Two Harbors seeks for-cause termination as manager dispute escalates

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A mortgage real estate investment trust made plans to terminate its external manager for cause and its manager responded by filing a new lawsuit against the REIT.

Two Harbors Investment Corp. alleged "material breaches of the management agreement and gross negligence" in its planned termination of PRCM Advisers, which the REIT said will take place on Aug. 14. PRCM externally managed Two Harbors since 2009.

"Because the management agreement is now being terminated for cause … no termination fee will be payable to the manager," the company said in a press release.

Previously, Two Harbors planned to end the business relationship on Sept. 19, "on the basis of unfair compensation payable to the manager," and pay an estimated termination fee of $144 million.

The company plans to be self-managed in the future by "members of the senior management team" and "other personnel currently providing services to Two Harbors" after the termination, according to the press release.

PRCM responded by dismissing a previous suit it had filed against Two Harbors in New York State Court over alleged breaches of contract, and filing a new one in U.S. District Court for the Southern District of New York. PRCM is an acronym for Pine River Capital Management.

"Two Harbors made clear to Pine River that Two Harbors intends to misappropriate Pine River's intellectual property in violation of federal law. Accordingly, on July 21, 2020, Pine River voluntarily dismissed its state court lawsuit and filed this lawsuit for misappropriation of trade secrets," PRCM said in court documents.

Two Harbors did not return a call for comment about the suit.

Several portions of the suit referring to the trade secrets are redacted, but what's clear PRCM alleges, among other things, that "there is no valid basis to terminate Pine River 'for cause.'"

"Two Harbors simply manufactured reasons for terminating Pine River for cause as another excuse to internalize management functions, and this second termination is intended to avoid paying Pine River even a termination fee," PRCM alleges in the suit.

Also among the alleged breaches of contract mentioned in the suit are efforts "to poach Pine River's employees."

PRCM in the suit called, "Two Harbors' reasons for purporting to terminate the management agreement for cause are baseless and retaliatory," and disputed Two Harbors' allegations that its compensation was "unfair."

"Only two externally managed residential mortgage REITs are larger than Two Harbors, and one of those REITs paid its manager approximately double the compensation, as a percentage of average GAAP stockholders' equity, as did Two Harbors in 2019, even though that REIT generated a lower economic return than Two Harbors in 2019," Pine River said in court documents.

Two Harbors bore up relatively well amid broad capital markets volatility associated with the coronavirus but did face some financial challenges, Keefe, Bruyette & Woods equity researchers noted in a report last month.

"While it's unclear how this is going to play out, we find it interesting that the termination was based just on the unfairness of the compensation as opposed to performance," analysts Bose George and Eric Hagen said in the report.

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