2015 | 2016 | ||||||
Price: | 14.35 | EPS | 0 | 0 | |||
Shares Out. (in M): | 269 | P/E | 0 | 0 | |||
Market Cap (in $M): | 3,869 | P/FCF | 0 | 0 | |||
Net Debt (in $M): | 918 | EBIT | 0 | 0 | |||
TEV ($): | 4,787 | TEV/EBIT | 0 | 0 |
Target Price | 20.00 |
52 Week Range | 13.59-16.37 |
Div. Yield | 0% |
Short Interest | 1.5% |
Hard Catalyst | Spin |
Timing | 9 months |
Buy American Capital Ltd. - The Street is Blinded by ACAS’s History
American Capital’s recent history is not pretty: it’s a busted Business Development Company (BDC) which last restructured in Q2’10. The company has stopped paying dividends, and is trading at a 30% discount to its USD20.54 NAV.
The Street has been burnt by management’s slow progress; however, ACAS turned the corner, when the board approved management’s plan to spin out two new BDC’s. I use a sum of the parts valuation to show that the restructure and spin will unlock value and create 40% upside in 9 months. The Street is blind to the fact that the tide has turned for American Capital.
ACAS is Unloved by Dividend and Special Situation Funds
Dividend investors, the natural buyers of BDC’s, have no interest in ACAS which last paid a dividend in Q4’08. Instead of paying dividends, management has returned significant amounts of cash to shareholders through share buy backs.
In April 2014 the company announced that it was planning to restructure and the stock traded up 11% on the day to USD15.80. Special situation and event-driven investors, who would ordinarily jump into a stock like ACAS, have become wary of the company because it took management a further 8 months to release details of the spin and it took a total of 9 months for the plan to receive board approval.
ACAS is out of favor with all of the natural buyers which creates a great opportunity to buy at a significant discount. Shares will trade up towards their USD20 value when management announces a definitive date for the spin. I expect the spin to take place in 3Q’15 and for further details to be publicly available this summer.
ACAS’s Portfolio Transformation is Misunderstood
The restructure is messy and revolves around a number of tax and regulatory requirements. The Regulated Investment Company (RIC) regulations set strict limits on the assets which can be held by a BDC. In order to obtain tax-advantaged RIC status, management has transformed ACAS from a highly leveraged book of CLO equity, middle market private equity buyouts and subordinated securities into a book where almost 55% of fair value is tied up in RIC friendly senior floating rate debt. The market has not recognized this change or given management credit for the increased quality of the firm’s assets.
ACAS’s Spin-Off is Partially Taxable
Management expects that the spin-off of one BDC will be tax-free, and that one spin-off will be taxable. This is an added cost and complexity which may put off some investors. While I believe that the tax cost to most investors will be zero, the tax on this transaction could be as much as USD0.75 per share.
The board has approved plans to transform American Capital Ltd (ACAS) into a standalone investment manager and to spin the assets currently held at American Capital Ltd. into two new BDC’s. Post-spin, the shareholders will hold shares in three listed entities which should be valued at USD20. The current share price is USD14.20 and the additional value is driven by:
American Capital Ltd (ACAS) +USD1.21 per share
ACAS will cease to invest on its own balance sheet (with a couple of temporary exceptions) and become a pure play investment manager. Post-spin ACAS will replace American Capital Asset Management LLC as asset manager for the American Capital private equity funds, listed REITS and CLO’s.
ACAS will be valued at 13x EV/EBIT post-spin (see page 10 for details on the expected multiple). In addition, management will achieve the targeted cost reductions of USD25MM p.a. and receive the expected reimbursements of USD46MM p.a. from the new Spin Co’s ACI and ACG&I. ACAS will retain its USD434MM tax asset.
European Capital +USD0.65 per share
The proposed restructuring will not affect the European Capital fund. American Capital Ltd. is currently the investment manager and only investor in the European Capital fund and this will remain the case post-spin.
In Dec. 2014 European Capital sold its largest portfolio company Farrow & Ball which accounted for around 25% of fair value. This transaction substantially reduced the risk in the European Capital book and demonstrated management’s ability to realize significant profits. Farrow & Ball was sold for around USD430MM which was more than 20% above marked fair value. This transaction and other sales at European Capital lead me to expect that the fund will be valued at NAV by the market post-spin. Ultimately, management is likely to spin-out European Capital or open it to outside investors.
Spin Co 1 - American Capital Growth & Income (ACG&I) +USD2.56 per share
ACG&I will be managed by ACAS and will focus on American Capital led buyouts, senior floating rate loans and hold the portfolio of CLO equity. The company will be taxed as a RIC and will pay an 8-10% dividend
ACG&I will hold around USD1.6bn in senior bank loans and USD1.4bn in buy-out investments previously made by American Capital. The BDC will continue to invest in new private equity deals sponsored by American Capital. While the valuation, transparency and liquidity of the bank loan book will be good under all reasonable scenarios, it is very difficult for outside investors to value the fund’s private equity investments.
I expect that the bank loan book will be valued at NAV by the market and that the private equity portfolio will be valued at a 20-30% discount to NAV. This discount is in line with the discounts I see on other similar assets, including the private equity investments at European Capital and Prospect Capital Corporation. ACG&I will trade at a 10% discount to NAV post-spin.
Spin Co 2 - American Capital Income (ACI) +USD1.54 per share
ACI will be managed by ACAS and will focus on lending to third-party buyouts. The company will be taxed as a RIC and will pay an 8-10% dividend. This spin-off is expected to be taxable. Given the wide range of possible tax rates, I do not attempt to estimate tax payable; however, I estimate the taxable income to be USD1.81 per share based on a USD14.20 purchase price.
The ACI portfolio will be a typical book of middle market loans and will have a diversified mix of non-control/non-affiliate debt and equity investments. The fund’s portfolio will be very similar to the one held by Golub Capital and as a result, I expect ACI to trade at NAV like Golub Capital.
The key risks are:
-ACG&I and ACI fail to earn tax-advantaged Regulated Investment Company status
-ACI and ACG&I fail to obtain sufficient leverage (I expect 0.6:1 Debt-to-Equity) or the covenants on the debt are overly restrictive
-with the exception of the energy industry (ACAS has relatively low exposure to energy), defaults are expected to remain low in 2015. An increase in defaults could result in pre-spin losses at ACAS or write downs at ACI and ACG&I post-spin
-ACAS’s mortgage funds (NASDAQ: AGNC and NASDAQ: MTGE) account for the bulk of the pre-spin fees. Any disruption to the REIT or mortgage market would have a negative impact on ACAS’s valuation.
-a general sell off of BDC’s and asset managers may increase the NAV discount and decrease the EV/EBIT multiple applied to the asset manager
Current Business
ACAS originates, underwrites and manages middle-market private equity buy-outs, buys structured products and makes loans to a range of businesses. ACAS has USD21bn in assets under management including USD7bn at ACAS and USD14bn of externally managed capital in 9 private and 3 listed funds. In addition to being a BDC, ACAS was a RIC when it IPO’ed in 1997 and was one of the biggest and most active, publicly traded, buyout and mezzanine lending firms prior to 2008.
ACAS currently trades at a 30% discount to its USD20.54 NAV which is a large discount compared to the firm’s peers. American Capital trades at a large discount because the firm:
1-has relatively poor asset quality and had large write downs (more than USD1bn) in 2009/10
2-pays no dividend
3-has lost its RIC status and is subject to federal taxation
Fig 1: NAV Discount of BDC Company Peers
Latest |
2013 |
2012 |
2011 |
|
ACAS |
-31% |
-18% |
-28% |
-53% |
Golub Capital |
3% |
14% |
9% |
2% |
Prospect Capital Corporation |
-5% |
1% |
5% |
-2% |
FS Investment Corporation |
6% |
n.a. |
n.a. |
n.a. |
Apollo Investment Corporation |
-6% |
1% |
-16% |
20% |
Fifth Street Finance Corp. |
-5% |
5% |
11% |
-7% |
Industry Median |
-8% |
-2% |
4% |
-16% |
Industry Minimum |
-34% |
-37% |
-438% |
-56% |
In 2008 ACAS reported USD3.4bn in unrealized losses. The company went on to realize USD1.4bn of losses in 2009 and 2010. ACAS currently has the poorest asset quality (as measured by non-accrual loans as a percentage of fair value) of the major BDC’s. While Fifth Street Finance Corp. had a similar level of troubled loans in 2009, Fifth Street management has substantially reduced their exposure to non-accrual loans.
Fig 2: Non-Accrual Loans as a % of Fair Value
30-Sep-14 |
2013 |
2012 |
2011 |
2010 |
2009 |
|
ACAS |
5.7% |
9.7% |
9.0% |
8.7% |
7.8% |
7.8% |
Golub Capital |
0.0% |
0.1% |
0.5% |
0.6% |
0.9% |
n.a. |
Prospect Capital Corporation |
0.1% |
0.1% |
1.9% |
3.5% |
4.1% |
5.8% |
FS Investment Corporation |
0.5% |
0.0% |
0.0% |
n.a. |
n.a. |
n.a. |
Apollo Investment Corporation |
0.4% |
0.4% |
0.3% |
0.2% |
2.0% |
1.5% |
Fifth Street Finance Corp. |
0.3% |
2.0% |
2.0% |
2.0% |
5.0% |
7.0% |
Industry Median |
0.3% |
0.3% |
1.2% |
2.0% |
4.1% |
6.4% |
Loss of RIC Status and Current Taxation
From 1997 to 30-Sep-2010, ACAS was taxed as a RIC under Subchapter M of the Internal Revenue Code. RIC’s, like REITS, are not subject to federal income tax on income and capital gains which are distributed to shareholders; however, RIC’s are subject to a number of restrictions and are not permitted to carry forward NOL’s.
ACAS dropped its RIC designation in September 2010 and is currently taxed as a C corporation. This change allowed the firm to preserve USD786MM in net loss carry-forwards (USD434MM in deferred tax assets) which were accumulated during 2008/09. ACAS’s tax status does not affect its status as a BDC.
With the exception of ACAS, the BDC’s listed below are all RIC’s and, as a result, are required to pay out 90% of their income to shareholders in order to retain their tax advantaged status.
Fig 3: Dividend Yields of Selected BDC Peers
Latest |
2013 |
2012 |
2011 |
2010 |
2009 |
2008 |
2007 |
|
ACAS |
0% |
0% |
0% |
0% |
0% |
0% |
0% |
13% |
Golub Capital |
7% |
7% |
8% |
8% |
7% |
0% |
0% |
0% |
Prospect Capital Corporation |
12% |
12% |
12% |
13% |
11% |
14% |
14% |
12% |
FS Investment Corporation |
9% |
0% |
0% |
0% |
0% |
0% |
0% |
0% |
Apollo Investment Corporation |
11% |
9% |
10% |
17% |
10% |
12% |
22% |
12% |
Fifth Street Finance Corp. |
14% |
12% |
11% |
12% |
11% |
10% |
18% |
0% |
Industry Median |
10% |
9% |
10% |
11% |
8% |
11% |
18% |
11% |
Third Party Funds Managed by American Capital Asset Management
American Capital Asset Management (ACAM) currently manages 12 funds and CLO’s which will be managed by ACAS post-spin.
Fig 4: Funds Managed by ACAM
Name |
Type |
Size |
Mgmt. Fee |
Incentive Fee |
American Capital Equity I |
Private equity fund |
USD0.5bn AUM |
Up to 2% |
Up to 30% |
American Capital Equity II |
Private equity fund |
USD0.2bn AUM |
Up to 2% |
Up to 35% |
American Capital Equity III |
Private equity fund |
USD0.6bn AUM |
Up to 2% |
Up to 20% |
European Capital |
Private equity fund |
USD1bn AUM |
Wholly-owned by ACAS |
None |
American Capital Agency |
NASDAQ: AGNC |
USD62.3bn of AUM |
1.25% of equity |
None |
American Capital Mortgage Investment |
NASDAQ: MTGE |
USD7.1bn of AUM |
1.50% of equity |
None |
American Capital Structured Finance |
NASDAQ: ACSF |
USD0.3bn of AUM |
0.80% of AUM |
None |
ACAS CLO 2007-1 |
CLO |
USD0.4bn AUM |
0.68% |
20% |
ACAS CLO 2012-1 |
CLO |
USD0.4bn AUM |
0.42% |
20% |
ACAS CLO 2013-1 |
CLO |
USD0.4bn AUM |
0.50% |
20% |
ACAS CLO 2013-2 |
CLO |
USD0.4bn AUM |
0.42% |
20% |
ACAS CLO 2014-1 |
CLO |
USD0.6bn AUM |
0.50% |
20% |
European Capital makes equity, mezzanine and senior debt investments in Europe. European Capital and its manager European Capital Asset Management Limited are both wholly-owned affiliates of American Capital, Ltd. European Capital follows a similar strategy to ACAS (invests in private and public companies and private equity buyouts); however, European Capital is not eligible for tax preferred RIC status.
Post-Spin Valuation
In order to value ACAS post-spin we must: a) determine the fair value of the BDC’s and their likely premium or discount to NAV and b) value the new management company.
Reasonableness of Current NAV and Asset Fair Value
BDC’s such as ACAS are required to ensure that at least 70% of their assets are ‘qualified’. Qualified assets are illiquid securities of small and medium-sized companies. This asset mix makes it difficult for outsiders to determine true fair value. American Capital is doubly difficult because it also acts as a financial sponsor and uses its BDC as a private equity buyout fund. I will attempt to form a view on fair value by assessing the reasonableness of management’s valuation inputs.
BDC’s are regulated under the ’40 Act and are not required to create a general loss reserve like a bank. ACAS is required to mark its investments at fair value. Accounting Series Release 118 recommends determining fair value by using:
-an earnings multiple
-a discount to the market price of a similar liquid security
-yield-to-maturity
-or, helpfully, another method
First Lien Loans and Senior Debt
If we use yield as a proxy for risk ACAS’s first lien book has a similar risk to the leveraged loan market as a whole. ACAS’s first lien loans yielded 4.7% at 3Q’14 which is close to the 2 year average yield of the LevLoan 100 index. The yield on the LevLoan index rose at year end 2014 which would imply a decline in the value of ACAS’s loan book during Q4’14. Based on yield, the risk of ACAS’s senior loan book is in line with its peers
Fig 5: ACAS Senior Debt Yield Compared to Peers
Mkt Yield - Senior Debt |
Min. |
Max. |
Average |
ACAS |
5% |
19% |
10% |
Golub |
5% |
34% |
7% |
Prospect |
6% |
21% |
11% |
FS Investment |
5% |
12% |
9% |
Apollo |
7% |
20% |
13% |
Fifth Street Finance |
n.a. |
n.a. |
n.a. |
At 3Q’14 the total senior/first lien book had a fair value of USD2.3bn. ACAS generated around USD2bn in cash in the first 3 quarters of 2014 and bought USD1.6bn of senior floating rate loans. These new loans, which account for almost 70% of the current loan book, are representative of market pricing and terms at the time they were written. As a result, I expect that the market will value the loan book at NAV post-spin.
If yield is a proxy for risk, ACAS’s mezz book (USD548MM at cost and USD392MM at fair value) is materially more risky than its peers. Around 45% of mezz loans are classified as non-accrual and PIK principal appears to be USD115MM. Reasonable investors would apply a large NAV discount to the PIKing and non-accrual loans in the mezz book.
Fig 6: ACAS Yield on Mezz Debt Compared to Peers
Mkt Yield - Mezzanine Debt |
Min. |
Max. |
Average |
ACAS |
15% |
18% |
16% |
Golub |
9% |
12% |
9% |
Prospect |
8% |
15% |
11% |
FS Investment |
9% |
18% |
11% |
Apollo |
n.a. |
n.a. |
n.a. |
Fifth Street Finance |
n.a. |
n.a. |
n.a. |
The vast majority of ACAS’s mezz investments are related to ACAS’s buy-out investments. In the run up to the spin, ACAS’s management are likely to reduce their exposure to sponsored private equity investments and mezz debt. I expect that the market will value the mezz book at a 20% discount to NAV in line with its valuation of ACAS’s other control investments.
The preferred book relates primarily to control investments made by ACAS’s buy-out team. While there is limited information available on valuation metrics used by ACAS’s peers to value preference shares, we can infer that ACAS’s books is significantly more risky than Apollo’s.
Fig 7: ACAS Yield on Preferred Shares Compared to Peers
Mkt Yield - Preferred Equity |
Min. |
Max. |
Average |
ACAS |
16% |
26% |
24% |
Golub |
n.a. |
n.a. |
n.a. |
Prospect |
n.a. |
n.a. |
n.a. |
FS Investment |
n.a. |
n.a. |
n.a. |
Apollo |
13% |
18% |
14% |
Fifth Street Finance |
n.a. |
n.a. |
n.a. |
ACAS’s management mark the preference share book at USD150MM (cost USD153MM). The fair value of the largest preference share position is USD90MM; however, the median position size is USD3.5MM. As a result of its size, I expect that the preferred book will be largely ignored by the market; however, I value it at a 20% discount to NAV.
ACAS does not provide sufficient information to determine the reasonableness of the valuations in its equity book. While the average discount rate of 15% (see Fig. 9) may be reasonable, the minimum discount rate of 4% is inappropriate for any equity other than a cash box with a finite life. The average terminal growth rate of 3% is probably ACAS’s estimate of long term US GDP growth and seems reasonable. While I would love to invest in a business which can grow at grow at 7% in perpetuity, I think that the maximum terminal value is absurd.
The 20% discount to traded companies seems reasonable, while the 30% premium may be the result of a small sample size or differing growth rates. The average control premium of 8% seems low, I would have expected the average premium to be in the region of 15%. The use of a sales multiple is interesting and is typically used for to value unprofitable businesses. Broadly speaking, the average metrics appear reasonable; however, a reasonable investor would value the equity book at a 20-30% discount to NAV to reflect the risk and illiquidity associated with the equity of private middle market companies.
Fig 9:8ACAS Equity Valuation Methods and Metrics
Valuation Method |
Metric |
Min. |
Max. |
Average |
Enterprise discounted cash flow |
Discount rate |
4% |
58% |
15% |
Terminal value growth rate |
2% |
7% |
3% |
|
Public comparable companies |
Discount to traded comparables (multiples) |
-55% |
30% |
-19% |
Control premium |
0% |
22% |
8% |
|
Sales of comparable companies |
Discount to traded comparables (multiples) |
-45% |
5% |
-17% |
Structured Products (CLO’s and CMBS)
ACAS’s CLO book is broadly priced in line with its peers.
Fig 9: ACAS Yield on CLO’s and CMBS Compared to Peers
Mkt Yield - Structured Products |
Min. |
Max. |
Average |
ACAS |
5% |
107% |
13% |
Golub |
n.a. |
n.a. |
n.a. |
Prospect |
6% |
20% |
15% |
FS Investment |
11% |
12% |
12% |
Apollo |
11% |
15% |
12% |
Fifth Street Finance |
13% |
14% |
14% |
Fig 10: CDR and CPR Estimates
ACAS CLO Book |
Min. |
Max. |
Average |
|
Blackstone CLO Book |
Min. |
Max. |
Average |
Constant Prepayment Rate |
30.0% |
35.0% |
31.0% |
|
Constant Prepayment Rate |
5.0% |
20.0% |
18.0% |
Constant Default Rate |
0.0% |
2.0% |
1.0% |
|
Constant Default Rate |
2.0% |
3.0% |
2.1% |
ACAS’s management provide some additional color on their CLO book including the Constant Prepayment Rate (CPR) and Constant Default Rate (CDR). The average CDR of 1% is low; however, this figure is in line with current default levels (the long term average CDR should be at least 3-4%). The average CPR is very high and implies that large amounts of cash are being spun off by the CLO book.
An inflated CPR will increase the value of both the senior and equity tranches (cash will be returned sooner than anticipated). An artificially low CDR will also increase the value of the senior tranches by a little and equity tranches by a lot. Without the servicer certificates or Bloomberg or Intex, it’s impossible to determine whether ACAS’s valuations are reasonable; however, I believe that the average CDR is too low. Many of ACAS’s CLO investments are 2006, 2007 and 2008 vintage and many older loans were refinanced during 2014. While refinancing activity was high in 2014, it is unreasonable to assume that refinancing will continue at the same rate.
The current fair value of ACG&I’s CLO equity book (subordinate notes) is USD221MM and the fair value of ACI’s CLO book is USD146MM. I think that management is overstating the fair value of its CLO investments especially the CLO equity held by ACG&I. I value the CLO equity book at a 20% discount to NAV and ACI’s CLO book at a 5% discount to NAV.
Loan Defaults and Non-Accruals: Leveraged Loan Defaults
According to S&P/LCD’s latest quarterly buy-side survey (Dec. 2014) the average buy side manager expects that the default rate will be 1.64% in 2015 and 2.52% in 2016. This compares favorably with a 2014 default rate of 3.25%. When considering the 3.25% default rate it is important to note that the Energy Future Holdings (EFH) default increased the default rate by 3.5% when it filed for bankruptcy in April. Excluding EFH the default rate for 2014 was around 1%.
Loan Defaults and Non-Accruals: HY Bond Defaults
The junk bond default rate for 2014 is around 2% according to Moody's who expect the default rate to remain around 2% in 1H’15. However, Energy companies constitute around 17% of the high-yield bond market and a sustained decline in the price of oil may lead to a sharp increase in default rates.
ACAS’s portfolio is largely diversified and investors have limited exposure to oil prices.
Fig 11: ACAS Portfolio Exposures by Industry
Industry |
Fair Value |
|
Industry |
Fair Value |
Capital Markets (CLO’s) |
24 % |
|
Diversified Consumer Services |
3% |
Life Sciences Tools and Services |
11% |
|
Professional Services |
3% |
Commercial Services and Supplies |
4% |
|
Auto Components |
3% |
Health Care Providers and Services |
3% |
|
Health Care Equipment and Supplies |
2% |
Electronic Equipment, Instruments and Components |
3% |
|
Food Products |
2% |
Media |
3% |
|
Oil, Gas and Consumable Fuels |
2% |
IT Services |
3% |
|
Aerospace and Defense |
2% |
Hotels and Leisure |
3% |
|
Other |
9% |
CLO Tranches and Energy Industry Risk
S&P surveyed 700 CLO’s and found that the average CLO had 3.3% exposure to energy which is much lower than energy exposure in the junk bond market as a whole. The tranched nature of a CLO means that any losses will hit the lower tranches first. Without access to Bloomberg or Intex it is not possible to assess the impact of the energy related losses on the tranches held by ACAS; however, 2013/14 vintage CLO’s are likely to have high (~20%) exposure to energy.
Prior to 2008, ACAS was simply one of many listed BDC’s. The company traded at around 1.3x NAV as investors bought the dividend without regard to the underlying value. In 2009/10 ACAS was forced to make more than USD1bn in write downs, cut its dividend to zero and restructure its debt obligations. As a result of the dividend cut ACAS lost its tax advantaged RIC status and convert to a C Corp. for tax purposes.
As a C Corp., management began using cash flow to buy back 1/3 of outstanding shares and pay down debt rather than pay dividends. Management expect that both ACGI and ACI will pay a ‘market rate’ dividend; however, this assumes that ACGI and ACI will have access to debt financing. BDC’s are limited by statute to 1x debt-to-equity and ACAS’s current covenants limit the debt to equity ratio to 0.75:1. I expect that ACG&I and ACI will be managed with a debt-to-equity ratio of between 0.5:1 and 0.75:1. Both ACG&I and ACI should be able to pay out a dividend in the region of 8-10% which is in line with the dividends paid by the other major BDC’s and management guidance. I do not expect ACAS to pay a dividend.
Fig 12: Return Earned at Various Levels of Leverage Given the Current Asset Mix
|
Post Spin |
Average |
Leverage |
|||
Equity |
Interest Rate |
0.25:1 |
0.5:1 |
0.75:1 |
1.0:1 |
|
ACG&I |
3,134 |
5.6% |
6.8% |
8.1% |
9.5% |
10.8% |
ACI |
1,034 |
9.1% |
11.0% |
13.2% |
15.4% |
17.6% |
Management Company (ACAS) Valuation
The restructuring means that, post-spin, fee income will replace interest and dividends as the primary sources of income. In line with management’s assertion that both ACG&I and ACI will pay market standard fees I assume:
ACG&I -2% management fee and a 20% performance fee subject to a 8% hurdle rate
-60% Debt to Equity
-returns based on current asset mix (5.2%) and adjusted for leverage
ACI -1% management fee and a 20% performance fee subject to a 8% hurdle rate
-60% Debt to Equity
-returns based on current assets (6.8%) and adjusted for leverage
Of the USD14bn in third party fee earning funds under management USD3.5bn (25%) are funds with finite lives (CLO’s and private equity funds). Three of the funds with USD1.1bn of fee paying capital have finite lives and were launched during or before 2007 which means that the vast bulk of ACAS’s fee earning assets are either long term, or permanent. Post-spin, almost 80% of fee earning assets will be permanent which gives investors a great deal of security around fee revenue.
USD25MM of current SG&A is for the benefit of assets which will be held by ACI and ACG&I. ACAS will continue to incur these costs and will be reimbursed by ACI and ACG&I. In addition, USD21MM of costs incurred by ACAS are related to the provision of services and advice to portfolio companies which will be spun out into ACI and ACG&I. These costs will also be reimbursed. Management has also instituted a cost savings program and expect to achieve cost savings of around USD25MM p.a. by the end of 2015.
I expect debt to be reduced to around 500MM which will be used primarily to fund the purchase of loans for ACAS’s CLO program. I assume American Capital creates one new CLO per year.
Fig 13: ACAS Financials
ACAS Income Statement (USD MM's) |
2008 |
2009 |
2010 |
2011 |
2012 |
2013 |
2014 |
2015 |
2016 |
2017 |
2018 |
2019 |
Fee Income |
84 |
59 |
54 |
48 |
60 |
60 |
109 |
253 |
290 |
302 |
314 |
326 |
Interest and Dividend Income |
950 |
638 |
546 |
543 |
586 |
423 |
351 |
91 |
12 |
12 |
12 |
12 |
Reimbursement and Other Revenue |
17 |
0 |
0 |
0 |
0 |
0 |
0 |
35 |
46 |
46 |
46 |
46 |
Total Revenue |
1,051 |
697 |
600 |
591 |
646 |
483 |
460 |
378 |
347 |
360 |
372 |
384 |
Compensation |
(206) |
(215) |
(134) |
(143) |
(148) |
(156) |
(142) |
(142) |
(156) |
(161) |
(166) |
(171) |
General and Administrative |
(95) |
(94) |
(64) |
(55) |
(56) |
(55) |
(52) |
(56) |
(58) |
(60) |
(61) |
(62) |
EBIT b/f Investment Gains |
750 |
388 |
402 |
393 |
442 |
272 |
266 |
180 |
133 |
139 |
145 |
151 |
EBIT |
(2,804) |
(674) |
1,175 |
636 |
1,176 |
277 |
532 |
180 |
133 |
139 |
145 |
151 |
EBITDA |
(2,772) |
(643) |
1,200 |
666 |
1,192 |
290 |
536 |
184 |
138 |
144 |
150 |
156 |
Interest |
(220) |
(256) |
(177) |
(90) |
(59) |
(44) |
(53) |
(54) |
(32) |
(27) |
(23) |
(23) |
Earnings b/f Tax |
(3,024) |
(930) |
998 |
546 |
1,117 |
233 |
479 |
126 |
101 |
112 |
122 |
128 |
Income Tax |
(91) |
20 |
0 |
428 |
19 |
(53) |
7 |
0 |
0 |
0 |
0 |
0 |
Net Income |
(3,115) |
(910) |
998 |
974 |
1,136 |
180 |
486 |
126 |
101 |
112 |
122 |
128 |
|
|
|
|
|
|
|
|
|
|
|
|
|
EPS |
-$15.22 |
-$3.76 |
$2.92 |
$2.85 |
$3.57 |
$0.54 |
$1.84 |
$0.47 |
$0.38 |
$0.42 |
$0.46 |
$0.48 |
EPS Diluted |
|
|
|
|
|
|
|
$0.39 |
$0.32 |
$0.35 |
$0.38 |
$0.40 |
Recent Asset Manager Spin-Offs and IPO’s
While the proposed ACAS spin transaction is unique, there are a number of recent asset management company spin-offs which give investors a glimpse into how the management company may trade post-spin.
Fig 14: Recent Comparable Asset Management Transactions
Name |
Ticker |
Description |
Northstar Asset Management
|
NYSE: NSAM
|
-spin-off to shareholders -manages a REIT, healthcare, hotel and manufactured housing make up 90% of value -20 year management contracts which are only terminable for cause -184x EV/LTM EBIT |
Fifth Street Asset Management
|
NASDAQ: FSAM
|
-IPO not spin -manages 2 public BDC’s, CLO’s and a credit hedge fund -float is only 12%, average traded value is USD5MM per day -6x EV/LTM EBIT |
Medley Management
|
NYSE: MDLY
|
-IPO not spin -manages 1 listed and 1 private BDC, 1/6th the fee paying assets of ACAS -current NAV adj. for dilution is 10.25, 10% discount to NAV -21x EV/EBIT |
ACAS Multiple
While the three managers above trade between 6-184x EV/EBIT, the major asset managers trade with multiples between 7-15x EV/EBIT. I believe that post-spin ACAS should be valued with a 13x multiple which is reasonable given the valuations of NSAM, FSAM and MDLY.
Fig 15: ACAS Post-Spin Equity Value
EV/EBIT Multiple |
|||||
EBIT |
9x |
11x |
13x |
15x |
17x |
120 |
518 |
754 |
990 |
1,226 |
1,462 |
130 |
608 |
864 |
1,120 |
1,376 |
1,632 |
138 |
698 |
974 |
1,250 |
1,526 |
1,802 |
150 |
788 |
1,084 |
1,380 |
1,676 |
1,972 |
160 |
878 |
1,194 |
1,510 |
1,826 |
2,142 |
The 13x multiple is justified by the diversified (mortgage REIT, BDC, CLO and private equity) and largely permanent (almost 80% of fee paying assets are in permanent capital vehicles) nature of the funds which will be managed by ACAS post-spin. ACAS typically renews the management contracts with its permanent capital funds annually. In the event that ACAS is replaced as manager, the fund will typically pay a termination fee equal to 3 years of management fees (3-6% of fee paying assets). This termination fee is a substantial penalty, and I do not expect ACAS to be replaced as manager of its funds.
The 13x multiple is significantly less than the 21x multiple applied to MDLY and the insane 184x multiple applied to NSAM. FSAM is so thinly traded that the valuation is meaningless.'
European Capital Valuation
While ACAS’s non-accrual book remains large compared to ACAS’s peers, management is improving its credit exposure by buying first lien loans and reducing its equity risk. ACAS’s European Capital fund reduced its equity exposure by 59% in December 2014 when it sold the paint manufacture Farrow & Ball.
At 3Q’14 European Capital had a NAV of USD766MM and was carried on ACAS’s books at USD678MM an 11% discount. Farrow & Ball was valued at USD331MM and sold at USD433MM a +23% premium to NAV. The fact that management was able to realize more than NAV for a buy-out investment like Farrow & Ball gives me confidence around management’s ability to sell risky buy-out investments for at least NAV.
Management has made comments to the effect that European Capital may sell its remaining equity investments and transform its self into a European debt fund. Ultimately, ACAS is likely to spin out European Capital or open it to third party investors at NAV. This would be a positive development for ACAS shareholders as it would eliminate the NAV discount and generate fees in the region of 1.5/20%. The base case scenario is that European Capital will trade at NAV.
Fig 16: Estimated Value of European Capital
|
European Capital Discount to NAV |
||
NAV |
10% |
5% |
0% |
550 |
495 |
523 |
550 |
610 |
549 |
580 |
610 |
680 |
612 |
646 |
680 |
750 |
675 |
713 |
750 |
830 |
747 |
789 |
830 |
American Capital Growth & Income (ACG&I)
ACG&I’s portfolio will hold the debt and equity related to American Capital’s buyouts and ACAS’s senior floating rate loan portfolio. While the senior loan book should be valued by the market at NAV, the market is likely to place a discount on the USD750MM in buyouts and higher risk investments. The base case scenario (in grey) is that ACG&I will trade at a 10% discount to NAV.
Fig 17: Estimated Value of ACG&I
ACG&I Discount to NAV |
|||||
NAV |
20% |
15% |
10% |
5% |
0% |
2,210 |
1,768 |
1,879 |
1,989 |
2,100 |
2,210 |
2,450 |
1,960 |
2,083 |
2,205 |
2,328 |
2,450 |
2,720 |
2,176 |
2,312 |
2,448 |
2,584 |
2,720 |
2,990 |
2,392 |
2,542 |
2,691 |
2,841 |
2,990 |
3,290 |
2,632 |
2,797 |
2,961 |
3,126 |
3,290 |
American Capital Income (ACI)
ACI’s portfolio is relatively transparent and should be more liquid than the buy-out assets held at ACG&I. For the reasons outlined above, the base case scenario (in grey) is that ACI will trade at NAV.
Fig 18: Estimated Value of ACI
|
ACI Discount to NAV |
||
NAV |
10% |
5% |
0% |
1,330 |
1,197 |
1,264 |
1,330 |
1,480 |
1,332 |
1,406 |
1,480 |
1,640 |
1,476 |
1,558 |
1,640 |
1,800 |
1,620 |
1,710 |
1,800 |
1,980 |
1,782 |
1,881 |
1,980 |
Tax Impact of ACI Spin
As per management’s comments, ACG&I will be a tax free spin (it owns operating businesses through ACAS’s buyout business); however, ACI is a pure investment company and will therefore be taxable. Under Section 355 of the Internal Revenue Code, spin-offs are considered tax-free if they meet a range of requirements including that the parent and spin-co are engaged in an "active trade or business". As per § 1.355-3 (iv) (A) the active conduct of a trade or business does not include "the holding for investment purposes of stock, securities, land, or other property".
Cost Basis Calculation
If an investor buys one share of company ACAS at USD14.20 and receives one share of ACI and ACG&I they will have to pay tax on a portion of their investment in ACI. If we assume that all three entities trade as expected immediately after the spin, the worst case scenario is that taxable income is USD1.81 per share.
Fig 19: Estimated Taxable Income per Share (USD14.20 Purchase Price)
Value |
Cost Basis |
Taxable Income |
|
ACAS |
4.62 |
3.27 |
0.00 |
ACI |
6.19 |
4.38 |
1.81 |
ACG&I |
9.24 |
6.54 |
0.00 |
Base Case Value |
20.05 |
Dilution
ACAS has issued options over 54MM shares to management with strike prices from USD0.94 to USD49.63. While the maximum dilution is 54MM shares, the wide range of strike prices mean that dilution is likely to be less than 53MM shares. The exercise of all options with a strike of less than USD20 (53MM shares) will raise USD431MM in cash or ACAS.
Under the ‘40 Act, the number of options that can be outstanding is limited to no more than 20% of the outstanding shares of the company. ACAS has issued options on shares equal to just less than 20% and is therefore unable to further dilute shareholders.
Sum of the Parts Valuation
The table below outlines the sum of the parts valuation of USD20.20 for ACAS, ACI and ACG&I post-spin.
Fig 20: Post-Spin Sum of the Parts Valuation
ACAS Equity Value | |||||
EBIT | 9x | 11x | 13x | 15x | 17x |
120 | 500 | 732 | 964 | 1,196 | 1,428 |
130 | 590 | 842 | 1,094 | 1,346 | 1,598 |
136 | 680 | 952 | 1,224 | 1,496 | 1,768 |
150 | 770 | 1,062 | 1,354 | 1,646 | 1,938 |
160 | 860 | 1,172 | 1,484 | 1,796 | 2,108 |
Spin Co - ACG&I | |||||
ACG&I Discount to NAV | |||||
NAV | 20% | 15% | 10% | 5% | 0% |
2,210 | 1,768 | 1,879 | 1,989 | 2,100 | 2,210 |
2,450 | 1,960 | 2,083 | 2,205 | 2,328 | 2,450 |
2,720 | 2,176 | 2,312 | 2,448 | 2,584 | 2,720 |
2,990 | 2,392 | 2,542 | 2,691 | 2,841 | 2,990 |
3,290 | 2,632 | 2,797 | 2,961 | 3,126 | 3,290 |
Spin Co - ACI | |||||
ACI Discount to NAV | |||||
NAV | 10% | 5% | 0% | 0% | 0% |
1,330 | 1,197 | 1,264 | 1,330 | 1,330 | 1,330 |
1,480 | 1,332 | 1,406 | 1,480 | 1,480 | 1,480 |
1,640 | 1,476 | 1,558 | 1,640 | 1,640 | 1,640 |
1,800 | 1,620 | 1,710 | 1,800 | 1,800 | 1,800 |
1,980 | 1,782 | 1,881 | 1,980 | 1,980 | 1,980 |
European Capital | |||||
European Capital Discount to NAV | |||||
NAV | 10% | 5% | 0% | 0% | 0% |
550 | 495 | 523 | 550 | 550 | 550 |
610 | 549 | 580 | 610 | 610 | 610 |
680 | 612 | 646 | 680 | 680 | 680 |
750 | 675 | 713 | 750 | 750 | 750 |
830 | 747 | 789 | 830 | 830 | 830 |
Post-Spin Equity Value | |||||
Worst Case |
Downside |
Base Case | Upside | Best Case |
|
Worst Case |
13.81 | 15.18 | 16.56 | 17.63 |
18.71 |
Downside | 15.29 | 16.80 | 18.31 | 19.48 |
20.66 |
Base Case | 16.91 | 18.55 | 20.20 | 21.48 |
22.77 |
Upside | 18.52 | 20.31 | 22.10 | 23.49 |
24.87 |
Best Case |
20.29 | 22.23 | 24.17 | 25.67 |
27.17 |
1-management set a date for the spin and release additional information
2-management continue to realize marked fair value on their asset sales and use the proceeds to buy senior debt
Subject | New ACAS |
Entry | 01/23/2015 03:58 PM |
Member | juice835 |
thanks for the write-up. I don't necessarily agree that the new ACAS entity ought get a 13x EBIT multiple in part from its diversification. Isn't it's management of AGNC the virtual entirety of current earnings (80%?) in that segment? Look at what happened to the whole of ACAS' stock when the first FED "tapering" was announced and AGNC went down. Also, when we spoke to the company we were concerned that expenses in that segment would be high as that's where the current ACAS mgmt team will have the majority of their comp paid from and that that could offset a lot of the cost savings. have you discussed this with them? | |
Subject | Re: ACAS: few questions |
Entry | 01/25/2015 08:16 AM |
Member | rsm |
Ivampa1070, The idea is that the spin creates two tax efficient BDC’s and allows what will become the management company to keep their tax assets (RIC's typically can't carry forward NOL's). At the same time the spin should create BDC’s which are more attractive to two different types of investors.
There will be a change in cash flows, the 2 new BDC’s will pay dividends. Fees (management and incentive) and reimbursements will be paid by the BDC’s to the new management company and as part of the restructuring management is cutting costs (workforce cut by 13% on Oct. 24). And the new management company will continue to benefit from its tax assets. ACAS has bought back $1.3bn in stock since 2011. If we say mgmt. could have paid a dividend with that cash then we get 5.8% (2011), 9.4% (2012), 12.3% (2013) and 7% YTD 30-Sep-2014. If you search for fig. 12 you see that 8-10% div. can be paid with 0.5:1 leverage given the current asset mix. If you look at fig. 20 I have ACAS equity value of $1.2bn post-spin. That’s 13 x EBIT of 136 – 500MM in debt. ACAS is going warehouse some loans which will go into new CLO’s and seed new funds (which is what ACAM is currently doing) so there will be a need for equity and ~$500MM post-spin debt at ACAS. I just read the VIC write up of FCAM. If I drop the post-spin ACAS multiple to 6x I get $17.20 in total value. That’s still +20% upside.
| |
Subject | Re: New ACAS |
Entry | 01/25/2015 10:19 AM |
Member | rsm |
juice - AGNC pays fees of ~$120MM p.a. and 2013 fee rev. at ACAM (the current asset manager) was $213MM so AGNC is 55% of current fees. This proportion should fall further post-spin.
I haven’t discussed comp. with management but I do agree that comp is likely to be high. | |
Subject | Re: Re: Still long? |
Entry | 11/16/2015 08:59 AM |
Member | shteinb |
What do people make of the Elliott filing today? Better governance and even more buybacks would be good.. but not sure I agree with not spinning the asset manager. | |
Subject | Re: Re: Re: Still long? |
Entry | 11/16/2015 01:37 PM |
Member | rsm |
Anything that can put some pressure on ACAS management is good. The presentation is a little short on details, not spinning out the asset manager potentially creates some issues around using the DTA’s that would need to be resolved. I will take a look in more detail when I get a chance.
| |
Subject | Re: Re: Re: Re: Still long? |
Entry | 11/16/2015 08:10 PM |
Member | DaytonCapital |
The only strategic alternative left on the table is a sale. Upside is an outright sale. Downside is a spin. Both scenarios include large buyback. Only uncertainty is timing of NAV discount compression. | |
Subject | Re: Re: Re: Re: Re: Re: Still long? |
Entry | 11/18/2015 06:02 PM |
Member | shteinb |
I am not so sure about Elliott getting support. I've spoken to a number of investors that continue to think the spin is the best option (i tend to agree). I think the dissapointing share price performance the past few days is in part because people think this filing will just cause delays without much gain. My own view is the asset manager will have a full free float post-spin, so if management misbehaves it should be easy enough for an activist to bring them inline, or force a sale to a more "reputable" asset manager. | |
Subject | Re: Re: Re: Re: Re: Re: Re: Still long? |
Entry | 11/18/2015 06:32 PM |
Member | blaueskobalt |
Why do you think the manager spin is the best route (especially in light of the recent FSC/FSAM developments)? | |
Subject | Re: Re: Re: Re: Re: Re: Re: Re: Still long? |
Entry | 11/18/2015 10:15 PM |
Member | shteinb |
I am not sure FSC/FSAM is the best comparable. FSC has had uniquely poor performance, an abnormal fee structure and FSAM is a one-shot business, there's nothing else there. ACAM would be more akin to Ares Management - with a mixture of CLOs, two BDCs (the one that already exists has the best fee structure in the sector), two REITs (both very well regardeded in the market) and a series of private debt and private equity funds. We are talking about something an order of magnitude larger in size, and diversity. Not to mention that ACAM would have proper governance (not majority held by management). Even if it lost its contract to American Capital Income - it would still be a sizable interesting business. Look - would it be nice if say an Oaktree or a PIMCO, or some other "blue-chip" manager came in and bought ACAM without adverse tax consequences, sure. Its just not clear that this is in the cards. A split structure with ACAM as a standalone manager that has proper governance , and a BDC with a competetive fee structure makes much more sense than keeping the current mess, which has no natural ownership base. I think best thing Elliott can do is get them to inflate the buy-back via a formal tender. They can sell a bunch of the liquid loan book and tender for a meaningful part of the company. David101 - sounds like you have a good sense for management is thinking? Can you talk further...
| |
Subject | Re: Re: Re: Re: Re: Still long? |
Entry | 11/18/2015 10:34 PM |
Member | rsm |
lvampa - there shouldn't be any issues with the DTA. | |
Subject | Re: Re: Re: Re: Re: Re: Still long? |
Entry | 11/19/2015 08:09 AM |
Member | MSLM28 |
shteib - surprised to hear that many firms would be OK with SpinCo BDC. WIth a 7% to 8% initial dividend ACAP will continue to trade like garbage
Re FSC/FSAM: One note is that ACAS mgmt has referenced Northstar as a company with interesting tax & operational structures
All: we will ask these questions and revert. Can't imagine Malon gives up much but we'll press a bit | |
Subject | Re: Re: Re: Re: Re: Re: Re: Still long? |
Entry | 11/19/2015 09:24 AM |
Member | shteinb |
I think the thinking is, yes potentially the spun BDC will trade say 75-80c on the dollar initially, but it shouldnt take too long to re-deploy the capital into more normal yielding paper. The more stock you buy back now/ the more loans you sell now, the better the yield on the spin co. Don't get me wrong - I support Elliott's idea of selling the senior loans and buying back as much stock as practical in a tender. I just dont see why you wouldn't spin the asset manager in the end. Wouldn't surprise me if the final outcome here is a much bigger buyback via formal tender + a spin after the fact. | |
Subject | Mgmt Meeting Notes (no comments by us) |
Entry | 11/19/2015 04:04 PM |
Member | MSLM28 |
Here are my notes form the mgmt meeting. I don’t yet have commentary as I’m still processing the information:
1. Does the spinoff create more value than Elliott’s plan? · Elliot is saying “buyback stock” but ACAS has been doing just that · Guided to $300 million to $600 million and guided to tope end of range on Q3 call · The spin was first contemplated by ACAS’ BoD when Northstar went public · Since then REITs, BDCs, and asset mgr firms have come down in multiple considerably. This will be factored into ACAS’ decision to ultimately spin or not · “there are multiple ways to unlock value” as “ACAS is a min-conglomerate”
2. Steps going forward are as follows: (1) complete the process with the SEC to see if they (ACAS) are even legally allowed to spin a RIC BDC (2) Continue to buy back stock in interim. Goldman has been retained to assist in share buyback (3) Exit the one-stop buyout business. One stop buyout assets on their books take significant operational, front office, legal, and finance/accounting effort with associated cost. Costs reduce as assets decline from $1.2 billion year 1 to $400 million year 2 and $0 year 3. (4) When/if ACAS receives approval from SEC they will re-evaluate the spin to see if it still makes sense. (5) If the spin does still make sense they will put it to a vote. 60 days for the vote and then execute the spin a the next quarter end (prob 6/30/16 or 9/30/16) (6) There is definitely a possibility for an additional share tender after the $600 million publically disclosed is exhausted
3. Where do you think ACAP will trade if spun? · “In line with the average BDC which is ~85 cents on the dollar” · The 7% dividend per year should rise to ~8% and we think BDC yields broadly will come down. · BDCs are also trading down due to the Fed’s lack of rate raising
4. Do you have comments on Elliott’s assertions that ineffective corporate governance and management contracts do not allow outsiders to realistically purchase business? · Malon believes Elliott to be mistaken in their assertion. Further Elliott did not speak to ACAS mgmt before filing their 13D and plan · There are key man provisions on many of the private funds but those relate to the PMs/PM teams themselves not Malon · The REITs have 1 year contracts that have been long since established · Malon does not recall a change of control and thinks “no one would buy an asset manager without negotiating contracts with the management teams anyways” · “There is no staggered board at ACAS” · “We trade in the market every day. No reason someone could not buy us”
5. If ACAS does not pursue the spin-off, what other options are there? · Could think about selling the manager portion of the business · “Tiny amount of evidence that internally managed BDCs outperform externally managed BDCs – could revert to RIC status all together.” This would be done to monetize the management agreement. · BoD would not sell for less than book value · If after ample time (not there yet) has passed for people to assess the pro forma BDC spin, if ACAS common is still trading like garbage they would consider buying back “a lot more” stock.
6. Based on your conversations with investors, do you think you have the votes for SpinCo? · Mgmt has no way of knowing this now. Only 2 weeks since projections were filed
My meeting was joint and there were a number of “understand the PF biz questions" by the other investor in the room. I’ve omitted those here for length considerations | |
Subject | Re: New BoD Member - ex #2 shareholder |
Entry | 11/19/2015 07:27 PM |
Member | DaytonCapital |
Yeah, definitely weird. I assume he isn't "team Elliot," right? | |
Subject | Strategic review announced - clearing price |
Entry | 11/27/2015 08:32 AM |
Member | DaytonCapital |
with buyback and spin already in the cards it seems like the outright sale of ACAS is the last remaining strategic option? Assuming you believe the value of ACAM, anyone think ACAS can fetch NAV or more in a sale? | |
Subject | Re: Strategic review announced - clearing price |
Entry | 11/27/2015 09:00 AM |
Member | shteinb |
I think NAV would be hard, but not hard imaginging getting close to it. Take a look at it from Ares' perspective. If their BDC can buy the assets at say 90% of NAV, with stock, its highly accretive, and will bring substantial scale benefits to their business. This is simlar to what TCP tried to do with TICC. Ares' public asset manager can buy the asset management business. Lots of obvious overlap there. Outside of Ares - there are plenty of guys that would love to have a multi-billion dollar permanent capital vehicle (e.g. Fortress, Oaktree, etc.) - that would at the very least have a bid for the asset management business. Do make sure to account for options dilution when you think about NAV. The headline NAV doesnt account for it. Depending on the transaction, not 100% clear to me if the DTA can be saved or not. | |
Subject | Re: Report Hitting the Stock Today |
Entry | 12/09/2015 06:22 PM |
Member | shteinb |
I think a lot of it doesnt make sense. At a high level, they nitpicked two positions which I'll discuss below; but on the whole ACAS have turned over almost their entire portfolio over the last two years in the shift from PE to liquid loans. You can't do that while growing NAV if your marks are fake. On the two names they discuss: 1) On Service Experts - the entire argument is dependent on their margin assumption. If you take the 1% margin assumption to 2%, then the entire complaint doesnt make sense. Across the portfolio this is one of the few names with real mark-ups, they've been aggressive marking down names that havent worked (e.g. CML, also a top 10 position). 2) On Bellotto Holdings / Hillary's Blinds. There was actually substantial growth in opreating profit from 2013-2014. Also - there was a full refinancing of the company on the back of those results. GE, Ares, Permia all participated (and Permira sold their own equity in the process). Seems reasonable that the company was marked up alongside all that, as well as expanding multiples in Europe. 3) They dont mention Delsey - but thats a top 10 position that was sold post quarter end (as was Dyno Holdings). Historically these sales have been right around the mark. 4) We can debate the value of ACAM - but the idea that something managing 16bn in permanent capital vehicles is worth 400mm just doesnt make sense. 5) Their NAV calculation..they take a 50% haircut to all level 3 assets. BUT - that includes CLOs/RMBS (marks are fairly transparent and dealer based), and mezzanine debt. You can haircut all of these for conservatism, but 50% is silly on a portfolio of largely newly originated mezz and dealer marked CLOs. If you backout ACAM, preferred/common stock Level 3 assets make up just around 1bn of NAV. Even if you do haircut that portion 50%, thats just a 10% impact on NAV. 6) They complain that some names are overmarked, and then complain that names are undermarked in the ACE III sale. I've spoken to groups involved and the ACE III process was bid by a variety of dedicated secondary investors that went through these companies - and ACAS took the best bid they got. The idea that they systematically undermarked these names for years in advance of this transaction and then undermined the process is silly. The company sale that took place shortly after ACE III closed was discussed on a conference call... it was a function of the ACE III pool selection and associtaed negotations beggining far earlier. Again - the amount of turnover in positions over the past two years has been so high, mathematically its hard to get to an assumption that the equity positions are overmarked. 7) Also in a NAV calc they apply a 5% discount to level 2 assets. These are just liquid loans - i am not sure why you haircut them this way. Loan market is off about 2 pts from Sep 30. 8) Another 5% discount is then applied to the NAV because of "regulatory discount". Again - i am not sure why. Finally - I wouldn't necessarily rely on Elliott - but they were explicit about having done their own diligence on the underlying pool. Given the size of the position they have, and resources they applied, i wouldnt discount their view regarding the marks.
BTW - does anyone know the research group? i havent heard of their name until today. | |
Subject | Re: Re: Report Hitting the Stock Today |
Entry | 12/09/2015 07:20 PM |
Member | MSLM28 |
Nice work shteinb. We agree on most points.
The fact that ACAS mgmt is self-dealing is not lost on most longs - they choose to focus on portfolio value & buybacks (and now a marquee activist and the fact they are running a strategic alts process) | |
Subject | Re: Re: Report Hitting the Stock Today |
Entry | 12/09/2015 07:46 PM |
Member | blaueskobalt |
I have never heard of them. Perhaps they were holding the short before Elliott's 13-D, and they were trying to get out? As you point out, their ACAM analysis is so poor, that it's hard to believe they were being genuine with this piece. A couple questions/comments that I would add: 1) On Bellotto, I see ~10x EV/EBITDA and ~12x EV/cash EBIT on a business showing substantial growth, low capital requirements, and a very low cash tax rate. Looks fine to me. 2) I'm less comfortable with Service Experts--can you explain your approach? The 3-year, 10x MOI really sticks out to me, and I think you'd need more of a 3-4% margin to justify (which this business did for a couple of years under LII, but the average has been much lower). 3) FWIW, I viewed this as a value trap before Elliott's involvement. Under the current cost structure, ACAM is marked too high. Similarly, I think a wide NAV discount is appropriate given the poor governance. Now it's easy to see these key issues being corrected. Honestly, I was surprised to find an opportunity to enter under $17 after the 13-D, given that it clears up the main issues with the stock. | |
Subject | Re: Re: Re: Report Hitting the Stock Today |
Entry | 12/09/2015 11:50 PM |
Member | shteinb |
I don't want to focus too much on service experts since the level of information is low and the resulting discussion is just conjecture. Mathematically i was just saying that at a 2% margin, its maked at a 28x PE, which looks high. But if its a 4% margin, its a 14x PE, which is a reasonable number assuming the business is stable. The difference between 2% and 4% margins isnt that large... It looks like they overhauled the business, took out unprofitable locations and juiced margins to reasonable levels. But its all conjecture. We are basing this whole discussion on a VP's linkedin profile... I think its entirely fair to haircut the equity positions in one's NAV analysis. Just important to keep in mind how small they are in the context of the portfolio at this point. Also - one other common sense way to think about Hillary's Blinds / Bellotto. The refinancing done in 2014 was for 113mm GBP (~170mm USD), and funded entirely by third party lenders. In that context, a $160mm equity value in 2015 seems reasonable. To say that the company was worth 80mm at the time of the refinancing just doesnt make sense. | |
Subject | Re: Re: thanks again |
Entry | 12/10/2015 12:25 PM |
Member | blaueskobalt |
Here's the link: http://geoinvesting.com/texas-regulatory-filings-mystery-compensation-call-question-american-capitals-internal-controls-managements-integrity/ Not sure I get their point, though. Aside from the governance issues and the SEHAC MOI red flag (both covered here yesterday), they seem to imply that SEHAC is owned by Lennox instead of ACAS, even though both parties clearly state that it is owned by ACAS... | |
Subject | Re: Re: Re: thanks again |
Entry | 12/10/2015 12:44 PM |
Member | shteinb |
something i saw via a broker today on service experts, gathering another client sent to him: http://www.achrnews.com/articles/125119-boxer-drives-service-experts-resurgence An article from dec 2013 where ceo talks about increasinng same store sales 7% and already turning a profit by dec 2013 and hoping to grow 10% next year You can google search and see at least 4 or 5 organic acquisitions The fulton report says they do 325mm of revenue at 82 branches, their website says they have over 100 branches. You can also gather off linked in they do 400mm plus of revenue
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Subject | Re: Re: Re: Re: thanks again |
Entry | 12/10/2015 12:46 PM |
Member | shteinb |
Also - i am 90% sure that whole 140mm payment is related to their buy out of Gary Kain's ACAM interest. It has nothing to do with service experts... | |
Subject | "Permanent" capital at risk? |
Entry | 12/15/2015 01:37 PM |
Member | rasputin998 |
Similar to the discussion on FSAM regarding FSC. Does anyone see risk here in the AGNC and MTGE vehicles being moved to another manager? Total return has been horrific lately. AGNC just reported another 2% mom drop in NAV per share. | |
Subject | Re: "Permanent" capital at risk? |
Entry | 12/15/2015 02:38 PM |
Member | blaueskobalt |
Is that due to management or macro? It has underperformed NLY by a bit on TTM basis, but it has substantially outperformed NLY over the past 5 years... | |
Subject | Re: Re: "Permanent" capital at risk? |
Entry | 12/15/2015 02:58 PM |
Member | shteinb |
Its largely macro - widening MBS spreads, and rising repo rates. Gary Kain who runs the vehicles is well regarded in the mortgage space - I haven't heard anyone complain about him. The management fee at 1.25% of equity (no incentive) seems reasonable. They've also been aggressive at buying back stock across all the vehicles. I am less worried about them losing the business as much as this being a difficult environment to manage these entities without them shrinking. | |
Subject | Re: Re: "Permanent" capital at risk? |
Entry | 12/15/2015 02:58 PM |
Member | rasputin998 |
Agreed on the long term performance. It does seem though that with these things trading at such a steep discount to book and the assets being relatively transparent and liquid that another player could come in and offer the obvious solution to scale down the agency operation and buy back stock. The inherent conflict of interest for the external manager is really highlighted when these guys choose to keep eroding book value per share month after month with this activity when they can grow book value per share with absolute certainty by buying back stock at such a steep discount. | |
Subject | Re: Re: Re: Re: Re: Re: Re: Re: Re: Re: Still long? |
Entry | 01/07/2016 07:30 PM |
Member | shteinb |
You are right about Elliott forcing a sale given the announcement this afternoon. I am all for it if they can get it done. I think Ares, maybe Blackrock are the realistic buyers since they have BDCs that can take the assets, and asset management businesses that can buy the manager. KCAP is not a good comp - its basically just CLO equity directly + liquid leveraged loans financed with CLO structures (no barriers to entry to doing this) + overmarked asset management businesses + stupid fee structures + garbage scale/liquidity. TICC is in the same boat. Both have also overmarked their CLO equity positions in my view. I agree on fee structure - i think whatever they would have come up with in the end would have been lighter on fees (say 1.5 / 17.5 and netting). I think a 10-20% structured products bucket + a directly originated mezz portfolio (not liquid leveraged loans) + a normal fee structure + a large float would trade quite well (85-90 of book in this environment) and generate a 10%+ ROE). There is no reason that a portfolio like that couldnt be achieved in a reasonable frame of time given the scale of shrinkage via the buyback. If they can pull it off - a sale would be great and i am all for it. With the large buyback and a strategic process in place i think there are a bunch of ways to win with limited downside risk from here. As an aside, Wilkus is now in his mid 60s, my guess is he wants a good strategic outcome here as much as anyone
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Subject | Re: ACAS update |
Entry | 03/07/2016 06:57 PM |
Member | shteinb |
Service Experts (SEHAC holdings) was sold at what appears to be a premium to the current mark... That was the investment the poorly written short piece that came out targeted a few weeks ago. | |
Subject | Re: Re: Re: ACAS update |
Entry | 03/09/2016 11:57 AM |
Member | shteinb |
Unlikely that they own 100% - assume 10-15% for employee ownership/options, and the number is a bit lower, though still meaningful boost to NAV.
Yuriy | |
Subject | increasing pace of portfolio company sales |
Entry | 05/20/2016 11:14 PM |
Member | puppyeh |
zbeex, am sure you have seen the increasing pace of portfolio company sales at ACAS. on the one hand, it is encouraging (and NAV additive) that all the announced transactions are at a premium to marks (some substantial, like eLynx). on the other hand, i guess you could be concerned that ACAS is harvesting the flowers and keeping the weeds. if ACAS is ultimately sold as a whole, where do you think it gets done? I was estimating a slight discount to pro-forma book value ($19?) but I am unsure if that is enough of a discount. perhaps it is more likely to be sold off in pieces, what do you think? while clearly it has bounced off the lows, I still think it sets up as a pretty interesting risk reward here. | |
Subject | Re: ACAS acquired |
Entry | 05/23/2016 09:11 AM |
Member | shteinb |
Think its a fair outcome given its a complete takeout, where the sector is and I assume the loss of the DTA?
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Subject | Re: Re: ACAS acquired |
Entry | 05/23/2016 10:38 AM |
Member | shteinb |
I guess this is potentially an annoying arb to put on, as the short in ARCC has a decent amount of negative carry that doesnt flow through on the other side. | |
Subject | Re: Re: Re: ACAS acquired |
Entry | 05/23/2016 08:58 PM |
Member | puppyeh |
thanks zbeex, yes this got done finally. as you mentioned, not a horrible outcome at all, the large cash component and sale in one piece a decent offset to what is still lower price than i expected. agree too w shteinb that terrible to put this arb on and thus will trade cheap for a while to implied deal value. i guess this is going to be a boring stock for the next six months then... | |
Subject | Re: Re: Re: Report Hitting the Stock Today |
Entry | 08/02/2017 10:06 PM |
Member | blaueskobalt |
FWIW, ARCC announced the sale of ACAS's legacy investment in Bellotto on their CC today. Proceeds were over 50% higher than the mark that these guys took issue with, 18 months later. Worst short report ever? |