Fiat Chrysler Automobiles (FCAU US, “FCA”) is a global automotive manufacturer and 90% owner of the Ferrari brand-with the remaining 10% held by Piero Ferrari, son of the brand’s founder. On October 29, 2014, FCA announced its intention to demerge its interest in Ferrari into a new company. It opted to proceed with an initial public offering of Ferrari, selling 10% of the company-11.1% of its shareholding-followed by a distribution in-specie of the remaining shares to its existing stockholders. FCA filed the Form F-1 with the SEC on July 23, 2015. The IPO was priced on October 20, 2015, at USD 52 per share, with shares of Ferrari NV (RACE US) commencing trading the following day. FCA has also scheduled an Extraordinary Shareholders’ Meeting on December 3, 2015, to approve the distribution of the company’s remaining interest to its shareholders, at a ratio of one Ferrari share for every 10 FCA shares owned. The final part of the carve-out is expected to be completed by 2016.

The separation of Ferrari into a distinct entity has a dual purpose for FCA. Firstly, it is expected to lead to increased shareholder value; Ferrari’s business is characterized by stable sales and very high profit margins, thus deserving a premium valuation multiple. Consequently, the market price of the luxury automaker is higher than its implied valuation as part of the Fiat Chrysler group. Secondly, the spin entity’s disparate business model will allow it to be better managed as a standalone entity rather than as part of a traditional auto manufacturer. Prior to the distribution of Ferrari shares, FCA chose to sell 11% of its interest in the company. The initial public offering will bring USD 982 million to the parent company’s coffers. In 2014, FCA laid out an ambitious expansion plan that required EUR 48 billion in capital expenditures over five years. The Italian company’s combination of a Ferrari share distribution with the disposal of 11% of its holdings can be explained by its need to raise additional funds that will allow it to execute its business plan while at the same time deleveraging its balance sheet.

As a separate company, Ferrari will be a pure-play luxury performance car manufacturer. Besides the sale of cars and related products, the company also derives revenue from other activities such as the sale of engines to Maserati, licensing and royalty fees from theme parks and Ferrari-branded retail stores and from Formula 1 sponsorships and TV rights. As an ultra-luxury brand, Ferrari’s business model differs from that of most traditional auto manufacturers such as its former parent. Profit margins are very high-with gross margin above 45%-while car sales are artificially constrained by the company, thus eliminating any cyclicality resulting from demand dipping below supply. That being said, the company has two disadvantages. The first is a “by-product” of its business model. In order maintain its perception as a luxury label, Ferrari has to ration the sale of its vehicles. Consequently, car sales growth will be limited in the future, as any rapid increase in supply risks damaging the brand and its premium pricing strategy. Additionally, as a result of the carve-out, the company will pay a demerger consideration of EUR 2.8 billion to FCA, resulting in negative shareholders’ equity and pro forma net debt-to-EBITDA of 2.9x. Evidently, Ferrari deserves to be valued at a premium to most automakers. Based on enterprise value-to-EBITDA and price-to-free cash flow multiples, shares of the company are worth between USD 31.4 and USD 46.7, while a discounted cash flow valuation with a weighted average cost of capital of 8.4% results in a USD 28.9 price per share.

Following the complete separation from Ferrari, Fiat Chrysler Automobiles will remain one of the ten largest automotive groups in the world, based on sales, with a diverse portfolio of brands including Fiat, Chrysler, Jeep and Maserati, among others. The company’s turnaround efforts since 2009 and its ambitious five year business plan have strained its balance sheet. The proceeds from the IPO, along with the full separation from Ferrari, are expected to reduce net debt by approximately EUR 3.3 billion and increase shareholders’ equity by EUR 1.1 billion. With its balance sheet significantly strengthened, the company should focus on another weak point, that of low profitability. FCA’s profit margins are among the lowest in the industry, and its interest coverage ratio stands at a mere 1.9x. Perhaps, however, its biggest challenge is its ambitious five-year business plan. It requires significant investment and relies on lofty sales growth assumptions. With global vehicle sales at a record and well past the 2007 peak level, a downturn in this very cyclical industry would find FCA wrong-footed and its shareholders at risk of permanent capital impairment. Based on peer enterprise value-to-EBITDA multiples, post carve-out FCA could be valued between USD 27.2 and USD 28.1 per share. As an absolute downside valuation, one may consider the corporation’s pro forma book value that is estimated to be USD 11.5 per share.

The value of FCA shares is currently estimated between USD 14.4 and USD 32.8, with a target price of USD 30.3. While FCA is not a remarkable or high quality automaker, based on the company’s current share price of USD 14.9, Fiat Chrysler Automobiles stock is recommended for purchase prior to the distribution of the Ferrari shares. The significant margin of safety, quantified as a potential downside of approximately 3%, combined with exceptional upside, more than compensates for the acquisition of what can be described as a mediocre corporation. Furthermore, based on our fair value estimates, shares of Ferrari, currently trading at USD 53.1, appear grossly overvalued. Revisiting our sum-of-the-parts analysis, and replacing our Ferrari valuation with the company’s market capitalization, our pre carve-out FCA valuation range is revised to USD 16.8 to USD 33.4, and the target price to USD 32.5. In that scenario, even if FCA is valued at book value following the distribution in-specie, shareholders could make a 13% profit by locking in the valuation of Ferrari. Consequently, as an optimal strategy it is recommended that investors acquire FCA shares while hedging their exposure to Ferrari by selling short one of the latter company’s shares for every 10 FCA shares purchased.

On June 23, 2015, Darden Restaurants, Inc. (NYSE: DRI) announced that its Board of Directors had formally approved a strategic plan to separate a portion of the company’s real estate assets. The separation is to be achieved by a combination of selected sale-leaseback transactions and the spin-off of a portion of its remaining real estate assets to a new real estate investment trust (“”REIT””), to be named Four Corners Property Trust, Inc. (“”FCPT””).

Darden will transfer approximately 430 of its owned restaurant properties to the REIT entity, with substantially all of the REIT’s initial assets being leased back to Darden. The leased properties are expected to have attractive rent coverage ratios, fixed rent escalations, and multiple renewal options at Darden’s discretion. In addition, the company has been marketing selected properties for individual sale-leasebacks. To date, 75 properties have been listed, and over 30 of these have been sold or are under contract. Management expects an average cash capitalization rate of approximately 5.5% for all 75 properties. In addition, Darden is seeking to sell and lease back its Orlando Restaurant Support Center property and buildings under a long-term contract, with multiple renewal options at the company’s discretion. After receiving proceeds from the completion of the strategic real estate plan, the company expects to retire approximately $1 billion of its debt over time. The transaction is subject to several conditions, including satisfaction of various tax conditions, negotiation and execution of leases between the REIT and Darden, debt financing transactions, and completion of SEC filings related to the REIT transaction.

Darden expects to distribute all of the FCPT shares on November 9, 2015, pro rata to its shareholders of record as of 5 p.m. EST on November 2, 2015. Upon the close of the transaction, DRI shareholders will receive one FCPT share for every three Darden shares held. Following the spin-off, Darden will continue to be listed on the NYSE under the symbol “”DRI””, while FCPT has applied to list its common stock on the NYSE under the symbol “”FCPT””. Darden intends to use proceeds from the sale-leaseback of selected real estate properties, debt financing from FCPT, and Darden’s balance sheet cash to retire approximately $1 billion in debt.

With Darden in the midst of a significant operational turnaround, the potential unlocking of value from the monetization of the company’s real estate portfolio has been contemplated for some time. Activist investor Starboard Value LP, which owns 11.6 million shares (9% of DRI shares outstanding), called for an entire turnover of the 12-person board in September 2014, and had earlier proposed breaking up the company by spinning off Olive Garden, LongHorn Steakhouse and Red Lobster into a separate company from the company’s remaining brands and putting Darden’s real-estate holdings into a third publicly traded company. Instead, in May 2014 Darden sold Red Lobster to Golden Gate Capital for $2.1 billion. In October 2014, following intense public criticism of Darden’s leadership and overall strategy, Starboard won shareholder support in a highly contested proxy contest to replace the company’s entire 12-person Board of Directors and appoint Starboard CEO Jeff Smith as Chairman.

More recently, Darden has made some progress on its restructuring, having largely focused on improving operations at its Olive Garden restaurants, reducing its overall expense structure, and increasing asset efficiency. The spin-off of a portion of Darden’s real estate assets to a REIT entity will allow the latter to distribute the majority of its annual taxable income as dividends while pursuing additional real estate transactions to diversify its income base. These REIT attributes, coupled with the fact that REITs do not pay corporate taxes, have historically resulted in premium valuations for REITs relative to restaurant stocks—approximately 15x-16x EV/EBITDA versus 10x-11x for casual dining restaurant peers.

Based on an analysis of projected revenue, rental income, EBITDA, capitalization rates, and comparable valuations, a pre-spin sum-of-the-parts estimate of $74 for DRI can be derived, comprising $67 for DRI and $7 for FCPT. Post spin, Four Corners Property Trust can be fairly valued at $21 per share, based on a 1:3 distribution ratio. With the pre-spin sum-of-the-parts estimate of $74 suggesting approximately 19% potential upside to DRI’s current stock price at the time of this writing ($62), the above analysis suggests that the transaction could unlock incremental upside. However, with much of the company’s turnaround and cost savings/margin improvement story ($100-110 million targeted from F2015-F2017) already reflected in the current valuation, post-spin DRI must demonstrate continued momentum in same-store sales metrics and earnings expansion in order for the shares to see further valuation expansion. A return to a mid-2000s level of operating performance would result in a mid-single-digit same-store sales expansion rate (versus current Bloomberg consensus of 2.2% through F2018). Note that the implied enterprise value for post-spin DRI represents an EV/EBITDA multiple of 10.8x, well above the pre-spin company’s three-year average of 7.4x and its peak multiple of 9.8x and the 9x-10x range for the fast casual dining group. While it appears likely that post-spin DRI will regain same store sales momentum at Olive Garden, the reward appears more balanced, particularly as the current valuation already places a premium multiple on Olive Garden’s operations. With valuations in the restaurant segment reflecting broader macro-consumer sentiment, the recent improvement in casual dining fundamentals (i.e. comparable) has resulted in a comparable group that is trading at relative peaks. Accordingly, for DRI, any missteps along the company’s recovery could pose meaningful downside to the shares. For FCPT, there is potential risk given its smaller size relative to other REIT investment alternatives and the potential for rising interest rates.

Computer Sciences Corp. (NYSE: CSC) is an information technology (IT) services company that provides consulting and outsourcing services through two business segments focused on distinctly different end-markets. The larger segment provides services to commercial sector clients, while the other focuses on public sector entities, such as federal, state, local, and foreign governments. On May 19, 2015, the company announced a plan to separate its global commercial and U.S. public sector businesses into two independent, publicly traded companies via a tax-free spin-off.

On August 31, 2015, the company announced that it had entered into a definitive agreement to merge its government services (public sector) business with SRA International (privately held), a provider of IT Services to the U.S. government, upon completion of the spin-off. The combination of the two entities will create Computer Sciences Government Services Inc. (“CSGov”), the largest pure-play IT services provider to the U.S. government based on revenue, as well as a business with very high EBITDA margins in the 17% range. The combined company will have an estimated $5.5 billion in next-12-months (NTM) revenue, including $51 million in expected synergies. LTM adjusted EBITDA margin would have been 17%. SRA has LTM revenue of $1.377 billion, LTM adjusted EBITDA of $192 million (14% EBITDA margin), and is expected to have low-single-digit top-line growth. SRA’s shareholder group (led by Providence Equity Partners) paid $1.88 billion for SRA in 2011 and will receive $390 million cash plus a 15.32% stake in the combined company. The new company will have $2.7 billion debt (leverage of 3x debt to equity) after paying CSC’s special dividend of $10.50 per share, making the $390 million payout to SRA shareholders, and refinancing SRA’s $1.1 billion in debt. CSC shareholders will own approximately 85% of CSGov.

Over the last few years the IT services industry has increasingly looked to separate commercial and government-focused IT assets, as the former trade at almost 12% premiums to the latter, given higher margin and growth profiles. The spin-off should enhance business focus for each post-spin entity, as the commercial end-market and the government-focused end-market are significantly different, with little operating/marketing/distribution leverage in the combination. Management has noted that the spin-off transaction does not prevent acquisition of either company, which implies that strategic alternatives may still be under consideration. Potential buyers of the government business would include pure-play government services firms as well as large defense contractors looking to grow the services portion of their activities. Potential buyers for the commercial piece would include Asia- and Europe-based firms seeking more U.S. presence or other services firms seeking scale. Additionally, commercially focused businesses are less susceptible to variability in government spending and decision-making.

Separations have also aimed to sharpen management focus as well as eliminate any perceived conflicts of interest in bidding on government contracts. In 2012-2013, L-3 Communications, SAIC Inc. (NYSE: SAIC), and Exelis (acquired by Harris Corp. [NYSE: HRS]) all announced tax-free spin-offs of IT services assets. The spin-off also follows the recent trend among technology companies to separate assets in response to market pressure from the shift to cloud computing; these companies include Hewlett-Packard (NYSE: HPQ), Symantec Corp. (NASDAQ: SYMC), and eBay (NASDAQ: EBAY).

For post-spin CSGov, the combination with SRA should bring additional exposure in the faster-growing healthcare industry and a diversified portfolio of contracts. This further supports the story to re-value the two resulting businesses (commercial and government) following the spin-off. The two companies will not only benefit from cost savings but also from having little customer overlap, leading to opportunity for top-line growth. Lawrence Prior, the current head of CSC’s Government Services unit, continues to be slated to be the CEO of CSGov following the spin-off and merger, with CSC CEO Mike Lawrie serving as chairman. The transaction is expected to close in November 2015 and carries a $100 million break-up fee. The deal will have to secure regulatory approval, but management does not foresee any issues, and the transaction will not affect the tax-free nature of the CSGov spin-off.

CSC has missed consensus revenue expectations in the last four consecutive quarters. Still, the stock has traded within a range of $63-$70 in the last 12 months. While the company has exceeded expectations on the bottom line, due largely to cost cuts, valuation multiples appear to be limited on the downside, as the company trades at a 50% discount to peers on an EV/EBITDA basis (CSC shares trade at 4.7x EV/EBITDA relative to a range of 7x-10x for the commercial and government sectors). CSC has a five-year forward P/E average of 13x (range of 8x-18x) and a five-year forward EV/EBITDA average of 5x (range of 3x-6x).

Based on an analysis of projected revenues, EBITDA, free cash flow, assets, and comparable valuations, Computer Sciences Government Services can be fairly valued at $22 per share. Post-spin CSC can be fairly valued at $55 per share. For post-spin CSC, the Commercial business appears to be setting up for a potential inflection point in the next 12 months, driven by easier comparable revenue comparisons in 2H16, improving product mix (strong growth in next-generation offerings), and benefits from tuck-in acquisitions.

With the pre-spin sum-of-the-parts estimate of $75 suggesting approximately 13% potential upside to CSC’s current stock price at the time of this writing ($67), the valuation suggests incremental upside, as current CSC shareholders will own approximately 85% of a leading provider of IT services to the government and gain the potential upside of an improving Commercial business.

Max India Limited is an Indian conglomerate created in 1985 by its current Chairman, Mr. Analjit Singh. On January 27, 2015 the company announced its intention to split in three publicly traded corporations, with shareholders retaining their proportionate equity interest in all of the demerged entities. The parent corporation will be renamed Max Financial Services Limited and will comprise the company’s life insurance business—Max India’s dominant segment. The second company will operate in the healthcare sector, and will be named Max India Limited (“New Max India”). Its subsidiaries will include Max Healthcare (healthcare services), Max Bupa Health Insurance (health insurance) and Antara Senior Living (senior living communities). Max India’s specialty packaging films segment will be demerged into a Max Ventures and Industries Limited. Shareholders will receive one New Max India share and 0.2 Max Ventures and Industries shares for each Max India share owned. The transaction was approved by shareholders on July 4, 2015, and is expected to be completed by the end of the Calendar year.

The spin-off will separate businesses that are inherently different and require distinct competencies by their respective management teams. The life insurance business’ success depends on astute risk management and successful investment of the vast reserves gathered through premiums, as opposed to heath care management. It also caters to a different clientele; individuals and families who wish to hedge, insure their financial position as opposed to people who aim to improve their health and wellbeing. That being said, Antara senior living is essentially a property development company. Its real estate may be focused on a health care subcategory—that of senior care—but the competencies required to operate the firm are clearly derived from the property sector. Furthermore, Max India’s various subsidiaries are at different stages in their business life cycles. Max Life Insurance has been operating for approximately 15 years, and is a relatively mature business that has achieved consistent profitability and one of the highest market shares among private insurers. Most of the companies comprising New Max India were launched more recently. They are still not profitable—in the case of Antara Senior Living not even at an operating stage—and require a significant amount of additional investment in the next few years. The timing of the spin-off also does not appear to be random. The undergoing liberalization of the healthcare market is one of the most important considerations with regard to Max India’s split, with New Max India poised to benefit from the expansion of its addressable market.

Following the spin-off, the parent company will be renamed Max Financial Services, and will own a 72% stake in Max Life Insurance, with Japan’s MS&AD Insurance Group Holdings Inc (8725 JP) holding the majority of the remaining equity. The life insurance company has an embedded value , as of March 31, 2015 , of INR 52,320 million, and assets under management of INR 312,200 million. During the 2015 fiscal year, Max Life Insurance grew its new business by 10%, generating an annual premium equivalent (“APE”) of INR 19,480, and reached a gross written premium (“GWP”) of INR 81,720 million. The life insurance business in India is dominated by state-owned companies, with private insurers such as Max Life Insurance quickly catching up and gaining market share. Based on sector dynamics, as well as the corporation’s successful distribution model through Axis Bank Ltd (AXSB IN), the company should continue to expand at a double digit growth rate. Axiomatically, the company should not be worth less than its embedded value, i.e. the value of its adjusted new worth—or book value—and the present value of the contracted cash flow. In such a scenario, Max Financial Services would be valued at INR 141 per share. However, embedded value does not take into account the ability to generate new business, add new clients and/or sell additional policies. Under the appraisal value mythology, a life insurance company is worth its embedded value, plus a multiple of the amount of its new business achieved profit (“NBAP”), i.e. the profit generated by new policies written as measured by APE. Were Max Life Insurance’s NBAP to be valued at a 15x or 20x multiple, the company’s stock would be worth INR 296 and INR 347, respectively.

New Max India will comprise Max Healthcare, Max Bupa Health Insurance and Antara Senior Living. Although New Max India is branded a healthcare company, its businesses are not homogenous, and they do not offer any synergies by remaining under the same umbrella. The most valuable part of the business is the 46% stake in Max Healthcare, an operator of medical facilities in Northern India. The company owns 12 hospitals with 1,680 operational beds. Its partner, South African Life Healthcare Group Holdings Ltd (LHC SJ), recently increased its stake from 26% to 46% by acquiring shares from Max India and injecting fresh capital in the venture. Max Healthcare intends to expand rapidly and deploy a significant amount of capital within the next two years, aiming at capitalizing on India’s increasing healthcare spending. At an enterprise value-to-EBITDA multiple of 25x, New Max India’s stake in Max Healthcare is valued at INR 17,848 million. Max Bupa Health Insurance is a joint venture with Britain’s Bupa—with the Indian firm owning 74% of the equity. The company was created in 2008, and is still not profitable. FY 2015 GWP amounted to only INR 3,700 million. Nevertheless, the health insurer has potential to expand as Indians spend more on private healthcare to improve their standard of living. Valued at 1.5x the capital invested, New Max India’s interest in Max Bupa Health Insurance has an estimated value of INR 8,780 million. Antara Senior Living is developing a senior living community—a project that is expected to be complete by 2016. In the interest of conservatism, and since the company has been consuming capital over the past few years, the firm is valued at book value, or INR 1,352 million. In aggregate, New Max India is valued at INR 27,980 million, or 105 per share.

Lastly, Max Ventures of Industries will become the parent company for Max Specialty Films. Max Specialty Films is Max India’s oldest subsidiary, and manufactures films used primarily in flexible packaging. It had FY 2015 revenue and EBITDA of INR 7,550 million and INR 770 million, respectively. Max India’s owner-operator, Analjit Singh, made an open offer, alongside the announcement of the spin-off, to buy an additional 34.5% stake in the firm based on a valuation of INR 1,680 million, or INR 32 per share (based on a 1:5 distribution ratio).

On a pre-spin basis, Max India can be valued between INR 253 and INR 458 per share, with a target price of INR 407. Since the current share price of the company does not offer any upside, unless the company and its subsidiaries are valued at very lofty multiples, shares of Max India are not recommended for purchase prior to the spin-off. Given that even our high case price target is 15% below Max India’s stock price, it is unlikely that any of the three demerged entities will offer an attractive entry point shortly after the spin-off. However, it appears that Max Financial Services offers an attractive combination of strong profitability, revenue growth and favorable industry fundamentals, and thus warrants a closer look.

China Overseas Land & Investment Ltd (“COLI”) is one of the largest real estate development corporations in China. It is a state-owned enterprise (“SOE”), meaning that it is controlled by the government, and frequently used to promote its agenda. On July 6, 2015, the company announced that it submitted an application (Form A1) with regard to the separate listing of its property management business. The new entity will be called China Overseas Property Holdings Ltd (“COPL”) and trade under the ticker SEHK: 2669. Under the terms of the spin-off, investors will receive one COPL share for every three COLI shares owned as of October 15. However, investors with registered addresses in the US and Canada are ineligible to receive the distribution in-specie, and will receive a cash consideration instead . Shares of China Overseas Property Holdings are expected to start trading on October 23.

The spin-off will highlight the two distinct businesses that currently operate under the same umbrella; property development and property management. As a separate corporation, China Overseas Property will have a clearer strategy and path to growth, a more incentivized and focused management-whose work would have otherwise remained underappreciated within the parent company, given the importance of the much bigger property development business-and have its own, appropriate capital structure. Furthermore, it is expected that the demerger from COLI will allow the spin entity to more successfully attract third party clients, i.e., other developers that under the current organizational structure may have been reluctant to work with a subsidiary of a competitor. That being said, the spin entity is very small compared to its parent company-comprising approximately 1-2% of its value-and therefore the spin-off is unlikely to have a material effect on COLI’s valuation.

As a standalone company, China Overseas Property Holdings will be among China’s top 10 property management firms. It operates in a very fragmented and underpenetrated industry, where opportunities for growth appear abundant. The company will also continue to be a part of the China State Construction Engineering Corporation group, and thus is reasonably expected to manage the majority-if not all-the properties developed by its former parent, ensuring a low- to mid-double digit annual growth in gross floor area (“GFA”) managed in the short term. The company’s financial position is strong, underpinned by solid free cash flow generation-primarily due to very limited capital expenditure requirements-and a substantial net cash position. At HKD 1,123 million, COPL’s net cash is more than double its shareholders’ equity.

However, COPL’s status as an SOE is not necessarily an advantage. Such enterprises are typically used by the Chinese government to promote their policies. Consequently, the company’s largest shareholder, CSCECL is likely more interested in expanding the concept of professionally managed properties in China and doing its part towards lowering unemployment and increasing the standard of living than in promoting shareholders’ interests. As a case in point, COPL’s profit margins are very low compared to its domestic peers. Moreover, despite the corporation’s material net cash position and its free cash flow generation, COPL’s management has not indicated a concrete dividend policy.

Based on peer price-to-earnings, price-to-cash flow and enterprise value-to-EBITDA multiples, China Overseas Property Holdings can be valued between HKD 0.79 and HKD 1.20 a share. However, given the potential divergence between the government’s and shareholders’ interests, a valuation approach based on expected dividends to be received by the latter group is more appropriate. Using a dividend discount model, the company is valued at HKD 0.76 per share.

Following the spin-off, China Overseas Land & Investment’s profile will remain essentially unchanged, as COPL comprises a miniscule part of its revenue and net income. COLI is China’s largest SOE property developer and perhaps the largest developer in the country. The corporation has expanded rapidly over the past decade, substantially increasing its revenues, net income, GFA sold and land bank. At the same time, it has managed to grow while maintaining relatively moderate leverage, with net debt to equity slightly above 13%.

Whether COLI’s status as an SOE is beneficial for its shareholders is highly debatable. On one hand, the company has an advantage over other developers in land auctions, whether that is by acquiring land at lower prices or being able to purchase parcels in locations where supply is very scarce. That benefit can be observed on its superior gross margin compared to its leading private competitor, China Vanke Co Ltd (2202 HK). On the other hand, given real estate’s importance in the Chinese economy, COLI is likely to be in the forefront of government’s actions to support the sector-even if they come at the expense of common shareholders.

Despite the franchise’s brand and profitability, potential investors must also take into consideration the health of China’s property sector. A lot has been said and written about potential bubbles, excessive supply and very high prices. It is not in the scope of this report to make a call on the state of the country’s real estate market. However, the mere existence of such as risk should make potential investors cautious with regard to valuation. Shares of China Overseas Land & Investment are valued between HKD 24.8 and HKD 33.3 based on comparable price-to-earnings and price-to-book value multiples. To incorporate a margin of safety, it would be prudent to assign a valuation no more than the company’s book value. In that case, COLI is valued at HKD 18.9 per share.

On January 27, 2015, Yahoo! Inc. (NASDAQ: YHOO) announced a plan to spin off its 15.4% ownership stake in Alibaba Group Holding Limited (NYSE: BABA). BABA is an online and mobile commerce company based in China. Shares in the new company will be distributed via a tax-free distribution of shares to YHOO shareholders. The new company, to be named Aabaco Holdings Inc., will be structured as a closed-end fund and a registered investment company under the Investment Company Act of 1940, a structure not typically employed in spin-offs. The structure was chosen in an effort to minimize taxes versus an outright sale of BABA shares or a spin-off into a corporation. The new company is expected to be spun off debt free, while Yahoo will retain its cash position. Shares of Aabaco will trade on the NASDAQ under the symbol “AABA”.

Also included in Aabaco will be Yahoo’s Small Business division (to meet IRS requirements that a spin-off engage in an active trade or business [ATB] to qualify for tax-free treatment), which is expected to generate approximately $50 million in adjusted EBITDA annually. Following YHOO’s sale of 140 million shares of BABA in the September 2014 Alibaba IPO, the company owns 15.4% of BABA. The transaction is subject to final Board approval, an effectiveness declaration of the company’s registration filings with the SEC, and receipt of an opinion on the tax-free nature of the transaction from the company’s outside tax counsel. The spin-off is expected to be completed in 4Q 2015.

There has been considerable discussion among market observers as to whether YHOO can complete the proposed transaction as currently constituted and receive tax-free treatment. The items of concern regarding the successful tax-free completion of this transaction surround the ATB and “device” requirements (discussed within this report), particularly with respect to the relative size of the BABA investment versus assets associated with the ATB. Given that the concerns issued by the IRS have not changed the code by which the proposed transaction will be judged, it would appear that Yahoo’s outside tax counsel is likely to issue a favorable opinion for the company to move forward with the spin-off.

An outright recommendation for a purchase of Yahoo shares prior to the spin-off of Aabaco is predicated on the fact that the current market prices of YHOO, BABA, and Yahoo Japan imply that shares of Yahoo are pricing in a fully taxed sale of Yahoo’s BABA and Yahoo Japan ownership stakes and are assigning almost zero value to the core Yahoo business. The market is fully discounting the possibility that the BABA stake (and subsequently the Yahoo Japan Stake) can be distributed to shareholders tax-free. In this scenario, the core Yahoo business is being assigned a negative value and provides significant return potential from a pre-spin purchase of YHOO shares.

Based on current market value for ownership stakes in Alibaba and Yahoo Japan, combined with forecast earnings and comparable valuation multiples for the core Yahoo search and display advertising business, post-spin shares of Aabaco can be fairly valued at $29 per share, while post-spin Yahoo is fairly valued at $20 per share. Pre-spin Yahoo shares are assigned a fair value estimate of $50 per share. For Aabaco, upside exists to $31 per share based on current operating performance and a return to the mean trading multiple following the recent sharp multiple contraction. Similarly, shares of post-spin Yahoo offer upside optionality to improved company performance.

The fair value estimates assigned to Yahoo (pre- and post-spin) and Aabaco work under the assumption that the company’s tax counsel will affirm that the Aabaco spin-off qualifies for tax-free status with respect to both the company and shareholders. In the event a positive opinion is not issued, the shares are already pricing in more than a fully taxed outcome on the distribution, and thus the transaction will still result in an unlocking of shareholder value, albeit to a far lesser degree. In a fully taxed scenario, shares of YHOO can be assigned a fair value estimate of $36 per share ($20 for Aabaco and $16 for post-spin Yahoo).

Please see the attached Hidden Opportunity Report on Tredegar Corp. (NYSE: TG). In our view, the recent management changes, which reflect the culmination of investor frustration with both operational and share price performance, along with the re-installation of a management team open to strategic alternatives, presents an opportunity for investors to benefit from a range of potential value-unlocking transactions, including the spin-off or sale of one (or all) of the businesses as well the monetization of the company’s stake in kaléo.

• Tredegar Corp. operates two distinct business segments: (1) Film Products (63% of sales and 71% of EBITDA in 2014); and (2) Aluminum Extrusions (37% and 29%, respectively). The company also has an investment in a specialty pharmaceutical delivery firm, kaléo, which is accounted for using the fair value method and held on the balance sheet at ~$39 million.

• TG’s disparate portfolio of assets has limited synergies in terms of manufacturing overlap/raw material purchasing power and likely limits potential sell-side research coverage, which, along with inconsistent operating performance at the Film Products segment, has led the shares to trade at a conglomerate discount. TG trades at about 6.4x 2016E EBITDA compared to Film and Aluminum peers, which trade at 8.5x and 6.5x. Moreover, a rationalization of its portfolio could improve execution, in terms of growth, margins, and/or capital allocation, and create incremental value beyond any potential re-rating.

• TG stock is down 34% year to date (versus a 1.5% decline in the S&P 500), and it has underperformed the S&P over the last 1-, 3- and 5-year periods. Investor frustration with stock performance and execution on a turnaround strategy at the Film Products segment seemingly came to a head with the resignations of the company’s CEO and CFO in July 2015. Importantly, former CEO and chairman, John Gottwald, has been re-appointed to the helm; in 2013, Mr. Gottwald, whose family collectively owns ~20% of TG, called for the company to pursue unspecified “strategic alternatives” in a 13D filing but reached an agreement with Tredegar in early 2014 that avoided a proxy battle.

• Considering peer multiples of earnings, one can ascribe value of ~$18 per share to TG’s Film Products business and ~$8 per share to the Aluminum Extrusions segment. Accounting for corporate costs of $6 per share, the estimated ~$1 per share fair value of TG’s investment in kaléo and net debt of ~$3 per share yields a sum-of-the-parts fair value of roughly $19 per share.

On February 26, 2015, NorthStar Realty Finance Corp. (NYSE: NRF) announced a plan to spin off its European real estate business into a separate publicly traded real estate investment trust (REIT). The transaction, which has already received unanimous Board approval, is expected to be taxable and to be completed in 2H 2015. The spin entity, NorthStar Realty Europe Corp. (NRE), will be listed on the New York Stock Exchange but is evaluating a dual listing with a European exchange if demand from European investors is adequate.

NRE’s $2 billion portfolio consists of about 50 high-quality, pan-European properties in London, Paris, Amsterdam, Frankfurt, Berlin, Milan, Madrid, and Brussels. Office properties comprise roughly 90% of the portfolio, with two-thirds of the rental income being generated in the U.K., Germany, and France. The company’s almost 5 million square feet is currently 93% occupied and carries a weighted average lease term of roughly six years; notable tenants include BNP Paribas, Cushman & Wakefield, Ernst & Young, and Deloitte. The spin entity will be managed by NorthStar Asset Management Group, Inc. (NYSE: NSAM) under an agreement consistent with NRF’s existing contract with NSAM. NRE’s target leverage level will be 40%-50%. Assuming 50% leverage, $15 million of incremental G&A and management expenses, and 350 million shares outstanding, NRE’s trailing-12-month cash available for distribution (CAD) can be estimated at $0.20 per share (CAD excludes non-cash expenses and transaction costs).

For NRF, the spin-off of the European REIT results in a company with over 80% of assets (and over 70% of revenue) in physical real estate, focused on assets in the healthcare, hospitality, and other sub-sectors. Over the past two years, the company has also effectively transformed its investment portfolio from commercial real estate (CRE) debt into owned CRE properties. Accordingly, given the company’s investment portfolio makeup and the sources of its earnings streams, it can be argued that post-spin NRF shares should revalue from a mortgage REIT to an equity REIT—a transformation that represents a significant potential catalyst for the shares.

Equity REITs almost universally trade at lower dividend yields without the constraints on price/book valuation of other equity investments. Mortgage and fixed income assets are carried at fair value and capped at small premiums to book value, whereas equity investments are held at cost, with much higher NAVs due to appreciation. Note that NRF was recently included in the U.S. REIT Index (RMZ), effective May 29, 2015, which should help the company garner the attention of dedicated equity REIT investors with a more stable investment profile. The continued “institutionalization” of the shareholder base could, over time, reduce volatility in the shares.

In addition to the shares’ potential revaluation, NRF has several upside levers for growth. The first is the company’s CRE loan origination portfolio. Despite being a legacy business, the company should benefit from the opportunity to monetize collateralized debt obligation (CDO) liabilities it has repurchased at steep discounts, as these commercial real estate loans (which originated in 2005-2007) come due. These loan maturities will generate an increased need for refinancing, from which NRF should be able to capitalize on higher yields from new lending opportunities, mainly focused on transitional loan products that fall outside the traditional bank lender and CMBS (commercial mortgage-backed securities) space. Approximately $350 billion in CMBS loans are contractually slated to mature from 2014 through 2017, representing approximately two-thirds of the entire CMBS market. Second, after NRF’s completion of recent acquisitions (e.g., Inland American’s hotel portfolio and Griffin-American Healthcare), there appears to be potential for accretive growth in cash available for distribution (CAD), management’s reported metric for setting the common dividend payout. Finally, it should also be noted that the spin-off of the company’s European REIT is likely not the last value-creation catalyst for NRF. Managment has previously noted a desire to take unconventional steps, if necessary, to maximize valuation of the portfolio. As such, we would not be surprised to see additional potential value-unlocking transactions, particularly involving the company’s healthcare, hotel, manufactured housing, and mortage REIT portfolios. The spin-off of a pure-play healthcare REIT has been discussed in the media as one such scenario.

For NRE, the spin-off of the European business appears to be a way to achieve scale in a product that has a different return and leverage profile from NRF’s U.S. business. In addition, the company should benefit from existing economies of scale, having already built a sizable staff in London and Luxembourg. Economic indicators remain attractive, with quantitative easing in Europe having made financing rates in the company’s respective local currencies very appealing. With valuations of European REITs having expanded considerably (approximately 22x cash flow, with solely-U.K.-focused REITs trading at almost 30x, versus NRF’s current cash flow multiple of 8x, based on TTM CAD of $1.60), the spin-off of a standalone European business should immediately unlock value as it garners a multiple more consistent with peers. NRE as a standalone company has the potential for significant future asset growth. Specifically, asset management capabilities, particularly in Germany, where properties are only 86% occupied, offer potential upside to NAV over time.

As of this writing, NRF shares, at $12.37, trade at 8x the company’s $1.60 TTM CAD, or 13% yield—a deeply discounted valuation that is more in-line with more highly leveraged mortgage REITs (which trade, on average, at 8% yields) and suggests that investors continue to struggle with perceptions of the “new” equity REIT company. Based on an analysis of comparable dividend yield and NAV, we derive a pre-spin sum-of-the-parts valuation of $15 for NRF, which consists of $11.53 and $3.12 for NRF and NRE, respectively. This pre-spin sum-of-the-parts estimate represents 18% upside to NRF’s share price at the time of this writing ($12). Despite the modest upside, however, it is important to note that the shares have been under significant selling pressure (an approximate 20% decline since mid-August), suggesting that investors may anticipate reductions to post-spin CAD. Given likelihood for significant volatility and uncertainty relating to post-spin dividend policy, coupled with the potential dilutive impact of NRE’s recently-completed stock settleable notes offering, shares are not recommended for purchase at this time. We would await more clarity on CAD and dividend policy in terms of payout on CAD, before getting more constructive on the shares. Additionally, our fair value estimate calculations are subject to revision upon incremental financial disclosures. Note that the fair value estimate for NRE represents a 6% yield, which is a slight discount to comparable European REIT peers. Despite the positive investment attributes of both portfolios, the market may assign some initial discount owing to the companies’ more diversified portfolios, external (versus internal) management structure, and higher leverage ratio relative to peers. That said, any potential valuation disparity may dissipate over time with incremental income from recent acquisitions and further growth in assets under management as the companies invest new capital.

This report on Meredith Corp. (NYSE: MDP), explores the potential opportunity for a break-up at MDP in the event Nexstar’s (NASDAQ: NXST) recent bid for Media General (NYSE: MEG) is successful . The report considers multiples of earnings, based on peers and recent M&A activity, to derive a fair value of $50 for MDP.

Full disclosure: There are two reports associated with Meredith (MDP), the Addendum, scheduled to be released om 9/28, was initially a discussion on the potential for Meredith Media General, the proposed combination of Meredith (NYSE: MDP) and Media General (MYSE: MEG) to eventually separate legacy-Meredith’s magazine publishing assets (and the associated digital platforms) via a spin-off or sale, if/when that merger was finalized. In short, the thesis was that the proposed deal was reintroducing publishing assets into a pure-play broadcasting model and that, given industry trends, it was likely the combined entity could move to separate those businesses, via spin-off or sale, and that it could ultimately make sense for the publishing assets to be combined with Time Inc. (NYSE: TIME), the magazine business spun off from Time Warner (NYSE: TWX) in 2014. Our fair value in that scenario was roughly $16 per share, and that preliminary report can be found directly below this one.

That situation is complicated by the unsolicited bid for Media General launched by Nexstar Broadcasting (NASDAQ: NXST), a pure-play broadcaster, on September 28. The proposal offers $14.50 per share, including $10.50 in cash, for outstanding shares of MEG, which is about a 30% premium to the previous closing price of $11.15. In the open letter to MEG’s Board, NXST not only highlighted the immediate value creation for MEG’s shareholders but also criticized the proposed merger with MDP as ill-advised, given, among other things, its reintroduction of publishing assets into an entity solely focused on the higher-valued broadcasting business since the sale of its newspaper assets in 2012. MEG acknowledged receipt of the letter without significant comment other than to say it still supported the proposed merger transaction with MDP. Subsequently, Neuberger Berman and Roystone Capital, MEG’s fifth and seventh largest institutional shareholders, with almost 6.5% and 4% of the shares, respectively, publicly indicated support/preference for NSXT’s proposed bid (compared to the MEG/MDP deal).

While it remains possible that MEG rejects NXST’s offer, circumvents shareholder approval to complete its proposed transaction with Meredith, and ultimately move to separate the legacy-Meredith publishing assets, which could also potentially unlock modest incremental value (see Addendum), it seems more likely, given initial shareholder commentary and stock price reactions, that NXST will be successful with its takeover bid and that MEG shareholders will receive the proposed price (or a modest premium if NXST decides to sweeten the deal in an effort to garner MDP support).

In the event NXST is successful, Meredith Corp. would be left as a standalone company and remain among a handful of diversified media companies following a series of industry breakups at Belo Corp. (NYSE: BLC), News Corp. (NASDAQ: NWSA), Time Warner, Tribune Co. (OTC: TRBAA), E.W. Scripps (NYSE: SSP), and Gannett (NYSE: GCI). If this ends up being the case, we continue to see clear trends toward the separation of the broadcasting and publishing assets as well as toward consolidation in both industries, which, on a sum-of-the-parts basis, could imply upside at MDP from current levels.

Considering multiples of earnings, based on peers and recent M&A activity, one can ascribe value of $44 per share to MDP’s Broadcasting business and $22 per share to MDP’s Publishing assets. Accounting for corporate costs of $7 and projected net debt of $9 per share yields a sum-of-the-parts fair value of about $50. (Further upside optionality could exist from the potential monetization of spectrum assets in 2016.)

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

Crompton Greaves Limited is an Indian engineering firm that manufactures, distributes and services electrical equipment used by power and industrial businesses as well as consumer products. On July 17, 2014, it announced its proposal to demerge its consumer products business into a separate listed entity. The transaction was overwhelmingly approved by shareholders on August 13, 2015, and is expected to be completed in the last quarter of 2015. The new entity will be named Crompton Greaves Consumer Electricals Limited (CGCEL). Under the scheme of arrangement, shareholders in the parent entity will receive one share in the spin company for each share they own.

At the same time, Crompton Greaves’ largest shareholder, Indian conglomerate Avantha Holdings Limited, has agreed to sell its 34% stake in Crompton Greaves Consumer Electricals to private equity firm Advent International and Singaporean investment company Temasek. The total consideration is estimated to be INR 20 billion, valuing the new company at an enterprise value of INR 66 billion. Following the initial purchase, Advent International has stated that it intends to make an open offer to acquire additional shares in Crompton Greaves Consumer Electricals.

The spin-off will lead to the creation of two companies with diverse operating models. Crompton Greaves, focused on the production of power and industrial systems, follows a B2B strategy, catering to the needs of electric utilities and industrial corporations. CGCEL, on the other hand, sells products through various channels to retail consumers. The parent company, as a traditional engineering firm, needs to invest in research & development in order to be at the forefront of technological innovation while remaining cost competitive. CGCEL’s attention is on marketing and branding its relatively simple—from an engineering standpoint—products. It is therefore clear that the core competencies that are required and desired by the corporations’ respective management teams are very different. The demand drivers for the two businesses are also different: Crompton Greaves benefits from higher electricity infrastructure spending and expansion of industrial activity, while demand for Crompton Greaves Consumer Electricals’ products depends on consumer spending. Lastly, the spin-off could also unlock shareholder value, as the consumer products business is highly cash generative—a desirable characteristic that was lost in Crompton Greaves’ cash burning power and industrial systems businesses.

Following the spin-off, Crompton Greaves Consumer Electricals will manufacture and sell home improvement products such as fans, lighting, pumps and appliances, generating all of its sales in India. It enjoys a strong brand name and leading market share position in all of its product categories. Over the last decade, sales have grown by an annualized 16%, while operating income has expanded at an even more rapid pace—aided by the strong growth of the Indian economy and the expansion of the country’s middle class. The new company is expected to have moderate leverage and generate positive free cash flow, primarily due to is very limited capital expenditure requirements. Its rapid sales and EBITDA growth is expected to continue, as the domestic economy has a long way to expand with GDP per capital standing at a very low level even compared to other emerging market economies, including China.
The sale of Avantha Holdings’ interest in the spin entity will take place at an estimated price of INR 94 per share—a value that can be used as a point of reference for prospective and existing CGCEL investors. Since the corporation’s new majority investors will have a cost basis of INR 94 per share, it is reasonably expected that they will swiftly take measures to further accelerate CGCEL’s sales growth and expand margins. In such a scenario, the company could be valued as high as INR 104 per share. Lastly, given the company’s strong free cash flow generation and growth profile, its intrinsic value should not decline below INR 65 per share—or 25x its free cash flow.

Post demerger, Crompton Greaves Limited will be a pure-play engineering company, structured under two segments: Power Systems and Industrial Systems. It will remain a global corporation, with significant presence in Europe and sales in India, Southeast Asia, EMEA and the Americas. Despite strong profitability in its home market, the company has been facing increasing challenges in its foreign operations that recorded an EBITDA loss last fiscal year and have undertaken a considerable amount of debt. Management has indicated it is in discussions with several parties to sell its various foreign subsidiaries, although it has not executed any transaction yet. Absent a divestment of its European subsidiaries—even if their debt obligations are transferred to the parent company—Crompton Greaves will struggle with limited profitability, and most of the cash flow generated domestically will be used to subsidize foreign operations. Therefore, the completion of these series of disposals is a key towards improved business and financial fundamentals as well as a higher valuation. In the “as-is” scenario, Crompton Greaves post spin-off should be valued at INR 51 per share. Assuming the company manages to sell its non-India operations, it should be valued between INR 62 and INR 85 per share, due to both multiple expansion and improved profitability.

On a pre-spin basis, Crompton Greaves can be valued between INR 116 and INR 189 per share, with a target price of INR 156. Since the base case valuation does not offer any upside and the risk of failure to execute the planned divestment of post spin-off Crompton Greaves’ foreign operations is present, shares of the company are not recommended for purchase prior to the spin-off. Rather, investors are advised to await completion of the transaction for an attractive entry point that will allow them to capitalize on CGCEL’s potential acquisition by its new majority shareholders and/or Crompton Greaves’ successful completion of its divestments and the resulting improvement of its financial profile.