Hewlett Packard Enterprise Company (NYSE: HPE) announced details associated with the spin-off of its Enterprise Services business, Everett SpinCo Inc. (“Everett”) which is to merge with Computer Sciences Corp. (NYSE: CSC) in a Reverse Morris Trust (RMT) transaction. Under the terms of the spin-off, HPE will distribute on a pro rata basis all of the shares of Everett to HPE shareholders as of the record date March 20, 2017. Immediately following the spin-off, Everett will merge with and into CSC. The new combined company will be renamed DXC Technology Company (“DXC”). Immediately following the merger, approximately 50.1% of the outstanding shares of DXC common stock will be held by pre-merger HPE stockholders and approximately 49.9% of the outstanding shares of DXC common stock will be held by pre-merger CSC stockholders.

Shares will trade on a when-issued basis beginning prior to the spin-off and continuing through the business day immediately preceding the closing date of the merger, which is expected to be completed on or around April 1, 2017 (or continuing through the closing date if the merger closes after the close of trading in HPE common stock and CSC common stock on the NYSE on the closing date). When-issued shares of HPE and DXC will trade under the temporary NYSE symbols “HPE WI” and “DXC WI,” respectively. Following the merger, DXC shares will trade on the NYSE under the symbol “DXC.”

The transaction (at the time of the announcement in May 2016) was valued to HPE shareholders at approximately $8.5 billion, including $4.5 billion in shares of the newly combined company (50.1% ownership for HPE shareholders), $1.5 billion via a cash dividend, and the assumption of $2.5 billion in debt and other liabilities. In addition, HPE will make cash contributions to the company’s non-U.S. defined benefit pension plans to reduce the net level of liabilities to $570 million. In addition to the divestiture of the Enterprise Services business, HPE announced on September 7, 2016, the spin-off of its non-core Software assets and their planned merger with Micro Focus International Plc (MCRO LN), with an anticipated closing date on or around August 31, 2017. For more details, please refer to The Spin-Off Report FLASH report dated September 8, 2016.

The pre-spin sum of the parts fair value estimate for HPE has been revised to $27 per share (from $30 previously). This estimate is based on an analysis of projected 2018 revenue growth, EBITDA, and cash flow, and accounts for the company’s 50.1% interest in DXC Technology Company. The downward revision reflects a weaker growth outlook provided on the most recently reported 1Q 2017 (January 31), as well as updated balance sheet information. The pre-spin fair value estimate represents 20% upside to HPE’s current share price ($22.95 as of this writing). Post-spin/merger, HPE can be fairly valued at $21 (versus $23 previously).

Post-merger, assuming 282.7 million shares outstanding, DXC Technology Company can be fairly valued at $81 per share (unchanged from our prior estimate; balance sheet information updated as of December 30, 2016). While we appreciate the strategic value of the combination and the potential for continued earnings upside over the next several quarters, our post-spin fair value estimate represents 13% potential upside to CSC’s current share price ($70.03 as of this writing), suggesting that HPE is the better way to play the transaction (more details below). Note that shares of CSC have doubled since the acquisition announcement in May 2016 (compared with an 15% increase in the S&P 500 over the same period) and currently trade at an enterprise value-to-EBITDA ratio of 9.7x, a significant premium to the shares’ 10-year average of 4.3x.

While the above valuation exercises suggest modest upside for HPE, it is important to consider that these figures do not fully account for the second (Software) spin/merge transaction, with Micro Focus. Nor does this valuation analysis take into account the potential for additional asset divestitures. Accordingly, a preliminary analysis of the “future” HPE (post both spin/merge transactions) may prove useful, as this exercise will more accurately represent the company’s operating structure. The “future” HPE will essentially consist of the remaining Enterprise Group. This exercise generates a fair value estimate of $29 for “future” HPE (versus $33 previously), which represents 26% upside from current levels. The downward revision reflects a reduced growth rate assumption (likely warranted given recently reported revenue weakness) as well as modest contraction to the applied multiple. Note, however, that this analysis does not account for the potential value-unlocking from further asset sales, which would likely provide upside to the fair value estimate given HPE’s historically depressed multiple relative to networking peers. Given the sharp recent appreciation in CSC shares, we view HPE as the better way to play the spin/merge transactions at this time. For more details, please refer to The Spin-Off Report dated February 13 2017

NC posts 2016 adjusted EBITDA growth of almost 40% to $76.7 million (well ahead of our forecast); fair value increased to $113 (from $105):

• NC reported 2016 consolidated revenue down 6.5% to $856 million while adjusted EPS increased almost 10% to $6.82. Consolidated adjusted EBITDA jumped almost 40% to $76.7 million and was well ahead of our $66.3 million forecast.

• By our calculation, NC generated almost $86 million of free cash flow in 2016 and ended the year with net debt of $54 million (compared with $117.5 million at the end of 2015 and $93 million at the end of 3Q F2017).

• In terms of guidance, at NA Coal the company continues to expect “substantial” growth in earnings & production during 2017 but its targeted goal of 50% growth in earnings from unconsolidated mines (over 2012 levels) was pushed out to 2020-2021 (from 2018). At Hamilton Beach (HBB), the company expects revenue and net income to increase “modestly” in 2017. At Kitchen Collection (KC), store closures are expected to drive a “modest” decline in annual sales but overall results are expected to be roughly flat year over year and the business is expected to be cash flow positive in 2017.

• Based on the aforementioned framework, we estimate NC’s stock is trading at 6x 2017E EV/EBITDA and with a free cash flow yield of 10.5%.

• Our revised $113 fair value estimate reflects an about 8x blended multiple on 2018E EBITDA of $96.5 million (previously $95 million) and implies roughly 60% of potential upside.

KAMN fair value increased to $56 (from $52) on initial 2017 guidance; quarterly dividend increased to $0.20 per share:

• KAMN reported 2016 consolidated revenue up almost 2% to $1.8 billion while adjusted EPS fell 7% to $2.25.

• Consolidated adjusted EBITDA, by our calculation, increased almost 3% to $157 million. By segment, adjusted EBITDA declined ~13.5% to $59 million at Distribution but advanced ~9.5% to $144 million at Aerospace.

• KAMN ended 2016 with net debt of $375 million, a leverage ratio of 2.2x and debt to cap of 42.3% (versus respective figures of $424 million, 2.8x and 44.7% at the end of 2015).

• The company increased its quarterly dividend, payable April 6th to shareholders as of March 21st, 11% to $0.20 per share.

• For 2017, KAMN expects Distribution segment sales of $1.1-$1.15 billion with an operating margin of 4.9%-5.3%. At Aerospace, the company expects sales of $720-$760 million with an operating margin of 16.5-17.0%. Free cash flow is projected in a range of $70-$100 million.

• Notably, KAMN expects 2017 results to be heavily back-half weighted with less than 10% of net earnings expected to be realized in 1Q and ~50% expected to arrive in 4Q.

• It remains our view that KAMN could look to separate its Distribution and Aerospace businesses, which generate vastly divergent margin profiles and offer negligible synergies given distinct manufacturing/distribution footprints, as each continues to gain scale toward $1.5 billion and $1.0 billion, respectively. To that end, on the 4Q 2016 call, KAMN indicated it would look to be more active on the M&A front in 2017, which could hasten progress toward a split.

• Our revised fair value of $56 reflects an 11.3x blended multiple on 2017E adjusted EBITDA of $175 million.

• KAMN shares have appreciated ~25% since our initial recommendation (versus a 13.5% increase in the S&P and a 22.5% rise in the Russell).

We expect insight on TRS’s thinking about its portfolio structure later this year; maintain $26 fair value:

• TRS reported 2016 consolidated revenue down 8% to $794 million while adjusted EPS fell ~2% to $1.26. Consolidated adjusted EBITDA fell almost 4% to $139.5 million.

• TRS ended 2016 with net debt of $356 million (down from $400 at the end of 2015) and a leverage ratio of 2.6x (compared with its 3.5x covenant).

• The company provided consolidated 2017 guidance calling for 2%-4% top-line growth with EPS of $1.35-$1.45, implying 7%-15% year over year growth. Free cash flow is expected to exceed 100% of net income.

• By segment, the company is projecting sales growth of 2%-4% & 4%-6% with operating margin profiles of 23%-24% & 13%-15%, respectively, at the Packaging & Aerospace segments. The Energy segment is expected to see revenue decline 2%-5% with margins of 5%-7% while the Engineered Components segment is projected to grow sales 2%-5% with margins of 13%-15%.

• Conference call commentary indicates that TRS (under the leadership of a relatively new CEO) is evaluating its current portfolio composition with a keen focus on financial returns (e.g. ROIC and RONA) and that it is aiming to provide deeper insight on the criteria necessary for long-term inclusion later in 2017. To that end, it remains our view that pressure to drive acceptable returns (on assets and capital) will ultimately push TRS to simplify its portfolio around the core Packaging and Aerospace segments.

• Our $26 fair value estimate reflects a 9.6x blended multiple on 2017E EBITDA of $153 million (previously $156 million).

• TRS shares have increased about 20% since our initial recommendation (versus a 9% increase in the S&P and a 15.5% rise in the Russell).

Fair value reduced to $28 (from $31) amid on-going end-market weakness and sale process suspension; shares are cheap but lack near-term catalyst other than a potential buyback:

• FRGI reported 2016 revenue up 3.5% to $711.8 million while adjusted EPS fell 15.6% to $1.29. Consolidated adjusted EBITDA fell 6% to $93 million (versus our estimate of $94.5 million). FRGI ended 2016 with net debt of $69 million and a leverage ratio of 0.7x .

• At PT, revenue increased 9.5% to $401.8 million despite a same store sales decline of 1.6% while adjusted EBITDA fell 6% $55.5 million (versus our $54.4 million forecast). At TC, sales declined 3.3% to $309.9 million on a same store decline of 2.5% while adjusted EBITDA fell 4% $38 million (compared to our $41 million forecast).

• For 2017, the company expects to open 12 PT stores and 10 TC locations, of which 3 will be PT conversions. FRGI expects capital expenditures of $57-$68 million, including $35-$43 million for new restaurants, $14-$16 for remodels and $8-$9 million on IT, which we think is a level that will allow the company to generate ~$22.5 million of free cash flow in 2017.

• The company hired Rich Stockinger, former chief executive of Benihana (from 2009-2014), as CEO. As well, the company suspended its efforts to sell FRGI, amid a lack of serious interest, and reiterated its intention to not pursue a divestiture of TC at the current time.

• Our revised fair value of $28 reflects a blended multiple of 8.4x on 2017E EBTIDA of $94 million (previously $105.5 million).

• At 7x 2017E EV/EBITDA (versus peers at 9.2x), we think downside is limited in FRGI’s shares but concede a lack of obvious near-term catalysts (other than the potential for a share buyback to be announced given the company’s low leverage and prospects for free cash flow generation amid tempered growth).

• FRGI shares have risen about 1% since our initial publication (versus a 13% increase in the S&P and a 21% rise in the Russell).

Fair value increased to $15 (from $13); HSC guides to 2017 EBIT of $100-$120 million and FCF of $60-$80 million; we think market fundamentals will dictate timing of M&M’s eventual separation:

• For 2016, HSC reported operating income of $116 million (versus $135 million in 2015), free cash flow of $100 million (versus $24 million in 2015) and adjusted EPS of $0.48 (versus a loss of $0.08 in 2015).

• The company ended 2016 with net debt of $587 million (down from $831 million at the end of 2015) and a leverage ratio of 2.3x (well below to its 4.0x covenant). Total liquidity stood at $330 million (up from $220 million at the end of 2015).

• For 2017, HSC guided to consolidated EBIT and EPS of $100-$120 million and $0.32-$0.50, respectively, both on a GAAP and adjusted basis. Free cash flow is projected at $60-$80 million based on net cap ex budget of $80-$90 million (including $10-$15 million of growth capital) in 2017. Return on invested capital is projected to be in the 8%-9% range (compared with ~7% in 2016).

• By segment, M&M revenue and EBIT are expected to be roughly flat. At Industrial, sales and operating income are expected to see rough single digit increases while the top-line at Rail is expected to increase 25%-30% albeit with a rough single digit increase in adjusted operating income.

• While improved operating performance and the monetization of the Brand JV stake in Sept. 2016 have vastly improved HSC’s financial profile (and market value) we think management remains committed to the separation of M&M as fundamentals in Industrial and Rail markets become more supportive.

• Our fair value increases to $15 (from $13), reflecting a weighted average multiple of ~7x applied to 2018E EBITDA of $273.5 million and projected net debt of $767 million.

• For context, HSC share have gained ~105% since our initial recommendation (versus a 23.5% increase in the S&P and a 37% increase in the Russell).

CHE fair value estimate increased to $181 (from $166) on initial 2017 outlook:

• CHE reported 2016 consolidated revenue growth of 2.2% to $1.58 billion with a 3.7% advance in adjusted EPS to $7.24. Adjusted EBITDA rose slightly to $237 million (up from $236 million in 2015).

• The company ended 2016 with net debt of $93 million, consisting of $15 million of cash and ~$109 million of debt.

• The company issued initial 2017 guidance calling for consolidated adjusted EPS of $7.80-$8.00, which implies 7.5%-10.5% year over year growth and compared with the prior consensus estimate of $7.81 per share.

• By segment, CHE expects 4%-5% sales growth at VITAS, pre-Medicare cap, and an adjusted EBITDA margin on 14.5%-15%. At Roto-Rooter, management projects 3%-4% top-line growth and an adjusted EBITDA margin of 21.5%-22%.

• Based on initial 2017 guidance, our fair value estimate, which reflects a blended multiple of ~11.5x (previously ~11x) on 2017E consolidated segment EBITDA of $259.5 million (up from $255 million), is increased to $181 per share (from $166).

• While not specifically commented on during today’s conference call, previous statements suggest management is cognizant of its potential strategic alternatives, including a split or RMT, and that it would be open to a range of transactions if a premium bid emerged (or the stock’s discount became persistently egregious).

• CHE has returned ~24% since our initial recommendation in October 2016 (versus gains of 9% and 13% for the S&P and Russell.)

WYN provides roughly in-line 2017E EBITDA and free cash flow guidance as well as boosts dividend; management commentary suggests a spin-off is being more seriously considered by WYN’s Board:

• WYN reported 2016 consolidated revenue growth of 1% to $5.6 billion with a 6% increase in adjusted EBITDA to $1.37 billion. The company generated $782 million of free cash flow and boosted its dividend to $2.32 per share (from $2.00), implying a 2.7% yield.

• The company guided 2017E EBITDA growth of 3%-5% to $1.41-$1.44 billion along with revenue of $5.8-$5.9 billion and adjusted EPS of $5.90-$6.10. Free cash flow is expected to be around its historical level of ~$800 million (or ~$7.85 per share, implying a better than 9% yield).

• For context, projected 2017E EBITDA growth of 3%-5% is below management’s long-term growth target of 6%-8%, primarily reflecting results at Vacation Ownership that are expected to be roughly flat due to a focus on new owner growth and increased loan loss provisions. Management expects EBITDA growth to return to historical levels of 6%-8% in 2018.

• In addition to solid results, we think management’s commentary on its conference call suggests a spin-off of the Vacation Ownership (aka Timeshare) business could be an increasingly likely option. To that end, the company noted that public company leadership experience was an “important” consideration, in terms of the on-going search for a replacement to Franz Hanning who resigned as the CEO of Vacation Ownership in late-November 2016. As well, management separately remarked on the low-cost basis of all its businesses as an impediment to the potential sale of any one unit.

• Our fair value of $95 per share reflects a blended multiple of ~8x on 2018E consolidated adjusted EBITDA of $1.5 billion.

• WYN has returned ~13% since our initial recommendation in January 2017 (versus gains of 3% and 2% gains in the S&P and Russell.)

On February 13th, Lundin Petroleum AB (Ticker: LUPE SS, Share Price: SEK 198.40, Market Capitalization: SEK 67,533 million), an independent oil and gas company, announced its decision to demerge its non-Norwegian assets into a new publicly-traded company that will be listed on the Toronto Stock Exchange and maintain a secondary listing on the NASDAQ Stockholm stock exchange. According to the company’s plan, existing shareholders will receive one share in newly-created International Petroleum Corporation for each Lundin Petroleum share held. The spin-off will be tax-free, pursuant to the Lex ASEA regulation, and is subject to shareholder approval. To that end, the firm plans to call an Extraordinary General Meeting in March 2017. The transaction is expected to be completed soon thereafter.

Lundin Petroleum is controlled by the Lundin family, which has a 28.7 percent stake. The Lundin family has created numerous natural resource companies, engaged in base and precious metals mining and oil and gas exploration and production. Lucas Lundin, son of Adolf Lundin, the founder of the Lundin Group network, serves as the oil and gas company’s Chairman. Statoil, Norway’s state-controlled oil and gas major, is its second largest owner, with a 20.1 percent stake. The firm was created shortly after Lundin Oil—a predecessor company—was acquired by Talisman Energy in 2001, as an exploration company without any producing assets.

Historically, the Lundin family’s oil and gas investments have been in developing markets, and in offshore fields. Their first investment in Norway took place in 2003. Since then, Lundin Petroleum spun off its UK assets into EnQuest Plc. The family divested its stake within a few years of the latter company’s listing. Currently, Norway is dominating Lundin Petroleum’s portfolio. Assets in the country comprise 88 percent of its expected 2017 production and 96 percent of its proven and probable reserves.

The purpose of the spin-off is to create two more focused companies—with management teams better able to optimize each company’s performance. More specifically, Lundin Petroleum’s Norwegian operations are poised to grow organically, primarily as a result of the development of the giant Johan Sverdrup field. At the same time, the company will have to incur several billion dollars in capital expenditures to bring the field online. International Petroleum, on the other hand, will control assets in France, the Netherlands and 

Malaysia with significantly more limited reserves; it will also be debt-free. Therefore, the new entity will strive to maximize the value of its existing assets while at the same time using leverage to expand.

It is noteworthy that in this transaction, it is post-spin Lundin Petroleum with its Norwegian assets that is considered the growth entity. That is at odds with most Norwegian oil and gas producers: Energy production in the country has been declining for years, while offshore projects in harsh environments have very high break-even costs. Consequently, over the past couple of years we have witnessed a flurry of activity, with firms such as BP Plc and Det Norske Oljeselskap ASA merging their operations—creating Aker BP ASA—in order to reduce costs, while others such as Exxon Mobil Corp and Royal Dutch Shell Plc looking to divest their local subsidiaries in order to focus on more profitable and promising areas.

International Petroleum Company will comprise Lundin Petroleum’s assets in France, the Netherlands and Malaysia. The company has proven and probable reserves of 29.4 million boe and an expected 2017 production of nine to 11 thousand boe per day. At the current rate of production, these reserves should last for eight years. While Malaysia is responsible for two-thirds of production, it only holds 9.5 million boe in reserves— just one-third of the company’s total. France, on the other hand, produces approximately two thousand boe per day, yet it holds 18 million boe in reserves, primarily in the Paris Basin.

These assets have moderate operating expenses; for 2017 the company expects to incur US$19 per boe in opex. Capital expenditures are limited, and primarily focused on development. The 2017 capital expenditure guidance stands at US$10 million, half of which is reserved for the French operations. Given that International Petroleum will have no debt, it is expected that it will pursue an acquisitive strategy, with a focus on low-risk jurisdictions such as those it currently operates. As an indicative valuation for the firm, we can estimate the free cash flow generated over the next eight years1, and discount it at a 10 percent rate. The resulting net asset value for International Petroleum Corporation is US$ 608 million, or SEK 47.9 per share (SEK 16 per share on a pre-spin basis).

Post-spin Lundin Petroleum will focus on its Norwegian operations. Its assets are fundamentally different. Rather than a portfolio of smaller, diverse producing assets, Lundin Petroleum’s operations will focus on three major projects and several exploration prospects. As a result, the firm’s capital expenditure requirements for the near term will be very high—almost US$1.3 billion for 2017 and approximately US$1 billion for 2018—while operating expenses are very low.

The company will have proven and probable reserves of 714.1 million, and expected 2017 production of 70 to 80 thousand boe per day. At that rate, its reserve life is 26 years. Lundin Petroleum’s major asset, with more than 550 million boe in reserves, is its 22 percent stake in the giant Johan Sverdrup offshore field. The project is managed by Statoil—which holds a 40 percent stake. During Phase 1, Lundin Petroleum’s share of capital expenditures should amount to US$3 billion. The project is 40 percent complete. In 2017, it should absorb three-quarters of the company’s US$1.1 billion development capital expenditures. The field is expected to commence production in the fourth quarter of 2019. Phase 2 of the project should require another US$1 to US$1.5 billion from Lundin Petroleum, and, if approved, will yield results in 2022.

With new production from the Johan Sverdrup field, Lundin Petroleum’s production should increase to 120 thousand boe per day, while the completion of Phase 2 should increase that figure to 150 thousand boe per day. Clearly, the firm’s oil and gas production is on track to grow substantially over the next decade. At the same time, the firm will have to incur billions in cash outflows to develop this field. In order to do that, the company intends to utilize the remaining US$1 billion from its revolving credit facility. Lundin Petroleum already has drawn US$4.1 billion, and does not intend to transfer any debt to the spin entity.

With operating costs estimated at just US$5.65 per boe, the company is generating substantial operating cash flow that will cover the majority of its 2017 capital expenditures. In fact, it will likely have to draw only a few hundred million from its credit facility, providing leeway to make further withdrawals, if required, in 2018. Thereafter, capital expenditures should decline materially to approximately half a billion per year. The new oil and gas production will also push Lundin Petroleum’s operating costs to below US$5 per boe.

Given the increasing production, the firm’s current reserves should be depleted within 15 years. Using a discounted cash flow model to estimate post-spin Lundin Petroleum’s net asset value based on its existing proven and probable reserves2, we arrive at a US$10.9 billion value. Including net debt of US$4.075 billion, the firm’s equity is valued at US$6.9 billion, or SEK 180 per share. Consequently, Lundin Petroleum’s sum-of-the-parts value is SEK 196 per share.

Fair value increased to $48 (from $43) on initial 2017 outlook; we think a clear framework exists for an eventual separation of VVI’s businesses.

• VVI reported 2016 consolidated revenue growth of 10.6% to $1.2 billion with a 44% increase in adjusted segment EBITDA to $130.2 million. Organic revenue growth was 7.7%.

• The company ended 2016 with net debt of $230 million up from $143 million at the end of 3Q 2016 primarily due to the $50 million purchase of FlyOver Canada, which generates $9-$10 million of annual revenue with adjusted EBITDA margins of 55%, in December 2016.

• The company also issued initial 2017 guidance calling for ~5% consolidated sales growth with adjusted segment EBITDA of $144.5-$148.5 million (implying ~12.5% year over year growth).

• In our view, management is open to an eventual separation of its disparate businesses and we discern a clear framework for the conditions management views as necessary to exist for the two businesses to successfully standalone.

• To that end, we think the achievement of a $250 million revenue base at T&R remains the starkest benchmark. In pursuit of that threshold, we think the acquisition of attractions at iconic natural & cultural destinations with perennial demand will remain integral to VVI’s growth plans over the next several years. At M&E, we think it continues to be less about size than a more stable business mix, including ~$250 million of high-margin A/V & event technology work as well as an increased contribution from non-exhibition/corporate events, which is conducive to the maintenance of a higher than historical margin profile through the course of a cycle.

• Based on initial 2017 guidance, our fair value estimate, which reflects a blended multiple of 8x on 2017E consolidated segment EBITDA of $147.5 million, is increased to $48 per share (from $43).

• VVI shares have returned ~43% since our initial recommendation in May 2016 (versus gains of 10% and 21% for the S&P and Russell, respectively.)