Description

BFC Financial is a classic long-control-and-short-liquidity parent-stub trade. My estimate is that the pieces are conservatively worth about $8 and the stock is trading at $5.78.

BFC is composed essentially of five main pieces:

1. Bank Atlantic (BBX) stock (13.2 million shares and control)
2. Levitt Corp. (LEV) stock (3.3 million shares and control)
3. A preferred interest in Benihana (20 million dollar investment)
4. Cash of 26.3 million (which will be invested in an operating business)
5. NOLs with book value of 22.6 million (at year end 2004)

There are also small assets including a shopping mall and an interest in a real estate hedge fund, which are sufficiently small that they can be ignored.

On the liability side, BFC has essentially four parts
1. A preferred equity which converts at $9.60 per share ($15 million dollar face)
2. Other liabilities in excess of other assets
3. Deferred Tax Liabilities from its holdings in Levitt and Bank Atlantic of book value 48 million at yearend 2004 (though I argue not a liability at all).
4. Operating costs in excess of revenue of about 8.1 million dollars annualized.

Determining the discount of the stub is as simple as adding up the assets, subtracting the liabilities and then dividing by the share count of 34.1 million fully diluted using the treasury stock method. (Note that this count excludes shares that BFC owns in itself of 2.3 million)

So let’s take them all in order.

Assets

I will give the Levitt and BBX stock market value even though control shares are probably worth more than non-control shares. At market close on Wednesday, BBX was at $14.42 and LEV was at $22.36. BFC’s holding in BBX was worth $5.58 per share. And in LEV, it was worth $2.16 per share.

The preferred interest in Benihana has a 20 million dollar face value. Benihana stock is up substantially from the time of the initial deal, but to be conservative, let’s value it at face or 59 cents per share

The cash I will also value at face (that’s easy!) of 77 cents per share. Note that this cash is going to find its way into an operating business.

NOLs are listed in Note 15 of the 10 k as having face value of 22 million. Bank Atlantic has 2 million of book value NOLs according to its 10-K and Levitt has none. My working assumption is that these NOLs will be utilized by an operating business at BFC or could be used by an acquirer of the company (more on that later). This is 59 cents per share.

Liabilities

Note 20 of the company’s 10-q for September quarter 2005 provides a parent level balance sheet. Other assets, investment securities and loans receivable less other liabilities are negative 2.8 million dollars. As the footnote discloses the investments in and advances from wholly owned subsidiaries should actually wash as they are linked to a project the company could walk away from. So other liabilities are about 8 cents per share.

In addition there is a 15 million dollar face preferred equity stake. The value of this note is probably less than when it was issued as BFC stock is lower, but let’s give it face value. That’s 44 cents per share.

Then there is the question of what to do with the deferred tax liabilities. I think that the appropriate thing to do is to not treat them as a liability at all. I say this for two reasons. First, although as currently structured BFCF could not spin out their stakes tax free as they have less than 80 percent control, there have been prior transactions where controlling shareholders who controlled less than 80 percent of a company have been able to obtain 80 percent with the consent of the minority shareholders and then spin out the sub in question. Also if BFC were to be acquired by a purchaser of Bank Atlantic, these liabilities would become moot with regard to Bank Atlantic and ditto for Levitt. As control of either entity can’t be obtained without purchasing BFC, the most likely unwind of the corporate structure would be the purchase of BFC to own either Levitt or Bank Atlantic and then a spin of the other piece with the help of minority share holders.

The final item is operating expenses. BFC currently employs a staff of people that is aimed at investing the cash on its balance sheet. It also has public company costs and is providing salaries to Alan Levan and Jack Abdo, the people who effectively control the whole BFC group of companies. Annualizing expenses less revenues for the give a number of about 8.1 million. The question is what the appropriate multiple to put on this number is. Given that it is generating NOLs, that there will be an operating business, and that the expenses are in some sense discretionary, I am using 5 times, which works out to a drag of $1.19 a share. I suspect that this is probably punitive. (It is equivalent to saying that the cash on the balance sheet plus the employees have a net negative value of 42 cents per share)

Putting it all together, the assets total $9.69 and the liabilities total $1.71, for a total value of $7.98. With the stock trading at $5.80, it is at about a 28 percent discount to fair value (or put another way, the stock would need to rise 38 percent to reach fair value).

I would expect this discount to lessen over time for the following reasons:

1. BFC did an offering at $8.50 in June for more than 5 million shares. Post the offering, both the price of BBX and LEV collapsed and there was no incremental buyer for BFC and there were lots of incremental sellers. I expect this effect is temporary.
2. At least the recent history of Alan Levan’s investments has been quite positive. Wall Street doesn’t like the man very much, but it is hard to argue with the value creation done at Bank Atlantic, Levitt, Ryan Beck (a broker which is owned by Bank Atlantic) and Bluegreen (a timeshare company which is controlled by Levitt).
3. I think that BFC will want to raise more funds from the market over time and this will require a higher stock price. This means getting analyst coverage, greater stock liquidity and so on.
4. Levan has a 9.6 million share stake in the company and Abdo has a 4.1 million share stake. They are ultimately highly incentivized to get the stock up. Levan is 60 and Abdo is 61. Levan has a son involved at Bank Atlantic but at some point it is possible that he will want to exit and control shares should command a premium.

One could take advantage of this discount either by going long BFCF and shorting appropriate amounts of Levitt and Bank Atlantic. Personally, I think that Levitt is also cheap and would probably just short out the Bank Atlantic, but I am happy to take that up in the message thread.

Catalyst

Nothing imminent