As a karate expert, I will not talk about anyone up here,
because our children cannot afford to live anywhere. Nowhere,
there's nowhere to go. Once again, why? You said it, '
cause the rent is too damn high
. (Jimmy McMillan)
TravelCenters of America (
) is a publicly traded special situation. The company is one of the
largest operators of truck stops along the US interstate highway
system and formerly owned most of the sites it operated. TA and a
smaller, similar chain (Petro Stopping Centers) were purchased by
Hospitality Properties Trust (
) a few years back.
Shortly thereafter, HPT entered into a sale/leaseback whereby it
retained the real estate from both transactions, and entered into a
long-term lease and operating agreement with the combined TA+Petro
(I'll just call this "TA" going forward). TA was then spun-off to
HPT shareholders, as REITs are limited in the operating assets they
can own. Note that HPT basically negotiated the lease rate on the
TA properties with itself before spinning off the TA operating
company encumbered by this new lease agreement.
This was all completed in early 2007 and post-spinoff TA traded
up into the high 40s. When the bottom eventually fell out, TA
traded below 2 per share by late 2009. The sell-off was
understandable: TA had no debt, but was a highly leveraged business
due to its huge fixed lease obligations to HPT. On the operating
side, TA's income statement was directly exposed to the decline in
economic activity, and revenue and gross profit dropped alongside
falling trucking activity during the depths of the recession
(revenue also varies due to fuel prices, but this is mostly a
pass-through... only fuel gallons and the margin/gallon really
Here is where it gets interesting. As the largest tenant of HPT,
TA could no longer afford to pay the enormous lease expense that
was due. When negotiating the lease with itself in late 2006/early
2007, HPT was probably more interested in comparable cap rates and
rental costs (at the height of the market) to derive the maximum
cash flow it could squeeze from the several billion it paid for TA
and Petro. Creating a sustainable economic model for an independent
TA evidently wasn't management's highest priority.
I've summarized the company's income statements over the past
several years (and detail for the YTD quarters) below:
So as TA swung to a deepening operating loss during the
recession, what could be done? Almost immediately, HPT began
allowing TA to defer $5 million per month in rental expense.
The table below breaks out this deferral so you can look at
EBITDA with the $5 million either above-the-line or below-the-line.
In addition, I've detailed out the other components of rent expense
that are non-cash (GAAP required certain amounts to be classified
as capitalized leases, including the tenant improvement allowance).
This gives you a better idea of what the required cash payments to
HPT look like.
As shown in the table above, the rent deferral let TA stay
EBITDA positive to the tune of about $20 million in 2009 (it would
have been $40 million negative without the benefit of the $60
million in deferrals). So far in 2010, EBITDA has been $49 million
gross of deferrals and $4 million net.
Using Q3 as a proxy for Q4 performance, full year 2010 EBITDA
should be $82 million gross and $22 million net of the deferral
amount. The current market capitalization is approximately 0.75x
gross 2010 EBITDA and 3x net EBITDA. These figures do not give the
company any credit for a potentially better EV/EBITDA multiple
based on the net cash and other assets on the balance sheet, nor do
they take capital expenditures into account.
TA's balance sheet is fairly simple (click to enlarge):
However, the PP&E shown on TA's balance sheet is
intermingled by GAAP with assets actually owned by HPT (with
offsetting capitalized liabilities). The detail of these properties
in the 2009 10-K is as follows:
These amounts need to be adjusted out to assess the standalone
book value of TA. The balance sheet analysis below also nets out
the deferred rental debt from the corporate cash balance, and
places haircuts on the intangible and illiquid assets on the
company's balance sheet (details are footnoted, click to
Based on the analysis above, TA's current price implies an
approximately 60% discount to the adjusted book value over $9 shown
above. Coupled with the very low EBITDA multiples discussed above,
TA is clearly trading in deep value range.
With the financial detail discussed above as a backdrop, I'll
lay out why I'm long TA common and why I believe that a sale of the
company would benefits all parties and could be completed at a
substantial multiple to the current share price:
The Investment Case
The current wide discount to tangible value offers a decent
margin of safety, as summarized below and supported by the fact
that TA benefits from the implicit backstop of HPT.
Valuation supported by assets
At ~$3.80 per share, TA is trading at a discount of over 75% to
GAAP book value and almost 60% to the more conservative
adjusted/tangible book value calculated above.
The company generated $20 million of EBITDA in the latest
quarter, even after expensing the rent which is being deferred.
While results will be volatile due to gas price margins, the
company has clearly benefited, and should continue to benefit,
from the economic rebound.
The lifeline that HPT cut TA during the recession wasn't just a
A healthy TA is absolutely crucial to HPT
. TA contributes an enomous portion of HPT's cash flow, and as a
REIT HPT's shareholders value a predictable, steady income
stream. The rent deferred couldn't be recognized as income by HPT
under GAAP, and that type of low-quality, volatile earnings
stream from such a large part of your portfolio won't be valued
very highly by Wall Street. On the other hand, this situation was
of HPT's own making by the lease agreement it negotiated with
itself and put upon TA. While the lease rate is clearly too high
in light of what has transpired, HPT can never just let TA go
bankrupt either. It would decimate HPT's earnings and they would
have no hope of replacing TA with another tenant at better rates.
It should also be noted that for TA to service its lease
obligations to TA, it must transact literally billions in sales
of diesel fuel each year. The oil companies likewise require that
HPT maintain TA as a credit-worthy enterprise.
Risks and Mitigants
Why doesn't HPT just bleed the company dry?
HPT owns the valuable, "irreplaceable" interstate highway
locations, and TA just has a long-term lease to manage and
operate these locations. But just keeping TA around as a
subsistence farmer on HPT's land really doesn't work in the
long-term. The cash flow from the TA leases is very significant
to HPT's dividend level. Simply put, over the long-term, HPT
requires a healthy TA as a tenant. Even if they could extract a
little more cash from the company by repeatedly raising the rent,
pushing them to almost file bankruptcy, and bailing them out
again and again... what would be the point? The Wall Street
analysts will punish your multiple on such a low quality stream
of cash more than you will gain in incremental lease cash. In
general, if HPT had such a low quality tenant in any other
property, they'd probably seek to boot them out and replace them.
But this tenant (
) is effectively of HPT's own making, and nobody else would step
up to pay the lease rates that HPT set.
Obviously, TA remains an economically sensitive stock. However, I
think a rewind over the past several years basically lays out
what a downside scenario looks like. Even during the depths of
2009, TA generated over $200 million in EBITDAR, so it has
substantial operating cash flow. It's not a bad company, just a
bad balance sheet (imputing the leases to HPT). Unlike most
companies, TA has its own implicit TARP program from HPT. Just
like the Fed really can't afford to let Citi or AIG go bankrupt,
HPT really can't afford to let TA go down and would have to step
To summarize, my investment thesis around the stock is centered
on the fact that it is trading at a very cheap valuation, and I
believe the support from HPT presents a decent margin of safety
since letting TA fail would be disastrous to HPT. On the upside, I
believe that the upcoming negotiation between TA and HPT on the
$150 million in deferred rent coming due in 2011 offers a very real
potential catalyst to unlock value at TA via a sale of the company
to a third-party, most likely private equity. My arguments for a
sale are as follows:
Why should TA be sold (and soon):
TA is far too small to be public.
At a market capitalization of $65 million, it makes no economic
sense for TA to be publicly traded. Going private would save
several million per year in fees and expenses, and there are no
real benefits to being public at this size.
TA has shown several quarters of sharply improved results, and
the widespread fear of a douple-dip recession seems to be
receding. As such, buyers can underwrite current profitability
and an improving outlook. There is currently substantial private
equity capital available in the enterprise value range where TA
would trade, and valuations are currently very aggressive.
Conflicts of interest.
The potential for conflicts of interest in negotiating a
suitable, stable long-term economic arrangement between HPT and
TA (and RMR, the management company) are huge and unsustainable.
Why should all of these parties expose themselves to ongoing
charges of self-dealing rather than using the negotiation of
deferred rent due as a catalyst to redo the deal and put it on a
HPT is basically being offered a mulligan on the TA
, and it would be wise to take the opportunity. Continuing to
have such a large exposure to such a shaky tenant is clearly not
going to build long-term value and credibility at HPT.
Adequately capitalized competitor.
HPT should remember that
TA is still a business, not just a rent-paying tenant
. TA's two largest competitors, Pilot and Flying J, recently
merged. TA needs financial and strategic flexibility to counter
this combined force and remain competitive in the market. HPT can
try to be cute on milking TA of all of its cash, but if TA
becomes so hamstrung that it begins losing ground to the new
goliath in the industry, things get worse. With the current lease
structure, HPT has created its own problem in TA. I
f HPT lets this go on too long and TA begins to lose market
share and become less competitive, it will have turned a solvable
problem into a potential disaster.
TA under private equity ownership with additional capital
available for growth and independent (non-conflicted) strategic
guidance would be a much more viable competitor.
Free up HPT cash flow.
Even at the current profitability levels of TA, HPT will likely
have to continue to have to support capital expenditures going
forward unless they restructure the lease to market and get TA
independently, adequately capitalized. If they start deferring
cap ex, they will only heighten the competitive risks discussed
I believe that at $3.80 per share (an approximately $65 million
market cap),TA offers a good margin of safety on a valuation basis,
and the implicit standby TARP from HPT provides a measure of
downside support. However, I believe that the upcoming negotiation
on the deferred rent offers a great chance for a redo on the lease
agreement that would be a win/win for all sides. A restructuring of
the lease in connection with a sale of TA to private equity would
let HPT collect its deferred rent due, get off the hook for future
cap ex, and create a credit-worthy, stable tenant that would
benefit HPT's long-term prospects and let it return its focus to
I think there are adequate market comparables to show that
private equity firms have paid healthy multiples for analogous
businesses, such as stadium concessionaires, operators of newstands
at airports, hotel operating companies, etc. The adjusted book
value discussed above presents a reasonable floor where a sale
would be completely supported by tangible asset value. If HPT uses
its mulligan opportunity to set the rent at a level that is
justifiable to a third-party buyer, I think the resulting TA
enterprise could sell in the range of $15-$20 per share. More
importantly to HPT, the stable lease stream should be more valuable
At the very least,
HPT should consider a sale process for the company as a
realistic market check
on what a true third-party rental agreement for the TA properties
would look like. I see little harm in that course of action. Other
than the time and expense involved in hiring an investment banker
(which isn't that much if a sale isn't completed), neither HPT nor
TA would really stand to lose. The information on both the lessee
and the lessor are already public, so nothing is being compromised
by bringing potential third-parties into the mix.
I am long
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