Thursday, February 26, 2015

JPM Investor Day 2015

I spent yesterday listening to the JPM investor day on their website (replay).  They have a bunch of great slides so if you are interested in JPM at all, I would highly recommend at least flipping through them.  There is a lot going on there that looks really interesting.

Anyway, as usual, this is not going to be a summary at all; I'm just going to point out things that interested me.

As usual, JPM is doing really well despite higher capital requirements.  Here's the usual chart that I like:

Tangible Book Value per Share Growth

JPM grows their TBVPS at a remarkably consistent 10-11%/year.  What is really striking about this chart (and I keep saying over and over) is, where is the financial crisis?  Where is the whale trade?   This is based on raw TBVPS so doesn't include dividends paid.

And much of this consistency comes from the diverse set of businesses:

Non-Interest Revenue Stability

And JP Morgan will benefit from the normalization of interest rates:  A 50 bps increase in net interest margin from normalizing interest rates would lead to a $10 billion increase in net interest income.

We'll look at this interest rate stuff again later in their earnings simulation.

But first, here is a comparison versus peers:

JPM looks good against peers, but what's really amazing is their stability.  Look again at this slide and then the one above that shows the non-interest revenue volatility.

The customer satisfaction score is amazing when you think about what these big banks were like only a few years ago.  They were really awful.  This is from the 1990's, but I remember when I opened an account at Chase.  This was a completely random thing.  At the time, I walked into a building and there was a Chase branch and a Citi branch.    

So I walked into the Citi branch and walked up to the customer service desk and said that I wanted to open an account.  There was a 80's-big-haired lady sitting there chewing gum and filing her nails.  She didn't even look up at me when she said, "I'm on break.  Come back later...".  I was like, "What?".    If she's on break, why is she sitting there at the front desk (or the concierge-like table closest to the entrance)?

Shocked, I just walked across the hall to the Chase branch and opened an account there with no problem.  I've heard great things about Wells Fargo too from someone who recently got a mortgage there.  It's amazing how times have changed. 

And here's an interesting slide showing how JPM is undervalued: 

The pre-crisis P/E in the top left chart is based on next-twelve months earnings estimate P/E average from January 2005 to June 2007.

For the table on the bottom right, the "before crisis" period is from January 2005 through June 2007, "during crisis" is July 2007 through December 2009 and "after crisis" is January 2010 through February 20, 2015

Pre-crisis, JPM traded at 11.6x P/E. We can just call that 12x.  And it is now trading at 9.5x based on 2016 estimated P/E.  Regressing P/TBVPS with ROTCE, JPM is 18% undervalued today (or as of February 20).   Before the crisis, JPM traded at a 10% premium, and then 23% premium during the crisis and has been trading at a discount ever since.

Dimon on JPM Valuation
During the Q&A at the end of the day, Dimon talked about valuation.  He said that the stock is cheap.  His personal opinion is that this cheapness is temporary.  He said the market is wrong.  The market is always wrong.  And it means nothing to him.  JPM will always do the right thing for the right reason.  Someone asked about a conglomerate discount and Dimon said that JPM is not a conglomerate.  Conglomerates are groups of unrelated businesses, whereas JPM is in related businesses.   So he doesn't feel the valuation discount is due to it's structure.

Huge legal and regulatory costs and uncertainties related to them, he feels, is why JPM is at a discount now.  But he feels those things will eventually subside and JPM "may well trade at a premium".

The segment presentations often mention the benefits of being part of JPM.  In the overview slides, there were a couple of slides about splitting JPM and how that would not be a good idea at this point.   There are two points that I noticed given my post about it earlier this year.  

One is that JPM feels that much of the revenue synergies would not go away on a split.  I guess that makes sense; just because you opened an account for a specific reason (Chase customer opening an investment / mutual fund account, for example) doesn't mean that a customer will close that account just because of a split.  I calculated that the synergies would go away on a split, but that isn't necessarily the case (the cost synergies would go away, though).

And the other point is that I used last year's investor day slide so used 2.5% for the G-SIB capital requirement, but in December the Fed jacked that up so JPM falls into the 4.0%-4.5% bucket.  But that analysis is also moot because JPM says that the capital release from a split would only amount to $15 billion, so there isn't that much of a capital benefit from a split-up.

But anyway, here are the slides:

I still think the diversification effect is one of the main benefits to JPM's business model.

Here's another slide that sums up benefits to JPM's current model:

Moving on, here is a slide of JPM's simplification:

They exited businesses with basically no P/L impact.

Earnings Simulation
So this is the main slide that most investors are interested in.  What can JPM earn in a more normalized environment?  What can they earn over time?

Here is JPM's earning model looking three years out:

JPM sees net income of $30 billion by 2017 (or I should say JPM will have earnings power of that much).  In 2014, there was $1.1 billion in preferred dividends paid and $544 million of "undistributable earnings allocated to participating securities" between the net income line and net to common shareholders.  So that takes net to common down to $28 billion or so.    With 3.7 billion currently outstanding (which may go down from repurchases), that's $7.57/share in EPS.  At a pre-crisis P/E of 12x, JPM can be worth $91/share.    JPM is now trading at around $61/share.  

Since the 12x P/E is a forward earnings P/E, if JPM is on the path to $7.57/share EPS by 2017, JPM should trade at 12x this amount at the end of 2016.  That's a potential +49% increase in 1.8 years or +24%/year.   That's not at all a bad return in this market.

But there are a lot of "if's" in this return projection.  Rates have to normalize and the stock has to get to a pre-crisis P/E ratio by the end of 2016.  The earnings simulation holds no such contraints; they will get there at some point and the stock price will eventually follow.

This earnings simulation used to not be a projection over a given period of time, but just a guidance on what JPM can earn when certain things normalize; it showed normalized earnings power.  I suppose it still is, but there are components in there that have a three year time frame (cost cuts, interest rates normalization etc.).

I guess it would be fair to say that this $30 billion net is not so much a projection, target or forecast, but more of the earnings power of JPM if the currently ongoing projects (that will take three years) are completed, interest rates normalize etc...

So let's look at the components a little bit.  Regarding "investments and growth", I think those are things already happening and they probably have good visibility; open a branch and get xx in deposits etc.  "Expense reduction" is something that JPM has been able to achieve so that's probably not an issue.  They will get that done.

The big piece here is $4.5 billion from normalizing interest rates.  In the 2013 annual report, Dimon talked about normalizing interest rates and he mentioned something like 3-4% on the short end and 5% on the 10-year treasury yield.  In this presentation, they expect short rates to start going up in the second half of 2015 and then up to 2.25% by 2017.    2.25% by 2017 seems reasonable to me.

By the way, the Fed Funds futures implied rates look like this:

December 2015:  0.500%
December 2016:  1.325%
December 2017:  1.845%

But as you know, I have been skeptical of rate normalization for a while so who knows what will happen.  If rate normalization doesn't happen, what does that do to JPM earnings in 2017?

Let's look at the $30 billion and then back out the $4.5 billion.  That gives us $25.5 billion.   And then take out that stuff between net income and net to common and you get $24 billion or so.  That comes to around $6.50/share.   Give it a normalized, pre-crisis P/E of 12x and we get a stock price of $78/share by the end of 2016.  That's 28% higher than the current $61, or a +14%/year gain through 2016.   That's not such a bad return given the current investment environment.

Also, the simulation assumes low credit cost over the next three years.  This, usually, would be aggressive given the cyclical nature of credit.  But one thing you can say is that the credit quality of loans on JPM's books is much better than in the past.  Also, the economic recovery has been very subdued.  This suggests that there may not be a lot of systemic problems being built up in the banking industry ready to blow up any time soon.  So this may extend or prolong the cycle since there isn't some big party going on somewhere in the economy.

Abby Joseph Cohen of Goldman Sachs long ago called the U.S. economy a silly putty economy.  She said that the economic cycle was prolonged, with shallower highs and lows; as if the cycle was printed on silly putty and you stretch it out sideways so that the booms and busts occur over longer periods of time.

It sort of feels like that now in the U.S. so maybe credit costs remain low.  I would have more confidence in the $30 billion number, though, if they used a more normalized, "through-the-cycle" credit cost instead.

The above simulation, I think, doesn't assume any dramatic changes in the environment, though, other than interest rates.  There is no big housing recovery or global economic recovery or anything like that built in.  So I would think it is conservatively estimated.

Size ≠  Risk
So here's a cool slide.  People often freak out about how big JPM is.  And the number they throw around is total assets. $2.6 trillion sounds big.  It sounds so big, in fact, that it must be dangerous! 

This slide shows that the balance sheet has grown, but it has been mostly low risk cash that has grown.  They have $600 billion of high quality liquid assets (HQLA) on the balance sheet.  On the other hand, VAR and level 3 assets, two other things people seem allergic to are down 50% since 2010. 

JPM looks really good.  The various segments look good.  The investment bank isn't looking too great now, but they are still very profitable with strong franchises and a lot of levers for growth over time.  It seems like they are managing to higher capital requirements.  

There are obviously a lot of risks, but for me, the one thing that still concerns me most is the interest rate structure.  Everyone is waiting for some sort of normalization.  But the Japan scenario still nags at me as a possibility.  It's true that Europe imploding, causing a strengthening dollar might keep already low rates in the U.S. lower for longer than we expect.

But still, JPM is one of the best managed companies on the planet and it is trading at a very reasonable level, and there is a clear path for higher earnings going forward.

Friday, February 13, 2015

Loews 4Q 2014 Conference Call

I don't normally make posts about conference calls as I tend to look at things over the long term and things don't change much from quarter to quarter or even year to year.  If I look at something and like it, it is probably because I looked at how someone has done over a long period of time.  Short term results won't generally change my opinion about a company or management.  But there were some interesting comments so I thought I'd make a post.  This is by no means a summary or anything like that at all.  They talk about a lot of things I don't mention here so go check it out if you're interested (like Loews Hotels).

Berkshire Hathaway (BRK) Disclosure
And by the way, the other day, there was an article about how BRK has bad disclosure.   Buffett said that they disclose what he would want to know if the position were reversed.  It's true that there isn't a whole lot of detail about BRK's operations.  But it's also true that they have over 70 businesses and it isn't practical to disclose details about every business.

The reason analysts say disclosure is poor at BRK is because analysts are paid to estimate earnings on a quarter to quarter basis.  In order to do that, of course you need more detail.  You would want guidance too, right?  But then again, Buffett doesn't want investors that care about quarterly earnings so he doesn't feel the need to cater to them.

You can't really blame the analysts; this is the way the industry works.  Clients want accurate quarterly earnings forecasts.  Analysts are evaluated partly on how accurate their estimates are. Analysts are also evaluated on how a bank's clients feel about them (usually, clients want accurate quarterly earnings predictions!).

And Buffett wants no part of it.  There's nothing wrong with that.  He provides enough information for long term investors to make a decision about owning BRK.  I do suspect, though, that in the post-Buffett era, there would be more disclosure.

Anyway, I am making this post about the recent L conference call because of what's happening in the oil market and James Tisch also said something interesting about the insurance market.   L is heavily weighted in energy as one of their large positions is Diamond Offshore (DO).

Loews (L)
But first, some L stuff.  L bought back 4% of their shares, spending $620 million.  They also bought 1.9 million shares of DO in the fourth quarter.  They just thought it was cheap.

L had $5 billion of cash and investments as they want to maintain a strong and liquid balance sheet to take advantage of opportunities.   Of this cash and investments, $250-300 million were in equities, $900 million in limited partnerships (12-13 hedge funds) and the rest in fixed income and money market funds.

Trouble is Opportunity
Tisch said on an earlier call that for DO, trouble is opportunity.  He said now that, "The trouble is certainly here, and Diamond is prepared for the opportunity".   Due to the potential opportunity, DO won't be paying a special dividend.  He reminded us that nine years ago during the boom, DO was paying out big dividends (while others rushed to order big rigs).  Since 2006, DO has paid $41/share in regular and special dividends returning more than $5.7 billion to shareholders.  DO has the strongest balance sheet in the industry.

Tisch also said he doesn't believe that $40-60/barrel is a steady-state price for crude.  He feels $70-90 is more like it.  (The crude forward curve does show crude oil over $70/barrel further out)

One interesting comment he made was that global crude oil production now is 95 million barrels per day (b/d) and demand increases by around 1 million b/d every year.  But in order for production capacity to keep up with increasing demand, the industry has to find 6 million b/d of production, not just 1 million b/d for the new demand.  That's because if there is no exploration to replace depletion, after one year, production capacity will go from 95 million b/d to 90 million b/d.  So the industry has to find 5 million b/d just to replace depletion, and then another 1 million b/d for incremental demand.

Tisch said it was the right decision to cut dividends last year at Boardwalk as they have $1.5 billion in organic projects to be built over the next three to four years that is expected to generate double-digit unlevered returns for years to come.

Commercial P&C
CNA is doing really well and they are really focused on getting their combined ratios down.  They really want to become a top quartile underwriter.

He also made an interesting comment on commercial P&C pricing.  He said he feels good about pricing in the commercial P&C space due to the "extraordinary capital discipline" that has been in place for the last five to ten years.  The industry generates a lot of excess capital, but that capital has been returned to investors via share repurchases and dividends.  In the old days, the cycles were deeper because companies retained their capital.   Now, he doesn't see the capacity pressure that drove down prices in past cycles.

This has led to price increases of 2-4%, which covers 1.5% or so inflation.

Investment Opportunities
Asked about investment opportunities, he said the only obvious area is energy.  He feels L has enough energy exposure via DO and Boardwalk.   Nothing else really stands out.  He says this is due to the long end of the yield curve being squeezed by the Fed's $4 trillion balance sheet; rates are at unnaturally low levels that push up asset prices.  As for seeking investments in E&P, he said "been there, done that".  L's exposure in energy will come from DO and that's enough.  (Boardwalk too to some extent, but that's not really sensitive to commodity prices).

On Markel's (MKL) conference call, Tom Gaynor mentioned that the crude oil price going down by half in such a short period of time proves that "nobody knows anything about anything".  That was very interesting.  He started the MKL call talking about all the things that people were worried about at the beginning of 2014 (low interest rates, overvalued stock market, too much competition in insurance, geo-political risk), and yet they grew BPS 14%.

And this reminds me, again, of what is really important;  Not so much the predicting of events, but having a structure that can deal with the various potential outcomes.

Buffett said during the financial crisis that it doesn't matter what happens in the industry, it's the low cost provider that is going to come out stronger on the other side.  He said this is true with banks (cost of deposits), commodity producers and everything else.   A bad environment will impact all the players, but it's the low cost providers that will take all the business as the higher cost providers fail.  Back then he was talking about Wells Fargo and the banking industry.

This is why Buffett goes for the best in class businesses so he doesn't have to weave in and out of the businesses according to what's happening; he'll let the management of the business manage accordingly.

In L's case, they can't predict crude oil prices over the near term, but they believe that crude is worth at least $70/barrel on a sustainable basis, and in that environment rigs would have work to do.  They have been in the drilling business for 25 years so understand it's a cyclical business (with some long, deep cycles).   L plans to have DO grow over the next few years as opportunities arise.  Tisch points out that DO has the strongest balance sheet in the industry (so is ready to take advantage of opportunities).

By the Way About Predictions
Oh yeah, and all of this talk about predictions reminds me of what I always talk about here about the futility of predictions.  Whenever I talk about this sort of thing, about not worrying about Greece, Ukraine, U.S. government default and whatnot, I often get pushback; how can you not worry about it?  Isn't that reckless?

A lot of people said that mistakes were made because people ignored the risks before the financial crisis etc.

Well, I don't think ignoring these 'distractions' is reckless at all.  In fact, most of the things that people were worried about over the past few years turned out to be nothing.

What is reckless, though, is to invest in a business that might go under if, for example, Greece is kicked out of the Euro.  It would be utterly reckless to invest in a business that would go bankrupt if peace is not achieved in Ukraine within the year or something like that.

It is not reckless to invest in a great business that will be fine over the next few years regardless of what happens to Greece or Ukraine.  In fact, I think it would be reckless to sell a great business just because the price of it might go down if Greece exits the Euro just to try to get back in later at a lower price.  That would be reckless.

Some say, how can you ignore emerging market exposure of this or that business?  Well, you don't really ignore it; you assume that the business will do well over time through cycles.  Nobody can predict with any accuracy what is going to happen anyway.  This is going to be my motto from now, what Tom Gaynor said; "Nobody knows anything about anything".

So you don't ignore it in the sense that you deny it's ever going to happen.  It's more like you ignore it acknowledging that yes, these scary things probably will happen but nobody knows exactly how things will unfold, so you just stick to businesses that won't get killed when it does happen.

Not too long ago, people were worried about the dollar.  The Fed was going to print the dollar into oblivion.  Do anything to get out of U.S. dollar assets.  Buy gold.  Buy hard assets.  Buy emerging market stocks. That was the popular view.  Look what's happening now.  Also, a few years ago, no matter which annual report you read, they all talked about emerging markets, growth markets, BRICs etc.  It seemed like every company report you read devoted a large section to how much they are investing in "growth" markets since the U.S. economy was not going to provide much growth.  People have been calling for higher rates, for inflation and all sorts of other things for years.

This is not to say these things won't happen.  It's just that nobody can know when and what is going to happen.  So you just have to invest without leaning on any one scenario too much.  I know portfolios are often "tilted" this way and that, but I bet more often than not, they tilt the wrong way.

So yes, ignore the noise, but it's not at all reckless to invest in solid businesses that will do well over time and through the cycle.  That's the key.

The difference between someone like Buffett, and most others who worry about all the headline stuff is simply time horizon.  Buffett is looking out five, ten, twenty years.  So what people are predicting over the next few months or year or two is not relevant at all.

Anyway, L hasn't been doing too well recently.  A lot of that, of course, has to do with the wild swings in the drilling industry.  I agree that this is a deeply cyclical industry and who knows when it will turn.  But if you believe that crude oil will play an important role in the global economy for years to come, then the current decline in DO is not a permanent impairment but only a temporary one.

I do think that L is overly conservative, but that's the way they are (and perhaps that's why they have survived for so many decades!).   Sometimes I wish they would do something; Buffett with $240 billion in equity has found things to do in the past few years, you would think L with $20 billion in equity (1/10 the size) would be able to find more things to do.  Well, at least they are buying back their stock, and yes, they have invested a lot in their subsidiaries.

I wonder if some people who came up in the 1980's and 1990's are anchored to valuation levels of the past.   This is not to say that people should pay bubble prices, of course.  Frankly, I don't see a lot of bubble prices in individual stocks (other than some hot restaurant stocks, social media/tech stocks etc.).

The genius of Buffett is that although he grew up paying 2x P/E for non-distressed, "nothing wrong with them" stocks in the 1950's, he can still go out and make the largest acquisition paying 20x P/E (and making value investors around the world roll their eyes at how bad the deal is) without blinking.  Well, we don't actually know if he blinked.  

Anyway, I look forward to the annual report(s).

Tuesday, February 3, 2015

Green Brick Partners, Inc. (GRBK)

So here's an interesting situation.  Some people just have a knack for getting out of bad situations.  I remember when Leucadia got out of their WilTel.  It was a disaster, but they got out at break-even and walked away with a big tax asset.  It sort of reminds me of a silent movie scene where Chaplin or Keaton walks away and a grand piano crashes onto the sidewalk where they stood only moments before.

And here's Einhorn's great escape.

Biofuel Energy Corp
Greenlight and Third Point are both listed as large shareholders in the original S-1 in 2007 so were pre-IPO investors (along with Cargill) of the original BioFuel Energy.

Anyway, this has been a disaster, going from an IPO price of $10.50 down to less than $1.00 in a year and then to $0.25 not soon after that (there was a 1/20 reverse split in 2012).

Greenlight owned around 11.85 million shares after the IPO, valuing the stake at $124 million.  I don't know what his cost was (5 million of the shares had a cost basis of $5/share, 2.5 million were bought on a concurrent private offering on the IPO so presumably cost $10.50, and I don't know what the class B shares cost).   There was a rights offering at $0.56/share in 2010 where I think Greenlight spent $17 million or so bringing up shares owned to 43 million.   And then there was a 1/20 reverse split bringing shares owned by Greenlight to 2.2 million shares.

Anyway, adjusting for the 1/20 reverse split, the $5/share cost translates to $100/share.  The $10.50 IPO price becomes $210, and the $0.56/share they paid for more shares in the 2010 rights offering translates to $11.20/share to the comparable current price of $7.00.

So on this basis, it's hard to say that Greenlight is going to walk away from this at break even.

Anyway, this deal happened at around the time Pacific Ethanol (PEIX) was soaring; Bill Gate's investment company was an investor.   I looked at it then but wondered why it was such a great business; both input and output prices were beyond their control and there clearly was no moat at all (not to mention some very smart people saying what a stupid idea using ethanol for energy was). For Greenlight/Third Point, the plan was probably to just build some ethanol plants and flip them to the public (which they did successfully up to there).

Either way, it's a tiny position for these guys.  It was a nice 'punt' on a popular theme at the time.

Here's a description of BioFuel's business from one of their filings:

BioFuel Energy Corp.BioFuel Energy Corp. was incorporated as a Delaware corporation on April 11, 2006, to invest solely in BioFuel Energy, LLC (the “LLC”), a limited liability company organized on January 25, 2006, to build and operate ethanol production facilities in the midwestern United States. From June 2008 through November 22, 2013, the Company operated two ethanol production facilities located in Wood River, Nebraska, and Fairmont, Minnesota, that produced and sold ethanol and its related co-products. The Company’s ethanol plants were owned and operated by the operating subsidiaries of the LLC, which were party to a Credit Agreement (the “Senior Debt Facility”) with a group of lenders. Substantially all of the assets of the operating subsidiaries were pledged as collateral under the Senior Debt Facility. On November 22, 2013, the Company’s ethanol plants and all related assets were transferred to certain designees of the lenders in full satisfaction of all outstanding obligations under the Senior Debt Facility. Following the disposition of the ethanol production facilities, we are a holding company with no substantial operations of our own. Our headquarters are located in Denver, Colorado. 
At June 30, 2014, the Company retained approximately $8.1 million in cash and cash equivalents. As of June 30, 2014, the Company also retained federal net operating loss (“NOL”) carryforwards in the amount of approximately $181.3 million, which have been fully reserved against.

BIOF basically became a shell company with a tax asset and some cash, and they got a delisting notice from NASDAQ.

And here's the company that it bought (owned mostly by Greenlight):
JBGL is a real estate operator involved in the purchase and development of land for residential use, construction, lending and home building operations. JBGL Capital, LP and JBGL Builder Finance LLC were each formed under the laws of the State of Delaware. JBGL Capital, LP was formed in 2008 and JBGL Builder Finance LLC was formed in 2010. Affiliates of Greenlight provided a majority of the initial capital for both entities, with the Brickman Parties providing the remaining capital. 
JBGL Capital (its land development business) and JBGL Builder Finance (its builder operations business) and their affiliates are engaged in all aspects of the homebuilding process, including land acquisition and development, entitlements, design, construction, marketing and sales of various residential projects in master planned communities, primarily in the high-growth metropolitan areas of Dallas and Fort Worth, Texas (“DFW”) and Atlanta, Georgia. 
JBGL currently owns or controls approximately 4,300 home sites in prime locations in the DFW and Atlanta markets. JBGL considers prime locations to be supply constrained lots with high housing demand and where much of the surrounding property has already been developed. JBGL management believes that it is a leading land developer in its markets. JBGL develops lots for both public company builders and large privately held builders. JBGL also owns 50% controlling interests in several builders and provides construction financing for approximately 900 homes annually.

The purchase price was $275 million; $191.8 million in cash (partly funded by a $150 million loan from Greenlight and $70 million from their rights offering) and 11.1 million shares of stock (priced at $7.49/share).   After all is said and done, Greenlight owns 49.9% of GRBK.    The value of GRBK is up, but most of that increase in value came from the rights offering and new stock issued to Greenlight.

JBGL was basically funded by Greenlight to invest in the real estate business in 2008 to take advantage of a distressed industry.  It is run by James Brickman, a long-time friend of Einhorn:

James R. Brickman — Mr. Brickman is the founding manager and advisor of each of JBGL Capital LP, since 2008, and JBGL Builder Finance LLC since 2010. Mr. Brickman is responsible for all major investment decisions, capital allocation, strategic planning and relationships with JBGL’s builders and lead investor. Prior to forming JBGL in 2008, Mr. Brickman was a manager of various joint ventures and limited partnerships that developed and built low- and high-rise office buildings, multi-family and condominium homes, single-family homes, entitled land and supervised a property management company. He previously also served as Chairman and CEO of Princeton Homes Ltd. and Princeton Realty Corporation, which developed land, constructed custom single-family custom homes and managed apartments it built. Mr. Brickman has over 37 years’ experience in nearly all phases of real estate construction, development and real estate finance property management. He received a B.B.A. degree and M.B.A from Southern Methodist University.

Here are the financials of JBGL before the deal from the BIOF rights offering prospectus:

Three Months Ended June 30,For the Six Months Ended June 30,For the Year Ended December 31,
Sale of residential units$55,048,744$37,829,298$104,685,088$64,958,699$168,591,201$50,105,030$9,085,785$864,822$
Cost of residential units(41,219,387(28,358,191(78,611,754(49,401,195(122,616,113(39,642,357(7,921,806(491,628
Gross profit on sale of residential units13,829,3579,471,10726,073,33415,557,50445,975,08810,462,6731,163,979373,194
Sale of land and lots10,794,6908,881,77024,167,25814,512,39333,734,51322,927,0806,184,2068,905,9672,508,650
Cost of land and lots(8,141,006(5,984,826(17,909,072(8,580,118(21,512,814(15,256,065(3,982,602(5,540,845(1,724,781
Gross profit on sale of land and lots2,653,6842,896,9446,258,1865,932,27512,221,6997,671,0152,201,6043,365,122783,869
Interest and fees305,660783,757680,1201,678,6103,542,1747,124,3392,558,159137,698
Other income427,7321,417,600480,1541,849,6941,400,4183,771,8391,636,099225,524553
Salaries and management fees – related party3,213,4242,079,7086,747,3924,227,84011,266,3514,370,8451,886,509927,736
Selling, general and administrative2,491,408890,3834,772,9772,178,2376,623,4373,311,7341,183,7621,147,042566,312
Other expenses647,077153,471953,976284,576606,210404,67335,7373,332
Net income before taxes10,864,52411,445,84621,017,44918,327,43044,643,38120,942,6144,453,8332,023,428218,110
State tax expense59,000337,790209,500327,481230,41134,08941,888
Net income10,864,52411,386,84620,679,65918,177,93044,315,90020,712,2034,419,7441,981,540218,110
Less: net income attributable to non-controlling interest3,454,8193,772,0675,921,4534,471,69212,308,7343,517,91156,382
Net income attributable to controlling interest$7,409,705$7,614,799$14,758,206$13,646,238$32,007,166$17,194,292$4,363,362$1,981,540$218,110

During the 3Q 2014 conference call, Brickman elaborated on what's different about GRBK:
Our management is very much aligned with our shareholders.  Greenlight Capital is a 49.9% shareholder and my family owns 8.4% of the equity of Great Brick Partners.  Over the last couple of weeks, I’ve received a few questions regarding differences in my ownership percentage in SEC filings compared to the 8.4%.  That is due to some of my family’s ownership being held in the names of my adult children.  Our family in total still owns 8.4%. 
Our goal is to provide superior risk-adjusted returns to our shareholders.  We will accomplish this by focusing on the long-term and not giving too much weight to near-term financial results.  Analysts wanting to see a smooth, linear progression of GAAP earnings quarter-to-quarter may be disappointed.  For example, about 25% of our assets or $75 million is invested in two large neighborhoods that have been under planning and development for two years and have not yet produced any revenue.  We anticipate that both these neighborhoods will come online in 2015. 
Our business model is different than most large public builders.  We are a land development company that also buys controlling interest in local builders, and we make profits in three ways.  First, most of our lots are not owned by our local builders, but by Green Brick.  Green Brick sells lots to these builders at high rates of return.  Second, Green Brick makes first lien construction loans at above market interest rates to our builders.  If our builders can turn their inventory efficiently, their interest cost as a percent of revenue is approximately 4%, which is still typical of most public builders.  Green Brick should make a mid-teen unleveraged return on equity before profit sharing with our builders. 
Third, we do receive profit on lot sales and loans before a builder receives any profit.  Because our builders share the last residual tranche of profit, in other words, sale proceeds from a home, our builders are highly motivated to operate efficiently.

...and later he elaborates:

First, we believe we operate in two of the best housing markets in the country.  Dallas has the best job growth in the country, and Atlanta is the sixth best.  We believe that both of our markets are staged for significant growth.  Large corporations such as Toyota and State Farm are relocating their national headquarters near where we own most of our Dallas lots.  We evaluate every geographical area continuously, but we will not expand into new markets unless we believe they will provide significant future value for our shareholders.
  Second, we have some of the best prime lots in supply constrained sub-markets in Dallas and Atlanta.  Two of our largest investments have been in the planning and development process for about two years.  We anticipate that the Village of Twin Creeks in Allen, Texas and Bellmoore Park in Johns Creek, Georgia will deliver their first homes in 2015, but will not be big contributors to our operating results until the second half of the year.  To learn more about these neighborhoods, please visit our website at
  Three, for our strong operating partners, real estate is a very local business.  We aim to find the very best builders in every geography we enter, and we have award-winning operating partners in the Dallas and Atlanta regions that have been in the business in those markets for decades.  We help our builders with strategic land purchases, product design, capital allocation, and planning, but we leave the day-to-day operations to our builders.
  Four, we aim to build a better product and offer it at a fair price to our customers.  We offer niche product designs in both Atlanta and Dallas that appeal to downsizing homeowners and younger professionals, but stay in the affordable range of $350,000 to $600,000 with most of our product line.  Our historical results show that our strategy has been successful, and we will continue to refine it as we move to open even larger planned communities that we’ve just discussed.  

Tax asset
And here's the tax part of all of this (BIOF):

3. Deferred Tax Asset
As of June 30, 2014, the Company had a $63.4 million deferred tax asset related to its NOLs. For accounting purposes, a valuation allowance is required to reduce a deferred tax asset if it is determined that it is more likely than not that all or some portion of the deferred tax asset will not be realized due to the lack of sufficient taxable income. The Company’s financial statements currently provide a full valuation allowance against our deferred tax asset due to the Company’s historical operating losses and, in accordance with applicable guidance in connection with the preparation of the pro forma financial statements, we have not adjusted this valuation allowance. As a result, the deferred tax asset is not set forth on our historical or pro forma balance sheet.
 The NOLs do not begin to expire until 2029. Our ability to utilize our NOLs will depend on the amount of taxable income we generate in future periods. Based on JBGL’s 2013 and year-to-date 2014 taxable income results, management expects that JBGL should generate sufficient taxable income to utilize substantially all of the NOLs before they expire. The Company will evaluate the appropriateness of a valuation allowance in future periods based on the consideration of all available evidence, including the generation of taxable income, using the more likely than not standard.
Since JBGL netted $32 million in 2013, this DTA should be utilized.   Maybe they reverse the valuation allowance soon.  This would add around $2.03/share to the BPS of GRBK.   Of course, this is an undiscounted figure.  If you assume that they can use up the DTAs in six years, you can give it a 30% discount (using a 10% discount rate); in that case the DTA would be worth $1.42/share

Book Value per Share
So what is GRBK worth?  From the September 2014 prospectus, the pro forma tangible book value per share was around $4.13/share.   But this was based on certain assumptions about the price of BIOF stock on or around the closing date.  

There's a reason I posted this whole section below: 

From the Prospectus dated September 19, 2014:
The following table sets forth the accretion calculations:
As of June 30, 2014
  Biofuel Energy
Corp. Actual
Pro Forma
  (in thousands, except per share amounts)
Tangible assets$8,841$345,867
Tangible liabilities(1,406(216,554
Net tangible assets$7,435$129,313
Divided by shares outstanding6,23831,346
Net tangible book value per share$1.19  (a)$4.13 (b) 

Pro Forma Combined Balance Sheet
As of June 30, 2014

BioFuel Energy
Corp. Actual
Pro Forma AdjustmentsPro Forma Combined
  (in thousands)
Cash and cash equivalents$8,054$17,113$61,735(a) $86,902
Restricted cash  2,009  2,009
Accounts receivable  366  366
Completed home inventory and residential lots held for sale  42,776  42,776
Work in process  133,175  133,175
Undeveloped land  61,103  61,103
Investment in direct financing lease  6,389  6,389
Property and equipment, net571,494  1,551
Notes receivable, net  3,800  3,800
Earnest money deposits  5,600  5,600
Other assets7301,166300(b) 2,196
Total assets$8,841$274,991$62,035$345,867
Liabilities and equity        
Accounts payable$47$9,628$$9,675
Accrued expenses1,3598,141  9,500
Customer and builder deposits  11,249  11,249
Borrowings on lines of credit  20,102  20,102
Notes payable  16,028150,000(c) 166,028
Total liabilities1,40665,148150,000216,554
Commitments and contingencies        
BioFuel Energy Corp. stockholders’ equity:        
Preferred stock        
Common stock54  259(d) 313
Class B common stock8  (8)(e)   
Less common stock held in treasury(4,316  4,316(f)   
Additional paid-in capital191,056199,058(271,899)(g) 118,215
Accumulated deficit(171,789  171,789(g)   
Total BioFuel Energy Corp. stockholders’ equity15,013199,058(95,543118,528
Noncontrolling interest(7,57810,7857,578(h) 10,785
Total equity7,435209,843(87,965129,313
Total liabilities and equity$8,841$274,991$62,035$345,867

 You will notice that the book value per share is calculated by using "Total equity" of $129.313 million.  Usually, to calculate BPS, you would not include noncontrolling interest.  It is included sometimes in these offering documents because what was noncontrolling interest before the deal might be converted into(or assumed to be) common post-deal (that's the case with, say, SHAK).  But here, I couldn't find any explanation. 

JBLG announced 3Q earnings and there is another pro-forma balance sheet as of September 2014 filed in an 8-K: 

Pro Forma Combined Balance Sheet
As of September 30, 2014

BioFuel Energy
Corp. Actual
Pro Forma
Pro Forma
(in thousands)
Cash and cash equivalents$7,081$7,445$25,362(a)$39,888
Restricted cash1,9871,987
Accounts receivable58186
Completed home inventory and residential lots held for sale42,77242,772
Work in process155,215155,215
Undeveloped land58,44758,447
Land not owned under option agreements3,5473,547
Investment in direct financing lease5,9305,930
Property and equipment, net511,6671,718
Earnest money deposits7,1837,183
Other assets1,6931,593(928)(b)2,358
Total assets$8,830$285,867$24,434$319,131
Liabilities and equity
Accounts payable$26$14,074$$14,100
Accrued expenses2,05010,220(1,975)(c)10,295
Customer and builder deposits11,39711,397
Obligations related to land not owned under option agreements3,5473,547
Borrowings on lines of credit25,34425,344
Notes payable12,352150,000(d)162,352
Total liabilities2,07676,934148,025227,035
Commitments and contingencies
BioFuel Energy Corp. stockholders’ equity:
Preferred stock
Common stock54259(e)313
Class B common stock8(8)(f)
Less common stock held in treasury(4,316)4,316(g)
Additional paid-in capital191,056201,781(308,206)(h)84,631
Accumulated deficit(172,393)172,393(h)
Total BioFuel Energy Corp. stockholders’ equity14,409201,781(131,246)84,944
Noncontrolling interest(7,655)7,1527,655(i)7,152
Total equity6,754208,933(123,591)92,096
Total liabilities and equity$8,830$285,867$24,434$319,131

Using the updated total equity amount of $92 million and the same method used in the prospectus (so don't blame me for including noncontrolling interest!), BPS would be $2.94/share.    Adding back the $2.00/share in DTA would give us BPS of $4.94/share or using a discounted $1.40/share DTA would give us a BPS of $4.34/share.  That gives us a valuation of 1.4x or 1.6x BPS.

In the merger proxy, there is a valuation analysis of comps, which is always fun to look at: 

Selected Public Companies Analysis

Duff & Phelps compared certain financial information of JBGL to corresponding data and ratios from the following seventeen publicly traded companies that Duff & Phelps deemed relevant to its analysis:
Beazer Homes USA, Inc. 
D.R. Horton, Inc. 
Hovnanian Enterprises, Inc. 
KB Home 
Lennar Corporation 
M.D.C. Holdings, Inc. 
Meritage Homes Corporation 
NVR, Inc. 
PulteGroup, Inc. 
Standard Pacific Corp. 
Taylor Morrison Home Corporation 
The Ryland Group, Inc. 
Toll Brothers, Inc. 
TRI Pointe Homes, Inc. 
UCP, Inc. 
WCI Communities, Inc., and 
William Lyon Homes 
Although none of these companies is directly comparable to JBGL, Duff & Phelps selected these companies for its analysis based on their relative similarity to JBGL. For purposes of its analysis, Duff & Phelps used certain publicly available historical financial data and consensus equity analyst estimates for the selected companies. This analysis produced valuation multiples of selected financial metrics which Duff & Phelps utilized to estimate the equity value of JBGL.
The tables below summarize certain observed trading multiples and historical and projected financial performance, on an aggregate basis, of the selected public companies as of June 6, 2014. The estimates for2014 and 2015 in the tables below with respect to the selected public companies were derived based on information for the 12-month periods ending closest to JBGL’s fiscal year ends for which information was available.

  3-YR CAGRLTM201420153-YR CAGRLTM3-YR CAGRLTM201420153-YR CAGRLTM201420153-YR CAGRLTM20142015


2014 Net Income14.0x – 15.0x
2015 Net Income10.0x – 11.0x
Book Value as of April 30, 20141.40x – 1.50x

CAGR — Compounded Annual Growth Rate
EPS — Earnings Per Share
LTM — Last Twelve Months
Source: Bloomberg, Capital IQ, SEC filings

Both the mean and median P/B ratios of these home-builders is around 1.7x.  So it looks like GRBK, pro-forma the deal, is trading a little lower than other builders. 

Greenlight Loan
Greenlight loaned GRBK $150 million to complete this deal.
Interest and Repayments
Amounts drawn under the facility will bear interest at 9.0% per annum from October 27, 2014 through the first anniversary thereof and 10.0% per annum thereafter, and the Company will have a one-time right to elect to pay up to four consecutive quarters’ interest in kind. The facility will have no amortization but is subject to mandatory prepayment with 100% of the net cash proceeds received from the incurrence of certain debt by the Company or the issuance of any equity securities. Voluntary prepayments of the facility will be permitted at any time. All prepayments made prior to October 27, 2016 will be subject to a 1.0% prepayment premium.
So this is another lever to enhance value at GRBK.  On the conference call, Brickman said they will do whatever they can to refinance this. 

Low Cost Land
Also, GRBK bought some cheap land during the crisis in 2008, 2009.  Brickman said that they bought a lot of their land a long time ago so they should benefit from that going forward.  I have no doubt that is true, but I was curious and looked at the land inventory figures on the GBRL balance sheet.  

Here it is again, from above:

Their "inventory" back in 2009 and 2010 was only $10-12 million compared to $243 million as of June 2014.  But sure, more of current inventory is going to be developed land and homes (versus, probably a lot of raw land back in 2009/2010).  Undeveloped land inventory was $58 million in June 2014.  $10-12 million doesn't sound like all that much even if it's raw land at distressed prices.  Maybe they were really, really distressed. 

Also, in the cash flow statements from 2011 to 2013, cash used to purchase inventory was $23 million, $98 million and $96 million.  So that's a lot of inventory building in the past two years even, accounting for a large portion of inventory on the balance sheet. 

Check out the cash flow: 

For the Years Ended December 31, 2013, 2012 and 2011

Net income$44,315,900$20,712,203$4,419,744
Adjustment to reconcile net income to net cash used in operating activities:      
Depreciation expense291,85753,2898,142
(Increase) decrease in:      
Restricted cash(1,063,160(320,095
Accounts receivable(333,226624,021(100,979
Earnest money deposits(1,982,640(1,309,366
Other assets(981,731130,858(182,088
Increase (decrease) in:      
Accounts payable4,137,3394,257,636220,900
Accrued expenses3,956,0321,156,370192,234
Customer and builder deposits(1,444,5309,150,7201,154,600
NET CASH USED IN OPERATING ACTIVITIES(49,310,297(63,698,703(17,533,399
Investment in direct financing leases(13,284,446
Proceeds from sale of direct financing leases3,168,0001,767,150
Issuance of notes receivable(4,200,840(17,788,385(35,276,206
Repayments of notes receivable11,916,94032,317,67218,103,264
Acquisition of property and equipment(687,115(490,784(26,444
Borrowings from lines of credit39,000,00028,203,7184,675,000
Proceeds from notes payable21,462,72722,876,5145,102,796
Repayments of lines of credit(28,336,229(24,609,454(1,725,000
Repayments of notes payable(16,309,273(5,152,371(2,178,790
Contributions from controlling interest members57,285,53541,500,00029,847,500
Contributions from non-controlling interest members1,756,4171,214,766424,587
Distributions to controlling interest members(19,477,755(1,028,437(357,130
Distributions to non-controlling interest members(6,749,083(2,789,978(31,298
CASH AND CASH EQUIVALENTS AT END OF YEAR$16,683,424$7,164,397$8,127,135
Cash paid for:      
State income taxes$664,880$137,620$10,344

So anyway, there is probably a lot of low cost inventory on the books, but there is also a lot of inventory recently acquired. 

Liquidation Value
Also, there is a view that their owned lots are worth a lot more than the balance sheet value.  This is probably true, particularly for the stuff bought in 2008, 2009 etc.  But maybe not so much for what was recently acquired.  A lot of private equity and others have been running around buying up land since the crisis, right? 

Anyway, I think the idea is that they have been selling developed lots for $100,000/lot and they own 3,517 plots.  That comes to around $352 million.   First of all, the problem with this is that the lots sold are developed.  Land developers buy raw land, develop it, and then sell it.  It does cost money to develop land (zoning, clearing, septic/utilities etc.)

Here is the breakdown of their inventory as of September 2014:

  Completed home inventory and residential lots held for sale:   $43 million
  Work in process:  $155 million
  Undeveloped land:  $58 million 

But let's just say the lots are worth $352 million.  Add cash as of September 2014 of $40 million and then deduct $188 million in total debt and we get around $204 million.  With 31.3 million shares outstanding, that comes to $6.52/share  Add $2.00/share in DTA and you get $8.52/share.  Add $1.40/share in DTA and you get 7.92/share.  (The balance sheet is posted above so you can do your own variations of this).   This doesn't take into account any tax that may have to be paid on gains in sale of the lots nor does it take into account possible costs to develop the raw inventory.  

I have my reservations about this sort of valuation because of the potential development costs not included and other assumptions (that each plot is worth $100,000), but it can be a sanity check.  

EBITDA Valuation
In the conference call, Brickman said that they don't want to give guidance, but there was guidance with respect to JBGL in the prospectus.  In the above table, JBGL revenue growth is expected to be +14.4% in 2014 (already more than 20% year-to-date through September) and +50.4% in 2015.   EBITDA margin is expected to be 16.9% in 2014 and 15.8% in 2015.   These aren't official guidance to investors so maybe we shouldn't lean too hard on them.  Merger proxies often have projections that management uses to evaluate deals etc.

Anyway, 2013 revenues were around $200 million for JBGL in 2013 (just adding the home sales and land sales).  Assuming this grows +14.4% for the full year 2014 and then +50.4% in 2015, that gets us to revenues of around $344 million.  And put a 15.8% EBITDA margin on that and we get 2015 expected EBITDA of $54 million.

With the stock trading at around $7.00/share,  that's a market cap of $219 million.  Add $188 million in total debt and $7 million in noncontrolling interest less $40 million in cash we get $374 million in EV.   That values GRBK at 6.9x EV/EBITDA.   At 10x EV/EBITDA, the stock would be at $11/share; this is excluding cash and DTA.

You can do the same sort of exercise using earnings, but I thought EBITDA would be easier.  For earnings, you can just add back the losses generated by the old Biofuel, which should roll off to zero.  But with noncontrolling interest, taxes and whatnot, I figured just looking at the EBITDA would be easier.

You can get to EPS using the EBITDA above, but the trick would be figuring out what the deduction for noncontrolling interest would be; it doesn't seem to be a linear relationship.

So this is kind of interesting.  Housing hasn't really recovered as many assumed it would.  Buying into sectors that have been down and out for a long time are usually a better idea, I think, than jumping into something when the down cycle may have just begun.  For example, crude oil is down a lot in the past few months, but I don't know if jumping in now would be a great idea.  If there is something interesting, of course, it's always a good idea to get in and the lower the price, the better. 

But what I mean is that sometimes the best investments are found not after an immediate crash/collapse, but after an extended period of time after the bust.  Sort of like when Loews was buying unwanted rigs.  The energy industry was down and out for a long time.  I think the rig count has been going down for years at that point when L started scooping up unwanted rigs. 

The recent rush into energy by private equity funds and others seems to have come after the crash of crude from $150/barrel.  And the natural gas investments increased a bunch when gas prices collapsed.   

Some cycles are really long so it may take years for these investments to pan out. 

In this sense, housing is interesting because it's been on it's back for a few years now. 

Is GRBK the right way to play it?  I'm not sure. 

But what I do think is interesting is that it is sort of an owner/operator situation.  Greenlight owns 49% and Brickman owns 8.4%.   The 49% ownership pretty much guarantees that GRBK will be run with smart capital allocation (or at least an attempt at that). 

It is a special situation in that it is a reverse merger (or back-door listing), not that that works out all the time (very often it doesn't).  It's an opportunity to invest in a private deal that Greenlight invested in for a reasonable price.   It's true that the previous JBGL owners cashed out $192 million (mostly Greenlight), but Greenlight still has more than $100 million in GRBK stock (and a $150 million loan yielding 9%; they paid $25 million for 5 million shares in the rights offering last year and accepted 8.5 million newly issued shares valued at $64 million as part of the deal). 

Einhorn called this a win-win deal.  But of course it is.  It's a win for Einhorn because he cashed out of JBGL, and it's a win for Einhorn because he found a solution to the "Biofuel problem" and avoided delisting and will be able to realize the DTA. 

Current and future investors might win too.  They do have two large developments at a higher price point than previous ones that will come online that should fuel growth for a few years.

I played with some numbers above, but I don't know if I got everything right (or anything!); it's a messy situation.  But that's why it's an interesting one, right?  Particularly, the EV/EBITDA seems quite low (but it does assume 50% sales growth in 2015 which may or may not happen!).  There is something to be said about the low noncontrolling interest on the balance sheet versus the high amount of income deducted for them; this may distort the EV/EBITDA too.

On the other hand, the market may just not be discounting a 50% growth in revenues for 2015, which admittedly may or may not happen.

All we got from Brickman on the conference call is that there are two big, new developments that will feed growth for years to come (that opens in 2015).

Stay tuned!