Travel Centers of America: Rare Value Investing Opportunity

Travel Centers of America (TA) is one of those rare investing opportunities that a value investor spends countless hours looking for. We will analyze the investment thesis for TA in two parts. In this part, we will estimate the intrinsic value of TA looking at its Assets and Liabilities. Next part will cover the analysis using the EPV or Earnings Power Value of TA.

For our analysis, we will start with the latest Quarterly Report available for the Q2, 2009.

This gives us an intrinsic value of the business based on its assets as 805 – 554.5 = $250.5 million or $15 per share.

As the company is now operating at a slight loss we should demand a margin of safety of 50% of the intrinsic value. This allows us to be comfortable knowing that the company has room for some asset value erosion if the business continues to operate at a slight loss in the future. It does seem that even a 1% increase in the trucking volumes will push the company to profitability (as it has worked hard to improve its cost position in the last few years). More on this in the next post.

A value investor should thus be comfortable paying up to $7.5 per share for TA. Mr Market currently is offering up the shares at $5.75 so it is an attractive buy at almost 65% discount to the intrinsic value. I acquired the shares at $5.2 (plus commissions) last week.

Additonal thoughts: The relationship with Hospitality Properties (HPT) is a net asset for TA due to HPT’s inclination to work with the company to make sure it remains on the sound footing. Additionally, the recent rent deferral agreement in exchange for TA equity is also a net plus as it can be viewed as a call option that TA holds at a strike price below $3 and that it can exercise at the time whenever it decides to not defer its rent (in the amount of rent deferral not taken) or when it decides to pay back the deferred rent. We have not calculated the value of these assets, comfortable in the thought that they just work to increase the margin of safety in our investment.

Disclosure: Author holds positions in the above mentioned stock.

Comments

[ari5000:]

TA ran up about 40% last week.

Where we you when TA was in the 3s?

Probably buying.

No thanks.

Sep 14 07:06 AM

[toomuchgas:]

If TA is ever able to pay the past due rent to HPT, HPT will raise the rent so it can milk all TA's cash flow.

Sep 14 09:12 AM

[Deepv:]

I think the most important data point, and what sparked interest is LUK purchases. I think we all know that C&S would not even bother with something this small in market cap if there wasn't substantial upside. You don't need to be rocket scientist to look at net cash. re: the run up, anchoring on past values is almost always unwise, low or high...

Sep 14 10:43 AM

[Arohan:]

I agree with the LUK comment and to be frank, that is what brought TA to my attention. Regarding the comment about why I did not buy at $3; I do not think that is relevant. What is relevant is I purchase when the stock offers value and in my opinion I did that. I will let the market figure it out.

Sep 14 11:08 AM

[PlanMaestro:]

Arohan, I think it is problematic to recommend buying this stock at the 6s and I am not sure you grasped the risks or the economics of the business. This was part of my reasoning when I bought at lower prices, and check the comments to the last part to the series:

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Sep 14 11:54 AM

[Arohan:]

plan.maestro, Thanks for the voice of caution. I have spent considerable time researching this company and the business as well as the agency issues with HPT and personally feel that the margin of safety (when I purchased) was sufficient to overcome these concerns. Of course, the margin of safety has since eroded a bit but I do stand by my findings.

Sep 14 12:13 PM

[Snitzer:]

Had this one on a watch list for a while, thinking some P&D going on but would consider buying @ 2.50, might be good cannon fodder stock.

Sep 14 04:47 PM

[PlanMaestro:]

Fair enough, thanks Arohan.

Sep 14 06:19 PM

[ari5000:]

and it's back to the 3s....


awful pick for anyone except fast traders. Just didn't do careful analysis at all... markets at new highs... this thing tanks.

Nov 11 01:27 PM

[Dick Stanton:]

I agree. What happened? The market is booming and this stock goes from 8.75 - 3.XX. Arohan, what are your thoughts? Nothing has changed. The economy seems to be improving, they still have $185M in cash ($11 cash value) $22 book value. What will it take for this to rebound?

Nov 11 04:54 PM

[Hamilton:]

I saw this article and was mildly intrigued. However, a brief analysis changed my opinion.

Breakdown of PP&E: Approximately $200m is land and buildings, $100m is equipment, and $100m is leasehold improvements. I don’t know any more than this, and I have no idea how these assets would be treated in a liquidation situation.

Cash: The large cash balance is deceiving because of the deferred rent and deferred rental allowances. If these are subtracted from the cash balance as they should be, cash is more like $25 million.

Debt: Under an operating lease, a portion of rent is essentially considered interest, and a portion is essentially considered principal, making it a similar instrument to debt. So the company essentially has $102 million in debt, which offsets the $25 million in cash.

My concern about using an asset approach when investing in this company is the nature of the relationship between it and Hospitality Properties Trust (HPT), its landlord and former owner. Without investigating the situation further, my guess is that HPT may have claims on many of the assets listed on the balance sheet, and would receive many of them in liquidation.

As a result, I think the best way to value this company should be based on its earnings power, but this is nearly impossible due to its extremely high operating leverage. According to the most recent conference call, it earned $60m EBITDAR in 3Q 2009 versus $88m in 3Q 2008 (which was record high due to high retail gas spreads) versus approximately $53m in 3Q 2007. Monthly rent expense of $58.5m (which even in the best quarter I could find was 70% of EBITDAR, meaning they are probably paying WAY too much) yields EBITDA of $1.5m in 3Q 2009 and $28m in 3Q 2008. As you can see, this business has HUGE operating leverage due to what appears to be unfairly large rent payments. A 30% decrease in EBITDAR leads to a 95% decrease in EBITDA. This is before factoring in maintenance capex of $6.5m, which yields rough cash flow estimates of -$5m and $21.5m for 3Q 2009 and 2008, respectively.

With $102m in operating leases minus $25m in cash plus a current market cap of $60m, I get a rough enterprise value estimate of $137m. If you annualize the 3Q 2009 EBITDA numbers, this yields an EV/EBITDA of 22.8, while using the record 3Q 2008 numbers yields an EV/EBITDA of 1.2. EBITDA in 3Q 2007 was negative, so the decrease between 2008 and 2009 is NOT primarily due to economic weakness. The volatility in operating results is primarily fueled by retail spreads on gas which have ranged between $0.08 and $0.12 during the time period.

I would argue that TA is a highly leveraged, speculative play on retail gas spreads rather than a value play. It has an awful competitive position as suppliers like Coke, Burger King, and Exxon reap most of the industry profits, while the rest goes to its landlord and former owner, HPT, due to what appear to be onerous lease agreements. In my opinion, TA’s share price has declined precipitously not because of the economy, but because of an outrageously priced IPO. Investors have fled because of an increased understanding of the lopsided relationship with HPT, not because of an overreaction to reversible changes in TA’s expected operating results.

While it may be possible to capture large profits in this stock due to price volatility, I would only invest if I had reason to believe that retail gas spreads will stay near $0.12 per gallon indefinitely.

Nov 12 11:46 AM