AIG Jan 2021 Warrants AIG.WS
February 13, 2015 - 6:10pm EST by
stanley339
2015 2016
Price: 23.50 EPS 0 0
Shares Out. (in M): 75 P/E 0 0
Market Cap (in $M): 1,760 P/FCF 0 0
Net Debt (in $M): 0 EBIT 0 0
TEV ($): 0 TEV/EBIT 0 0

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  • Warrants
  • Discount to book
  • Potential Buybacks
  • Discount to Peers
  • Insurance

Description

 
Pitch:
 
We believe these are an outstanding risk/reward because the common stock continues to be
undervalued and there is plenty of time for AIG’s business performance to improve enough for the stock
to trade at least at book value before the warrants expire. If that happens, the warrants should be
multi-baggers.
 
 
Background:
 
10 year AIG warrants were issued in January 2011 as part of the government rescue of AIG. The
warrants expire in January 2021 and have a strike price of $45.
 
We think about the value of these warrants in relation to the intrinsic value of the common stock over
the long term. Many/most market participants probably rely on the typical Black Scholes
methodology which systematically undervalues long term warrants.
 
AIG BVPS is $78 and it is currently trading at ~0.69x book. We believe that BVPS will continue to grow
steadily if the business continues to deliver solid and improving earnings and buys back stock. Should
the ROE of the business improve to peer levels, the valuation multiple of the common stock should
trade at least at 1x book. The S&P P&C Index trades at ~1.4x book today, similar to its long term
average.
 
 
Valuation:
 
Using modest assumptions of slowly improving performance and buybacks roughly equal to taxed net
income from 2015-2018 and none beyond that, we project BVPS to grow by a ~9% CAGR until the end of
2021. In this scenario, BVPS growth is slower than might be expected due to the utilization of the DTA.
 
2015 ROE (Net income / average total equity) should be around 6% and we think the business should
have improved and have enough capital returned to get to a ~10% ROE in 2021.
 
By the end of 2021, we project BVPS to reach $140.
 
If the common is trading at BVPS, that would mean the warrant is worth $95 ($140-$45) which is a 4
bagger, or a ~27% annualized return for 6 years.
 
If the business has improved even more and can trade at 1.2x BVPS, the warrant would be worth $123,
more than a 5 bagger, or a 32% annualized return for 6 years.
 
Alternatively, we can look at a more standard valuation approach to help us think about downside.
Current implied vol of the warrant is 45%. If we assume in 2 years, the stock trades to just the current
average analyst price target of $62 and vol compresses to 35%, the warrants should be break-even. If
vol remains constant, the warrants should appreciate by 15%.
 
 
Risks:
1. This is a leveraged way to participate in the turnaround at AIG.
2. If AIG trades at $45 or below in January 2021, the warrants will be worth $0.
3. From a trading standpoint, these appear to be illiquid with Fairholme owning 1/3 of the
securities.
 
 
Disclosure:
We and our affiliates are long AIG warrants (AIG/WS) and may buy additional shares or sell some or
all of our securities, at any time. We have no obligation to inform anybody of any changes in our views
of AIG/WS. This is not a recommendation to buy or sell securities. Our research should not be taken
for certainty. Please conduct your own research and reach your own conclusion.
 
 
 
 
 
 
 
 

 

I do not hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise hold a material investment in the issuer's securities.

Catalyst

Continued improvement of business performance and return of capital via buybacks

As ROE expands there should be mulitple re-rating to peer levels on an ever growing BVPS

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    Description

     
    Pitch:
     
    We believe these are an outstanding risk/reward because the common stock continues to be
    undervalued and there is plenty of time for AIG’s business performance to improve enough for the stock
    to trade at least at book value before the warrants expire. If that happens, the warrants should be
    multi-baggers.
     
     
    Background:
     
    10 year AIG warrants were issued in January 2011 as part of the government rescue of AIG. The
    warrants expire in January 2021 and have a strike price of $45.
     
    We think about the value of these warrants in relation to the intrinsic value of the common stock over
    the long term. Many/most market participants probably rely on the typical Black Scholes
    methodology which systematically undervalues long term warrants.
     
    AIG BVPS is $78 and it is currently trading at ~0.69x book. We believe that BVPS will continue to grow
    steadily if the business continues to deliver solid and improving earnings and buys back stock. Should
    the ROE of the business improve to peer levels, the valuation multiple of the common stock should
    trade at least at 1x book. The S&P P&C Index trades at ~1.4x book today, similar to its long term
    average.
     
     
    Valuation:
     
    Using modest assumptions of slowly improving performance and buybacks roughly equal to taxed net
    income from 2015-2018 and none beyond that, we project BVPS to grow by a ~9% CAGR until the end of
    2021. In this scenario, BVPS growth is slower than might be expected due to the utilization of the DTA.
     
    2015 ROE (Net income / average total equity) should be around 6% and we think the business should
    have improved and have enough capital returned to get to a ~10% ROE in 2021.
     
    By the end of 2021, we project BVPS to reach $140.
     
    If the common is trading at BVPS, that would mean the warrant is worth $95 ($140-$45) which is a 4
    bagger, or a ~27% annualized return for 6 years.
     
    If the business has improved even more and can trade at 1.2x BVPS, the warrant would be worth $123,
    more than a 5 bagger, or a 32% annualized return for 6 years.
     
    Alternatively, we can look at a more standard valuation approach to help us think about downside.
    Current implied vol of the warrant is 45%. If we assume in 2 years, the stock trades to just the current
    average analyst price target of $62 and vol compresses to 35%, the warrants should be break-even. If
    vol remains constant, the warrants should appreciate by 15%.
     
     
    Risks:
    1. This is a leveraged way to participate in the turnaround at AIG.
    2. If AIG trades at $45 or below in January 2021, the warrants will be worth $0.
    3. From a trading standpoint, these appear to be illiquid with Fairholme owning 1/3 of the
    securities.
     
     
    Disclosure:
    We and our affiliates are long AIG warrants (AIG/WS) and may buy additional shares or sell some or
    all of our securities, at any time. We have no obligation to inform anybody of any changes in our views
    of AIG/WS. This is not a recommendation to buy or sell securities. Our research should not be taken
    for certainty. Please conduct your own research and reach your own conclusion.
     
     
     
     
     
     
     
     

     

    I do not hold a position with the issuer such as employment, directorship, or consultancy.
    I and/or others I advise hold a material investment in the issuer's securities.

    Catalyst

    Continued improvement of business performance and return of capital via buybacks

    As ROE expands there should be mulitple re-rating to peer levels on an ever growing BVPS

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