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Duds to Studs: 5 Troubled IPOs That Could Shine by 2014

Early trip-ups won't stop the likes of HIIQ and ZFC

By Will Ashworth, InvestorPlace Contributor

dollar arrowThe IPO market is showing continuing signs of improvement through the first six months of 2013.

There were 70 initial public offerings in the first half — six more than in the first half of 2012. Not quite back to the levels set in 2007 … but good nonetheless.

Last July, I picked five former IPO stars whose stocks had fallen on times but looked ready to make a comeback. A year later, four have performed beautifully, with Green Dot (GDOT) the only exception.

This time around I’m going to pick five dogs from the group of 70 first-half IPOs that I feel are coming to come to life in the next six to 12 months. Here’s hoping I’m even half as successful as last year.

Health Insurance Innovations

HIIQHealth Insurance Innovations (HIIQ) sells affordable, cloud-based, individual health insurance plans to the underinsured.

Its major revenue generator (70% overall) is its short-term medical plans, which provide coverage for up to six- and 12-month periods at approximately half the cost of traditional plans. Much more restrictive in nature, HIIQ’s plans are meant to fill gap populations such as recent graduates, divorcees, early retirees and military discharges. It also offers hospital indemnity plans as well as ancillary products such as cancer/critical illness plans.

But the issue of Obamacare and questions about what will happen in 2014 are holding back HIIQ’s stock — shares are down nearly 30% since Health Insurance Innovations’ Feb. 7 IPO

However, rather than worry about what the new rules mean for its future, HIIQ’s investor presentation in May showed how its plan holders would be affected in 2014 through 2016. Even with a $2,350 tax penalty in 2016, a family of four with $94,000 in annual household income would save approximately 55% of the $12,000 annual cost for a traditional plan. How this ultimately shakes out is still a long way down the road.

As we get closer to the answer, it will become clear to investors that HIIQ is not a leader in a dying industry but rather a useful stop-gap for healthy people in some sort of transition making permanent insurance tough to come by. With a seasoned management team in place and a growing market, I don’t see why its stock can’t be well above its IPO price of $14 by this time next year.

RCS Capital

RCS CAPITAL CORPORATION, INC. LOGONext up is RCS Capital (RCAP), a New York City-based holding company that was created solely to expand some of the operating businesses of American Realty Capital, a sponsor of non-traded REITs led by Nicholas Schorsch and William Kahane.

RCS Capital itself doesn’t have any employees, but its four operating businesses have 198 people selling non-traded REITs advising others on how to structure these alternative investments. They also provide transaction services to publicly traded REITs and their sponsors as well as transfer agency services for many of these same entities.

Some will see this IPO as nothing more than taking advantage of a frothy market. The reality is American Realty Capital continues to grow and it will need entities like RCAP to provide some transparency to its investors. But after losing 22.7% since its June 4 public offering, RCAP is now a much better value. IPO shareholders essentially bought 9.4% of three inter-related ARC operating businesses: Realty Capital Securities, RCS Advisory Services and American National Stock Transfer. The ARC insiders retain 90.6% of the businesses along with 97.5% of the votes.

An investment in RCAP should be considered an income investment first and foremost, then a vehicle of capital appreciation. At its IPO of $20, RCAP had a yield of 3.6%. With the 22% decline the yield has grown to 4.5%. When you consider that the three operating businesses have seen revenues increase from $1.4 million in 2008 to $287 million at the end of 2012, it’s very likely that its 72-cent annual dividend will likely double within the next 12 to 18 months, providing an even more attractive yield.

Zais Financial

Zais Financial 185Zais Financial (ZFC) is an externally managed REIT that invests in a diversified portfolio of residential mortgage assets. What makes ZFC so interesting is that it intends to allocate at least 50% of its equity to whole loans, where it buys an entire loan assuming all of the risk of the loan — and all of the profits.

In its Q1 2013 conference call, the company mentioned that it had completed its first whole loan purchase in March of this year, buying $17.7 million in unpaid principal for $10.8 million. Its external investment adviser, Zais REIT Management LLC, is considering the purchase of up to $680 million in unpaid whole loan principal balance. With many banks reducing their whole loan exposure, Zais has created an investment platform that will take advantage of this gap in residential mortgages.

Since its IPO in February, ZFC has lost roughly 20%. Though it was able to raise $121 million in its IPO, ZAIC’s earnings have been lumpy as it has built its investment portfolio. I’d expect that it gets most of the heavy lifting done by the end of the year, at which point its stock will begin to move. In the meantime, enjoy the 10.4% dividend yield.

Hannon Armstrong Sustainable Infrastructure Capital

Hannon Armstrong 185This Maryland-based REIT provides debt and equity financing for sustainable infrastructure projects that increase energy efficiency and positively impact the environment.

Hannon Armstrong’s (HASI) April IPO raised $177 million in gross proceeds — $110 million of it used to finance a total of eight infrastructure projects. The remainder will be put to use lending to other important projects.

In one example, HASI lent money in two transactions to the U.S. government so that it could build new, more energy-efficient fuel facilities at a Marine base. Interest on the loans were 4.24% and 3.45% respectively, due over five years, and its customers all have excellent credit quality.

In business for 32 years, the company has financed more than 450 transactions totaling more than $4 billion since 2000 alone. It currently has $1.6 billion in assets under management. It looks to make money by delivering average interest income on unlevered assets of 5.5% while breaking even on its fee income from institutional investors.

HASI’s management expects to pay a yield upwards of 7%, very similar to business development companies. Down 3.5% over three months, this is probably my favorite of the five companies.

TRI Pointe Homes 

TRI Pointe Homes NYSE:TPHThis is Barry Sternlicht’s baby. The former head of Starwood Hotels & Resorts (HOT) is now a big private equity player and one of his investments is TRI Pointe Homes (TPH), a builder of quality homes in California and Colorado. Sternlicht injected $150 million of capital back in September 2010 so that three guys with a great deal of homebuilding experience could go out on their own and make something wonderful happen.

Its first quarter was a barnburner, with revenues of $23.9 million compared to $4.6 million a year ago. This is just the beginning of an extended period of growth. With Barry Sternlicht and his three operating partners controlling 50.5% of the company, the future looks bright indeed.

This is a close second as my favorite down-and-out IPO. Look for TRI to shine in 2014.

As of this writing, Will Ashworth did not own a position in any of the aforementioned securities.

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