By Jake Mann
In the universe of hedge fund filings, 13D filings represent the language of activist investors, and everyone from Carl Icahn to Jeff Smith uses them. This past week, one filing that caught our eye was an amended 13D from Jana Partners. Managed by Barry Rosenstein and founded in 2001, Jana's tagline is "Ignore the crowd," and it has worked quite nicely, as the fund is up close to 200% since inception.
Jana Partners' latest move
Rosenstein and Jana's latest 13D details its stake in chemical company Ashland (ASH). Shares of the $7 billion market cap diversified chemical maker are up 4.4% over the past month, and Jana's latest move solidifies its spot as the company's largest individual shareholder with 8.4% of outstanding shares.
Ordinarily, Jana's Ashland filing would intrigue us because of its sheer size, but there's another reason to dig into this company: Daniel W. Lawrence of Elmrox Investment Group presented on Ashland at the most recent Value Investing Congress, and we at Insider Monkey were in attendance. Here's Lawrence's full slideshow, and we're going to break down the bullish thesis behind Ashland that he-and Jana-likely share.
As mentioned above, Jana Partners' stake in Ashland is of an activist nature. So, from the very start, we know that most outside investors are likely focused on shareholder value stimulation. Lawrence paraphrases this term in his analysis of Ashland, specifically mentioning that there are "many paths" that can lead to a "potential upside of up to ~100% to ~193% depending on the road taken."
From sheer experience, most investors can guess that these "roads" are likely a share buyback of some kind and a dividend boost of some kind, but a few of Lawrence's scenarios are a bit more exotic. These include: a spinoff of Ashland's Valvoline division-which makes up 25% of revenues and 24% of EBITDA-to shareholders. According to Lawrence, income-seeking investors would applaud this move because of Valvoline's cash generating abilities.
Jana Partners' investment in Oil States International (OIS) was met with success when the company announced this summer it would spinoff its worker accommodations business, so he's been in this situation before, and rather recently at that. An Ashland-Valvoline spinoff likely would not result in a REIT (as is expected of OIS), but the end goal remains the same.
Aside from this potential move, Lawrence and Elmrox mention that a conversion of Valvoline to a master limited partnership would serve a similar purpose. Jana also has recent experience in the MLP arena, as it recommended QEP Resources (QEP) to form one earlier this year after taking a stake in 2012. The company announced its plan to form a midstream MLP in January.
At its current price near $91 a share, Lawrence and Elmrox believe (page 4 of the aforementioned presentation) that Ashland has a higher appreciative potential under the Valvoline MLP scenario, compared to a straight spinoff of operations. With the MLP move, the firm estimates that ASH shares have 50% to 167% upside versus 29% to 114% upside with a spinoff.
The reasoning for this, according to Lawrence and Elmrox, is because "a Valvoline MLP would garner a premium valuation relative to most" due to less cyclical reliance and the need for fewer capital-intensive procedures. This would allow for much more of Valvoline's cash flow to be given to shareholders immediately upon the creation of an MLP.
In addition to Ashland's value-stimulation scenarios, shares of the chemical maker are also attractive from a more fundamental standpoint. The company trades at a forward earnings multiple near the bottom fourth of the major diversified chemicals industry, and it trades at a 9% discount to sales parity. Year-ahead EBITDA multiples are near 7-8x, i.e. fairly cheap. More importantly, as Lawrence points out, in addition to the spinoff and MLP scenarios available to Ashland and Valvoline, the latter is trading at an EBITDA multiple below 3x. The industry average is 2.5-4 times higher than this mark.
So, with two ways to put Valvoline to better use in addition to the value that's oozing out of the company, it's understandable why an activist would be bullish on Ashland. With Jana Partners' pedigree and recent successes in this arena, it's reasonable to expect that one way or the other, shareholders may be getting a nice Christmas present this year.