divest itself of failing properties without stumbling into bankruptcy.

Many other real estate companies rely on unsecured corporate-level debt; the latter represents 5% of FCE's total debt maturing soon. To refinance these obligations, Morningstar said, "we now believe that a potential equity issuance or property sales should keep the company solvent."

Increased uncertainty

Morningstar also offered a warning: "We are also increasing our fair value uncertainty to extreme from very high to reflect the complications that come with the nonrecourse debt structure... If Forest City were to hand back a few highly leveraged underperforming properties, its overall debt picture could improve materially, but limited property-level information makes this impact difficult to predict."

Beyond that, the report states, "Other contributors to our higher uncertainty rating include the company's debt mix, a large development pipeline, and joint-venture interests."

Ominous for AY?

While Morningstar has been more pessimistic about Forest City than rival analysts, the report points to two factors that would make the Atlantic Yards project tougher to build, at least in the short term.

"New commercial mortgage-backed securities issuance is nonexistent at this point, meaning Forest City will have to find other means to refinance 17% of its maturities," the report states. " In addition, banks in general are less willing to loan against commercial real estate, as this asset class is poised for at least a year of falling prices and rising defaults."

However, mysteries remain. Some one-fifth of the developer's business comes from "unconsolidated joint ventures." which are "opaque in nature, making them difficult to assess."