HHH completes the spin-off of Seaport Entertainment; Considering the price appreciation following our pre-spin BUY recommendation and pre-market indications that the stocks will trade roughly in-line with our FVEs we initially rate both post-spin HHH & SEG at NEUTRAL

On July 31, 2024, at 11:59 pm (ET), Howard Hughes (NYSE: HHH) completed the separation of Seaport Entertainment (NYSE American: SEG), which primarily owns real estate assets centered in and around New York City’s South Street Seaport (along with a 25% stake in Jean-Georges Restaurants, air rights above the Las Vegas Fashion Mall as well as ownership of The Las Vegas Aviators, a Triple-A minor league baseball team, into a separate, publicly traded company via a tax-free spin-off.

Shareholders of record, on July 29th, received one share of SEG for every nine shares of HHH owned. (Cash will be paid in lieu of fractional shares, which, while the overall transaction was tax free could trigger a taxable gain/loss for some shareholders.)

For context, pre-spin HHH, which closed last night at $74.17 per share, appreciated roughly 15% since our pre-spin BUY recommendation (with a $78 pre-spin FVE) on July 8th.

Additionally, in “when-issued” trading, which began July 29th, SEG shares were initially priced at ~$31 per share (versus our ~$33 per share FVE), before hitting a high ~$34 per share (on trading volume of 35K shares) and closing last night at ~$31.50 (on volume of ~44K shares during the session). Shares of HHH were initially priced at ~$71 per share (compared with our $70 FVE) where they remained (on virtually no volume).

Pre-market indications suggest a relatively orderly open with the bid/ask for SEG at $32-$34 per share and post-spin HHH at $70-$72.50. As such, with shares of post-spin entities trading roughly in-line with our fair value estimates (FVE) of $33 and $70, respectively, we initially assign both a NEUTRAL rating.

More broadly, while noting that we think a fair degree of value has seemingly been pulled forward ahead of the separation, we do think the transaction better positions post-spin HHH (i.e., the parent) both from a simplification and cash flow perspective, which should make it more attractive to investors and benefit its valuation over time. To those ends, the separation of SEG positions post-spin HHH as a pure-play real estate company (i.e., MPCs, landbank and development) and removes the “cash drag” of the money losing Seaport business (i.e., it generated an ~$18 million NOI loss in 1H 2024 and ~$32.5 million when including the losses from unconsolidated joint ventures, such as The Tin Building by Jean-Georges), which should facilitate incremental capital allocation options (e.g., buybacks and/or investments in its MPCs).

As for the Seaport, low occupancy, negative cash flow, and the need to fund the 250 Water Street project will likely remain a concern for those outside of deep value real estate-focused investors.

Overall, in approaching valuation, we acknowledge the majority of value in both the parent and post spin entities is largely derived from the future value of land along with the earnings potential of its operating assets (versus HHH’s current earnings profile). As highlighted in management’s estimated NAV, the largest ascribed value is placed on future MPC land sales, some of which are forecasted to persist into 2086, which obviously requires myriad assumptions to be made (of which, all are subject to challenge but ultimately it seems objectively true, in our view, that the assets clearly have some value).

For more details, please refer to The Spin-Off Report dated July 8, 2024.

LXFR increases full year 2024E adj. EBITDA, EPS and FCF guidance, driven wholly by the recovery of some prior period legal expenses; suggests timing for Graphics Arts sale has been pulled forward into 3Q 2024; fair value remains $16.50 per share

Last night, after the market close, LXFR reported 2Q 2024 consolidated sales down 9.7% year-over-year (albeit up 11.5% sequentially) to $99.7 million with adj. EBITDA and EPS of $17.3 million and $0.39, respectively (or $13.4 million and $0.24, excluding legal/insurance recoveries of litigation costs related to the so-called U.S. Ecology case).

By segment, sales at the Gas Cylinders segment improved 2.7% to $49.8 million while adj. segment EBITDA was flat at $4.9 million. Elektron segment sales were down ~21% to $42 million with adjusted segment EBITDA $12.4 million (or $8.5 million, ex-legal recoveries). [The discontinued Graphic Arts segment posted sales of $7.9 million and generated positive EBITDA of $0.1 million, which, we note, is a marked improvement relative to the losses incurred in 2H 2023.]

Free cash flow (FCF) was $6.2 million in 2Q 2024, and the company ended the June quarter with net debt of $69.9 million, including $4.3 million of cash and debt of $74.2 million. LXFR’s net leverage ratio at quarter-end was 1.8x (or 1.6x, excluding the Graphic Arts segment), which was consistent versus the end of 2023 but improved compared with the 2.0x and 1.7x metrics posted in 1Q 2024.

In terms of guidance, solely driven by the aforementioned recovery of prior period legal costs as management remains “cautious on short-term revenue trends”, LXFR increased adj. EBITDA, EPS and FCF guidance to $47-$50 million, $0.90-$1.00 and $24-$27 million (compared with previous guidance of $44-$48 million, $0.75-$0.90 and $21-$25 million and initial guidance of $42-$46 million, $0.70-$0.85, and $20-24 million; see Exhibit #1 on page 2).

In terms of the Graphic Arts sale process, on this morning’s conference call management indicated that it is in the last stages of a competitive bid process (that included ~100 prospective buyers) and has entered exclusive discussions with a single (but unnamed) counterparty. To that end, LXFR now expects to announce a transaction in 3Q 2024 (versus its previous commentary targeting completion by year-end. (That said, management anecdotally tempered expectations on the ultimate sale price/proceeds versus initial expectations).

Our base case fair value estimate for LXFR remains $16.50 per share, reflecting values of ~$8 per share, ~$10 per share, and ~$0.50 per share for the Gas Cylinders, Elektron and Graphic Arts businesses, respectively. Accounting for projected net debt of ~$2 per share yields a base case sum-of-the-parts fair value of ~$16.50 per share (with bull and bear cases of ~$19 per share and ~$14 per share, respectively; see Exhibit #2 on page 2).

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TRS lowers full-year 2024E guidance as pronounced weakness at Specialty Products offsets growth/improvement at Packaging & Aerospace; Activist-investor, Barington Capital, renews its public push for strategic alternatives; fair value revised to $32 per share (from $34 per share)  

This morning, before the market open, TRS reported 2Q 2024 consolidated sales up ~3% to $240.5 million (compared with consensus of $236.7 million), as organic growth of 13% and ~28% at the Packaging & Aerospace segments more than offset a 45% decline at Specialty Products.  Adj. EBITDA was $36.6 million (versus $45.5 million in 2Q 2023 and consensus of ~$45 million) while adj. EPS was $0.43 (compared with $0.56 in the prior year period and consensus of $0.52). Adj. free cash flow (FCF) was roughly flat year-over-year at $11.4 million.

TRS ended 2Q 2024, with net debt of $392.5 million, including $35 million of cash & debt of ~$427.4 million, and a net leverage ratio of 2.7x (compared with 2.3x at year-end 2023 and its 4.0x covenant).

In terms of capital allocation, the company has repurchased nearly 672,000 shares, or ~1.3% of the outstanding total, in the first-six months of 2024 (at an implied purchase price of ~$25.15 per share).  For context, the company remains authorized to repurchase an additional ~$70 million of shares.

On the guidance front, considering the pronounced weakness at the Specialty Products segment, which was only modestly profitable in 2Q 2024 (on ~$30 million of sales), TRS lowered its full year 2024E adj. EPS outlook to $1.70-$1.90 (from $1.95-$2.15) on a consolidated sales growth outlook of 4%-6% (previously 5%-8%; see Exhibit 1 on page 2).

By segment, management forecasts top-line growth of 9%-10% and 18%-22% at Packaging & Aerospace, respectively (versus prior commentary of 5%-9% and 14%-18%) with adj. EBITDA margins of 21%-23% and 18%-19% (compared with prior commentary calling for margins of 21.5%-23.5% and 16%-18%).  Specialty Product segment sales are now expected to be down 25%-30% (compared with prior guidance of down 4% to up 1%) with a segment adj. EBITDA margin profile of 10%-14% (versus prior outlook of 17%-19%; see Exhibit 2 on page 2). 

Yesterday, we would highlight that Barington Capital, currently a ~1.5% holder (up from an initial 1.0% disclosed in December 2023), renewed its public calls for TriMas to either sell its Aerospace division and/or the entire company in an effort to remedy what the investor contends is TRS’s “long-term share price underperformance”.  (Recall, TRS has previously disclosed its efforts to sell its relatively small Arrow Engine business, which, if successful, will mark the company’s exit from the oil & gas sector.)

Our base case fair value estimate for TRS is revised to $32 per share (from $34 per share), reflecting a blended multiple of ~9.0x (unchanged) on 2025E adj. EBITDA of ~$173 million (previously ~$178 million), projected net debt of ~$319 million (previously $272.5 million) and a fully diluted share count of ~40.1 million (previously ~40.7 million; see Exhibit #3 on page 3).

TFII’s 2Q 2024 adj. EBITDA and EPS top consensus by ~11% and 5.5%, respectively; prior EPS, FCF and debt repayment commentary maintained; as foreshadowed, the P&C segment is being folded into the LTL segment for reporting purposes as we think the eventual spin-off of the TL business remains likely; fair value remains $167.50 per share

Last night, after the market close, TFII reported 2Q 2024 sales up ~26.5% to $2.26 billion (vs. consensus of $2.29 billion), largely driven by acquisitions (primarily Daseke). Adjusted EBITDA rose ~26.5% to ~$380 million (compared with consensus of ~$342.7 million). Adj. EPS increased 7.5% to $1.71 (vs. consensus of $1.62) and adj. free cash flow (FCF) rose ~9.5% to ~$151 million (compared with $138 million in the prior year period).

TFII ended 2Q 2024 with net debt of $2.6 billion (versus $1.6 billion in the prior quarter due to the April 1st closing of the $1.1 billion Daseke acquisition) and a net leverage ratio, by our calculation, of 2.05x (versus 1.56x at the end of 1Q 2024 and 1.49x at the end of 2023) although its funded debt-to-EBITDA ratio, as reported, was 2.15x (compared with its 3.5x covenant).

In terms of expectations, on this morning’s conference call management backed its prior commentary calling for full-year 2024 adj. EPS of $6.75-$7.00 with free cash flow (FCF) of $825-$900 million (or ~$9.65-$10.55 per share, by our calculation) based on a net capital spending budget of $275-$300 million. In terms of the balance sheet, TFII still plans to pay down $500-$600 million of debt in 2024 and targets a funded debt-to-EBITDA ratio of less than 1.7x by year-end (see Exhibit 1 on page 2).

Notably, this outlook assumes that the persistently “sluggish” freight environment endures through the year, which we think is a prudent assumption, particularly as it relates to the Truckload (TL) environment, but on the Less-than-Truckload (LTL) front we would note that recent competitor commentary suggests a “turn” could be emerging off a “bottom” in the LTL market (which is a business where TFII is anecdotally targeting a “sub-90%” segment operating ratio in 2H 2024 and sees a full-year result below that 90% threshold in 2025).

Our base case fair value estimate for TFII remains $167.50 per share, reflecting a blended multiple of ~9.5x on our 2025E adjusted EBITDA forecast of ~$1.6 billion, projected net debt of ~$1.4 billion and a fully diluted share count of ~84.4 million (see Exhibit #2 on page 2).

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Please see the attached Hidden Opportunities Update on Garrett Motion Inc. (NASDAQ: GTX).

Top-line weakness drives only modest reductions to adj. EBITDA & FCF guidance while GAAP net income, the metric we use for valuation, was actually lifted, which we think highlights the flexibility in GTX’s model; 2024E FCF guide implies a current yield of 14%-19%; leverage continues to sequentially improve and the $350 repurchase authorization is on-track to be exhausted in 2024; fair value adjusted to ~$12 per share (from $12.50 per share)

This morning, before the market open, GTX reported 2Q 2024 sales down 12% (or 10% on a constant currency basis) to $890 million as softness in gasoline, diesel & commercial vehicle sales (primarily in China & Europe) as well as commodity deflation (which hurts sales but is margin accretive) was partially offset by strength in the aftermarket. Adj. EBITDA fell ~11.7% to $150 million while adj. net income and adj. free cash flow (FCF) were $64 million and $62 million, respectively (vs. $71 million and $140 million in the prior year period).

On the capital allocation front, GTX repurchased an additional $65 million worth of shares in 2Q 2024 (or ~7.7 million shares at an average cost $9.14), which along with the buybacks in 1Q 2024 brings its year-to-date repurchase activity to $174 million (or 19.1 million shares at ~$9.11 per share, which we note represents nearly ~8% of the outstanding shares). In that context, we think GTX is well on-track to exhaust its $350 million repurchase authorization in 2024 (which, if completed, we estimate implies a year-end diluted share count of ~210 million or below, which without providing explicit guidance we note is a contention with which management does not quibble).

Additionally, GTX ended 2Q 2024 with net debt of $1.399 billion (versus $1.487 billion in 1Q 2024), yielding a sequential improvement in its leverage ratio to 2.26x (from 2.32x in 1Q 2024 and ~2.3x at the end of 2023)

On the guidance front, reflecting management’s assumption that global light & commercial vehicle production trends will remain volatile, GTX adjusted its sales guidance to $3.5-$3.65 billion (a ~7.75% reduction at the midpoint from the previous range of $3.80-$3.95 billion) with adj. EBITDA of $583-$633 million (or a ~2% midpoint reduction from the previous range of $590-$580 million although we would point out that management indicates that excluding currency and the divestment of an equity investment in 1Q 2024 its guidance would actually have been flat) and FCF $300-$400 million (versus the previous range of $325-$425 million). Nevertheless, GAAP net income guidance was increased to $245-$285 million, in part due to lower interest costs (or ~5% higher than the midpoint of the previous range of $230-$275 million; see Exhibit 1 on page 2).

Underlying assumptions include light & commercial vehicle production being down 2% (versus the prior expectation of roughly flat), a Euro/Dollar exchange rate of 1.08 to 1 (maintained), RD&E investments and capital expenditures at 4.4% (versus prior outlook of 4.5%) and 2.4% of sales (previously 2.2%), respectively (of which ~60% and 30% will be focused on zero emission technology).

On the latter electric vehicle (EV) or zero-emission vehicle (ZEV) front, GTX continues to garner pre-development projects for its E-Powertrain, E-Cooling Compressor and H2 Fuel Cell solutions/systems and it indicates it is “on target to achieve” ~$1 billion of EV/ZEV sales (at or above the company’s existing margin profile) by 2030. As well, the company is optimistic about the prospects for within its new power generation vertical following the securement of two awards for its large industrial turbo product set (where demand is largely being driven by the global expansion of data center infrastructure).

In terms of the longer-term outlook, on which we note that management has solid visibility considering ~80% of sales over the next 5-years have already been award by its OEM customers, we broadly concur with management’s contention that the core turbocharger business is likely to be bigger in 2030 than it is today and that GTX will generate free cash that equals or exceeds the company’s current market capitalization over the next five years. (As well, in terms of allocating that capital, management will continue to repurchase shares, reduce leverage and may ultimately instate a dividend.)

Our base case fair value estimate for GTX is lowered to ~$12 per share (from $12.50 per share), reflecting an 8.5x multiple on our 2025E adjusted net income forecast of $277.5 million (previously ~$305 million) and a fully diluted share count of ~201 million (previously ~210 million; see Exhibit #3 on page 3).

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HHH approves the previously announced Spin-Off of Seaport Entertainment; Distribution set for July 31^st, after the market close, to shareholders of record on July 29^th; Maintain BUY on pre-spin HHH

• Today, Howard Hughes Holdings (NYSE: HHH) formally approved the previously announced separation of Seaport Entertainment via the pro rata distribution of all shares to holders of record as of the close on July 29, 2024.
• Concurrent with the distribution, shareholders will receive one share of Seaport Entertainment (NYSE: SEG) for every nine shares of HHH owned.
• Notably, fractional shares will be aggregated and sold in the open market, with the net proceeds being distributed pro rata in cash (which, while the overall transaction is expected to be tax-free, will trigger a gain/loss for some shareholders).
• Management expects “when-issued” trading of Seaport Entertainment to begin July 29^th under the NYSE ticker of SEG WI with “regular-way” trading of the security (NYSE: SEG) expected to commence August 1, 2024.
• Shares of HHH will continue to trade “regular way” through the July 29^th distribution date (with “ex-distribution” shares trading under the NYSE ticker HHH WI).
• We continue to assign a pre-spin, sum-of-the-parts valuation of $78 per share, consisting of $70 in value from the parent company and $8 per share in value from Seaport Entertainment (see initial report dated 7/8/2024 for additional info).
• In approaching valuation, we acknowledge the majority of value in both the parent and post spin entities is largely derived from the future value of land along with the earnings potential of its operating assets (versus HHH’s current earnings profile). As highlighted in management’s estimated NAV, the largest ascribed value is placed on future MPC land sales, some of which are forecasted to persist into 2086, which obviously requires myriad assumptions to be made (of which, all are subject to challenge but ultimately it seems objectively true, in our view, that the assets clearly have some value).
• In deriving our fair value estimate, we attempted a conservative approach, leaving the potential for incremental upside, considering that the ultimate value realization for shareholders may not be attained for several years, if not decades. Moreover, given the volatility surrounding asset valuations due to economic and social forces as well as the asset-heavy approach to valuation, it is not clear if the separation of the spin-off of the Seaport assets, in of itself, will prove to be a value-creating transaction. Rather, we suggest that the parent company, ex-Seaport Entertainment, appears better positioned to capitalize on its value creation cycle and should at least appear more attractive to investors. As for the Seaport, low occupancy, negative cash flow, and the need to fund the 250 Water Street project will likely remain a concern for those outside of deep value real estate-focused investors.

Drop Coverage of GE Aerospace (GE) and GE Vernova (GEV) Effective Immediately

On April 2, 2024, before the market open, GE Aerospace (NYSE: GE) completed the spin-off of its renewable energy and power businesses into a stand-alone, publicly traded company named GE Vernova (NYSE: GEV).

Given the transaction has now passed our 90-day post-spin coverage mandate, we DROP coverage of GE Aerospace (GE) and GE Vernova (GEV), effective as of today’s close. Our prior estimates and fair values for GE and GEV should no longer be relied upon.

Drop Coverage of 3M Co. (MMM) and Solventum (SOLV) Effective Immediately

• On April 1, 2024, before the market open, 3M Co. (NYSE: MMM) completed the spin-off of its healthcare business into a stand-alone publicly traded company named Solventum Corp. (NYSE: SOLV).
• Given the transaction has now passed our 90-day post-spin coverage mandate, we DROP coverage of 3M Co. (MMM) and Solventum (SOLV) effective immediately.
• Our prior estimates and fair values for MMM and SOLV should no longer be relied on.

On July 2, 2024, after the market close, Spectrum Brands Holdings Inc. (NYSE: SPB) announced that the company had filed a Form 10 registration statement with the SEC in connection with its previously discussed plans to separate, either through a sale, merger, spin-off, or other strategic transaction, of its home & personal care (“HPC”) business. In recent months the company has indicated that the company was accelerating its efforts to complete the separation of HPC.

SPB is describes itself as a “diversified global branded consumer products and home essentials company.” In F2023 (September FYE) the company generated $2.9 billion in revenue, representing an 8.1% organic year-over-year decline, and adjusted EBITDA of $303 million, a $20 million increase on pricing and cost reductions offsetting volume declines. Through 1H F2024 company revenue declined by 2.2%, largely as a result of a 5% decline at HPC. The company reports results under three segments: Global Pet Care (“GPC”), Home and Garden (“H&G”), and HPC.

GPC (39% of revenue and 62% of adjusted EBITDA) consists of two businesses: Companion Animal, which sells dog and cat chews, treats and food, as well as grooming and clean up products, amongst others, and Aquatics, which is focused on commercial and aquarium kits. Companion Animal sales represent 76% of the GPC segment’s revenue. H&G (18% of revenue and 24% of adjusted EBITDA) is focused on household (pest control), controls (outdoor insect and weed solutions), repellents (personal bug spray, lotions and wipes), and cleaning (household surface cleaning, maintenance, and restoration products). HPC’s (43% of revenue and 14% of adjusted EBITDA) products include small kitchen appliances (toasters, slow cookers, air fryers, etc.), and personal care products (hair dryers, straighteners, electric shavers, and nose and ear trimmers, amongst others).

In terms of rationale, the separation of the HPC business has largely been telegraphed since the company acquired Tristar in February of 2022. The incorporation of Tristar Products, which was a manufacturer of home appliances and cookware products, was meant to provide scale and financial synergies to the HPC business and ready it to standalone. Since the acquisition, HPC has been plagued by issues including integration issues, distribution challenges, increased levels of retail inventory resulting in reduced product demand, and product recalls, amongst others. The combination of noted issues has resulted in the HPC segment, on an adjusted EBITDA basis, declining from high single digits to low single digit from F2020 through F2023, while segment revenue declined by 9.3% in F2023. By contrast, while the remainder of the SPB businesses have endured challenges, including global supply chains, profitability has fared better with adjusted EBITDA margins remaining in the mid- to -upper teens.

Notably, in terms of HPC, through 1H F2024, despite sales decreasing 5% versus 1H F2023, adjusted EBITDA margins increased by 550 basis points versus the prior year period to 7.3%. (HPC adjusted EBITDA margins totaled 8.3%, 8.1%, 5.0%, and 3.5% in F2020 – F2023, respectively.) The year-over-year improvement in profitability has been attributed to improved gross margins as the company lowered inventory costs, exited lower margin SKUs, and benefits from cost improvement initiatives.

Shares of SPB currently trade at approximately 8.6x forward EBITDA estimates, which is roughly inline with HPC peers including Newell Brands, Whirlpool Corp., and Helen of Troy. While public comps for the remaining segments are mostly private, we use PETIQ and Scotts Miracle-Gro Co. as initial proxies for potential trading multiples, which trade at 9.3x and 11.6x respective forward EBITDA estimates.

As a basis for earnings, it appears reasonable to forecast that HPC sales continue to experience modest declines of 5% in F2024 (inline with 1H F2024) and 3% in F2025, resulting in F2025 revenue of ~$1.2 billion. We model a 6% EBITDA margin for the standalone company, resulting in $68.7 million in EBITDA, and value the segment at 8.5x implying a $584 million enterprise value. For the parent company, we forecast revenue to decline by 0.4% in F2024 and increase by 1.0% in F2025. Based on EBITDA margin of 16% and valuing the segments at 10x, we estimate the parent company to be valued at $2.7 billion on and enterprise basis. Accounting for $40 million in corporate costs, capitalized at the weighted average multiple, current net debt of $138 million, and 29.2 million shares outstanding, on a preliminary sum-of-the-parts basis we fairly value shares of Spectrum Brands at $94 per share.

Close coverage of APG, as of today’s close, with shares trading roughly in-line with our fair value estimate  

For context, since our initial recommendation in March 2023 APG shares have appreciated ~84.9% (versus a ~38.8% increase in the S&P 500 Index and a ~16.8% rise in the Russell 2000). 

That said, with shares trading roughly in-line with our $40 fair value estimate, which reflected a blended multiple of ~12.5x on F2025E adjusted EBITDA of ~$1.01 billion along with projected net debt of ~$1.4 billion and a diluted share count of ~281.5 million (see Exhibit 2 on page 2), we prefer to maintain a disciplined approach and focus our resources on more currently compelling situations; as such, we will close coverage of APG, as of today’s close.

As always, we will continue to monitor the shares for an opportunity to re-recommend if valuation shifts or more tangible steps toward potential strategic alternatives materialize. 

PCS Research Group welcomes and encourages your feedback. Please feel free to call us if we can be of service.