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Tim Travis is CIO of and is CEO of T&T Investment Management L.L.C. Tim currently possesses the series 3, 7, 63, and 65 licenses, and he works actively in the field of investment management. Both Optimi Trading and T&T Investment Management L.L.C are investment... More
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  • KB Homes (KBH) Hybrid Options Investment
    JUNE 29, 2010 BY


    Symbol: KBH

    Price: $11.10

    Shares Outstanding: 77 Million

    Market Cap: $977 Million

    Book Value: $648 Million

    Adjusted Book Value: $1,232 Million

    Enterprise Value: $1,352 Million

    Normalized  Earnings Power: $100 MM

    Earnings Per Share  2009:   ($12.59)            TTM 2010: ($1.33)

    P/E:  N/A    

     FCF  per share         2009: $349 MM      

    Normalized Return on Equity: 8-10%

    Investment Rationale:

    KBH Income Statements

    KBH Balance Sheets

    KBH Cash Flow Statements

    Founded in 1957, KB Home builds and sells single-family homes mostly to first-time, and first-time move-up buyers. in 30 markets in 10 states. In 2009, it delivered 8,488 homes at an average price of $207,100. Its most significant operations are in California, Arizona, Florida, Texas, and Nevada. The company divested its French operations in 2007 and now focuses entirely on the U.S.

    KBH primarily focuses on the first-time home buyers which we view as the most attractive demographic being that most new home purchases are likely to be the result of new household creation, as opposed to speculation or vacation purchases. They have been catering products specifically for this niche through their Open Series line of homes which is specifically suited to qualify for Fannie Mae and Freddie Mac mortgage financing. Management has proven to be some of the most competent in the industry in that they quickly move to downsize operations, cut costs, and refocus operations to a more specific demographic.  Many of their competitors engaged in value destructive mergers and equity issuances while KBH has lowered its share count over the last few years.

    The company has been paying off debt and generating cash. Now they boast a relatively clean balance sheet and they expect to maintain over $1 Billion in cash by the end of the year. This has allowed them to make strategic purchases of finished lots at attractive deals in some of the more attractive geographies. We expect them to continue to selectively buy more properties and we are comfortable with their current inventory make up of $1.7 Billion, in which $1.2 Billion is related to homes sold, in backlog, or finished lots. This means that they don’t have some of the spec properties that a lot of the other builders are still holding on to.

    For the first time since 2005 KBH has seen increased year-over-year home orders. A lot of this increase was due to the tax credit for new home buyers but we do feel that positive momentum combined with aggressive cost cutting is putting KBH back on the track to profitability. Because of their losses over the last several years KBH has about $6 a share in net operating loss carryforwards that they can use against profits, which accounts for the higher adjusted book value.

    Due to significantly lower collateral values, extremely low interest rates, and an uncertain outlook on inflation we are confident that housing is close to a bottom. Prices have actually been rising in California and several of the other trouble markets over the last few months which is encouraging. The banks still aren’t extending the credit that is needed for new home buyers to step in at much higher volumes but we feel that the situation is fluid and as banking profits stabilize we will see increased lending levels. Many of the foreclosures and short sales are working their way through the system and eventually these homes are going to have to buy homes again, and KBH is perfectly situated in that many homebuyers will be faced with the proposition of downsizing to more affordable homes.

    Typically home builder stocks rally in anticipation of an increase in new home purchases so we think the stock will perform well prior to the actual economy showing significant strength. The key is that we are getting in at a price substantially below the adjusted book value, with expectations extremely low on a well financed company with excellent prospects over the next 3-5 years.

    Investment Strategy:

    Buy 100 KBH at $11.10

    Sell 1 August KBH 10 put for .50

    Sell 1 August KBH 12 call for .50

    Target Profit: $590 if options expire worthless and stock goes to $16

    Maximum Risk: $2,010 if both put options are exercised

    Days Remaining: 52

    Target Net on Cash: 29.3%

    Target net on cash if options expire and stock doesn’t move: 9.9%

    Annualized target net on cash if options expire and stock doesn’t move: 71%

    Break Even Price: $10.10

    Target Price: $16 a share or equal to adjusted book value

    Primary Risk Factors:

    If banks don’t lend to new home buyers and with the end of the tax credits on new home purchases it could take a considerable time for the market to fully recover. This could strain finances and if the company doesn’t look like they could be profitable over the next few years, they could conceivably lose their NOL carryforward which would decrease the intrinsic value of the company. 

    Disclosure: Long KBH, Short KBH puts,
    Tags: KBH
    Jul 02 12:20 PM | Link | Comment!
  • Noble Energy (NE) Naked Put Strategy
    6-24-2010 Noble (NYSE:NE) Naked Put
    JUNE 24, 2010 BY

    1)      Date:6-24-2010

    2)      Symbol: NE

    3)      Price: $28.46

    4)      Shares Outstanding: 258 Million

    5)      Market Cap: $7 Billion

    6)      Book Value: $7.054.5 Billion

    7)      Enterprise Value: $7.408 Billion

    8)       EBIT: $1,919.6

    9)      EV/EBIT: 3.86

    10)   Earnings Per Share  2009:   $6.42            TTM 2010: $6.34

    11)   P/E:  4.49     

    12)    FCF  per share         2009: $1,358.8 MM       TTM      2010: $1232.7MM

    13)   Return on Invested Capital: 19.8%

    14)   Return on Equity: 23.18%


    Investment Rationale:

    Noble operates a fleet of 62 offshore rigs that drill for oil and natural gas globally. About 60% of its customer base is national oil companies, which places the vast majority of Noble’s rigs internationally. The company also provides engineering and consulting and contract drilling services.


    Contract Drilling Services

    (NE) or Noble conducts offshore contract drilling operations, which accounted for approximately 99 percent, 98 percent and 93 percent of operating revenues for the years ended December 31, 2009, 2008 and 2007, respectively. They conduct their contract drilling operations principally in the Middle East, India, U.S. Gulf of Mexico, Mexico, the North Sea, Brazil, and West Africa. Pemex accounted for approximately 23 percent, 20 percent and 15 percent of their total operating revenues for the years ended December 31, 2009, 2008 and 2007, respectively. Revenues from Royal Dutch Shell plc and its affiliates accounted for 12 percent of total operating revenues during 2009. Royal Dutch Shell plc did not account for more than 10 percent of total operating revenues in either 2008 or 2007. No other single customer accounted for more than 10 percent of their total operating revenues in 2009, 2008 or 2007.  (Straight from their 2009 10-K)



    Noble is a contract oil and natural gas driller with operations that span the globe. Another great article on Noble was written up by Ravi Nagarajan which you can view at <seekingalpha>



    Due to the horrible environmental tragedy in the Gulf of Mexico the U.S. government instituted a deepwater drilling moratorium so some of Noble’s existing contracts seen above are at jeopardy. These contracts can at times be broken by an extraordinary event like the moratorium but they are far more likely to be renegotiated. The reason for this is that the operators carry a large amount of the risk on a project and once these rigs leave the gulf, it can take several years to get them back because there are other areas such as Latin America, the coast of Africa, etc where large projects could tie up the rigs for years. An example of this hesitancy to terminally cancel contracts can be seen in the recent dealings between NE and NBL Noble Energy regarding the contract on the Noble Clyde Boudreaux rig which as affected by the moratorium.

    The original contract terms were a day rate of about $605,000 until November of 2011. Due to the moratorium the contract was renegotiated to put the contract on standby between June and December of 2010. During this period which can be extended if both companies agree, the day rate will be $145,000 a day. Following this period NE will earn $397,500 a day on a contract that will last about 17 months which is what the original contract had left remaining.

    Now we fully expect for other deep water rigs of NE and their competitors to face similar decreases in their day rates but it is generally not feasible for the contracts to be cancelled outright. At these revised rates we believe the companies will still be profitable but just at a reduced level. Fortunately for Noble their fleet has been kept up and is one of the higher quality fleets operating. They’ve spent about $3 million a year on maintenance of the rigs so if they were to be sold we are comfortable with the collateral values as opposed to some of their competitors who haven’t invested the same amount of capital for upkeep.

    Currently Noble has about a $7.5 billion backlog which gives us as investors a good idea of the type of cash flow that they should continue to be able to generate. Unlike the issues with RIG and BP, NE has a sterling track record and has been ranked first in customer satisfaction for deep water operations, Latin American Operations, and the North Sea. With this said we do believe earnings will face significant downward pressure over the next couple of years as insurance costs will likely be significantly higher in addition to the lower day rates across the board.

    Fortunately for NE they have an exceptionally strong balance sheet with a very reasonable debt load. This will be a huge help in allowing the company to be a survivor of the moratorium as we believe that weaker financed companies could be at jeopardy. Due to the quality of their fleet they could sell assets and reduce CAPEX to overcome any liquidity issues in the unlikely event that they would occur.

    Also protecting Noble is the international reach of their operations. Below is a table from their 10K on the geographic breakdown of their revenue.

    We feel that NE could basically earn their whole market cap in the next five years through cash earnings at the current stock price, and even with the current stress in the offshore drilling industry. We believe oil prices are likely to go much higher due to decreasing supply, a weaker dollar, and geopolitical drama.


     If worse comes to worse and the moratorium continues for longer than we expect they should be able to shift most of the fleet to other areas. Recently a court in New Orleans overturned the legal basis of the moratorium but we don’t expect a big change as companies are scared to act without the blessing of the government at this time. Long term however the Gulf generates between 20-30% of our oil production in the United States and for us to be a more energy independent country offshore drilling must continue. We think the hysteria that dominates the news today will eventually die down.

    Investment Strategy:

    Sell 1 NE Jan 12 30 put for $6.8 or $680

    Target Profit: $680

    Maximum Risk: $2,320

    Days Remaining: 574

    Target Net on Cash: 29.3%

    Annualized target net on cash: 18.63%

    Break Even Price: $23.20

    Target Price: $48 or 6 times our 2012 EPS of $8 a share

    We are selling the puts due to the high volatility of the stock, which allows us to reduce the risk tremendously because of the large premium we are able to collect. 18.63% annual returns with very little risk makes a lot of sense to us in this market where we don’t think the S&P 500 is likely to be up by more than 20% in the next two years. We’d suggest dollar cost averaging into the stock as well if it trades lower than $25.

    Primary Risk Factors:

    Extremely punitive restrictions on drilling due to the environmental tragedy in the Gulf of Mexico would certainly hurt earnings.

    Higher insurance costs also will hurt.

    A double dip recession could cost oil prices to drop hurting demand for offshore drilling.

    Disclosure: Long NE stock, short NE puts
    Tags: NE
    Jul 02 12:18 PM | Link | Comment!
  • Weight Watchers (WTW) Long Term Value Investment
     7-1-2010 WTW Buy Stock and Sell Naked Put
    JULY 1, 2010 BY
    Weight Watchers Intl., Inc.
    Investment Rationale
    Weight Watchers is one of the world leading weight-management companies with operations in more than 25 countries. Every week approximately 1.4 MM people attend weight watchers meetings worldwide. In 2009, consumers spent over $4 billion Weight Watchers branded, licensed products sold in retail channels and magazine subscriptions.

    According to the Center of Disease Control and Prevention an estimated 66% of the adult population is overweight, and 34% is considered to be obese. The situation has not gotten better which has provided WTW with a tremendous opportunity to grow. WTW products appeal to consumers because of their respected name and their broad array of products that appeal to both help seeking, and self help people battling weight issues. Weight Watchers has over 15,000 leaders- each of whom has lost weight through the program, that are conducting over 50,000 meetings a week across the world. Food companies are tapping into the Weight Watchers brand by licensing it as a platform to foster new products aimed towards health conscious consumers. The Weight Management industry had revenue of approximately $59 billion in 2008 in the United States alone, so there is plenty of market share that can be tapped into in this highly fragmented industry. The depressed economy has crimped consumer spending and has halted growth for WTW. Weight Watchers has negative equity and negative tangible equity due to acquisitions and share buybacks above book value, but these measures don’t accurately reflect the franchise value of the company. Operating margins around 25% showcase the profitability of the business model, and we fully expect growth to continue as the economy recovers. Another indication of the strength of the WTW franchise is that in both 2007 and 2008 their CAPEX maxed out at $32MM. The company generated over $200MM in Net Income in both years without having to plow much of that cash back into the business which speaks volumes as to the Weight Watchers brand recognition and cost efficient infrastructure. Stocks trading at a free cash flow yield of 13% typically are in dying industries or are overly leveraged companies, but WTW has ample opportunity to pay down debt with over $250MM in free cash flow per year. In 2008 WTW formed a joint venture with Danone Dairy Aisa to establish a weight management business in the People’s republic of China where WTW will own 51%. WTW has significant  operations in the UK and Europe but we see a ton of growth potential in Asia through similar licensing deals.
Investment Strategy
We are recommending buying the stock and selling a January 2011 at the money put on WTW. Our feeling is that there is a tremendous amount of upside from  these levels so we want to own the shares outright. We don’t profess to know when the stock will move so by selling the at the money put we are collecting premium and at worst reducing our cost basis on the position.

    Investment Strategy
    We are recommending buying the stock and selling a January 2011 at the money put on WTW. Our feeling is that there is a tremendous amount of upside from these levels so we want to own the shares outright. We don’t profess to know when the stock will move so by selling the at the money put we are collecting premium and at worst reducing our cost basis on the position.


    Disclosure: Long WTW, Short Puts on WTW
    Tags: WTW
    Jul 02 12:15 PM | Link | Comment!
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