The Williams Companies (NYSE: WMB) announced its board of directors approved the spin-off of its exploration and production assets, WPX Energy Inc., which will trade on the NYSE under the ticker ‘WPX’ following the separation. WMB has received a private letter ruling from the IRS confirming that the distribution of shares qualifies for tax-free status for federal tax purposes. The SEC still must declare effective the spin-off companies’ Registration Statement to conclude the regulatory review. Shares of WPX will be distributed on December 31, 2011 to WMB shareholders, with regular way trading expected to commence on January 3, 2012. WMB holders will receive one share of WPX for every three shares of WMB held at the close of business on December 14, 2011. The ‘when issued’ market for WPX stock is expected to begin on or around December 12.

As noted in our initial Williams Spin-Off Report (November 17, 2011), the fair value calculation would be adjusted based on the finalized distribution ratio, capital structure, dividend policy and changes in company/industry fundamentals. The adjustments to the initial calculations are shown in the attachment. Capital structure remained largely unchanged from the unamended Form 10. WPX’s net debt will stand at about $950 million following a $979 million distribution to WMB funded by the debt offering. The original fair value calculation was based on a 1:1 distribution.

The revised fair value calculation is rounded to $35 per share from the previous $11 largely based on the distribution ratio. A further evaluation of fair value could take place prior to regular-way trading if and when new or updated information becomes available. Please see the November 17, 2011 Spin-Off Report on Williams for the methodology behind the initial calculation.

The fair value range of WMB post-separation remains unchanged at $22-$26 per share. Upside to WMB post spin could result from increased demand for capacity on certain WMB pipelines and from possible rate case victories, as well as expansion and construction of new pipe, leading to dividend growth. Williams will also likely have greater capacity to pay down debt and buy back shares, as the parent no longer must fund asset acquisitions and development costs of the E&P. Possible upside to the spin-off entity’s fair value estimate could come from rising commodity prices as well as increasing oil production from the Bakken Shale.

On November 29, 2011, AMR Corporation (NYSE: AMR) announced it had voluntarily filed for Chapter 11 bankruptcy protection to reorganize its cost and debt structures in an attempt to improve competitiveness. The company also announced that CEO Gerald Arpey will be succeeded by Thomas Horton.

As detailed in the initial AMR Corporation Spin-Off Report, dated November 7, 2011, the inability of management to reach an agreement with the unions, combined with the company’s significant debt and pension obligations, presented significant risks to solvency. The failure to reach a new accord with labor likely led to the reorganization filing. Industry dynamics have shifted in recent years as competitors have emerged from bankruptcy with improved cost structures, while low-cost carriers have expanded and mergers have created economies of scale. AMR’s previous lack of reorganization placed it at a competitive disadvantage versus peers.

In AMR’s most recent quarterly results, the company reported a net loss of $162 million. The airline planned to reduce fourth quarter capacity 3% to improve the cost structure. AMR had net debt of $12.6 billion which does not include its underfunded pension plan. As of December 30, 2010, AMR’s pension plan was underfunded by $5.2 billion. The bankruptcy filing likely positions AMR to restructure its debt and pension obligations, while lowering its labor costs as unions are forced to give concessions in bankruptcy. If AMR Corp. is able to successfully emerge from bankruptcy, it may position the company to more effectively compete for business. Given the filing, the spin-off transaction of American Eagle Holding Corp. appears to be on hold until further notice.

On November 17, 2011, MeadWestvaco Corporation (NYSE: NYSE) announced plans to separate its office products segment and immediately merge it with office supplies manufacturer ACCO Brands (NYSE: ABD). MWV shareholders will receive approximately one share of ACCO Brands for every three shares of MWV held as of the record date, while MWV will receive $460 million in cash. Following the transaction MWV shareholders are expected to own approximately 50.5% of ABD. MWV’s office products segment includes the Mead, FiveStar, and Trapper Keeper brands. ABD expects the transaction to be immediately accretive and generate $20 million in annual cost synergies by 2014. After the separation, MWV will focus on its core paper and packaging businesses. The transactions are expected to be completed in 1H 2012. The deal still requires ABD shareholder approval while the separation is contingent on an affirmative IRS ruling. ABD management will run the merged company. MWV intends to maintain its current quarterly dividend of $0.25 per share.

ACCO Brands was created through another spin and merge transaction. In 2005 as distribution channels narrowed and margins compressed, Fortune Brands (FO) management merged its office products segment ACCO World with General Binding Corp., and spun the new entity off into ACCO Brands. Fortune Brands received a $612 million dividend, while FO (now BEAM) shareholders received shares of the new company.

With sales to similar end markets, the merger was seen as generating synergies. The merger integrated ACCO’s Swingline staplers, Rexel’s hole punchers, and Day-Time personal organizers with General Binding’s lamination and shredding equipment. Given stronger market share and shelf-space in office supply stores, the merged company was likely better positioned to maintain margins.

Nevertheless, ongoing consolidation in distribution channels as well as the weakening economic environment eroded substantial benefits from the merger. ABD underwent a 36-month restructuring and repositioning campaign to exit lower-margin businesses, close redundant facilities, and focus on leading-edge and top-selling product lines. SG&A increased, largely because of higher restructuring costs (see exhibit in attachment). Operating margins were challenged due to pricing pressure, a weakening economy, competition, and distribution channel shrinkage. Operating margin was cut by more than half from the year pre-spin (2004) to the year post-spin (2006).

While ABD has begun to recover over the last 18 months, in the years following the separation it has significantly underperformed the Russell 2000 as well as Avery Dennison Corporation (NYSE: AVY), which is being used as a proxy for the office supply segment (see exhibit in attachment). In the post-separation period, ABD has declined about 67%, compared to a 54% drop for AVY and 7% growth for the Russell 2000.

The merged entity would have generated about $2.08 billion in sales in 2010. When compared to the larger AVY, which appears to have the ability to generate higher net margins due to its size and scale, ABD currently trades at a lower P/S (see exhibit in attachment). If the new ABD can generate synergies and improve margins based on its larger size, one may consider a P/S multiple more in line with AVY. Applying a 0.43x multiple to the merged entity’s 2010 sales of $2.08 billion would generate a market capitalization of $895 million. Based on a projected 112 million share count for the merged entity, a fair value estimate of approximately $8 per share can be reached. Upside could be found through increased synergies or faster sales growth in non-domestic markets.

Shares of Marriott Vacations Worldwide Corporation (NYSE: VAC) began trading on the ‘when issued’ market on November 8, 2011, closing at a price of $17.99 (following the 1:10 reverse split). Based on near- and long-term fundamentals, one might consider purchasing shares at around this price when ‘regular way’ trading begins on November 22. VAC management hosted an analyst day on October 28, 2011, providing a more detailed account of current company opportunities and potential prospects.

Based on that presentation, one might reach a near-term fair value estimate of about $26 per share, while still considering a longer-term projection of $44 per share (Please see the Marriott International Spin-Off Report, dated August 19, 2011, and FLASH, dated October 26, 2011, for the valuation methodology.) One might recall Marriott International (NYSE: MAR) was recommended for purchase on August 19, 2011, as the timeshare segment seemed to be causing a drag on the valuation. At that point, it appeared investors would receive the VAC shares for free. At the time, MAR was priced at $26.79. Since then, the stock has risen 18%, compared to a less than 14% rise for the S&P 500. MAR in the ‘when issued’ market (reflecting the stock price without the VAC piece) closed yesterday at $29.87.

A near-term fair value estimate can be reached by applying a comparable time-share valuation multiple to a 2012 adjusted EBITDA estimate assuming flat annual timeshare sales next year. Based on modestly higher management fee revenue and slightly lower pro forma G&A costs, adjusted EBITDA would rise to $116 million in 2012 (from $95-$105 million in 2011). For a valuation multiple, one has a limited pool to consider. One may base a valuation in part on the May 2011 acquisition by Cerberus Capital Management of timeshare operator Silverleaf Resorts Inc. for $2.50 per share cash, which equated to around 9x trailing twelve-month EBITDA.

The other remaining pure-play timeshare operator, Bluegreen Corporation (NYSE: BXG), is trading at about 8x annualized 1H 2011 EBITDA. As noted in the initial Spin-Off Report, these valuation multiples fail to reflect the size, breadth, and global reach of VAC’s operations, as well as brand equity and the affluence/credit quality of the potential customer base. Nevertheless, for the purposes of this exercise, one may apply an average of an 8.5x multiple to a projected adjusted EBITDA based on flat 2012 timeshare sales of $116 million (See exhibit in attachment).

The net debt figure of $43 million is based on $40 million in preferred shares, and $3 million in corporate debt not associated with securitized financing of vacation ownership interests. For the fair value estimate, securitized debt is excluded. Most of VAC’s debt is tied to the financing of its vacation ownership sales. Periodically, VAC securitizes interest on these loans, which appear as non-recourse securitized notes receivable on the balance sheet. As this debt is secured by the notes receivables, one may consider excluding it from the enterprise value calculation. In addition, as the debt collector, VAC can also resell the vacation ownership interests following foreclosure. One may consider the risk of increased foreclosures to its ability to securitize future debt, but might expect it is already weighed in the comparables multiple, considering the timeshare stocks trade at a significant discount to hotel franchise operators, such as MAR. If one chose to estimate a 10% default risk, it could be included at about $90 million (around 10% of securitized debt) to the enterprise value. This would still result in a fair value estimate of almost $24 per share. Based on this reasonable valuation exercise, the stock would be recommended for purchase around $24 per share. The primary risk to this valuation is the potential that timeshare sales actually decline in 2012 from already-trough levels in 2011.

Perhaps more importantly, the opportunity for long-term investors appears significant if one assumes the timeshare market can even approach previous peak levels. Based on the lower cost structure VAC put in place during the downturn and the vast unsold inventory already in place, EBITDA improvement would appear significant as sales improve. One might note, the lower $26 per share near-term valuation reflects lower financing revenue as VAC detailed during the analyst day the fact that financing revenue would likely be lower as it provides financing to less than 50% of buyers at least in the next couple years. (Affluent customers may purchase vacation ownership interests outright. In addition, rental revenue may not completely offset maintenance fees attached to unsold inventory in the near-term.) One might expect both these data points to turn positive longer-term as unsold inventory declines and VAC offers increased financing to new customers. As a result, for longer-term investors, a $44 fair value estimate in three-to-five years still appears relevant assuming a timeshare recovery.

Marriott International Inc. (NYSE: MAR) announced its board of directors approved the spin-off of its timeshare business, Marriott Vacations Worldwide Corporation, which is expected to trade on the NYSE under the ticker ‘VAC’ following the separation. MAR has received a private letter ruling from the IRS confirming that the distribution of shares qualifies for tax-free status for US federal tax purposes. The SEC still must declare effective the spin-off companies’ Registration Statement to conclude the regulatory review and the NYSE must formally accept the listing. Shares of VAC will be distributed after the bell on November 21, 2011 to MAR shareholders, with regular way trading expected to commence on November 22, 2011. MAR holders will receive one share of VAC for every ten shares of MAR held at the close of business on November 10, 2011. The “when issued” market for VAC stock is expected to begin on or around November 8.

As noted in our initial Marriott International Spin-Off Report (August 19, 2011), the fair value calculation would be adjusted based on the finalized distribution ratio, capital structure, dividend policy and changes in company/industry fundamentals. The adjustments to the initial calculations are shown on the next page. Capital structure remained largely unchanged from the unamended Form 10. VAC’s net debt will stand at about $97 million (non-securitized debt minus cash). For the fair value estimate, securitized debt is excluded. Most of VAC’s debt is tied to the financing of its vacation ownership sales. Periodically, VAC securitizes interest on these loans, which appear as non-recourse securitized notes receivable on the balance sheet, passing along VAC’s exposure to defaults. As this debt is secured by the notes receivables, one may consider excluding it from the enterprise value calculation. In addition, as the debt collector, VAC can also resell the vacation ownership interests following foreclosure.

The primary change to the calculation is based on the 1:10 distribution, previously the fair value estimate was based on a 1:1 distribution. As a result, the revised estimate is $44.83 (see exhibit in attachment). The timeshare business remains in a trough. One could see eventual upside to a $76.83 per share fair value if the market returns to pre-recessionary conditions.

The parent fair value estimate post-separation remains unchanged at $31 per share (see Marriott International Spin-Off Report, dated August 19, 2011, for the initial calculation). Vacations Worldwide management will webcast a business strategy presentation on October 28, 2011.

On October 19, 2011, Abbott Laboratories (NYSE: ABT) announced its plan to separate into two separate publicly-traded companies. The spin company will control ABT’s current portfolio of proprietary pharmaceutical and biologics and will be named later. The parent, a diversified medical products company, will maintain the Abbott name. Miles White, the current chairman and CEO, will remain in his roles at the parent company following the transaction, while Richard Gonzalez will transition from his role as current vice president of Global Pharmaceuticals to chairman and CEO of the research-based pharmaceutical company. The spin-off will be conducted via a tax-free distribution to shareholders, which is expected to be completed in 2012. Capital and liability allocations are yet to be finalized. The spin-off will require SEC approval and an affirmative IRS ruling. It is expected that both entities will initially pay a dividend which in sum will be equal to ABT’s current $1.92 per share annual payment.

The research-based pharmaceutical company, which is expected to generate 2011 revenue of $18 billion, has a portfolio of leading medicines across a wide array of diseases and over 20 drugs in either phase two or three development in its pipeline. Research-based companies are historically capital intensive, a separation will allow the spun-off entity to fund its research through its current portfolio of products, while sales will be mostly focused on developed markets. In 2010, ABT’s pharmaceutical segment generated revenue of $19.9 billion and EBITDA of $7.4 billion, representing a 37% margin. ABT appear to trade at a modest premium on a price/sales and price earnings basis to other pharmaceutical companies Forest Laboratories (NYSE: FRX) and Gilead Sciences (NASDAQ: GILD).
 
The parent company is expected to generate revenue of $22 billion in 2011 from its established pharmaceuticals (branded generics outside of the U.S), nutritional products, and medical devices. Following the separation, ABT will be more focused internationally, with approximately 40% of sales coming from emerging markets. ABT’s focus on selling existing products to new markets is expected to produce double-digit EPS growth rates, while a pipeline of new products and technologies could further expand margins. If investors were to compare the post-spin ABT to Mylan Inc. (NYSE: MYL) and Teva Pharmaceutical (NASDAQ: TEVA) it would again appear that ABT trades at a premium to this peer group.

Despite the above peer comparisons, recent spin-offs in the pharmaceuticals sector have been applauded by investors. Mead Johnson (NYSE: MJN), an infant nutrition producer, was carved out from Bristol-Myers Squibb Company (NYSE: BMY) in a two-stage transaction in 2009. Mead Johnson trades at 25x forward earnings, BMY trades at 16x forward earnings, well above many peers. Since BMY completed the spin-off in December 2009, the stock is up 26% compared to a rise of 11% for the S&P 500. Over the same period ABT is flat.

On October 18, 2011, The Williams Companies (NYSE: WMB) announced a revision to its plan to separate into two separate publicly traded companies. Previously WMB intended to carve out as much as a 20% interest in its exploration and production assets through an initial public offering in 2011 followed by a tax-free spin-off of the remaining shares to WMB shareholders in early 2012. But given the ongoing instability of equity markets, the company now intends a full spin-off of its E&P assets, to be called WPX Energy Inc., to shareholders by the end of 2011. The stock is expected to trade on the NYSE under the ticker symbol ‘WPX’ following the separation. The spin-off will require SEC approval and an affirmative IRS ruling. The separation will allow management to focus on meeting growing demand in its separate businesses. WPX can base spending priorities on developing and producing oil or natural gas assets, while Williams can meet changing needs for US commodity processing and transportation as domestic gas production reaches record levels.

The E&P assets include proved reserves in the Piceance, and Powder River Basin as well as undeveloped acreage in the Marcellus Shale and the oily Bakken Shale in North Dakota. WPX also has Argentine hydrocarbon production through its 69% interest in Apco Oil and Gas Int’l. (NASDAQ: APAGF). Following the spin-off, WMB will hold a 75% interest, including the 2% general partner (GP) interest, in Williams Partners LP (NYSE: WPZ), an MLP with assets in the Rocky Mountains and on and offshore Gulf of Mexico. Assets include gas gathering, processing, and treating facilities, as well as pipelines.

The revised plan comes days after Kinder Morgan Inc. (NYSE: KMI) announced an agreement to acquire pipeline operator El Paso Corporation (NYSE: EP) in a $38 billion cash and stock deal, including the assumption of debt. El Paso was in the process of spinning off its E&P assets by the end of 2011. KMI management said the company plans on selling those assets following the takeover.

One might consider applying the current EV/2011 EBITDA multiple for El Paso following the KMI announcement as a reasonable takeover multiple if WMB becomes an acquisition target. Applying a 10.6x multiple to the 2011 consensus EBITDA of $3.6 billion for Williams results in an enterprise value of about $38 billion and a price per share of about $50. But investors may consider the differences between EP and WMB before using this as a valuation methodology. Notably EP had more liquids-based assets than WMB, which may have accorded it a higher takeout premium, and EP had the ability to drop down a large number of assets into the MLP to raise funds for future growth projects, whereas substantially all of WMB’s assets that could be in its MLP are already there. In addition most of EP’s assets are interstate pipelines with minimal commodity pricing risk due to the FERC-set tolling arrangements. WMB generates cash through interstate pipelines, gathering lines as well as natural gas processing plants, which generate revenue through spreads between NGLs and natural gas. Changes in those spreads can impact operating results.

One may also attempt to value WPX by comparing its assets to a peer group on a proved reserve, daily production and PV-10 basis (see exhibit in attachment). The drawback of valuing the spin-off on proved reserves and daily production is those data points will not account for variances in cost of production and transportation for different companies developing assets in non-similar basins. The pitfall of utilizing a standardized measure of future discounted net cash flows is it will not account for changes in assets over the previous ten months as the data point is only recorded at year-end.

Nevertheless combining these three methodologies and comparing to four other leading US-based E&Ps, one can reach a fair value estimate for WPX Energy of around $14 per share if one assumes the spin-off carries about $960 million in net debt as laid out in the previous IPO filing. The valuation would approach $23 per share if one considered the takeover multiple to proved reserves applied to the purchase of Petrohawk Energy by BHP Billiton Ltd. (NYSE: BHP) earlier this year. Petrohawk had high-quality liquids-based assets in South Texas’ Eagle Ford Shale as well as gas assets in the prolific Haynesville Shale. As a result, the overlap to EP’s assets was far closer than it is for WMB.

NTELOS Holdings Corp. (NASDAQ: NTLS) announced its board of directors approved the spin-off of its wireline business to be renamed Lumos Networks Corp., which will trade on the NASDAQ under the ticker ‘LMOS’ following the separation. Previously the spin-off entity was referred to as NTELOS Wireline One. NTLS has received a legal opinion from outside tax counsel that the distribution of shares qualifies for tax-free status for US federal tax purposes. The SEC still must declare effective the spin-off companies’ Registration Statements to conclude the regulatory review. Shares of LMOS will be distributed after the bell on October 31, 2011 to NTLS shareholders, with regular way trading expected to commence on November 1, 2011. NTLS holders will receive one share of LMOS for every one share of NTLS held at the close of business on October 24, 2011. NTLS will effect a reverse stock split immediately prior to the separation. The ‘when issued’ market for LMOS stock is expected to begin on or around October 24.

As noted in our initial NTELOS Holdings Spin-Off Report (July 21, 2011), the fair value calculation would be adjusted based on the finalized distribution ratio, capital structure, dividend policy and changes in company/industry fundamentals. The adjustments to the initial calculations are shown in the attachment. Capital structure remained largely unchanged from the unamended Form 10. LMOS’ net debt will stand at about $312 million (compared to $333 million in the initial Spin-Off Report). The NTLS board set the dividend for LMOS after the separation and reverse split at $0.14 per quarter ($0.56), well below what was modeled in the initial Spin-Off Report. Based on EBITDA generation, one could assume LMOS can safely raise the dividend in coming quarters or years, barring significant acquisitions and re-investment in the business.
 
As a result, the comparables’ dividend model sets an investor target yield at 6% (compared to 8% for current comparables), which would generate a post-spin fair value estimate for LMOS of $9.33 per share. The comparables’ access lime model generates a fair value estimate of $17.89. The average of the two methodologies is $14 per share ($7 prior to reverse split), compared to the valuation in the initial report of $18 per share ($9 pre-split).

Shares of Genie Energy (NYSE: GNE) will be distributed after the bell on October 28, 2011 to IDT Corporation (NYSE: IDT) shareholders, with regular way trading expected to commence on October 31, 2011. IDT holders will receive one share of GNE for every one share of IDT held at the close of business on October 21, 2011. The SEC still must declare effective the spin-off companies’ Registration Statements to conclude the regulatory review. GNE has already received a Private Letter Ruling from the IRS in reference to the tax-free status of the distribution.

Genie Energy will comprise the company’s energy services company, which resells electricity and natural gas to residential and small business customers primarily in New York, Pennsylvania, and New Jersey, as well as interests in shale oil initiatives in the state of Colorado and in Israel. Following the spin-off, IDT will continue to provide telecommunications services, including prepaid and rechargeable calling cards, and voice over Internet protocol (VoIP), as well as consumer local and long distance offerings and wholesale international traffic carriage. As a stand-alone, Genie Energy will seek to develop its shale oil initiatives, including an Israeli license to explore a shale oil play that covers approximately 238 square kilometers, estimated to hold approximately 40 billion barrels of oil equivalent. Pilot test operations to provide a basis for determining the economic viability of the shale could begin as early as calendar year 2012.

The fair value estimate for GNE was published in the IDT Corporation Spin-Off Report (September 26, 2011). A fair value estimate of $13 per share can be reached, considering recent takeover multiples in the retail energy space. (Minor adjustments to normalized EBITDA and share count, based on F2011 results, which are shown on in the attachment, had no impact on the fair value estimate.

Using this estimate, the shale development projects offer pure upside. The purchase may be best suited for high-risk, high-reward investors, as the stock could be extremely volatile post spin, as one might expect great fluctuation in quarterly results even excluding the impact of seasonality on retail energy sales. Spreads for the ESCO may vary widely as Genie enters new states and faces competition in legacy markets.

Commercialization of the shale projects remains several years away, but certain milestones could provide catalysts for the stock, such as gaining an industry partner in Israel or successful completion of pilot or demonstration phases. Risks to the shale projects include substantial political roadblocks in Israel, the ability to develop necessary technology to produce oil at a reasonable return, environmental concerns in Colorado, as well as finding industry partners to develop projects and incentivizing those investors at a reasonable rate.

Shares of Exelis Inc. (NYSE: XLS), to be known as ITT Exelis, and Xylem Inc. (NYSE: XYL) will be distributed after the bell on October 31, 2011 to ITT Corporation (NYSE: ITT) shareholders, with regular way trading expected to commence on November 1, 2011. ITT holders will receive one share of XLS and XYL for every one share of ITT held at the close of business October 17, 2011. Trading on the ‘when issued’ market is expected to begin on or about October 13, 2011. In addition to the separation, the ITT Board of Directors also approved a reverse stock split of the parent company on the distribution date. ITT Exelis includes ITT’s defense business, while Xylem encompasses ITT’s water technology operations. The remaining businesses, which stay with the parent, include products and services for industrial, transportation and energy markets.

The SEC still must declare effective the spin-off companies’ Registration Statements to conclude the regulatory review. As noted in our initial ITT Corporation Spin-Off Report (March 10, 2011), the fair value calculation would be adjusted based on the finalized distribution ratio, capital structure and changes in company/industry fundamentals. Given expectations for slower defense spending, the peer group’s EV/ EBITDA multiple has contracted significantly. The multiple contraction accounts for about 65% of our reduced fair value estimate. Based on the revisions, one might expect ITT to initially trade around $19 per share post-separation (including effect of reverse split), XLS to trade around $23 per share and XYL at about $26 per share.