Perini: A Constructive Buy / Write Combination

Mar.29.09 | About: Perini Corp. (PCR)

Perini (NYSE: PCR) provides general contracting, construction management and architectural design services for both the civil and commercial markets. The company deals with the U.S. military, government agencies as well as utility companies on both domestic and international projects.

Business was very strong from 2005 through 2008 and EPS grew from $0.20 to $3.67 over that time frame (excluding one-time acquisition related charges in late 2008). The slow economy has cut backlogs and earnings expectations for 2009 and 2010 to $2.75 and $2.78 pending improvements in overall business conditions.

Perini has used the downturn to make a couple of purchases that should lead to higher revenues and earnings for the next growth cycle. In January the company closed on general contractor Keating Building Company for $43 million in cash plus future payments tied to operating results in 2009 to 2011. Keating had 2008 sales of about $430 million making the purchase look like a bargain at just 1/10th of sales.

Perini’s balance sheet looks good. As of December 31, 2008 it held $386 million in cash against only $80.2 million in total debt with only $7.3 million coming due over the next five years. Total debt equaled just 5% of total capital.

PCR shares have dropped from a 2008 high of $44.80 to just $12.25 right now making its P/E a very low 4.5x year ahead estimates. The poor economy seems to be more than priced in already. While PCR shares have often traded at 3 – 5 times book value, today they trade at < 1 time book.

Even six times earnings would bring these shares back to $16.50 by year end. PCR has changed hands as high as $26.60 during January this year.

Here’s a fine, relatively conservative combination play that makes sense even if you’re somewhat pessimistic for the near term.

On the October 16 expiration date:

If PCR shares have risen to $12.50 or higher

(just 2% above the current quote):

Your $12.50 calls will be exercised.

You will sell your shares for $12,500.

Your $12.50 puts will expire worthless (a god thing for you as a seller).

You will have no further option obligations.

You will have $12,500 cash for your initial outlay of $6,150.

Net profit would equal $6,350.

That’s a cash-on-cash return of 103% over less than seven months on shares which only had to rise by 2% or more from inception of the trade.

What’s the downside?

Should PCR shares remain under $12.50 through October 16, 2009:

Your $12.50 calls will expire worthless.

Your $12.50 puts would be exercised.

You would be forced to buy an additional 1000 shares.

You’d need to lay out an extra $12,500 cash.

You would then own 2000 shares of PCR.

Your break-even would be figured as follows:

On the original 1000 shares it’s the $12.25 purchase price less the

$3.00 /share call premium = $9.25 /share.

On the shares from the assigned puts it’s the $12.50 strike price less

the $3.10 /share put premium = $9.40 /share.

Your average cost would be the average of $9.25 and $9.40 = $9.33 /share.

Thus, even if Perini shares decline by $2.93 or (-23.8%) you would not lose money on this trade.

Could PCR trade below $9.33 by October? Sure, but the last time that happened was in June of 2004. Since then sales, earnings, cash flow and book value have all more than doubled.

The absolute low prices for PCR shares were $12.01, $19.80, $28.00 and $11.50 in each calendar year 2005-2006-2007-2008 respectively making the probability of a sub-$9.33 price a very low probability event.

Conversely, high share prices of $27.30, $33.47, $75.43 and $44.80 in 2005-2008 show the rather large historical upside.

If anyone thinking of this trade decided to use higher strike price calls it would be understandable.

In summary:

Traders who put on this trade as written up here would see best case scenario gains of 103% over a seven month period on shares which only need to rise by 2%. They would see downside protection of over 23% to a share price that is lower than any trade on PCR since almost five years ago.

Disclosure: Author is long PCR shares and short PCR options.