Yesterday Mick McGuire, founder of Marcato Capital Management announced three mid-cap stocks that he likes for long positions. Marcato focuses on value investments across various sectors. McGuire was a former analyst for Bill Ackman and Pershing Square Capital.
Marcato is a two-year old firm managing $750 million. The firm’s sweet spot is $1 billion – $5 billion market cap companies. McGuire’s Value Investing Congress presentation focused on three hidden real estate value plays—see all of Marcato’s holdings.
Alexander & Baldwin Inc. (NYSE:ALEX) is a real estate and agricultural company that focuses on real estate development and commercial housing in Hawaii. Overall, Marcato believes that the land on Alexander’s books is held at a value much lower than its potential market value. Most of the plots are farmland, but Alexander believes the value could be unlocked through residential or industrial development.
Alexander represented over 20% of Marcato’s 2Q 13F portfolio and was the firm’s second largest holding. This included a 33% increase from the first quarter. However, Marcato was topped by mentor Bill Ackman in share ownership amongst the funds we track, with Marcato owning 1.3 million shares and Ackman 3.6 million. Another big name investor owning half a million shares was Chuck Royce.
McGuire noted in his presentation that the net asset value on Alexander’s commercial real estate should total just over $900 million, versus the book value of around $800 million. Marcato also completed a DCF on each of Alexander’s development properties, calculating the aggregate of all properties to be around $300 million. Including a net asset value on joint-venture assets with the other values, puts the net asset value around $30 a share, while the company currently trades around $29.
McGuire then took his analysis a step further by accounting for Alexander’s current cash flow from operations, adding another $17 to the valuation. This puts the fair value of Alexander’s shares at $47, compared to the company’s current sub-$30 trading price.
Gencorp Inc (NYSE:GY) is Marcato’s second pick. The company is a manufacturer of aerospace and defense products and systems, as well as focused on re-zoning, entitlement, sale and leasing of excess real estate assets. Marcato believes the key to GenCorp’s land value is in a California region that once acted as a buffer between residential areas and test sites for devices. GenCorp has permits to develop around 6,000 acres, with most estimates putting the land value at $50,000-$60,000 per acre. In addition to its California assets, McGuire also places the value of the company’s excess office space at a $66 million based on net operating income of $5 million.
For 2Q, the company reported that cash from operating activities was $29.3 million compared to $14.6 million in the second quarter of fiscal 2011. Also worth noting is the company’s trailing P/E of 101 and its forward P/E of 25. However, McGuire believes that earnings are understated due to non-cash accounting treatments, and so he believes the company trades at P/E of 8x true economic earnings.
This is probably the most hidden real estate play—having less evident ties to the real estate market when compared to McGuire’s other two picks. GenCorp competes with a couple other key defense product manufacturers that trade above the company on a P/S basis. GenCorp trades at a 0.6, while American Science & Engineering, Inc. (NASDAQ:ASEI) trades at 2.9x and GeoEye Inc. (NASDAQ:GEOY) 1.9x.
GeoEye received two letters from the National Geospatial Intelligence Agency. The first letter advised that, due to funding shortfalls, the NGA would not exercise a full-year Enhanced View Service Level Agreement option the upcoming contract year, and a second letter formally notified the company that the NGA was electing not to obligate additional funding under its OTFPP Cost Share agreement for the development and launch of GeoEye-2. Raymond James downgraded on the news. The company is up over 20% on rumors of a possible merger with Digital Globe Inc.
American Science is losing its CEO in 2013, and for 2Q posted $0.47 EPS versus $0.61 estimates. Prior to this news, the company received a $34 million service and maintenance order from the U.S. government, and received an upgrade by Benchmark. The company trades at a beta less than 0.5 and pays a 3% dividend yield.
Marcato was the largest shareholder of GenCorp at the end of 2Q, owning over 5.7 million shares, which was over 11% of Marcato’s 2Q 13F portfolio. Chuck Royce was also an investor in GenCorp—see all funds owning GenCorp.
Brookfield Residential Properties Inc (TSE:BRP) is McGuire’s final pick. McGuire believes the majority of the company’s value is in its real estate holdings, and like Alexander, values it on a net asset and book value basis. McGuire notes that over 62% of the company’s balance sheet is made up of raw land and that an improvement in U.S. housing will be driven by a backlog and a bounce back in orders.
McGuire believes that the current market value should be somewhere around 50% more than Brookfield’s stated value. As well, if Brookfield traded at the same book values as its peers, the share price should be $44-$55, versus the current share price of around $10.
In closing, McGuire has been on the lookout for hidden real estate assets, that may have been buried on the books of non-real estate focused companies. He and Marcato believe in real estate being local, and so they focus on understanding the local marketplace.