Actionable Investment Ideas #7
Includes EHAB, UGI (short), KW (short), CROX, SENEA, CBOX:L and BHU:SI
In this newsletter, I share the most intriguing investment ideas I've come across in the past week from a variety of sources, including Value Investors Club, various investing blogs, hedge fund letters, and more. I aim to present you with concise and easily digestible investment idea summaries that quickly capture the essence of the thesis.
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This week's newsletter includes:
Enhabit (EHAB, $633m) - Potential sale of home healthcare provider.
Short Idea: UGI Corporation (UGI, $5.3bn) - Holding company facing liquidity issues.
Short Idea: Kennedy-Wilson (KW, $2.2bn) - Overvalued real estate C-Corp.
Crocs (CROX, $6.2bn) - High-quality footwear company at a discount.
Seneca Foods (SENEA, $368m) - Misunderstood food canning oligopoly.
Cake Box Holdings (CBOX:L, £67m) - Oversold cake producer.
SUTL Enterprise (BHU:SI, S$52m) - Cheap operator of marinas.
New Ideas From Value Investors Club
Here you will find summaries of the most captivating pitches from Value Investors Club that have just become publicly accessible. To access these VIC posts you will need to register for a free guest account.
This is an interesting potential takeover situation that I have also been following in recent months. Enhabit (EHAB) is the last remaining publicly-listed player in the rapidly consolidating US home healthcare industry. The company is trading at 8.5x 2024E EBITDA. This is a significant discount to 13x and 20x multiples where its peers Amedisys and LHC Group have been recently taken out. Several recent developments suggest that the company sale is likely. EHAB has recently come under pressure from activist AREX Capital which has been pushing the company to start a strategic review and initiate a sale process. While the activist’s board nominees have since been rejected, the company has recently announced plans to launch a strategic review, indicating that the management might be open to a transaction. Using a base case 12.5x EBITDA multiple would imply a $24/share target price in a sale scenario, yielding a 90% upside. The opportunity exists as EHAB shares have been decimated since the spin-off from Encompass Health in 2022 driven by several fundamental headwinds, including wage inflation and unfavorable shift in business mix to Medicare Advantage. However, the business’s growth and profitability are expected to improve as these problems subside, with wage inflation already lowering and the business mix headwinds anticipated to be offset by new contracts signed with payors at improved rates. Full EHAB write-up on Value Investors Club (free guest account is required).
Short Idea: UGI Corporation (UGI) is a holding company with propane distribution and natural gas pipeline/utility businesses. Due to poorly-timed debt funded acquisitions as well as a combination of operational issues, UGI faces acute near-term liquidity issues. The holding company has near-term debt maturities of $250m in 2024 and $377m in 2025 plus $315m annual dividend obligation compared to $58m in holding company’s cash. UGI has also committed $500m to fund renewable natural gas projects. The company’s stated $1.6bn in undrawn liquidity is misleading as $0.6bn of this amount is locked up in its subsidiary which is in a covenant breach. Meanwhile, the company’s crown jewel asset, the utility business, will not be able to distribute any cash flows to the holding company in the upcoming years as it needs to fund the replacement of old gas pipes ($517m EBITDA generated in 2022 vs $529m in capital expenditures). The dire situation might force the company to eliminate dividends and suspend renewable natural gas investments. This would make the stock much less appealing to investors and could lead to a sell-off, indicating that UGI might be a solid candidate for short-selling. Full UGI write-up on Value Investors Club (free guest account is required).
Short Idea: Kennedy-Wilson (KW) is an overvalued real estate C-Corp with multifamily, office, retail and other assets located primarily in the US, the UK and Ireland. Despite its high debt burden (gross debt at 19x run-rate EBITDA) as well as complexity given high asset/geographic diversification and large development pipeline, the company trades at a 10% premium to its NAV. This compares to average double-digit discounts to NAV for multi-family and office REIT sectors. From cap rates perspective, Kennedy-Wilson also looks too expensive trading at a 5.6% implied cap rate. This valuation is too generous as valuing each of KW’s individual assets in line with their publicly-listed peers would imply a weighted average cap rate of 6.5%. Applying this cap rate to KW’s current net operating income would yield equity value of c. $8/share or a 50% discount to current share price levels. The market’s perception of KW is skewed by obscure reporting as the company adds gains from asset sales to EBITDA and does not report AFFO which is likely negative. A potential catalyst here might be deteriorating fundamentals over the next several quarters as the company’s core multifamily portfolio experiences rent declines while the US office assets face looming lease maturities. Full KW write-up on Value Investors Club (free guest account required).
New Ideas From Investment Blogs
In this section, I share concise summaries of the most attractive ideas I've uncovered sifting through various investment blogs.
Tim over at Unconventional Value has published a write-up on Crocs (CROX), the owner of footwear brands Crocs and Hey Dude. CROX presents an opportunity to buy a highly-profitable, cash-generative and asset-light business with a significant growth runway at a discount to its peers and intrinsic value. Despite industry-leading gross/operating margins and growth, CROX trades at only 8.1x EV/EBIT and 9.2x P/E compared to 15.4x and 17.2x average multiples for the peer group (includes Deckers Outdoor, Skechers, Wolverine World Wide and Steve Madden). At the current valuation, the market expects the company to grow in line with GDP. This is unreasonable and, instead, CROX is likely to grow at or near double digits for at least the next five years. The growth is expected to be driven by expansion in the underpenetrated Chinese market where the brand’s sales have been growing rapidly as of late (>100% growth for the last two quarters). Another growth avenue might be the Crocs sandals business where sales are expected to triple by 2026. CROX is steered by a highly competent management team that has led a successful strategic transformation since 2014 and has shrunk CROX share count by 30% during this timeframe. Full CROX pitch on the Unconventional Value blog.
Harris Perlman has recently shared a pitch on Seneca Foods (SENEA), the largest vegetable canning business in the US. SENEA is a cheap and overlooked business trading at 3.4x earnings and 0.4x adjusted book value while operating in a favorable oligopolistic market. The cheapness is explained by the fact that company’s profitability is hidden by LIFO accounting intended to reduce tax burden. FIFO accounting is likely a much better representation of the value of the company’s inventories and hence profitability, as indicated by the management reporting FIFO-adjusted profits and basing the debt covenants on FIFO profits. During FY23, the company generated only $9m in profits based on LIFO accounting compared to $108m under FIFO (vs $368m market cap). Last fiscal year’s FIFO earnings are not an outlier as SENEA generated $86m and $95m in FY22 and FY21 respectively. There is no clear catalyst, however, the downside seems to be protected by the value of assets on the balance sheet. Excluding the value of the company’s buildings and equipment, the NCAV stands at $57/share vs $48/share current price, implying that the stock is a deep net-net. Given the prevailing discount to book value, SENEA’s management might continue to pursue share buybacks, with $80m worth of stock already repurchased over the last two years. Full SENEA pitch from Harris Perlman.
Cake Box Holdings (CBOX:L), a UK-based company specializing in egg-free cakes, was recently pitched in the Smart Micro Caps blog. Currently, Cake Box is trading at 8x EBITDA and 12x FCF - an undemanding valuation for a rapidly-growing (22% 5 year-average sales CAGR) and high-margin (17% 5-year average net margins excluding FY23) business with high returns on invested capital (34% over the last 10 years). Incentives are well-aligned as the co-founder/CEO owns 25% of outstanding shares while total insider ownership is at nearly 40%. The opportunity exists as CBOX share price has plummeted over 50% from its late 2021 highs driven by an accounting scandal surrounding the previous management/auditors and a subsequent profit margin warning released last year due to soaring inflation. Accounting issues have since been resolved and recently, CBOX has hinted that the inflation is starting to soften up while noting that it has already been able to pass some of the cost increases to end consumers. Despite these developments, the stock has still not recovered and continues to trade at a significant discount to 5-year average valuation multiples. With fair assumptions, the stock offers a multi-bagger upside over the medium-term. Full CBOX-L pitch on the Smart Micro Caps blog.
Here’s an investment idea for those interested in exotic micro-cap stocks - something that is usually not covered on this newsletter. David from The Mikro Kap recently highlighted SUTL Enterprise (BHU:SI), a cheap owner/operator of one of Asia’s most prestigious marinas (“Singapore’s Monte Carlo”). SUTL operates a natural monopoly given no proper alternatives for yacht owners. The company generates membership-based revenues and has strong pricing power, resulting in stable recurring cash flow streams. Despite its superb business quality, SUTL is trading at a negative EV (S$55m in liquid assets vs S$52m market cap) and only 6-10x conservatively estimated earnings as well as 0.5x P/B. Currently, the market is pricing SUTL as a regular cash-rich Asian micro-cap stock where the management is unlikely to return the cash to equity holders. However, the company has recently initiated a number of positive changes, including scaled back growth plans, opportunistic share buybacks and a significantly raised dividend (from S$0.02/share to S$0.05/share). Given the materially improved capital allocation, SUTL does not seem to deserve the current valuation discount. Full BHU-SI pitch on The Mikro Kap blog.
What is your reaction to the recent sharp downturn in EHAB shares? Any thoughts on why it was down so much given most of the news was already known from their recent earnings