|Shares Out. (in M):||0||P/E|
|Market Cap (in $M):||3,600||P/FCF|
|Net Debt (in $M):||0||EBIT||0||0|
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The past few months have seen several optimism-heavy, analysis-light opinion pieces on the value of The St. Joe Company (JOE). Given this recent editorial flow, we felt compelled to outline a case that rests on more traditional valuation techniques. (David Einhorn of Greenlight has made the case eloquently in the past, but it is time for a refresher).
JOE owns roughly 638,000 acres of land, most of it in northwest
A fluffy piece in the April 26th issue of Barron’s highlighted the essence of the bull thesis on JOE, which to paraphrase is: “how can you go wrong buying
So the first question to answer is: what’s the real implied price per acre you’re paying at today’s share price after incorporating the various cash costs associated with running the business? To get a rough sense, we build a very simplified DCF model with a few basic assumptions:
(1) Timing of land sales: all of the land sells within 20 years, implying a rate of 5% per year or ~32,000 acres/year (this is faster than the company would estimate).
(2) Land value appreciation: straight-line price appreciation of 3% per year.
(3) Expenses: overall cash expenses of 20% of sales (this is much lower than historical levels, where gross margins for home-site sales have been around 50%). This includes direct land-related costs and corporate expenses.
(4) Taxes: we use a 25% rate, which is what the company estimates. Management uses various deferral strategies, most frequently installment notes, to get to this low level, and we will ignore future tax liabilities for purposes of this analysis.
(5) Discount rate: we use 10%, which is probably quite generous considering the company is fully equity-financed.
(6) Capital expenditures: for purposes of this analysis, we’re ignoring them, just like we’re ignoring depreciation. Obviously these items exist, but we’re trying to run a very stripped down DCF here – so essentially net income equals free cash flow.
We use these assumptions to back-solve into the starting sales price per acre, which at the current share price is about $18,400. This is more than triple the price that the bulls suggest investors are paying per acre of JOE land at the current share price. We concede that $18,400/acre for
Only ~45,000 acres of the company’s land is entitled, or in the entitlement process. The other ~593,000 acres out of JOE’s total ~638,000 acres are un-entitled rural pine forest and/or swamp, most of which is currently used for timberland. JOE plans to sell off this land for either “rural recreation/residential” or for timber value. Such values are far lower than $18,400 per acre, and are significantly lower than even $5,700 per acre. First, a few timber value comparables from transactions completed during 2007 in the southeast: MeadWestvaco sold 323k acres to Wells Timberland REIT for $1,238/acre; Temple Inland sold 1.55mm acres to The Campbell Group for $1,535/acre, and iStar Financial sold 900k acres to Hancock Timber Resources for $1,900/acre. Second, a few comparables for “rural recreation” (the hope that rich outdoorsmen will buy large tracts to hunt quail, deer, and other local wildlife): the most prolific quail country in the US, located in South Texas, goes for about $1,500 to $2,000 an acre. Some might try to point to the quail plantations selling in the “Red Hills” region (between
Year Acreage Price Price/Acre
Q1-08 57k $91.1m $1,586
2007 106k $161m $1,522
2006 34k $90m $2,618
2005 29k $69m $2,379
2004 20k $68m $3,375
2003 65k $97m $1,487
We would note that the 2004 figure is skewed upward by the sales of two prime pieces of waterfront property (~650 total acres) for $17.4m. Excluding these unusual pieces of land, the average per acre price in 2004 was ~$2,500.
Knowing that rural holdings comprise the vast majority of JOE’s land, we adjust the DCF analysis slightly. We separate the revenue stream from the rural land (593k acres), and make two generous assumptions: first, this land sells for an average of $2,500/acre and second, JOE sells this land at a rate of 20% per year, or ~119,000 acres per year (assuming a faster sales rate of ~176k acres in 2008, given that ~57k acres have already been sold). With these assumptions, the implied price per acre for the remaining ~45k acres of land in varying stages of development is about ~$210,000 per acre, which no longer sounds so cheap. Many analysts allude to JOE’s last “land analysis update” released on May 10, 2006. The following passage is not often mentioned, but it stands out: “JOE’s commercial land sales in
Anyone can build the basic DCF analysis described above to see that contrary to the bulls’ argument, you are actually paying quite a rich price for JOE today. This is admittedly simple math, but it does highlight the fact that JOE’s stock isn’t cheap even using very basic (and generous) assumptions. A more realistic DCF analysis involves separate valuations for the different categories of developed and entitled acreage. We have gone through this analysis in substantial detail, separately modeling revenues for each development property, as listed in the front of the 2007 10-K, based on comparable property valuations, input from various industry experts and commentary from the company itself. Key assumptions include per unit (lot) pricing for the residential real estate, per acre pricing for the rural and commercial land, sales schedule (rate of sales), cash expenses, tax rate, capex, and discount rate. We use a 10% discount rate, a 25% tax rate, 3% yearly price increases, and we assume that all properties are sold by 2030. Per management guidance, annual capex never rises above $90mm, and we model corporate expenses well below historical levels. Using conservative selling price assumptions, our analysis implies a share price of around $15.
The assumptions that drive our valuation of the company are influenced by conversations we’ve had with industry experts and JOE employees and through site visits in northwest
1. October 2007 restructuring implies lower realized prices and greater reliance on customers
a. Lots typically sell for 15-20% of the anticipated home price (waterfront lots are generally higher at about 25% of home price). While expenses are much lower (which is why we implied 80% operating margins in our DCF), revenues will also be much lower.
b. Before the restructuring, JOE was a vertically integrated real estate provider: land owner, developer, and homebuilder. Now, it is just a land sales operation participating in limited development activities. Thus, JOE’s primary buyers are now homebuilding companies and developers (hard to imagine a weaker or more fickle customer base).
c. For more on the perils of a strategy dependent on third party builders and developers, read about experience of Calpers with their Newhall Ranch project (article in WSJ, 05/01/08). Worth noting is that Newhall Ranch failed despite an excellent location (about 20 miles from downtown
2. Recent demand was largely investor-driven, implying massive excess capacity
a. Most of the buyers over the past few years have been investors. Several of the JOE developments released in the last two years have been selling, but very few people are actually building houses, let alone moving into the neighborhoods.
b. True buyers (not investors) are reluctant to buy and build in new developments, because it can be years before actual neighborhoods exist, a classic chicken and egg problem. Rivercamps and
c. There is a glut of “luxury” properties in the area – even the most successful developments have plenty of vacancies, and there are many developments that appear to have been abandoned mid-project. Even if true demand returns, there will be years of excess capacity to soak up. JOE is also not the only game in town – a quick Internet search reveals many other similar projects, many of which are failed or are failing, which suggests prices have room to fall.
d. On the Q1-08 conference call, CEO Peter Rummell said of
3. Circular logic: JOE is attempting to create both housing supply and demand
a. JOE is attempting to create new commercial zones to attract full-time residents, and many of their new developments are “affordable” housing where this new workforce can live. The obvious question, however, is what will create the explosion of commercial activity JOE seeks?
b. Apart from real estate/tourism, there is virtually no industry to speak of in the area. The fact remains that most of the commerce in
4. JOE’s best developments have already been sold
a. Nearly all of JOE’s remaining development inventory is in Bay and Gulf counties, which are considered to be less desirable than
b. Most of the remaining residential developments are aimed at a lower price point.
5. Unrealistic value creation is being attributed to the new airport
a. Many investors seem to be placing their faith in the hypothetical value of a new airport (opening 2010 at earliest), but they seem to forget that Panama City already has a decent-sized airport, only 15 minutes away from the site of the proposed airport. In fact, the current airport is closer to JOE’s properties in
b. The new airport will have a longer runway, which can accommodate larger aircraft, but it doesn’t sound like the facilities will be much larger than the old airport, as only seven gates are planned.
c. The existing airport is already served by major carriers, including Delta, Northwest, and USAir. It has direct flights from several of the urban areas that are key markets for JOE, including
d. Most importantly, the current airport’s website (www.pcairport.com) reveals some rather troubling trends. Despite
Period Passengers % Change y/y
Jan-08 21k -13.4%
2007 338k -4.8%
2006 355k -7.3%
2005 383k -1.0%
2004 387k +3.8%
2003 372k +8.5%
In fact, 2007 passenger traffic is almost unchanged from 1998 (336k passengers). We have not studied the airport’s activity levels in extensive detail, so we concede that other factors could be at work, but at the very least these statistics suggest some concerning trends. If there is such demand for air travel to Panama City/northwest Florida, why have passenger numbers been dropping for the last three years, including 2005, the “peak” year of the recent bubble, and stagnant over the last ten?
e. Bulls like to cite the example of
6. Commercial land value data point is misleading
a. The recent article in Barron’s cites that JOE sold its commercial acreage for an average price of $266,000 per acre last year.
b. This could be a reasonable estimate for some of the commercial land sales going forward, but JOE has only ~964 acres of entitled commercial land remaining (see 2007 10-K). Using $266k per acre (vs. say, $200k) as the value for JOE’s commercial portfolio barely moves the NPV needle.
c. Bulls may argue that JOE will entitle more acreage (and they are probably right) but if so, it is a very long way off: as JOE will admit, there is already a multi-year backlog of available for sale real estate in the region. JOE would be lucky to sell its currently entitled commercial portfolio within the next 20 years, let alone entitle additional acreage for commercial development and put it on the market.
7. Rural land is generally low quality
a. JOE’s management has promoted the idea of elevating their timber land to “higher and better use,” but it must be remembered that this is low quality land.
b. We won’t hazard a guess at how much of the remaining rural acreage is wetlands, but ecological maps suggest that it is a significant portion. See http://wetlandextension.ifas.ufl.edu/near.htm for county by county detail.
c. Substantially all of JOE’s remaining land is below the escarpment separating the coastal sandy areas from the uplands with quality topsoil. Because of this, JOE’s land is not ideally suited for hunting purposes (not much game). “Sand pine” forests with relatively low timber value predominate.
d. We have learned that a single real estate investor, who plans to resell the land, accounted for a large portion of the rural sales in Q1-08. Thus, much of the rural land is not going to end users: it will reappear on the market and compete with JOE’s future sales, effectively depressing prices.
8. Equity offering eliminates debt fears, but underlines the headwinds facing JOE
a. Much has been made of the recent equity offering. It is positive that JOE no longer faces the time, capital and liquidity constraints of its former debt load.
b. However, the deal, priced at $35/share, was highly dilutive to equity holders.
c. Further, it demonstrates management’s lack of faith in the short- to medium-term environment: it is a tacit admission that the company has no faith in its ability to generate cash flow for many years. This has obvious and negative implications for investors piling in today.
9. If you are looking for cheap
a. JOE is not a cheap way of buying land in northwest
b. JOE’s current share price, on the other hand, discounts optimistic real estate prices and an unrealistic development schedule.
The risk to our thesis is the opacity/debatability of JOE’s land valuation. While we have attempted to realistically value the properties at a very granular level, many investors will simply brush away any detailed valuation and succumb to the analytically un-taxing bull thesis. JOE is also a bit of a cult stock, which can make for dangerous short selling conditions.
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