Spin-off Links – February 2023 – Stock Spinoff Investing

Spin-off Links – February 2023

Lot’s going on in the spin-off world.

Let’s get right into it…

Recently Announced Spin-offs

Baxter (BAX) announced on January 6 that it plans to spin off its Renal Care and Acute Therapies global business units into an independent company within 12-18 months. Here’s Baxter’s slide deck with additional details.

The spin-off generates revenue through peritoneal dialysis, hemodialysis, and acute therapies. It generated $4.7BN in sales in 2021. It will be viewed as a “badco” as its margins are lower than the corporate average and has a lower growth profile. Last year, Baxter had considered selling parts of its renal business as Bloomberg reported, but it appears that no attractive offers were made.

The RemainCo generated $10.9BN of sales in 2021. Its key divisions are Pharmaceuticals, Medication Delivery, Front Line Care, Advanced Surgery, and Clinical Nutrition.

Baxter looks relatively cheap at 10.8x EBITDA and 13.3x forward earnings. Consensus calls for low single digit top line growth for the foreseeable future and ~10% EPS growth. Further, the company is relatively defensive. Nonetheless, the stock doesn’t look compelling to me, just modestly attractive.

From my perspective, this transaction doesn’t create any actionable opportunity today. Once the spin-off begins trading in 12-18 months, there could be an opportunity in the spin-off or RemainCo, especially if we see indiscriminate selling.

Madison Square Garden Entertainment (MSGE) announced on Jan 13 that it plans to proceed (it had previously announced that it was evaluating the transaction) with a tax free spin-off of its live entertainment business. The transaction is expected to be completed in March 2023.

SpinCo will be made up of its traditional live entertainment business, which includes a diverse collection of venues in New York and Chicago, as well as the Company’s entertainment and sports bookings business, taking on the name Madison Square Garden Entertainment Corp, while the existing company will be renamed MSG Sphere Corp.

MSGE will spin 67% of economic interest in the new company to current shareholders and retain the other 33%.

Yet Another Value Podcast (MSGE thesis starts around minute 30) does a great job of outlining the SOTP thesis. It seems as if the stock is trading at a big discount to it SOTP valuation. For me to get comfortable investing, I need to see the Form 10 statement (hasn’t been published yet) to determine 1) what is entertainment co’s profitability (it has asset value but will it generate earnings?) and 2) how debt will be split up.

Recent Spin-offs

Brookfield Asset Management (BAM) completed its spin off of 25% of its asset management business to investors on December 12, 2022. Investors in Brookfield received 1 share of the manager for every 4 shares they owned of the corporation. The spin-off now trades under the symbol BAM while the RemainCo trades under the symbol BN.

I think both stocks look pretty interesting. The spin-off, BAM, is a pure play alternative asset management company. The manager is retaining 100% of fee related income and is entitled to ⅔ of gross carried interest on new funds. It currently has $2BN of fee related earnings and will pay out 90% of that to investors as a dividend. It is trading at 27x free cash flow and a 3.5% dividend yield. While this isn’t dirt cheap, I think the valuation is reasonable for a company with such good growth prospects.

I think the RemainCo, BN, is more interesting. It owns 75% of the asset management business plus a variety of other listed affiliates. Fair value is probably ~$50. On the other hand, I don’t know what the catalyst is to close the discount to fair value. Nonetheless, Brookfield has compounded over time at ~19% per year and is likely to continue to do so. Thus, the stock is probably a good long-term buy at its current price.

Fortune Brands (FBIN) spun off MasterBrand, Inc (MBC), its Cabinets business ($2.9BN of sales) on Wednesday, December 14. The remaining company consists of Water Innovation and Outdoors & Security segments ($4.8BN of sales). Here is the slide deck for the transaction.

Regarding the spin-off, it’s pretty cyclical with ~40% of the Cabinets business exposed to new residential housing. In 2022, the business is on track to generate EBITDA of $415MM. One concern is the spin-off has $930MM (net debt to EBITDA of 2.6x). This could be problematic heading into a recession. The current valuation looks attractive at 5.2x 2022 EBITDA and 9.4x free cash flow, but it isn’t a high enough conviction idea to recommend yet.

The RemainCo will have a less cyclical, higher margin product portfolio, with lower exposure to new residential housing and higher exposure to repair and remodeling expenditure will enhance its ability to maintain strong margins.

General Electric (GE) spun off ~80% of its health care business – General Electric Healthcare (GEHC) – on January 3, 2022. Regular way trading began on January 4, 2023. GE will retain ~20% of the spin-off to provide further capital allocation flexibility.

GE Healthcare services health care providers and researchers. It sells imaging, ultrasound, patient care solutions, and diagnostic machines to a global customer base. End markets are growing at a mid-single digit clip. GEHC expects to grow revenue on an organic basis at a mid-single digit clip. It expects EBIT margins to expand from mid-teens to low 20s. It expects to generate ~$2BN in free cash flow in 2022 and expects FCF to grow with earnings going forward. Here is the form 10 and slide deck.

GEHC is trading at $70 per share. This implies a market cap and enterprise value of $30BN and $45BN. On a valuation basis, it’s trading at 18x EBIT and 17x FCF. This seems very cheap on an absolute basis (Siemens Healthineers and Danaher trade at an EV/EBIT multiple of 24.5x). It also seems reasonably cheap on an absolute basis. However, it doesn’t seem like a no brainer, at least for me. I think a share price of $41 (10x FCF) would be an attractive entry point.

I don’t think GE is worth buying ahead of the health-care spin-off as the GE story is going to remain relatively complex (we are going to have to wait another year for the energy/power spin-off).

Jefferies (JEF) spun off Vitesse Energy (VTS) on January 13 in a tax free transaction. with regular way trading beginning on January 16. Shareholders received 1 share of VTS for every 8.49668 shares of JEF. Here’s its Form 10 and slide deck.

I was hoping for indiscriminate selling pressure, but it hasn’t materialized.

Vitesse Energy is trading around $17. Its best comp is Northern Oil & Gas (NOG) which trades at 3.5x EBITDA. At that multiple, VTS is worth $17.50. In diving deeper into Vitesse there are a couple things that made me modestly more negative on Vitesse: 1) The company hasn’t generated that much free cash flow. $0 in 2019 and 2020, just $44MM in 2021 and on pace to generate $68MM in 2022. 2) This ties into my last point but paying a $66MM annual dividend isn’t sustainable given the volatility in free cash flow generation. 3) The company is focused on non-operated interests. This means it owns minority stakes in wells acreage and must fund its pro-rata share of drilling costs. In other words, it doesn’t control when or how much capex it spends (reliant on the operators).

Notwithstanding the above, I like the high insider ownership (30%) and the limited debt load (less than 1x EBITDA). If it does proceed with the $66MM annual dividend, it’s trading at a dividend yield of 14% I think Vitesse would be interesting at the right price, but it might have to dip below $10 to get me interested.

Upcoming Spin-offs

Crane Co (CR) will break up into two public companies on April 3: Crane Co and Crane NXT. Crane Co, the spin-off, will retain the Crane name/ticker and be comprised of the Aerospace & Electronics and Process Flow Technologies (valves/pumps) businesses. Expected sales in 2022 of $1.9BN and EBITDA of $352MM (18.5% EBITDA margins pre corporate expenses). The current CEO (Max Mitchell) and current CFO (Rich Maue) will go with the spin off.

Crane NXT, the RemainCo, is comprised of the Payment and Merchandising Technologies. Expected sales in 2022 of $1.4BN and EBITDA of $392MM (28% EBITDA margins pre-corporate expenses). The RemainCo could be viewed as the “BadCo” as its business depends largely on people using cash. Nonetheless, that could be mitigated by an attractive capital return policy including a competitive dividend.

At a first glance, the setup looks pretty interesting. Neither company is a “badco” (at least to me). Neither seems overly cyclical. And management believes pure plays for both the spin-off and RemainCo trade higher than where the stock is currently valued. The stock seems very reasonable on an absolute basis at 14.5x FCF, 14.9x forward earnings, and 9.8x on EV/forward EBITDA. Here are some additional notes.

More Spin-off Links

How John Malone Generates Income

I walk through how John Malone sold puts on WBD

Morningstar: Spinoffs Are the New IPOs

Morningstar says “investors should tread cautiously”
I agree.
While spin-offs are an inefficient market and often present interesting opportunities, they shouldn’t be bought blindly.

Liberty Media Braves Spin-off