Description
Trading at just 44% of book value with a P/E of 7, American Real Estate Partners, L.P., with $1.5BN in assets, is comprised of 144 separate real estate assets located in 31 states. Owned real estate and mortgages consist of investments in: retail, industrial, and office properties; hotels, resorts and casinos; and residential development properties.
WARNING: As of May 1, 2002, Carl Icahn owned 39,706,836 Depositary Units (84% of the total Depositary Units outstanding) and 8,073,466 Preferred Units (86.5% of the total Preferred Units outstanding). Investors here are minority shareholders with Carl running the show. You should also be warned that:
(1) The L.P. does not currently and does not expect to pay a dividend.
(2) Icahn has engaged in several Related Party Transactions including borrowing $250MM from the L.P. on December 27, 2001 in the form of a two-year secured loan.
(3) A class action lawsuit brought against the G.P., Icahn, essentially for not treating minority shareholders fairly, was dismissed on September 6, 2001.
(4) American Real Estate Partners, L.P. is a limited partnership and not a REIT or a corporation. For tax purposes that means L.P.s must pay taxes on the earnings of the L.P. regardless of actual cash distributions to L.P.s.
From a valuation perspective, this one is a slam-dunk. The two real issues are: what can Icahn do to screw minority shareholders and how can you capture at least part of the discount to NAV. I would like to ask, encourage, and plead for all VIC members to consider posting Icahn minority shareholder “horror stories” for all to read. Maybe a 56% discount to NAV is not big enough to compensate for the Carl Factor, and maybe it is. My hope is that using the brief analysis that follows, combined with antidotes of VIC members, we can all get a better picture of the risk/reward of this investment. I thank you in advance for your contributions.
American Real Estate Partners, L.P. was formed in 1987 to purchase the assets and liabilities of 13 predecessor partnerships that acquired real estate assets between 1972 and 1985. Since then, Icahn has used the entity as his main vehicle to invest in real estate and real estate-related assets. In 1996, an amendment to the Partnership Agreement allowed for non-real estate related investments with up to 40% of the L.P.’s assets, which limitation is intended to keep the L.P. from being deemed an investment company under the 1940 Act.
Balance Sheet Summary (3/31/02):
(IN $000’s)
Assets:
Real Estate Leased to Others $355,956
Government Securities $307,363
Loan to Icahn $250,000
Cash $ 87,125
Equities and Debt Securities $ 35,826
Mortgages $ 47,751
Equity interest in GB Holdings $ 40,752
Hotels, casinos and resorts $226,607
Land and construction $ 64,679
A/R and other $ 57,086
Total Assets $1,473,145
Liabilities:
Mortgages $164,700
Due to Affiliate $ 68,984
A/P, accrued, other $ 53,825
Total Liabilities $287,509
Minority Interest:
Stratosphere Hotel and Casino $ 68,102
Preferred Units:
9,330,963 with $10 face value $ 93,309
Limited Partner’s Equity $1,012,158
Book Value:
47,235,484 Depositary Units $21.43
Market Price of Equity: $ 9.45
Price to Book 44.1%
American Real Estate Partners, L.P. can be broken down into 4 general segments:
(1) Single Asset Real Estate and Mortgages
(2) Casinos and Resorts
(3) Residential Property Development
(4) Cash, Cash Equivalents, Securities and Note
Single Asset Real Estate and Mortgages:
While the L.P. currently trades for just 44% of book value, I believe it to trade for far less than that on a mark-to-market or appraised value basis. Although no appraisals that I know of are available (and Icahn clearly has no incentive to provide them) looking at operating cashflows for the Single Asset Real Estate Portfolio ($356MM of assets) would point to these assets probably being worth at least $100MM more than book value. Given that Icahn is a shrewd buyer of Real Estate, these assets were purchased over the last 15 years and the assets are listed at the lower of cost or market, I clearly believe the book values here are on the low side.
Casinos and Resorts:
The major property here is the infamous Stratosphere Hotel and Casino in Las Vegas, with a book value of $183MM which is currently 51% owned by the L.P. and which will be 100% owned by the L.P. sometime later in 2002 (Icahn and a few other minority shareholders are selling their interests to the L.P.). The property received a major boost in revenues after completing a 1,000-room expansion in June 2001. Although the effects of 9/11 are still impacting the property, first quarter occupancy of the hotel was in excess of 86%. The other significant casino investment is the Sands Hotel and Casino in Atlantic City, which the company completed the purchase of in May 2002. The above balance sheet shows the L.P.’s partial ownership of this property as of the 3/31/02 balance sheet as: equity interest in G.B. Holdings, Equities and Debt Securities (only a portion of this represents the L.P.’s investment in the Sands), and Due to Affiliate.
Residential Property Development:
In March of 2000, the L.P. bought Bayswater (a real estate investment, management, and development company) from Icahn for $84MM. Only a tiny part of the balance sheet (land, house and condominium development) provided almost 24% of segment earnings for the first quarter. There is little disclosure in the documents as to the specifics here and any estimate of the actual value of the remaining real estate to be developed would be conjecture.
Cash, Cash Equivalents, Securities and Note:
The L.P. has $307MM in government bonds, $250MM in a secured note from Icahn, $87MM in cash and $35MM in marketable securities for a total of $679MM.
Percentage of Book Value in cash and securities is 46%.
The stated reason for the L.P. keeping such a large cash balance is for Icahn to be able to take advantage of opportunities (which tend to come along on a regular basis but are chunky) as they become available. My guess is that somehow Shelbourne Properties I, II and III (currently an Icahn target and the subject of an earlier write-up) will find its way into the L.P..
Two ways to play:
Preferred Units: The preferred units (equivalent to preferred stock) trade for $7.30 per share, have a face value of $10, a PIK coupon of 5%, a final maturity of 3/31/10 and a YTM of 9.39%. While 9.39% is admittedly not that attractive of an absolute yield, considering that the company has $1.5BN in assets and less than $300MM of total liabilities ahead of the preferred, 9.39% for what would arguably be an investment grade rated piece of paper isn’t bad. The preferred also has the certainty of a final maturity, albeit almost 8 years from now.
Depositary Units: The depositary units (equivalent to common stock) trade at 44% of book value and by any measure are cheap. The real issue here, unlike the preferred with a stated maturity, is how to unlock the value for minority shareholders. If you’re looking for a fixed maturity, an “event” other than Icahn’s early demise (he is 66 for those who care), there really isn’t one here. The current L.P. structure is tax efficient and Icahn has all the control he could ever want.
On the other hand, what I think Icahn might be thinking about is taking the L.P. private, splitting up the assets and then spinning them off as separate public companies or selling the pieces for market values well in excess of stated book values. (This is sort of what his plan was/is for Shelbourne Properties). Icahn loves a bargain; and currently nothing is cheaper than the Units in this L.P..
An interesting point is that Icahn has been having the L.P. buy out the minority interests in assets such as the Stratosphere and the Sands. Icahn could have had the L.P. sell the assets to him personally, but no doubt that would have added fuel to the then existing shareholder lawsuit. Now that the L.P. will control two large casinos, it only seems logical that Icahn may wish one day to spin these and a couple of other resort properties into a publicly traded company whose shares would no doubt have the potential to trade at a premium to book value instead of over a 50% discount. In fact, if you assume the cash, securities, and note on the balance sheet are valued at par, the casino and other real estate assets are valued at more like 20 cents on the dollar. Why wouldn’t Icahn seek a way to maximize value?
If I am wrong and Icahn doesn’t take the L.P. private at a reasonable premium to today’s trading levels anytime soon, I would expect the stock to continue to appreciate from increases in free cashflow as a result of the recovering hotel/casino/resort market.
The bottom line here is that you can buy assets at 44% of book value, probably less than 40% of market or appraised values, but you may have to wait a while (could be a long while) until a clear catalyst develops to unlock value. My advice (for what it's worth) is to buy the stock at $9.50 a share and sell it up 20-50% over the next 2 years, which would still allow another investor to buy the stock at a significant discount to NAV. Make the easy money and move on. If Icahn makes a move to take the L.P. private, clearly the returns will be even greater.
Catalyst
(1) Economic benefit for the majority shareholder from a going private transaction
(2) Increasing cashflow from operations due to turn around of hotel/casino/resort properties
(3) Fixed maturity date benefits the Preferred Unit holders
(4) No one lives forever (sorry Carl)