U.S. Lime And Minerals Should Consider A $20 Per Share Special Dividend (At the annual shareholder’s meeting this Friday)
|April 29, 2015||Posted by Nat Stewart under Compounding Machines||
United States Lime & Minerals Inc,
“…Is a public company traded on the NASDAQ Global Market under the symbol USLM and conducts its business through two segments: Lime and Limestone Operations, consisting of plants and facilities in Arkansas, Colorado, Louisiana, Oklahoma and Texas, serving markets in the Central United States; and Natural Gas Interests, consisting of natural gas wells on US Lime’s Johnson County, TX, property in the Barnett Shale Formation.”
-U.S. Lime And Minerals website.
The limestone operation is the company’s core business, while the value of the natural gas interest fluctuates with the price of natural gas and drilling activity on its properties. Presently, the natural gas interests are only a minor part of the company’s value. Those interested in a more detailed write up might like to read my first article on the company, which can be found here.
Capital allocation policy should be a key topic at this year’s shareholder meeting
With U.S. Lime and Minerals shareholder meeting scheduled for this Friday, May 1st 2015, and with first quarter earnings out any day now, I thought it would be an interesting time evaluate the company’s financial position.
The best way to describe the company’s balance sheet would be “fortress-like”
Since repurchasing about $40,000,000 worth of stock in 2012, the company has rebuilt its cash balance (as of December 31st 2014) to $58,000,000, of which I believe at least $50,000,000 could be conservatively viewed as excess cash. The company has also almost completely finished paying down its long term debt, which has been declining steadily over recent years. In fact, all debt is now classified as short term, as the final principal payment will occur on December 31, 2015, after which point the company will be completely debt free.
What are we left with?
- Over the last three years, U.S. Lime and Minerals has generated an average of just over $30,000,000 in free cash flow per-year (Defined as operating profit + Depreciation and Amortization – Capital expenditures)
- I predict that at year end 2015, the company will be completely debt free. Assuming that regular dividends are not increased substantially this year, the company will have a year-end cash balance of around $62,000,000.
- EV/EBITDA (2014) is about 7.7 and FCF/EV yield is about 9.5%. I have been told by industry participants that in the private market, similar assets can trade as high as 12X EV/EBITDA, which suggests that the current stock price is significantly undervalued relative to the company’s private market value (A recent price of $67 vs. over $90 per share private market value).
I like to evaluate the FCF/EV relative to the financing costs available to a business. A large spread suggests that a dividend recap or leveraged share purchase might benefit existing shareholders. Let’s look at the recent 10K to get an understanding of the company’s present debt and credit facilities:
Debt – Our credit agreement includes a ten-year $40 million term loan (the “Term Loan”), a ten-year $20 million multiple draw term loan (the “Draw Term Loan”) and a $30 million revolving credit facility (the “Revolving Facility”) (collectively, the “Credit Facilities”).
“The Revolving Facility commitment fee ranges from 0.250% to 0.400%. In addition, the Credit Facilities bear interest, at our option, at either LIBOR plus a margin of 1.750% to 2.750%, or the Lender’s Prime Rate plus a margin of 0.000% to plus 1.000%. The Revolving Facility commitment fee and the interest rate margins are determined quarterly in accordance with a pricing grid based upon the Company’s Cash Flow Leverage Ratio, defined as the ratio of the Company’s total funded senior indebtedness to earnings before interest, taxes, depreciation, depletion and amortization (“EBITDA”) for the 12 months ended on the last day of the most recent calendar quarter, plus pro forma EBITDA from any businesses acquired during the period. Our maximum Cash Flow Leverage Ratio is 3.25 to 1″
To summarize, (based on the current debt and credit facilities) at year end 2015 the company will have $90,000,000 in borrowing power. The credit facility charges interest of libor plus 1.75-2.75%, which is massively less than the company’s FCF/EV yield. If I use 5% as an estimate for new term loans and 2.5% for the credit facility, the weighted average interest rate would be about 4%. Not including tax effects, the spread between FCF/EV stands at about 5.25%, which is substantial. Given the maximum cash flow (defined as EBITDA) to debt limit mentioned in the 10K, there could potentially be additional room to expand the company’s credit facilities to something closer to $140,000,000.
To use Buffett’s now famous terminology, U.S. Lime and Mineral’s “elephant gun” if fully loaded. The issue is, how will the company actualize this potential? I see three major options.
First, the company could find and close on a major acquisition
The present difficulty with this plan is twofold. First, high quality assets in this industry rarely come up for sale. Second, private sale prices for these assets are currently quite high, particularly relative to U.S. Lime and Minerals own share price. While it is possible that the opportunity for a major acquisition could present itself, it might not be at the best price. If an acquisition is available at a good price, it is likely not to be large enough to utilize a substantial part of U.S. Lime and Minerals Dry powder. For example, in December 2014, the company acquired a trucking company operation in Houston, Texas for $3,800,000. This was likely a smart move, but it put very little of the company’s “dry powder” to work.
Second, the company could consider doing a substantial tender offer at a price somewhere between private market value and the present share price.
I estimate the private market value (based on 12X last year’s EBITDA) to be north of $90 per share. There are two issues with this plan. First, if the majority shareholder has no interest in tendering shares (and I can see no reason why he would want to) Participation would be difficult to predict and possibly very low – as such, I don’t see it as even worth estimating the impact of this possibility. Second, this stock is already very difficult to trade efficiently. Further reducing the float would effectively be “squeezing” this company out of the public markets. This last perspective was shared with me by another shareholder, who brought the issue to my attention.
Third, the company could re-lever its balance sheet and pay out excess cash in order to fund a large special dividend.
Let’s consider how this could be done. At year end 2015 (absent an acquisition) the company will have zero debt and about $62,000,000 in cash. I consider $50,000,000 of that cash to be clearly in excess of the company’s needs, which would leave a healthy buffer of $12,000,000 on the balance sheet. As we want to leave substantial financial resources available for unforeseen business events such as potential tuck-in acquisitions, this exercise will not come close to tapping the company’s full debt and credit capacity. I suggest borrowing $60,000,000 in order to moderately re-leverage the balance sheet, which is less than 2X last year’s free cash flow. These two funding sources total to $110,000,000. Divide this figure by the 5.6m shares outstanding, and we are left with a $19.5 special dividend – lets round it up slightly to get $20 per share. I believe this plan is very reasonable and would maintain a very significant margin of safety.
Which move is best?
It is difficult for an outsider to prioritize the above options. If a significant private acquisition is reasonably likely (and at a good price), I would prefer option one. If this is not in the cards, I think option three is an excellent alternative.
Allow me clarify something. I have often heard it said that, “Shareholders don’t need the money, the company should spend it or invest it… special dividends are not wise” or something similar. I believe that this viewpoint is mostly dead wrong. Unless the company can invest within its own sphere of competence at a good return, companies should return excess capital to shareholders. The shareholders can then re-invest the proceeds in the areas where they see opportunity – this is the job of any serious investor. The notion that special dividends are just “gravy” to be spent or are wasteful is entirely wrong.
Re-leveraging the balance sheet will also likely improve forward returns of the stock, particularly (as I have suggested above) If it is done with a margin of safety. This is because it replaces more expensive equity capital with lower cost debt capital, which will improve the company’s return-on-equity going forward.
U.S. Lime and Mineral’s stock trades well below its private market value. Consider this. The legendary founder of Teledyne Corporation, Henry Singleton, began purchasing shares in other companies when he noted he could at times buy part of a business at a far lower price than the entire company would sell for in the private market.
In my opinion, U.S. Lime and Minerals offers just this opportunity. The firm is massively overcapitalized and “loaded” with dry powder. While I do not know what the future holds, I am confident that this company is in an excellent position to create future shareholder value.