Metal Management MTLM W
March 16, 2003 - 3:04am EST by
2003 2004
Price: 7.10 EPS
Shares Out. (in M): 0 P/E
Market Cap (in $M): 79 P/FCF
Net Debt (in $M): 0 EBIT 0 0

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This scrap metal recycler with $722m in sales trades at 3.9x ev/ebitda and 2.6x mcap/fcf, has hidden real estate assets carried at cost, and enough NOLs to pay no taxes for years to come. It is a post-bankruptcy equity (exited June 2001) that moved to the NASDAQ this month (March 7th) and should pick up some sell side coverage and trading volume promptly.

There are 11.1m shares outstanding when including 987k in the money warrants, making a market cap of just under $79m at $7.10 per share. There is $110m of debt for an enterprise value of $189m. Cash on hand of $1.6m is needed for working capital so I’ve excluded it from calculation of ev.

2002 ebitda was $48m in a fairly weak volume and pricing environment. After Cap Ex of $6.2m and interest exp of $11.7m (no taxes to pay), the company flowed free cash of $30m.

2003 looks like it will be brighter because scrap prices are up. Top grades fetch as much as $150/ton, nicely above the normal range of $115-$125. China has become a heavy net importer and Japan has swung toward net consumption. Scrap is used by steel mills who melt it in an electric arc furnace and then assay its content in order to reach their desired grade of metal by adding only small quantities of the more expensive pure material (nickel, chrome, mallybdnium) to the melt. 70% of sales are of ferrous metals which enjoy good prices, if anemic volumes, and provides all of the ebitda. The rest is non-ferrous metals that are in a generally lousy pricing and volume environment and will provide no profitability this year.

I estimate $60m of ebitda for 2003 if volume is flat (it should be up a few %). Cap ex will be $10m this year and overestimating interest expense by using the same $11.7m as last year we have $38m in 2003 FCF. I propose that a 7x multiple is warranted on this free cash giving a business value of $266m or 4.43x 2003 ebitda. After $110m of debt, the equity is worth $156m and should be divided by 11.6m shares due to 500k additional warrants that strike at $12 (I've excluded a final 675k warrant tranche that strikes at $21.19). Thus, $156m / 11.6 shares = $13.44 per share.

Upcomming Debt Refi
Part of their debt is at a 12.75% coupon so they are focused on reducing the outstanding and looking to refi. The company expects to arrange bank financing by Spring, which it will use to Call its 12.75s of June 2004 at par. So interest expense could come down substantially and the free cash will be used to repay principal. The 12.75s of 04 trade even less frequently than the equity does, but they ought to be money good. Buy some if you can find any... or better yet, sell some to me if you have any. I hear the company bought some back in the mid 70s (percent of par) a while back.

Hidden real estate assets
The company is actively trying to sell some land in Arizona (approx 20 acres ?) and Kansas but I have no read on what these are worth. Of clearer value is their Chicago property worth $6-7 million that is carried at cost of $1m.

Capacity constraints
The difficulty in their business is finding inbound scrap at consistently good prices... Although their customers are weakened, there is a fairly efficient domestic spot market for recycled scrap and a growing export market. But, their real customers are the 10,000 sources who sell them excess/obsolete material (inbound scrap) for a price.

Competitors are mostly small private companies in this fragmented industry. The company feels that due to its size it has a 10% advantage over competitors by buying 3-4% better, processing 3-4% more efficiently, filling export cargo loads faster and turning inventory better. One public comp is Schnitzer (SCHN) which recently ran from $17 to $24 per share on the recent pickup in scrap prices and trades at 9x ev/ebitda (could be a pairs trade).

Government Investigation
There is an investigation into industry purchasing practices in four Mid-western states. The company believes it is not the target of this investigation and is cooperating by providing subpoenaed documents. The government suspects that sellers of inbound scrap to recyclers are getting shortchanged in the tonnage weighing process by some scruple-less players. The company says it has not done anything wrong and thinks this will help bring fairer competition for incoming supply, however it is too early to know if MTLM will get named in a government suit.

Consistency of cash flow
The company’s rocky past includes a 2001 bankruptcy that was the result of way too much debt from rolling up acquisitions in the mid to late 90s. Though ebitda oscillated wildly from $54m in 2000 to $6m in 2001 back to $48m in 2002, the swings are largely a result of inventory and acquisition issues that will not be present going forward.

When they were ‘rolling-up’ companies, they ran with much higher inventory levels (double to triple current levels) as they processed recently acquired inventory. When scrap prices dropped, their bloated inventory got caught badly in the downdraft. Also the bankruptcy period weakened their ability to get inbound scrap volumes since sellers were fretting about getting paid.

Now they have a lean inventory and most pricing for inbound scrap is tied to market. Since they are no longer acquiring others, management is free to focus on securing inbound volumes at good prices.

I think this company should trade between $13 ½ and $16 depending on how fast they reduce/refinance debt and sell real estate. If pricing and volumes in their non-ferrous business come back they could have additional upside.


- Upcoming debt refinancing
- Improved scrap prices
- Management focus on inbound supply will steady cash flow swings
- Recent Nasdaq listing will attract coverage and increase liquidity
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