Description

FRZ equity is a very levered security with uncertainty surrounding an anti-trust investigation.

PGTenny had an excellent writeup on Arctic Glacier and it worked out well thus far for anyone who followed his initial recommendation.  I view Reddy Ice as a very similar situation and with significant upside.  I recommend reading that write up for background on the industry in general, and on the anti-trust situation.  I'm also happy to discuss in the Q&A thread if people are interested.

I will point out, however, that since Home City Ice and Arctic Glacier have settled already, its likely that they are cooperating with regulators and fines to Reddy Ice could be much higher than the first two settlements.  While this is certainly a negative, because of the financial levered capital structure of Reddy Ice (similar to Arctic Glacier), a one turn improvement in EBIDTA/EV valuation is just shy of a 100% move in equity value.

Assuming FRZ settles for less than $50mm (I think this is very likely because Arctic Glacier settled for $9mm and as PGTenny has stated "I'm inclined to think that Reddy may escape with no penalties whatsoever, given that the DOJ restricted it's final settlement to Michigan only (where Reddy has no presence to my knowledge). " in his write up Q&A on Arctic Glacier.  So let's assume $50mm, and see where that gets us.

Current EV is $440mm which is $350mm in debt, and 90mm of equity value.  Adding the full $50mm to get an EV of $490mm for a business that does somewhere from $80-90mm of EBITDA.  Assuming an 8 multiple on $80mm EBITDA, you'll arrive at $640mm EV, which gives an equity value of $150mm, but which would then have ample cash flow to pay off it's debt maturities and de-lever to the tune of at least 30mm a year (probably significantly more depending on acquisitions), and the equity would receive the benefits of that de-levering.  I believe if the anti-trust risk were completely removed, the company could easily be valued at 10x, but I'd like to be conservative in my write up.  It traded higher not long before the anti-trust matters were alleged.

The downside is that the equity could go to zero.  I don't think this is likely given the recent settlements (referenced above), but nonetheless, that should always be considered.

Now, where I think this gets interesting is in timing.  Their 151mm of 10.5% notes are due in 2012.  I think Reddy Ice is incentivized to get rid of the anti-trust overhang before then so they can refinance those notes.  As a result, I think you will see a settlement within a two years, if not sooner.  Additionally, I've noticed the 10.5% bonds have been creeping higher lately.  From prices in the 60's less than 6 months ago, bonds now trade in the 90's.  More importantly, over the last month or so, bonds have moved from 90 to 97ish, whereas the equity has recently declined over a similar period.  That could be an indication that the company might exchange equity for debt which I think is unlikely because I think a large part of what makes this investment so attractive to an equity investor is the leverage.  Without that, the trade dynamics change.  It could be an indication, however, that they are close to a settlement or something that would be a positive to the bonds and company overall.  Of course, it could just be random and nothing at all.  Time will tell.

I'm anticipating a question that asks why Reddy Ice rather than Arctic Glacier since Arctic Glacier appears to have less risk at this point?  I see Reddy Ice as superior for two reasons.  1) It has a higher market share and seems to be a more efficient operator.  2) Roll up acquisitions is a big part of this industry and looking back over the last 10 years, it looks like Reddy Ice has done a better job with it's acquisitions when comparing increased sales vs increase in debt and equity spent.  If I look over a 5-10 year period, I think Reddy Ice will outperform Arctic Glacier.  That said, I do own some Arctic Glacier on the back of PGTenny's write up and that's what ultimately led me to Reddy Ice.

Catalyst:

            -Antitrust settlement which is lower than anticipated

            -Refinancing bonds to extend maturity

Risks:

• - Antitrust settlement higher than anticipated
• - Settlement doesn't happen before the 2012 notes are due and the company is unable to finance
• - As always, operational risk, but there's nothing to indicate that their operational performance will change in the next few years.

Catalyst

Catalyst:

            -Antitrust settlement which is lower than anticipated

            -Refinancing bonds to extend maturity