Income from highways and bridges
At Durig Capital, we have developed a process to screen, review, select, purchase and monitor high yielding corporate bonds. This week we dug into Tutor Perini Corporation (TPC) and hit what appears to be high yield paydirt with their 85 months bonds.
The following is our review process, along with supporting documents, showing why we believe their slightly over 7 year bond offering a remarkable 10.094% yield to maturity passes the criteria for our clients.
Step 1 - Assessing the Yield Curve
There is enough confidence returning to the market this week that we have observed the price of many higher yielding bonds starting to strengthen, resulting in declining yields. As the market continues to stabilize, perhaps there will also be an increased concern for acquiring fixed income instruments that outpace inflation. With 10 year Treasuries currently trading at about a 2.16 % yield and the current CPI at 3.8%, this 7 year 10% bond appears to be able to make a stunning difference in performance as long the underlying fundamentals of the issuer, which we will review the major elements below, in this article, support future income and principle payments.
Step 2 - A look at the issuer
Tutor Perini Corporation is a leading civil and building construction company that offers diversified contracting, along with design/build services, to private clients and public agencies throughout the world. Established in 1894, they provide general contracting, pre-construction planning and comprehensive project management services. They are renowned for their major complex building project commitments, as well as their capacity to perform large and difficult transportation and heavy civil construction, for government agencies and private clients throughout the world.
Step 3 - We like companies that are profitable
Tutor Perini net income was $19.7 million for the second quarter of 2011, with diluted earnings per share of $0.41. Both of these numbers were down from the prior year, but considering their $5 billion (and growing) backlog of uncompleted construction from the last three quarters, they appear to be stable in the current economy. Work uncompleted at June 30, 2011 was $5.0 billion, an increase of $0.8 billion from backlog reported at March 31, 2011 and an increase of $0.7 billion from $4.3 billion reported at December 31, 2010. Some of the increase was due to companies purchased during the recent downturn.
Step 4 - Interest Coverage RatiosTutor Perini provided $172 million from earnings before interest tax and amortization, or EBITA, for the year of 2010. They owe about $ 29 million in annual interest expense on the debt, and based on last year’s earnings their interest coverage was about 6 times. Knowing the last quarter was weaker, we reconsidered the interest coverage, and it worked out to be over 5 times. This is a strong ratio, and well above most what most banks would require.
Step 5 - We like companies with lower debt-to-cash ratios
Tutor Perini reported long term debt at $ 638 million. Cash and short term investments grew to $422 million. Long term debt is more than cash on hand, meaning that while they would be able pay off most to the debt, they would still be short about $216 million were an unforeseen event to occur. Considering that they had net income in calendar 2010 of $172 million, the debt level appears quite manageable. The Company believes its financial position and credit arrangements are sufficient to support both its current backlog and anticipated new work.
Step 6 - We like companies that have flexible balance sheets
Tutor Perini currently has a market capitalization of $642 million, while long term debt is around $638 million. A debt-to-equity ratio of just above .47 is lower than what most banks would require, and since the company is less than 50% in debt, this is acceptable. Banks often loan up to 75% if the company needed additional funding, and they could easily issue new stock (although this would be quite dilutive to current shareholders.)
Banks would like the 5 billion dollar, and growing, backlog. The current backlog alone should provide about 2 years of future revenues. While this is short of the 7 year life, demonstrating backlog growth in this economy helps demonstrate their unique building experience, as several building companies during this same time have reduce their backlog.
Step 7 - We like high yields
This issue of Tutor Perini currently has a 10% yield to maturity in the 11th month 2018, while corresponding U.S. Treasuries yield only 1.68%. Although the credit ratings are widely different, we believe this large 8.32% spread between the yields is extremely high given the risks that we can identify.
Step 8 - Risk Considerations
Even though Tutor Perini provides very unique and complex building solutions, they are still in the construction industry, one that is known for large cyclical changes. However, they have been well managed through this downturn and were even able to expand their service footprint. Their backlog equates to about two years, and this bond is slightly longer than we normally consider. But, we anticipate a continued growth of their backlog as they have been doing over the last three quarters. Bank funding for larger projects that Tutor Perini works on froze in late 2008, and even though we’re seeing the financing situation SLOWLY improve, there is still a chance that a similar credit crunch could repeat. Greece is a daily reminder of what undisciplined debt can do. We believe that these Tutor Perini bonds have similar to slightly higher risks, a longer maturity, and a much higher yield that the bonds reviewed in Seagate Technologies 2016 Bond Provides Income From the Clouds and American Railcar 2014 Bond.
Summary and Conclusion
This is an exceptional yield, even considering its longer 7 year maturity, and especially so if it is called prior to maturity. Although Tutor Perini bonds are rated as Ba3/BB-, we believe they are a savvy risk offering a significantly higher yield from a company that has a good cash position, solid interest coverage, and a weaker but still rather flexible balance sheet.
- CUSIP: 901109AB4
- Coupon: 7.625
- Ratings: Ba3/ BB+
- Maturity: 11/01/2018
- Price$ 87.750
- Yield to Maturity: 10.094%
- Yield to Worst: 10.094%
Disclosure: Durig Capital and certain clients currently have positions in Tutor Perini bonds