Monday, October 3, 2022
HomeValue InvestingClark Road Worth: Vector Group: Douglas Elliman Spin (Watchlist)

Clark Road Worth: Vector Group: Douglas Elliman Spin (Watchlist)


*Only a watchlist merchandise for now, suppose it’s pretty valued except you’ve gotten a divergent view on DOUG*

Final month, Vector Group (VGR) introduced the lengthy speculated spinoff of its actual property brokerage enterprise, Douglas Elliman (DOUG), to shareholders earlier than yr finish (fast!).  The distribution date is now set for 12/29 (tomorrow).  This case is type of a “basic” spinoff the place the 2 companies function in utterly separate industries and may have utterly separate shareholder bases.  The spinoff is a brokerage that helps high-end actual property brokers and the mother or father is principally the exact opposite, a reduction cigarette producer, cannot get a lot completely different.  These are often extra attention-grabbing to me than an industrial splitting into two or three, right here nobody is proudly owning pre-split VGR as a result of they need publicity to the high-end actual property gross sales cycle, it is a tobacco enterprise and thus untouchable to many buyers for ESG or different causes.  Spinning off DOUG opens the spin as much as a a lot wider shareholder base and it ought to logically commerce at a valuation above the place the mixed VGR does as we speak.

Vector Group (VGR) (RemainCo)

The remaining enterprise might be primarily a tobacco firm.  Vector has roughly 4% market share within the U.S. cigarette market, effectively behind the bigger premium branded gamers like Altria (MO) or British American Tobacco (BTI).  Vector’s most important manufacturers embody Eagle 20’s and Pyramid, I am not a smoker, however these do not look like family kind manufacturers.  I did do a peek behind the register at my native Walgreens and located them on the underside, close to the ground, not the perfect product placement.  Conventional cigarettes are clearly in long run decline (though income continues to extend thanks to cost will increase), they’re gross and kill their clients, whereas others have been shifting into smokeless nicotine options — Vector briefly flirted with e-cigs earlier than closing the unit — they as a substitute simply deal with their {discount} and deep-discount area of interest (usually priced 15%-35% under model names).

The tobacco section did $360MM of LTM EBITDA, there’s minimal capex, however clearly these companies do not commerce at excessive multiples and cigarettes has been a little bit of a covid beneficiary (stimulus funds, extra time spent at house, concerning the final place you are allowed to smoke, and so on) and truly noticed development in volumes for the primary time in a pair many years.  I’ll give the core tobacco enterprise a 7x a number of on $340MM (a few of the covid bump reverts and adjusting for company overhead) and get an EV of $2.4B for this a part of the enterprise.

Alongside the tobacco enterprise, the mother or father goes to retain Vector Group’s seize bag of investments in numerous actual property investments.  I will not fake to know the whole again historical past right here, however it seems the surplus money stream generated from the tobacco enterprise (Vector has a regulatory price benefit if their tobacco market share stays small, so reinvestment in tobacco would not make a number of sense) was redirected to actual property tasks and Douglas Elliman.  This sort of resembles what I image the HMG personal investments to appear like, a bunch of random minority pursuits in actual property offers (some as little as 1% pursuits):

It is not going to indicate up effectively right here, however it’s web page 61 of the most recent 10-Q.  The desk is a little bit of a multitude and sure unimaginable for a person like me to undergo and try and worth every of those pursuits.  Many of those properties are luxurious condos which have some appearances of synergies with the Douglas Elliman enterprise, which does a number of new improvement gross sales.  The carrying worth of those property are $83.7MM whole, however as a result of fairness methodology accounting and different GAAP guidelines, it is possible this worth is simple however simply unimaginable to say by how a lot with out considerably extra time for due diligence.  Moreover the remainco could have roughly $375MM (internet of their tobacco MSA expense they often pay in This autumn) in money and marketable securities/hedge fund investments.  A few of these investments strike me as odd because the tobacco operations do have $1.4B in debt, a few of which is at a ten.5% rate of interest, I doubt their funding grade securities portfolio or hedge fund investments are assembly that hurdle on a threat adjusted foundation.

However valuing the money, investments, actual property at e book and the tobacco enterprise at 7x, I get a few $9.40/share worth for the post-spin shares.  I’d be extra on this enterprise if the capital allocation was cleaner and it simply both purchased again inventory repeatedly or paid out in dividends within the free money stream. 

Douglas Elliman (DOUG) (SpinCo)

The spinoff is a high-end actual property brokerage agency that’s positioning itself much like Compass (COMP), the place they’re actually within the enterprise of servicing the highest brokers in costly coastal kind markets in New York, LA or Miami versus say extra of a franchise firm like RE/Max (RMAX) or Realogy (RLGY) that concentrate on the mass market.  It is the model you see on actual property dealer actuality reveals, for instance, Million Greenback Itemizing LA’s Josh Altman and Josh Flagg are affiliated with Douglas Elliman.  They after all additionally do extra upper-mass market kind transactions, however the common home they promote is roughly $1.6MM.  DOUG is method chubby NYC with roughly 50% of their enterprise coming from the New York metro space, however general they’re the sixth largest brokerage within the nation.

To compete for these excessive finish brokers, DOUG has invested in an agent portal providing, “PropTech” investments, and in ancillary companies like mortgage origination, title insurance coverage and escrow companies.  All in an effort to draw the perfect expertise, they even name their acquisitions “aqui-hires” as a result of they’re actually paying for the individuals after they enter a brand new market.  Having their very own direct fairness forex versus being grouped with a tobacco firm makes good sense if the plan is to make use of their fairness to develop their footprint past the few gateway markets they service as we speak.

I’ve a bit hassle about how to think about this enterprise, their income line is the gross fee acquired in the true property sale, however about 75% of that goes to the agent off the highest.  The remainder is used to pay for advertising, operations, G&A overhead and so on, so the underside line appears fairly skinny in opposition to the reported GAAP income quantity.  Covid clearly briefly devastated this enterprise, being closely centered on New York and subsequent shutdowns, Douglas Elliman did a number of price slicing and layoffs (25% of company employees, not renewing fancy places of work, and so on) in mid-2020 as enterprise got here to a standstill.  Like different industries, there’s some debate on how a lot of the associated fee slicing might be everlasting, however indicators popping out of the lockdowns are a lot of their price slicing initiatives are everlasting and since this enterprise has a number of working leverage, enterprise has boomed.

From their investor deck:

After which the corresponding increase in EBITDA:

It is a good however tremendous cyclical enterprise, there’s a number of working leverage plus there’s a number of internet income leverage with the scale and development of the posh excessive finish market.  DOUG is nearly a play on the continued wealth hole in America.  I might be actually improper concerning the a number of, COMP is a hotly debated firm, however VGR has hinted at spinning off DOUG for 5-6 years, this isn’t a rubbish barge spin they usually count on it to commerce greater than the mixed entity.  They’ve expanded to markets like Texas and Colorado, it is tough to parse out what “normalized” EBITDA would appear like for this enterprise and the way a lot is covid associated (they do really trace that they’ve achieved these numbers “regardless of COVID-19 associated headwinds”, guessing they imply an absence of stock they usually count on this trajectory to proceed).

For each two shares of VGR shareholders personal, they’re going to obtain one share of DOUG.  DOUG will even be spun debt free with $200MM in money, they do information to an extra $16.5MM in company overhead as a result of spin (I am in all probability double counting some company overhead on the VGR aspect under as DOUG is paying VGR for the workplace leases and different gadgets).  Throwing a 10x EBITDA a number of on DOUG and I get a $14.25 share value.

Add all of it up, and I get roughly as we speak’s share value, however nonetheless one to look at after the spin, particularly if DOUG finally ends up getting faraway from small cap indices.  As all the time, right me if I am lacking one thing large right here, gradual vacation work week so determined to put in writing it up anyway, I hoped to love this yet one more.

  • Phil Frost is a 9.5% holder of VGR, he has a colourful historical past together with being caught up in a pump and dump scheme.  Total administration right here appears a bit grifty and the entire thought of a tobacco firm initially shopping for DOUG looks like a conceit acquisition, it’s in all probability a number of enjoyable to be the CEO of DOUG.
  • I have a tendency to love fast spins, often they’re smaller corporations and it reveals they have been run individually and actually solely related by means of company G&A, if a by-product takes greater than a yr, often means there’s a number of elements to untangle, extra possible the corporate has a tricky go of it early on as a newly public firm.

Disclosure: No Place

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