|Shares Out. (in M):||436||P/E||NA||NA|
|Market Cap (in $M):||15,630||P/FCF||NA||NA|
|Net Debt (in $M):||-1,560||EBIT||0||0|
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At its current price, a position in the "stub" equity of Loews Corporation (NYSE: L) offers a compelling risk/reward. Depending on how one chooses to structure the trade, we believe returns on net capital employed are likely to be at least 100%.
This idea was first written up in December of 2007 prior to Loews spinning off its ownership of Lorillard. The trade proved quite successful as the spin-off of Lorillard helped - at least temporarily - to close valuation gap between the market value of Loews and the value of its public and non-public underlying assets. However, the situation has reemerged in which Loews is dramatically undervalued relative to its underlying assets.
Aside from the spin-off of Lorillard, nothing fundamental has changed to the story. However, the stub is currently available at close to its lowest levels ever. At the time of the December 2007 write-up, Loews traded at a slight premium to its publicly traded components. Presently - based on the closing prices as of Friday, October 23 - Loews trades at $2.77 discount to the market value of its publicly traded components.
We believe the most attractive way to structure this trade is to maintain exposure to Loews' ownership in Boardwalk Pipeline Partners (NYSE: BWP), while shorting out Loews' ownership in CNA Financial (NYSE: CNA) and Diamond Offshore (NYSE: DO). Creating that stub position requires $5.58/share in net exposure for assets we believe are worth roughly $19/share on a pre-tax basis.
While gross returns from such a trade - depending on the length of time it takes for the valuation gap to close - are likely to be lukewarm, the net IRRs are likely to be quite attractive. Accordingly, we see cost of capital - both on an absolute and "opportunity" weighted basis - as the primary risk/negative to this trade.
Loews is the Tisch family conglomerate with ownerships stakes in a variety of public and private businesses. Over many years, the Tisch family has proved themselves to be very intelligent and successful allocators of capital.
Brief description of assets:
CNA financial - P&C insurer
Diamond Offshore - deepwater offshore rig operator
Boardwalk Pipeline Partners LP - natural gas pipeline MLP
CNA preferred stock - $1,250mm in preferred stock which pays a 10% annual dividend.
HighMount - collection of natural gas E&P assets Loews purchased from Dominion Resources in the summer of 2007 for $4,025mm. HighMount has net-debt of $1,666mm. As of December 31, 2008, HighMount owned 2,202,780 Mmcfe of natural gas and natural gas equivalents of net proved reserves - of which 77% was classified as proved and developed reserves. Additionally, the company holds leases and/or drilling rights to 1.0mm net acres, of which roughly .6mm (≈63.6%) is developed acreage, with the balance of the land held for future exploration and development drilling activities.
We believe the most appropriate way to value HighMount is on an EV/Mcfe basis. HighMount's closest comps (in terms of reserve characteristics and reserve life) trade north of $2.00/Mcfe.
|Value per Mcfe||$ 1.50||$ 1.75||$ 2.00||$ 2.25||$ 2.50||$ 2.75||$ 3.00|
|% proved and developed||77.0%||77.0%||77.0%||77.0%||77.0%||77.0%||77.0%|
|Value per Mcfe||$ 4.00||$ 4.25||$ 4.50||$ 4.75||$ 5.00||$ 5.25||$ 5.50|
Should natural gas prices recover, Loews may pursue an IPO of HighMount, a move surely to unlock value and help to collapse the valuation discount to NAV at which Loews currently trades.
Loews Hotels - fully owned by Loews. Net debt of $156mm. Prior to the recession, the business generated EBITDA in the $80mm-$90mm range.
Boardwalk Pipeline Partners GP - fully owned by Loews
With the amount of cash Loews' has on its balance sheet, the company has the ability to participate in attractive deals which could create substantial shareholder value and for which we are paying essentially nothing. Alternatively, the company could buy back a meaningful amount of its own stock, which would likely have the effect of helping to close the valuation gap.
We believe it makes sense to maintain exposure to BWP primarily because it offers an attractive way to gain exposure to natural gas - which despite its run-up recently arguably still remains quite depressed relative to both long-term fundamentals and the current price of oil. Insofar as Loews' most valuable privately held asset is HighMount Exploration & Production, the stub trade can be viewed as both a special situation trade and a cheap/interesting bet on impvored natural gas prices.
The analysis below summarizes the NAV calculation - note, our tax adjusted analysis is rather back of the envelope, insofar as it simply applies a straight 15% rate to all assets held:
|Share price||$ 35.88|
|Diluted shares outstanding||435.6|
|Market cap||$ 15,630.4|
|Publicly traded assets||Owned||Price||Value||Share||Share|
|CNA Financial||242.4||$ 23.86||$ 5,783.3||$ 13.28||$ 11.28|
|Diamond Offshore||70.1||$ 105.80||$ 7,417.1||$ 17.03||$ 14.47|
|Boardwalk Pipelines||137.1||$ 26.53||$ 3,637.8||$ 8.35||$ 7.10|
|Publicly traded assets||$ 16,838.1||$ 38.65||$ 32.85|
|Net cash and investments||$ 1,879.0||$ 4.31||$ 3.67|
|CNA preferred stock||$ 1,250.0||$ 2.87||$ 2.44|
|Other assets||$ 3,129.0||$ 7.18||$ 6.11|
|HighMount||$ 1,750.0||$ 4.02||$ 3.41|
|Loews Hotels||$ 300.0||$ 0.69||$ 0.59|
|Boardwalk Pipeline GP||$ 250.0||$ 0.57||$ 0.49|
|Other assets||$ 2,300.0||$ 5.28||$ 4.49|
|Total asset value||$ 22,267.1||$ 51.11||$ 43.45|
|Coporate SG&A||$ (800.0)||$ (1.84)||$ (1.84)|
|Net asset value||$ 21,467.1||$ 49.28||$ 41.61|
|Stock price||$ 35.88||$ 35.88|
|Total NAV excluding CNA and DO||$ 8,266.8||$ 18.98||$ 15.85|
|Stub cost||$ 5.58||$ 5.58|
|Total NAV excluding CNA, DO, and BWP||$ 4,629.0||$ 10.63||$ 8.76|
|Stub cost||$ (2.77)||$ 3.03|
Unfortunately, I don't know how to include charts in my VIC write-ups. However, let's just go back to October of 2008. From October 2008 through the present, the lowest the stub traded was ($3.04) on October 22, 2009; the lowest the stub ex. BWP traded was $4.82 on June 19, 2009. Average prices during the time frame have been -$.17 for the stub, and $6.69 for the stub ex. BWP. Highs have been $4.78 for the stub, and $10.89 for the stub ex. BWP.
Despite what we perceive as the inefficiency of the markets at work here, we are willing to bet that the markets only become inefficient to a point. Assuming the stub ex. BWP declines to its low, the trade at current levels returns a loss of 13%; assuming it trades to its highs, the trade returns a gain of 95%. We view that as an attractive risk/reward especially because we believe the stub ex. BWP is worth more than its 52 week high of $10.89.
1) Market closes valuation gap
2) Share buyback
3) Eventual IPO of HighMount or other value creating measure with one of Loews' assets
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