Do you know where to find the best investments? Let me tell you a secret in this regard. You can find the best investment ideas in the 13-G and the 13-D filings that legendary investors have to file to the Security Exchange Commission. This time, I will assess an investment idea that I found thanks to a SEC document filed by the experienced M&A advisor GAMCO: CST Brands, Inc. (CST) ("CST").
CST is an undervalued business that was targeted by several activist investors. The Board of Directors of the company understood that had a problem on March, 2016, and hired BofA Merrill Lynch and J.P. Morgan Chase. These banks are at this time shopping the company and have already received several bids. This is a great opportunity and in this article I will explain why.
The best description of this business can be found in the annual report:
"CST is one of the largest independent retailers of motor fuel and convenience merchandise in the U.S. and eastern Canada. Our retail operations include 1) the sale of motor fuel at convenience stores, commission agents and cardlocks, 2) the sale of convenience merchandise items and services at convenience stores, and 3) the sale of heating oil to residential customers and heating oil and motor fuel to small commercial customers."
According to the same annual report, this holding company owns following three operating segments:
- US Retail: 1,021 stores
- Canadian Retail: 861 stores
- Cross America: 1,074 stores
For the investors interested in the antitrust issues that a merger with a competitor may have, this is a map with the location of the stores. I do not think that regulators would stop the merger, but CST may have to sell some retail stores, which is not a problem if the merger is still profitable.
(click to enlarge) (Source)
The business strategy is mainly based on organic as well as inorganic growth. The fact that the employees understand the M&A market is a very interesting factor. If there is a bidding war, I do not think that they will panic and destroy the value of the company. After an acquisition, many buyers find that the best employees have left the target in the M&A process diminishing the value of the business. I do not think that this will happen in this company.
Restructuring and total number of shares outstanding
The company is in a process of transformation. The management decided to drop and sell some assets in 2015:
"- On January 1, 2015, we closed on the first asset drop of a 5% limited partner equity interest in our U.S. Retail segment's wholesale motor fuel supply business to CrossAmerica in exchange for common units representing an approximate 6.1% limited partner interest in CrossAmerica. We plan to continue to drop down limited partner equity interests over time, as well as drop down the real property assets of our NTIs into CrossAmerica."
On May 5, 2016, CST announced an agreement to sell stores to other competitors:
"CST Brands, Inc. , a San Antonio-based Fortune 500 fuel and convenience retailer, announced today that it has entered into a definitive agreement to sell store operations in both the California and Wyoming markets to 7-Eleven, Inc. and its wholly-owned subsidiary, SEI Fuel Services, Inc. The transaction includes 76 stores in California and 3 stores in Wyoming. The purchase price for the transaction is $408 million. "
Also, the number of retail stores in the United States declined.
I think the Board of Directors is preparing for the sale of the whole business with the aim of returning value to shareholders. This last sale of assets is a very good indicator
In addition, I can see that this Board of Directors truly takes care of the shareholders. Two years ago, they recognized that the share price was deeply undervalued, and they started a repurchase agreement. The total amount of shares outstanding declined.
CST data by YCharts
CST was spun off by Valero Energy Corporation (NYSE:VLO) ("Valero") in 2013. This is a classic story of an undervalued spin off that is undervalued right after the IPO. I think employees in this company are used to work for a big corporation and may be happy if another group buys the company. This should happen fast.
I recommend you to watch an interesting video, in which Cramer explains the investment idea. He filmed it in March and was not knowing about the takeover bids at that time, but he points out very interesting facts like the value of the Real Estate properties of this company (You can read this article in Seeking Alpha about this).
I do not think that the company had a lot of time to show the skills of its management. The main driver of the recent volatility in the price of the stock was the oil price.
CST data by YCharts
The company owns $3.27 billion of market cap, $426 million of net debt and $167 million of cash. In addition, the company has accumulated a large amount of inventories, $241 million, in the last year, which surely made the stock decline.
CST data by YCharts
To sum up, this stock depends mainly on the oil price, it does not have much debt, and it is in play.
Many investors looked at this stock in the last 5 months and acquired stakes, consequently increasing the demand for the stock in the market. However, the Board of Directors will surely sell the business, and the buyer will need to pay a control premium and maybe compete with some other bidders. This should make the stock price increase even more.
The sale and competition
According to CTFN, the company is, at the moment, reviewing several takeover offers.
In addition, Chris Geier, one of the bankers in charge of the sale, commented that the sale is serious option and the company would accept a firm $50 bid.
The competition in the industry is very important, and several big corporations could bid for CST. In the annual report, it is highlighted in the following way:
"Some of our competitors have been in existence longer than us and have greater financial, marketing and other resources than we do. As a result, our competitors may be able to respond better to changes in the economy and new opportunities within the industry."
Some of the potential bidders may include the following companies:
- Marathon Petroleum/Speedway
- OXXO Mexico
In addition, I would like to remark again that I do not expect a lot of antitrust issues. The market is quite fragmented:
"The convenience store industry in the geographic areas in which we operate are highly competitive and marked by ease of entry and constant change in the number and type of retailers offering the products and services found at our retail sites. We compete with numerous other convenience store chains, independent convenience stores, supermarkets, drugstores, discount warehouse clubs, motor fuel service stations, mass merchants, fast food operations and other similar retail outlets. In recent years, several non-traditional retailers, including supermarkets and club stores, have begun to compete directly with convenience stores, particularly in the sale of motor fuel. These non-traditional motor fuel retailers have obtained a significant share of the motor fuel market, and their market share is expected to grow, and these retailers may use promotional pricing or discounts, both at the fuel pump and in the store, to encourage in-store merchandise sales and motor fuel sales. "
This is a fantastic opportunity. This company is in play, selling assets and looking for buyers. I think the chances of seeing this business being sold to a big corporation are quite high. Finally, the fact that the company recently received several bids makes me think that we could see a bidding war.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.