|Shares Out. (in M):||0||P/E|
|Market Cap (in $M):||72||P/FCF|
|Net Debt (in $M):||0||EBIT||0||0|
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Written up last year at $31.50, I want to explain why Maine & Maritimes (MAM) has upside potential of over 100% and a margin of safety that implies almost no downside. The intrinsic value of the core business alone is worth 15-60% more than the current stock price.
MAM owns a regulated electric utility called Maine Public Service (MPS) which owns transmission and distribution assets in
What exactly is causing the discrepancy? In 1986 the
MPS consistently generates about $37m in regulated revenue, and a new unregulated service company (USG) is already on a ~$4m run rate from several wind farms being built. There will be some lumpiness here, but they’re basically the only electric e&c company in
You can’t use p/e because GAAP income gets killed by the non-cash stranded cost amortization. How bad is the distortion? TTM, reported eps was $1.76 but would’ve been $4.43 excluding the charges (I am only talking about the non-cash stranded amortization charges, not all non-cash charges such as plant depreciation). 2008 eps will probably be around $2.00, but would be more like $5.20 without the same charges. The GAAP earnings power of this company is being dramatically understated. Cheap utilities trade for ~13-15x trailing eps, but some as low as 10x. Let’s just say 10x for normalized eps and the stock’s worth about $52/share.
There is no dividend currently so we’re out of luck on that. Before things got screwy though, they maintained a payout ratio around 70% on average. This is high because their assets don’t require much reinvestment (they have the lowest expenses per line mile of any public electric utility) and there aren’t many growth opportunities for them. Theoretically, they could support a dividend of about $3.64 based on the current normalized eps of $5.20, which if we applied an industry-high yield of 6.5% to, puts fair value at $56/share.
You might be rolling your eyes at my eps and dividend valuation, it’s an obviously tough sell since assumptions must be made. So let’s look at what’s real: cash. The same group of utilities trades for 7-9x EV/EBITDA, which if we applied the low end to $20m in EBITDA and $33m in debt, gets us to a value of $61/share. Even little companies with similar growth such as Central Vermont (CV) are trading at almost 9x while MAM is only at 5x despite having a much lower debt/EBITDA ratio of 1.7x vs average of 4x. MAM is actually the least levered of comp electric utilities. And free cash flow? TTM they reported $3.00/share in FCF, so the stock is trading at 14x trailing FCF, but even this is in some ways being depressed by another $1.00-1.50/share because they’re paying off deferred taxes. I’d tell you what FCF multiple other electric utilities trade at but none have positive FCF (alas, they do have dividends). A quick look at their most recent 10Q shows they’ve already done $8.4m in operating cash flow and $4.2m in FCF through the first half of the year…reminder, the market cap is $73m.
Anyway, I believe that the core business’ intrinsic value is between $50-70/share. At absolute worst, I think we’re about fairly valued right now.
MAM and Central Maine Power (CMP) are in a JV for the Maine Power Connection (MPC) project, which is a potential transmission line with a total price tag of $620m (MAM is a 30% partner). The line is initially needed because Horizon Wind, a very large wind farm developer, is trying to build an eventual 800 MW wind farm in
After several years of jointly studying the project, MAM and CMP released their findings earlier this year, which show the MPC meets several goals. First and most importantly, the long-run costs are outweighed by the benefits, thus it creates economic benefits to ratepayers in the region. Their own studies, along with that of Horizon’s, put total long-run cost savings at over $1 billion from switching off natural gas, which is very expensive in the Northeast. Second, the MPC would help the region satisfy various state-level initiatives for more renewable energy. While every state in
But what really gives credibility to the project is that it’s not just the parties that stand to benefit who are confirming the viability of the project. ISO-NE (the administrative body for all
There are basically two major hurdles to overcome. The first, and largest, is for the other members of ISO-NE to grant the project socialization status, which would all but guarantee the MPC gets built asap (mid 09). Socialization means that all of
Mass is holding the process up for this reason as well as a new energy bill that Governor Deval Patrick signed. The bill has a lot of provisions which actually help the MPC, and one that hurts it. The good things are that it calls for much more power to come from alternative sources like wind, and it will even force Mass utilities into long-term supply agreements with alternative power generators, thus helping spur wind/solar/bio development. A description of the new Mass energy bill is here: http://www.boston.com/news/local/massachusetts/articles/2008/07/03/state_starts_a_green_era/?page=full. It is an ambitious piece of legislation, and it works much to MAM’s advantage. The governor has stuck his neck out on being a “green” advocate, and it gives MAM a great deal of leverage over Mass.
The one negative part of the bill is that ideally, Mass wants all this wind/solar/bio generation to be in-state. Specifically, the Mass governor wants to see the
The second hurdle for MAM will be financing. This is an unknown to me, but based on conversations with management, I don’t think it will actually be that difficult to raise $186m. MAM has already been approached by numerous investment banks offering ideas and pledging future assistance. And if MAM can’t get financing the company would likely just get bought by someone like Northeast Utilities, Energy East, NSTAR or Emera…frankly I’m surprised it hasn’t happened yet. I’ll get more into this below.
There are two other big opportunities for MAM associated with the MPC. First, the $620m project has $186m budgeted for substation construction, and there would be additional line connection needed for the wind turbines themselves. MAM would be a bidder for a lot of this unregulated work, and in fact favored to work on it. How much work could they possibly get, unfortunately I don’t know. But the normally reserved management has been unusually excited about this opportunity when I’ve discussed it with them. The service work could easily cause reported eps to accelerate during construction and help generate cash which they could plow right back into construction. Second, there is a proposed 3rd phase of the project which would connect
What’s the value to MAM if the MPC goes through? There are some obvious financing assumptions you have to make in terms of debt/equity, the price at which they can raise stock, and how creative they can get in terms of pushing down holding company debt to the utility as equity. But really, I think the valuation is surprisingly simple…I believe this is how most people in the utility industry eyeball it. The way to look at this is by asking a) what’s the total value of MAM after the MPC is built, and b) how much of the company do they have to sell to get it done. From the total value perspective, MAM will be generating about $20m in earnings. $12.1m will be coming from their 13% ROE on the $92m invested in the MPC, while $8m is coming from the utility after the stranded costs expire. I would say there is little risk to this $20m earnings number. I am going to say this $20m is worth about 12.5x earnings, for a total value of $250m. Tackling part b, if we assume that MAM has to raise the same $93m in new equity sometime around 2010-2012, that means they have to sell an additional 38% of the company, which would increase the total share count from 1.7m to 2.7m. Dividing the $250m by the 2.7m shares outstanding gets you to a $90/share valuation, so we could say that the MPC adds an incremental $20-40/share in value. The table below shows MAM’s value at different multiples. Future eps also shows that eps should be able to grow at 25-30% cagr over the next 5 years.
[d] Total Value
[e] = a x d MPC % of MAM
[f] = c / e New Shares
[g] = (b / (1 - f)) - b Total Shares
[h] = g + b Value/Share
[i] = e / h EPS
[j] = a / h
The big risk here is that they price an offering too low and not enough of MPC’s value accrues to existing shareholders. Management doesn’t own much stock at all, so I wonder how much they would fight to price this deal correctly. But I take some comfort in the fact that I’ve gotten to know the CFO and think he’s pretty smart about this stuff, and he seems to be aware of the issue. Of course, the company could just sell now and get it all over with and no one would have to worry about this. Because the MPC has future phases that offer even more growth, I think an acquiring utility would be willing to pay between 12-14x for MAM’s earnings. But you can see that even at a very conservative multiple MAM is about 42% undervalued.
The MPC and Horizon Wind projects aren’t layups, but they’ve already got a ton of support from
We have a business with a going concern value between $50-70/share. We have what’s probably a binary option with additional value of $20-40/share. Then we have as yet unquantifiable upside in the form of construction work and future project phases. So in all, we’re looking at a $43 stock with a quantifiable valuation range of $48-110, and a good probability of the options paying off. I think this is a classic value investment. And for whatever this is worth to you, Leucadia National bought 57k shares last quarter…hopefully this helps to further validate the story and help it get discovered.
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