Joel Greenblatt's You Can Be A Stock Market Genius covers niche investing opportunities available to retail investors. This article will cover the most accessible and easily applicable investing opportunities: Spinoffs.
Spinoffs are the creation of an independent company through the sale or distribution of new shares of an existing business/division of a parent company. A spinoff is a type of divestiture. Businesses wishing to 'streamline' their operations often sell less productive, or unrelated subsidiary businesses as spinoffs. The spun-off companies are expected to be worth more as independent entities than as part of a larger business.
Spinoffs are a fundamentally inefficient method of distributing stock to people/managers who may not want it. For the most part, investors were investing in the parent companies business. Once they are sold, it is often done without regard to price or fundamental value. This tends to depress the stock initially. It is very common for spinoffs, as well as parent companies, to experience institutional selling if the new market caps fall below required thresholds, the company changes its dividend policy, or has no institutional coverage. Index funds may also be forced to sell if the stock is de-listed or removed as a result of the corporate action. This can create opportunities for astute investors to buy shares in undervalued companies at favorable prices.
Where to Focus
The combination of management accountability and more direct incentives usually show up in post-spin performance.
- Debt Levels - Often times the parent company will unload debt onto the spinoff. This can relieve the parent of burdensome debt as well as create leveraged returns for the spinoff if the debt amount is reasonable.
- Incentives - management compensation may be heavily incentive-laden through options and warrants to oversee the success of the spinoff. It is not uncommon for directors and executives in the parent to receive incentive-based compensation of the parent continues to own equity in the spun-off entity.
- Discounted Values - Through simple calculations and pro-forma statements available in company filings, it is commonly possible to calculate relative value for parent and spinoff.
- Institutional Selling - Spinoffs may no longer be suitable for institutional investors
- Insider Activities - A key signal where future value may lie
Announcements of upcoming and recent spinoffs, with company filings can be located here at Rocket Financial. This is where I conduct most of my initial research. All the below charts are from FinViz.com
I did not selectively select these stocks, this is based off a list of recently spun off companies. As of April 25, 2013, the median return since inception for these stocks is approximately 36%. Furthermore, studies have shown that spinoffs, as well as the parent company, have outperformed the S&P 500 by 10% per year for the first three years. Clearly, you do not have to invest early to take part in exception returns.
According to Rocket Financial, there are a couple opportunities for both recent and upcoming spinoffs: Corner Store Brands (CST) and Murphy USA. Both companies are retail gas stations spinning off from Valero Energy and Murphy Oil, respectively. Additionally, Newcastle (NCT) recently spun off its residential arm into New Residential (NRZ). I am long NRZ, CST, and will most likely be purchasing Murphy USA upon completion in the second half of 2013. I also own The Howard Hughes Corporation (HHC) and will be researching Huntington Ingalls Industries (HII)
- Corner Store Brands | Valero Energy - Spinoff of retail segment, which is one of the largest in the US and Canada with 1,027 in US and 849 in Canada. VLO retained a 20% share of the company which is an incentive to see the spinoff succeed
- Murphy USA | Murphy Oil (MUR) - To be completed in 2H13. 85% of retail stores located on Walmart outlots and participate in Walmart discount program. Store locations attract high traffic on small footprint. Company operates at 58% of the average operating costs of competitors. Source here. Management planning to convert remaining 15% of stores to the Walmart discount program, offering lower costs to customers and higher margins. Profit margin based on as-reported segment revenues as of December 31st, 2013 of 4.26%, compared to average of 1.36% for Casey's Stores (CASY), Susser Holdings (SUSS) and Corner Store Brands .
- New Residential | Newcastle - Investor presentation here and source here. Divergence of Commercial and Residential operations will create returns without excessive leverage. The residential operation has several agreements in place to purchase shares in mortgage servicing rights for Nationstar Mortgage (NSM) and a higher aggregate market value for two separated companies with tailored capital structures.
If you are not willing to commit to any single stock, Guggenheim Investments offers an ETF that invests in spinoffs: CSD. Below is a breakdown of holdings and performance:
|Investment Name||% of Portfolio||Date Purchased||TYD Return||P/E|
|Lumos Networks Corp||5.19||6/15/2012||83.43||22.32|
|Marriott Vacations Worldwide Corp||4.72||6/15/2012||8.88||66.23|
|Huntington Ingalls Industries Inc||4.66||6/15/2012||33.78||18.52|
|AMC Networks Inc||4.64||6/15/2012||38.59||32.05|
|Fortune Brands Home & Security Inc||4.61||6/15/2012||34.74||45.87|
|Kraft Foods Group Inc||4.59||6/14/2013||23.22||20.33|
|WPX Energy Inc Class A||4.53||12/14/2012||28.7||-|
|Post Holdings Inc||4.51||12/14/2012||30.16||38.91|
|Fiesta Restaurant Group Inc||4.49||12/14/2012||128.46||53.48|
|Starz Inc Class A||4.48||6/14/2013||69.48||11.63|
|Phoenix New Media Ltd ADR||4.47||6/15/2012||51.1||23.81|
|Rouse Properties Inc||4.46||12/14/2012||19.44||-|
|SunCoke Energy Inc||4.1||12/14/2012||-8.34||11.96|
|Atlas Res Partners L P (Unit)||3.94||12/14/2012||-3.56||-|
|Vishay Precision Group, Inc.||3.92||6/15/2012||24.28||20.12|
|Marathon Petroleum Corp||3.89||6/15/2012||11.33||6.67|
|Genie Energy Ltd Common Stock B||3.68||6/15/2012||36.9||-|
|Lone Pine Resources Inc||0.57||6/15/2012||-65.04||-|
According to Morningstar, CSD has a YTD return of approximately 24% compared to the S&P 500's 13%. The fund has a Five Star rating and a very competitive 0.65% expense ratio, making this an attractive option for retail investors interested in investing in spin-offs in a more passive way.
Overall, spinoffs create excellent opportunities for retail investors willing to do their own research. Smaller market cap companies have less coverage and will require more research on the investors' behalf, but can provide excessive returns with strong probabilities.
Additional disclosure: I may be considering a position in HII in the near future