LXU - LSB Industries

[Patmo]

Wow, share price dropped like a ton of bricks. Would someone be kind enough to present bullet points on what is going on? What other funding is necessary after this $50mil loan?

 

 

[ccap]

The basic ideas are fairly simple:

• Terribly run business run by horribly incompetent people.
  
• Fertilizer explosion destroys part of your factory.
  
• Start building a new factory without blueprints.
  
• Tell investors it will cost more than you thought.
  
• Activists come in.
  
• Tell investors it will cost more than you thought.
  
• Activists fire a bunch of people.
  
• Tell investors it will cost more than you thought, as you borrow a lot of money at high rates and give away 20% of the business.
  

 

In theory, the recent funding will cover them through getting the plant operational (2016Q2) -- and they even have blueprints this time.  If your mental model extrapolates, the management will look for more money and will fumble.  If your mental model mean reverts, the management might finally get something right for once.

 

[Picasso]

The basic ideas are fairly simple:

• Terribly run business run by horribly incompetent people.
  
• Fertilizer explosion destroys part of your factory.
  
• Start building a new factory without blueprints.
  
• Tell investors it will cost more than you thought.
  
• Activists come in.
  
• Tell investors it will cost more than you thought.
  
• Activists fire a bunch of people.
  
• Tell investors it will cost more than you thought, as you borrow a lot of money at high rates and give away 20% of the business.
  

 

In theory, the recent funding will cover them through getting the plant operational (2016Q2) -- and they even have blueprints this time.  If your mental model extrapolates, the management will look for more money and will fumble.  If your mental model mean reverts, the management might finally get something right for once.

 

What a great post on the situation, thanks for the laugh. 

[mateo999]

FWIW, I think this is a screaming buy as far as levered stubs go.  Still some execution risk, but mechanical completion is just a matter of days away.  I don't think El Dorado is having weather issues (i.e. midwest flooding).  Nat gas has spiked over last few days, but ammonia seems to be steady around 400/ton.  Macro risks include weakening uan/ammonia prices; weakening yuan/Chinese coal; stronger nat gas.  Company specific risks is that management manages to bungle something.  But because they've essentially bungled every single thing they've done so far, mean reversion implies nothing else can possibly go wrong.  In fairness, newly-made-permanent CEO inherited most of the issues, didn't create them.

[ValueMaven]

Has anyone considered a long position in LSB Industries (NYSE: LXU), it’s a turnaround situation, which just completed three major initiatives over the past 6 months: 1) Sold its Climate Control Business for $364 million dollars (14.6x ebitda), 2) Spent roughly $850 million dollars to complete construction and startup of a 375,000 tons+ of ammonia planta production at its El Dorado facility 3) Has deleveraged its balance sheet significantly over the past month or so.  I believe LXU is a $20 stock, and worth multiples from its current price…below are some of my thoughts, feel free to ‘try and kill the idea’ to paraphrase Mr. Berkowitz of Fairhome.

 

LXU is a complex story, with a fairly complex balance sheet, but has successfully turned its business around and is poised as an industry leader within the Chemicals/Ag market.  Most of the turnaround can be created to CURRENT management, and world class assets, which were finally prioritized and are NOW starting to generate real FCF. I don’t want to overburden everyone here with the historical information/mismanagement that occurred over the past few years, but I believe within the next 12-18 months: 1) LXU will be generating at least $150mm in EBITDA (common stock trading over $20 per share) over the next 12Ms, or 2) CF Industries would have bid for company.  My EBITDA assumptions are not built on market premiums, but is rather a function of LXU’s finalized upgrade of its El Dorado ‘EDC’ ammonia producing plant, as well as streamlining its SG&A expenses, and simplifying its business model.  It is worth noting that management will be taking investors on a tour of EDC in early November to highlight the uniqueness of the asset.

 

Valuation: LXU still trades at a material discount to peers - which conservative 2017 FY EPS of 6x and 4x EBITDA estimates.  This assumes NO price improvements (which are actually bottoming) in any of the company's end chemical/fertilizer markets.  Note: peers such as Rentech, CF Industries, Agrium, Potash and CVR Energy all trade materially higher in terms of valuation.  Simply put the market hasn’t bought into LXU's tunraround story.  Also, POT & AGU are jointly merging and Bayer and MON also trying to MERGE.  The U.S. is the low-cost producer of nitrogen based fertilizers because natural gas represents over 50% of the input costs.  Additionally, some investigative research shows that LXU, which has finalized construction MIGHT have a lawsuit case against Leidos Holdings (NYSE: LDOS) which could run over $200mm+ in ‘damages’, since the historical overrun of EDC is a result “nonperformance” and is a violation of LXU’s contract with LDOS.  Out of the three mid-tier brokerage companies that cover LXU (Sidodi, Avondale, and Feiti) none of mentioned this.

 

Anyhow, if this idea intrigues you, drop me a note, and I can share much more in-depth analysis.

 

ValueMaven, NYC

 

[Jurgis]

Merge threads?

 

http://www.cornerofberkshireandfairfax.ca/forum/investment-ideas/lxu-lsb-industries/msg244334/#msg244334

[ValueMaven]

Thanks for this.  I did not notice it, as I am new here. 

 

Sincerely,

ValueMaven

[heth247]

Thanks for the idea. What is causing the recent fast drop in the stock price since the end of August?

[ValueMaven]

Very, very interesting to read all of the historical analysis here.  Thank you all for such a wonderful conversation!  It appears management has just finished up an investor road-trip.  The story has developed significantly from here, particularly 1) regarding the sale of the HVAC unit for 14.6x EBITDA, 2) retirement of debt, 3) compilation of EDC - which my sources tell me are running above nameplate capacity (1,300 tons of ammonia per day).  I've attached, or tried to attach an invitation (new to the board) from the company to tour the new facility.  If you attend do let me know, and we can meet up!

 

Sincerely,

ValueMaven

LXU_-_Invitation_11.15.16_El_Dorado_Investor_Day.pdf

[heth247]

ValueMaven,

 

I followed the other thread to here. THanks for this interesting idea. IDo you know why the stock had such a fast decline since the end of August?

[ValueMaven]

Dear Heth247,

 

I am not sure actually.  I’ve been buying the stock even into this morning’s weakness for the accounts that I manage.  With that said, I know the following – LXU management spent the past few days last week marketing with their CFO and CEO (Greeenwell is fantastic IMHO) – I heard of both them speak at different events, and believe they are very close to making some material gains in terms of shareholder value.  Since EDC is NO LONGER (notice the emphasis) an operational issue, and is finally complete, management is NOW (again, emphasis is mine) focusing on things like: Overhead costs, optimizing product mixture, and small asset sales.  Ammonia prices right now sit at their lowest levels since 2009, but US producers remain very profitable and at the bottom of the global cost curve because of very low natural gas prices domestically.  I believe once we have a few quarters of solid operating metrics out of EDC and Pryor, you will see consolidation in the space.  I have FY 2017 EBITDA trading at 135mm

 

Sincerely,

ValueMaven

 

[mateo999]

ValueMaven,

 

I follow the situation extremely closely and was able to visit EDC back in February.  I'd be very interested in comparing notes (so feel free to PM me if you'd like to take it offline).  But in my opinion, despite all the good news coming out of the company of late, shares have been under significant pressure because of where the price of Tampa ammonia currently sits ($240/ton vs. $450 a year ago).  LSB isn't the only player being hurt, but given the significant leverage involved, you see it in LXU's stock price very dramatically.

 

True the company trades below replacement cost, so for the patient, I think the stock is interesting to learn more about.  But I think your 4x EBITDA comment implies the company will do $176mm in EBITDA.  In this environment that's simply not possible.  If you go back to page 18 of the company's May slide deck, to get to that level of EBITDA, and as an example, gas needs to be at 2.50 and ammonia needs to be at $350.

 

Having said that, I do think the company will be a target for a strategic at some point.  If you ran the company though, would this be the right time to sell?

 

 

[ValueMaven]

Dear Mateo999,

 

I do not want Greenwell to sell at what I believe to be a cyclical bottom, or at least very near to one.  I agree with you that most of the weakness can be attributed to Tampa spot ammonia price weakness recently.  Let’s also remember the largest shareholder LSB Fund has been selling its stake down very aggressively over the past two months.  This has put further ‘bid’ size orders out on the market.

 

Sincerely,

ValueMaven

 

[mateo999]

Dear Mateo999,

 

I do not want Greenwell to sell at what I believe to be a cyclical bottom, or at least very near to one.  I agree with you that most of the weakness can be attributed to Tampa spot ammonia price weakness recently.  Let’s also remember the largest shareholder LSB Fund has been selling its stake down very aggressively over the past two months.  This has put further ‘bid’ size orders out on the market.

 

Sincerely,

ValueMaven

 

Where do you see LSB Funding is aggressively selling?

[ValueMaven]

Dear Matteo999,

 

LSB's July 13th form S-1 filed with the SEC. 

 

Sincerely,

ValueMaven

[mateo999]

Dear Matteo999,

 

LSB's July 13th form S-1 filed with the SEC. 

 

Sincerely,

ValueMaven

 

That's just a registration statement which was required to be deemed effective by this December. 

 

In connection with the private placement as described in “Private Placement of Common Stock Warrants,” we entered into a registration rights agreement. Under the terms of the registration rights agreement, subject to certain limited exceptions, if the registration statement of which this prospectus forms a part has not been declared effective within twelve months of December 4, 2015 or we otherwise fail to comply with certain provisions set forth in the registration rights agreement, we will be required to pay the selling stockholder 0.25% of the liquidated damages multiplier per 30-day period, that shall accrue daily, for the first 30 days following the last day of the twelve-month period, increasing by an additional 0.25% of the liquidated damages multiplier per 30-day period, that shall accrue daily, for each subsequent 30 days, up to a maximum of 1.00% of the liquidated damages multiplier per 30-day period. There can be no assurance that the registration statement of which this prospectus forms a part will be declared effective by the SEC or will remain effective for the time periods necessary to avoid payments. Any payment would increase our expenses and reduce our cash resources.

 

So it doesn't mean they've sold anything.  They're a 13D filer, so you'll see amendments to the 13D when they do sell more than 1% stakes.  Here's the language from the S1:

 

 

PLAN OF DISTRIBUTION

 

The selling stockholder may, from time to time, sell, transfer or otherwise dispose of any or all of its shares or interests in the shares on any stock exchange, market or trading facility on which the shares are traded or in private transactions. The selling stockholder may sell its shares of common stock from time to time at the prevailing market price or in privately negotiated transactions.

 

The selling stockholder may use any one or more of the following methods when disposing of shares or interests therein:

 

  •  ordinary brokerage transactions and transactions in which the broker-dealer solicits purchasers; 

  •  block trades in which the broker-dealer will attempt to sell the shares as agent, but may position and resell a portion of the block as principal to facilitate the transaction; 

  •  purchases by a broker-dealer as principal and resale by the broker-dealer for its account; 

  •  an exchange distribution in accordance with the rules of the applicable exchange; 

  •  privately negotiated transactions; 

  •  short sales effected after the date the registration statement of which this prospectus is a part is declared effective by the SEC; 

  •  through the writing or settlement of options or other hedging transactions, whether through an options exchange or otherwise; 

  •  broker-dealers may agree with the selling stockholder to sell a specified number of such shares at a stipulated price per share; and 

  •  a combination of any such methods of sale. 

 

The selling stockholder may sell the shares at fixed prices, at prices then prevailing or related to the then current market price or at negotiated prices. The offering price of the shares from time to time will be determined by the selling stockholder and, at the time of the determination, may be higher or lower than the market price of our common stock on the NYSE or any other exchange or market.

 

The shares may be sold directly or through broker-dealers acting as principal or agent, or pursuant to a distribution by one or more underwriters on a firm commitment or best-efforts basis. The selling stockholder may also enter into hedging transactions with broker-dealers. In connection with such transactions, broker-dealers of other financial institutions may engage in short sales of our common stock in the course of hedging the positions they assume with the selling stockholder. The selling stockholder may also enter into options or other transactions with broker-dealers or other financial institutions which require the delivery to such broker-dealer or other financial institution of shares offered by this prospectus, which shares such broker-dealer or other financial institution may resell pursuant to this prospectus (as supplemented or amended to reflect such transaction). In connection with an underwritten offering, underwriters or agents may receive compensation in the form of discounts, concessions or commissions from the selling stockholder or from purchasers of the offered shares for whom they may act as agents. In addition, underwriters may sell the shares to or through dealers, and those dealers may receive compensation in the form of discounts, concessions or commissions from the underwriters and/or commissions from the purchasers for whom they may act as agents. The selling stockholder and any underwriters, dealers or agents participating in a distribution of the shares may be deemed to be underwriters within the meaning of the Securities Act, and any profit on the sale of the shares by the selling stockholder and any commissions received by broker-dealers may be deemed to be underwriting commissions under the Securities Act.

 

The selling stockholder may agree to indemnify an underwriter, broker-dealer or agent against certain liabilities related to the selling of its shares, including liabilities arising under the Securities Act. Under the registration rights agreement entered into with the selling stockholder, we have agreed to indemnify the selling stockholder against certain liabilities related to the sale of the common stock, including certain liabilities arising under the Securities Act. Under the registration rights agreement, we have also agreed to pay the costs, expenses and fees of registering the shares of common stock. All underwriting fees, discounts and selling commissions or similar fees or arrangements allocable to the sale of the shares of common stock will be borne by the selling stockholder.

 

The selling stockholder is subject to the applicable provisions of the Exchange Act, and the rules and regulations under the Exchange Act, including Regulation M. This regulation may limit the timing of purchases and sales of any of the shares of common stock offered in this prospectus by the selling stockholder. The anti-manipulation rules under the Exchange Act may apply to sales of shares in the market and to the activities of the selling stockholder and its affiliates. Furthermore, Regulation M may restrict the ability of any person engaged in the distribution of the shares to engage in market-making activities for the particular securities being distributed for a period of up to five business days before the distribution. The restrictions may affect the marketability of the shares and the ability of any person or entity to engage in market-making activities for the shares.

 

To the extent required, this prospectus may be amended and/or supplemented from time to time to describe a specific plan of distribution. Instead of selling the shares of common stock under this prospectus, the selling stockholder may sell the shares of common stock in compliance with the provisions of Rule 144 under the Securities Act, if available, or pursuant to other available exemptions from the registration requirements of the Securities Act.

 

Under the securities laws of some states, if applicable, the securities registered hereby may be sold in those states only through registered or licensed brokers or dealers. In addition, in some states such securities may not be sold unless they have been registered or qualified for sale or an exemption from registration or qualification requirements is available and is complied with.

 

We cannot assure you that the selling stockholder will sell all or any portion of our common stock offered hereby.

 

Under the registration rights agreement entered into with the selling stockholder, we agreed to use our commercially reasonable efforts to keep the registration statement of which this prospectus constitutes a part continuously effective under the Securities Act until the earlier of (a) December 4, 2025 and (b) the date that all Registrable Securities (as such term is defined in the registration rights agreement) covered by this registration statement have ceased to be Registrable Securities.

[mateo999]

One other thing... they got somewhat favorable payment terms with Leidos.  I don't think one should expect any recovery of note.  Certainly not $200 million.

[ValueMaven]

Dear Mateo999

 

Thank you for your insight!  It is still unclear to me if LSB Fund is selling out of the stock or not…which I believe has put material downward pressure on the name (which should revert)

 

Sincerely,

ValueMaven

[mateo999]

Dear Mateo999

 

Thank you for your insight!  It is still unclear to me if LSB Fund is selling out of the stock or not…which I believe has put material downward pressure on the name (which should revert)

 

Sincerely,

ValueMaven

 

I am nearly certain they're not blowing out of the position.  Why would they sell so sloppy just to lock in huge short term gains?  And remember, as a 13D filer, they'd have to report material changes to their holdings within a few days' time (I believe 10 days but not certain).

[heth247]

Mateo999 and ValueMaven,

 

According to page 18 in their May presentation, assuming Ammonia price $300 and nat gas price of $3.50, they can still do $126MM ebitda.  Now factor in another decline of ammonia price of $50 to be at $250, which translate to $21MM ebitda,  that means at such very bad case (ammonia @ $250, natgas @ $3.50), they can still do ~100MM ebitda. (Of cause, this assumes El Dorado running for full year and plants on-stream rate above 95%).  All this is against the current market cap of $230MM!

 

On the balance sheet side,  they just delevered ~$185MM of senior notes + preferred stock using the proceeds from the climate control business sale.

 

So 2.3X of a very conservative estimated EBITDA ?  How low can ammonia drop further from $250 and how high can nat gas rise further from $3.50 (I believe today it is at ~$3.00) in 2017?

 

Why is it still so cheap? what else is the market pricing in? Have I missed anything?

 

Thanks.

 

 

ValueMaven,

 

I follow the situation extremely closely and was able to visit EDC back in February.  I'd be very interested in comparing notes (so feel free to PM me if you'd like to take it offline).  But in my opinion, despite all the good news coming out of the company of late, shares have been under significant pressure because of where the price of Tampa ammonia currently sits ($240/ton vs. $450 a year ago).  LSB isn't the only player being hurt, but given the significant leverage involved, you see it in LXU's stock price very dramatically.

 

True the company trades below replacement cost, so for the patient, I think the stock is interesting to learn more about.  But I think your 4x EBITDA comment implies the company will do $176mm in EBITDA.  In this environment that's simply not possible.  If you go back to page 18 of the company's May slide deck, to get to that level of EBITDA, and as an example, gas needs to be at 2.50 and ammonia needs to be at $350.

 

Having said that, I do think the company will be a target for a strategic at some point.  If you ran the company though, would this be the right time to sell?

[constala]

Net debt is about $ 388m right, and Pref still $116m ? Market Cap $240m:  EV $744m, assuming EBITDA 120m that's a multiple of x6. Not high, but not crazy cheap for such a directional play in a cyclical industry with capacity overhang. I struggle to understand the screaming buy opportunity here....just relative valuation to peers?

 

 

[ValueMaven]

Dear Mateo999, Dear heth247, and Dear constala!

 

Everyone here raises valid points regarding LXU!  My thesis is that you are basically AT the bottom regarding spot ammonia prices (August and early September are seasonally the weakest points in terms of demand and pricing), with a leveraged turnaround play right at the bottom.  New management particularly Greenwall is fantastic and has executed what I would call a brilliant turnaround from a near bankruptcy situation!  Management sold the HVAC climate control unit – realized a very nice market valuation (14.6x EBITDA) paid down some costly preferred + redeemed some debt as well.  In terms of catalyst going forward 1) CASH FLOW will and should drive the story here – by the 4th quarter, investors should have a VERY CLEAR insight into what FY 2017 cash flows will be.  Additionally, I believe management is running EDC above nameplate capacity (appromxitly 10% - 12% - which  should affect EBITDA positively by $7-$10mm).  2) Additional asset sales could raise $20 - $30mm (warehouses, storage units and gas takes) which would help streamline the business + annual reduction of SG&A by $5mm.  3) Improvements in the capital structure of the company/cost of capital…LXU will likely issue a HY bond offering to redeem the rest of the preferreds outstanding, all of which is interest expense and directly flows to the bottom line.  What commodity companies look CHEAP at the bottom of the cycle on an ev/ebitda basis??  ANSWER = NONE.  It seems to me at least that the market hasn’t bought into any of this (**YET**) as shown by the almost 25% short position still in the common stock. 

 

Sincerely,

ValueMaven

 

PS: FEEDBACK is most welcome

 

[heth247]

ValueMaven,

 

I agree that it is a good time to buy at the bottom of the cycle.  However, we are at both bottom of the Ammonia and NatGas, which has opposite impact on their business.

 

Apparently NatGas has bottomed out and is rising up, but we don't know if Ammonia has bottomed out yet, or how long will it take.  Do you have any insight on this?

 

Thanks.

 

 

[ccap]

Increasing ammonia prices should be a good thing now that LXU is making their own ammonia.  Now, LXU is a net seller of ammonia.

 

Natural gas prices are not the key thing to look at.  The key factor is the spread between natural gas and their products (fertilizer and ammonia).  If you look at refiners, oil goes in, and gasoline comes out.  The refiner makes money on the spread.  It is the same thing here.  Nat gas goes in and fertilizer/ammonia comes out.

 

What that spread looks like is a little harder to determine.  The US nat gas based facilities are low-cost producers.  Chinese fertilizer is higher cost and is made using coal.  Therefore, there is a tug of war between high-cost Chinese production based on coal and Chinese excess capacity that refuses to die.  Also, there is additional US capacity coming online. 

 

LXU has claimed that urea is not interchangeable with ammonium nitrate.  I think this is likely BS.  This plays into the spread evaluation as well.

 

[ValueMaven]

Dear ccap,

 

Brilliant insight!!!  Thank you for sharing. 

 

Sincerely,

VM