• In 2023, the fund achieved record revenue and net income. Net income was up 23% YoY, beating our estimate by 6%, due to higher lending rates. Net income was up 23% YoY in Q1-2024 as well.
  • As of March 2024, 42% of mortgages were in B.C., and 40% in Ontario. First mortgages accounted for 55% of the portfolio.
  •  In 2023, stage three (impaired) mortgages increased 4.2 pp YoY to 7.4% of mortgages. However, management lowered loan loss allowances by 3 bp to 0.33% of mortgages, indicating they foresee no significant losses. We believe the fund is comfortably positioned with a low LTV of 53%.
  • In spite of a sharp decline in real estate activity in 2023, residential property prices have remained resilient. We anticipate transaction volumes picking up in H2-2024, driven by lower interest rates.
  •  Anticipating lower rates, we find high-yielding funds, such as Capital Direct, increasingly appealing. We are projecting a yield of 9.4% in 2024 (2023: 8.6%) vs management’s guidance of 9.5%-10.0%.

*See last page for important disclosures, rating and risk definitions. All figures in C$ unless otherwise specified.

The following table shows how Capital Direct’s portfolio compares to that of other MIEs (with AUM of $100M+) focused on single-family residential units.

Source: FRC/Various

Capital Direct has lower first mortgages, average mortgage size, and LTV

Debt to capital is higher

Yield is higher even though management pays a performance fee in addition to management fees; most comparable MIC do not charge performance-based fees

Portfolio Update


Source: Company/FRC

In 2023, mortgage receivables were up 8% to $393M vs our forecast of $398M

In Q1-2024, receivables increased 7% YTD to $418M


In 2023, debt to capital increased 2 pp to 30%, in line with that of comparables (20%-40%)

The interest coverage ratio is also in line with that of comparables (3x-5x)


No material changes in exposure to first mortgages


Source: Company/FRC

No material changes in LTV


Trimmed B.C. exposure, implying enhanced geographical diversification


No material changes in the average mortgage size


Source: Company/FRC

Duration increased, but remained lower than the historic average


Source: Company/FRC

No material realized losses

In 2023, stage three mortgages increased 4.2 pp YoY to 7.4% of mortgages

However, management lowered loan loss allowances by 3 bp to 0.33% of mortgages, indicating they foresee no significant losses


•red (green) indicates an increase (decrease) in risk level
Source: FRC

In summary, we believe the portfolio’s risk profile has increased (one green vs two red signals), primarily driven by higher stage three mortgages

Financials

2023 revenue was up 34% YoY, beating our estimate by 8%, due to higher lending rates

Net income was up 23% YoY, beating our estimate by 6%

Note that the above figures may be slightly different from the figures reported by Capital Direct due to the difference in the method of calculation. We used the average of the opening balance, and year-end balance of the mortgages outstanding, and invested capital, to arrive at the above figures.

In Q1-2024, revenue and net income were up 17% YoY, and 23% YoY, respectively


Source: Company

The yield on class F units increased from 7.5% in 2022, to 8.6% in 2023 (our forecast was 8.0%), and to 9.4% in Q1-2024

Units Outstanding and Ownership



Source: Company

30M units outstanding at the end of Q1-2024, up 9% YTD

  • Class A - offered to investors directly
  • Class F - offered to funds managed by portfolio managers, and other fee-based investment advisors.
  • Class C - offered to investors who purchase units through dealers (IIROC and Exempt Market Dealers)

FRC Projections and Rating

We are projecting yields of 9.4% in 2024, and 8.6% in 2024


Source: Company/FRC

Our estimate for the 2024 yield varies between 8.9% and 9.5%, using various YoY allowances

We are reiterating our overall rating of 2-, and a risk rating of 3. Anticipating lower rates, we find high-yielding funds, such as Capital Direct, increasingly appealing. Key risks include a softer mortgage origination market, and higher default rates. We believe major highlights of Capital Direct are its above-average yield, a geographically diversified portfolio, and a relatively low LTV.


Risks

  • Loans are short term and need to be sourced and replaced quickly
  • Lower housing prices will result in higher LTVs
  • Investors’ principal is not guaranteed
  • No guaranteed minimum distributions
  • The fund has the ability to use leverage, increasing exposure to negative events
  • Second mortgages carry higher risk
  • Default rates can rise during recession