Description
Kaiser Group Holdings, Inc. (OTC Pink Sheets: KGHI; recent share price of $37.50) is a post-bankruptcy liquidation play that we believe will have a cash value of $48 per share in 2006. Catalysts exist that could drive the value of the company to $75 per share. We posted this idea previously on November 5, 2003 when the shares were trading at $19. However, the investment story has changed, and many uncertainties that existed before have been removed.
Background and Description of Assets
KGHI used to be a moderately sized construction/industrial concern that filed Chapter 11 in early 2000. The company emerged in late 2000 and has been undergoing a slow process involving the sale of assets and the resolution of bankruptcy claims. While KGHI’s most recent 10-K and 10-Q give a detailed description of the company’s remaining activities, we have provided a brief summary. KGHI’s activities consist of:
1. The ownership of a 50% interest in Kaiser-Hill Company (Kaiser-Hill), which serves as the general contractor at the U.S. Department of Energy’s Rocky Flats Environmental Technology Site near Denver, Colorado, for the closure of the site which formerly was used to produce nuclear weapons. The operating partner (and other 50% owner) of Kaiser-Hill is CH2M Hill, a 10,000 employee, private company based in Colorado. Check out www.rfets.gov for more information on this project.
Kaiser-Hill earns a fee for its performance under the contract, the size of which is driven by the overall cost to complete the contract and the time taken to do so. Kaiser-Hill announced completion of the project on October 13, 2005 and is awaiting final approval from the government before collecting all of its fee. The Department of Energy has 90 days from the declaration of completion for the approval. They expect approval to occur in December. The fee is currently estimated by Kaiser-Hill to be at least $500 million. The maximum fee payable is $560 million. KGHI is entitled to 50% of the fee, which is its most significant asset. The contract provides that Kaiser-Hill absorb certain non-reimbursable costs before distributions of the fee are made to KGHI. These costs are estimated to be 15% to 20% of the fee. Based upon the ratio of funds paid to KGHI and CH2M Hill at September 30, 2005 ($191.0 million) vs. funds collected from the Department of Energy ($225.3 million), non-reimbursable expenses are currently being deducted at a rate of 15.2%. With a fee of $500 million, cash collected by KGHI after September 30, 2005 will be $116.4 million on a pre-tax basis assuming 15.2% non-reimbursable costs.
2. The closeout and resolution of a completed contract for the engineering and construction of a steel mini-mill for Nova Hut in the Czech Republic, which is currently part of Mittal Steel. KGHI currently has a receivable on the books for only $3 million relating to the contract. However, KGHI has claims totaling $67.5 million against Nova Hut (against a $49.7 million counter claim from Nova Hut). The dispute is in arbitration in the International Chamber of Commerce, and resolution is expected in the first quarter of 2006 at the earliest.
3. The holding of an interest-bearing promissory note due in 2006 of $6.4 million from IFC Consulting Group, a division that the pre-bankruptcy KGHI sold in 1999 (IFC Note). This note was paid off in full early on October 5, 2005.
4. A wholly-owned captive insurance company that is no longer issuing new policies and is simply involved in resolving remaining claims (Insurance Claims).
5. An ongoing obligation of about $6.3 million to fund a capped, post-employment medical benefit plans for a fixed group of retirees (OPEB Liability).
6. A wholly-owned subsidiary, Kaiser Analytical Management Services, Inc. (KAMS), which was formed in April 2004 to take over the operations of the Analytical Services Division of Kaiser-Hill.
Capitalization Profile
KGHI redeemed the remainder of its Preferred Stock on November 17, 2005. Therefore, the only remaining publicly traded security is the common stock.
Recent common stock price $37.50
52 week range $23.50 to $44.00
Shares outstanding 1.6 million (1.8 million assuming issuance of settlement shares to ICT Spectrum that received preliminary approval)
Equity market capitalization $60 million ($67 assuming issuance of ICT Spectrum shares)
Valuation Analysis
We believe the best way to analyze the value of KGHI is to perform a cash flow analysis of the company’s assets and liabilities. Our base case analysis is as follows:
Change in Cash Balance Amount Comment
($mil)
Balance at 9/30/05 $24.5
Restricted Cash -$3.2 For insurance claims of sub
Redemption of
Preferred and Dividends -$11.7
Payments from
Kaiser-Hill Net of Tax +$71.6 Assumes only $500 million total fee, 38.5% tax rate (consistent w/ historical)
Payment of IFC Note +$6.4
Nova Hut Resolution +$12.1 Assumes settlement is difference between KGHI $67.5 million claim and $49.7 million counterclaim; 38.5% tax rate on settlement above $3 million receivable
KAMS Profit +$0.8 Assumes $0.25 million for next 3 quarters (current run rate)
Interest Income +$1.1 Assumes 3.5% interest for next 3 quarters with $50 million distribution to KGHI in 4th quarter 2005 and final distribution at end of 2nd quarter 2006
OPEB Expense -$0.8 Assumes $0.25 million for next 3 quarters (current run rate)
Administrative Expense -$3.0 Assumes $1.0 million for next 3 quarters (current run rate)
Taxes from Operations -$0.8 Assumes 38.5% rate
Working Capital
Liquidation -$7.6 At 9/30/05 levels
Final OPEB Liability
Net of Tax -$3.4 After payments for next 3 quarters; 38.5% tax rate
_____
Final Cash Balance $86.0
Shares 1.8mil Includes 175,000 ICT Spectrum Shares
Value per Share $48.09
Sensitivities
The following drive meaningful changes in value:
1. The size of the fee payable to Kaiser-Hill. For example, if you change the fee from $500 million to $560 million, the theoretical maximum, KGHI’s future value increases more than $11 per share. Of course, any reduction in the fee also has an impact. However, we feel comfortable that KGHI should at least receive the currently expected fee for the following reasons: (a) The work is done at this point leaving minimal risk of a reduced fee, and (b) Kaiser-Hill has traditionally been very conservative on its expected fee. It has only amended the fee payable upwards in past releases, never downwards. Fees of $550 million have reported in the press.
2. The size of the Nova Hut Claim settlement could be anywhere from $0 to $67.5 million. KGHI management feels they have a very strong case and can recover the full amount of their claim. If they were to receive the full amount of the claim, it would increase KGHI’s value $17 per share from our base case. However, a settlement is possible, and we feel that a settlement of the difference between KGHI’s claim and Nova Hut’s $49.7 million counterclaim makes as much sense as anything for our base case assumption. KGHI had previously written down its receivable from Nova Hut, in part, as a result of financial troubles at Nova Hut. However, since Nova Hut is now owned by Mittal Steel, we think the ability to collect should not be a problem. Mittal has a reserve of $34 million in relation to this dispute in its 2004 annual report.
Even assuming a $0 Nova Hut settlement and only a $500 million fee to Kaiser-Hill, KGHI still has a $41 per share value. Buying the stock at current levels means receiving a free option on any cash from resolution of the Nova Hut dispute and any incremental fees Kaiser-Hill receives from the Department of Energy.
Other less significant factors that could affect KGHI’s valuation are:
1. The court-appointed official committee of retirees is pursuing a motion to force KGHI to set up a special type of trust to administer OPEB disbursements referred to as a Voluntary Employees’ Beneficiary Association. Establishing such a trust could cost as much as $3 million, about $1 per share after tax.
2. KGHI was awarded a $2.6 million settlement by the International Chamber of Commerce in December 2003 as a resolution to the dispute of a Nova Hut sub-contract between Kaiser Netherlands and Nova Hut’s main equipment supplier, Tippins. The settlement cash has not yet been received, but KGHI is actively pursuing it. It would represent an incremental $1 per share in value after tax.
3. The level of KGHI’s operating expenses – it is worth noting that KGHI plans on doing a reverse stock split pending the final resolution of the ICT Spectrum shares. If this transaction is completed, KGHI can deregister and reduce its expenses associated with filing financial statements.
4. The amount of cash actually used to resolve bankruptcy claims (only a $0.4 million reserve at this point) and the Insurance Claims.
Catalyst
1. The award of fees greater than $500 million on the Kaiser-Hill project.
2. Payment of a large one-time dividend on the common stock when these fees are paid.
3. Favorable or early resolution of the Nova Hut Claim.