Loews: undervalued family holding, long-term compounder

Loews is a US listed holding company owned and managed by the Tisch family with about 33% interest. Its business consists of one publicly listed company which accounts for 86% of its market cap (52% of NAV), three main private subsidiaries and a $1.3bn net cash position.

There are three main sources of the upside that I see: 1) reduction of a discount to NAV; 2) normalisation of values of core businesses; and 3) future returns on reinvested capital.

Loews has a market cap of $8.9bn which broadly equals the sum of the market value of its 89% interest in CNA Financial (a publicly listed insurance company) ($6.8bn) and a net cash position ($1.5bn). On top of this, Loews owns three private businesses with a conservative value of $5bn or $17.7 per share. Loews also holds 53% interest in Diamond Offshore – an offshore drilling rig company which went into bankruptcy on 26 April 2020. I assumed this business was worthless for Loews since its fate is now in the hands of its creditors.

There is about 48% upside to the current price if Loews re-rates to its NAV per share.

Here is how I value private businesses:

- Boardwalk Pipeline Partners. I apply 12x PE to its 2019 net earnings of $209mn which gives me $2.5bn valuation for the business ($8.9 per share). Loews bought out minorities (49% interest) in 2018 for $1.5bn which implied $3bn value for the whole business. Loews purchased the predecessor of Boardwalk – Texas Gas for $1.04bn consideration back in 2003 and made further deals (over $1bn in value) to expand the pipeline business. My fairly conservative valuation reflects increased risks of the reduced throughput and credit risks of customers given extremely weak macro conditions.

Key facts: throughput capacity - 8bcf/d; pipelines length - 14,055; underground storage capacity – 205 bcf; liquids storage capacity – 32m bls.

- Loews Hotel. Loews runs 28 hotels in the US (12 fully owned, 12 owned through JVs and 4 are managed by Loews). The business generated EBITDA and net income of $227mn and $82mn in 2019, respectively. The company has grown its EBITDA by almost 3x since 2012 by expanding its room capacity and raising room rates. I applied a conservative 12x PE multiple to its 2019 earnings to arrive at $1bn valuation ($8.9/share).

- Altium Packaging. Loews purchased this business in 2017 for $1.2bn (50% funded by cash and 50% by debt raised by Altium). Altium is a leading rigid plastic packaging business with 64 packaging and 2 recycled resin facilities in the US and Canada. With over 100mn pounds of annual production of recycled HDPE (high-density polyethylene), Altium is the second largest operator in this category in the US. Packaging industry remains highly fragmented and Altium plans to act as a consolidator having acquired 6 businesses in 2018-19 to broaden its portfolio and extract synergies. The business is highly profitable and cash-generative with EBITDA margin in the 20s and FCF at c. $140mn (over 10% yield on the original cost of acquisition), while Capex/Sales ratio is just around 5%.

I value Altium Packaging at $1bn ($3.5/share) equity value which is c. $0.4bn higher than equity contribution by Loews at the time of the acquisition which reflects newly acquired businesses, 22% growth in sales since 2017 and additional value that can be created at Altium as it operates under Loews ownership.

In the base case, I estimate Loews' NAV per share at c. $45/share which is 42% above the latest market price.

Besides simple discount to NAV, another source of the upside is revaluation of company's core assets as the macro situation normalises. I estimate that Loews NAV per share could be worth $83 if I assume focus on performance in the next 2-3 years, rather than 2-3 quarters.

The current valuation of CNA, for example, looks depressing to me reflecting market concerns over COVID-related losses. CNA Financial, for example, has a book value of $12.2bn, it has generated 8% ROE on average and increased earnings by 9% since 2009 without a single loss during that period. CNA is valued by the market at 0.6x P/B which looks quite conservative even taking into an account potential losses in 2020.

- I think CNA's fair value could be about $13.4bn (estimated as a 10% premium to its pre-COVID equity value) which translates into $47.2 value per share of Loews (well above $31.7 current price).

- In a more optimistic scenario, I value Boardwalk Pipelines at 10x EV/EBITDA – realistic multiple for a stable business with long-term contracts ($4.7bn value, $18.6/share).

- Loews Hotel & Co could be valued at 15x PE multiple – which is in line with long-term market multiple. This gives me the valuation of $1.2bn for this business ($4.9/share).

- Altium Packaging could be valued at 12x EV/EBITDA in line with the valuation of publicly listed peer companies leading to $1.7bn valuation ($6.7/share). The business deserves a higher multiple given its growth potential and synergies (Loews targets synergies at 5% of revenue after acquiring new companies). The multiple would drop to 6x within just 4 years if Altium maintains the 12% top line growth, partially pays off debt and expands the EBITDA margin by a few percentage points.

As it is often the case at the time of crisis, the market is focusing on near-term challenges and is not considering how situation could change in 2-3 years. Loews is not widely covered and lacks attributes of a 'hot story' to make it a popular stock on Wall Street. Hence, the price could be significantly lower than what the company is really worth. I review key 'misconceptions' below and explain why I have a different view than the market.

• Market is focusing on short-term uncertainty (time arbitrage). While the final impact of COVID-19 pandemic on the global economy remains unclear, I think the situation would normalise in the medium-term. It may take 6 months or 2-3 years, but it is unlikely that the world has changed for ever and values of Loews's core businesses have been permanently impaired.

• Possible losses of the insurance business. I do not know for sure the extend of increased payouts by CNA Financial related to COVID-19. However, with a separate listing, it is likely that CNA Financial's stock already reflects those losses at least partially. If that is the case, then it is also likely that Loews' share price discounts some of those losses too. In other words, even if such losses were to happen, the actual price will probably not change much.

The $3.5bn cash position of Loews should also be an important factor for providing necessary support for CNA in case of bigger problems.

Importantly, during 1Q20 conference call the CEO of CNA Financial, Dino Robusto stated that "CNA's property policies required direct physical damage to the property from a covered peril for coverage to attach. Additionally, the property policies, whether issued in the United States or internationally, have exclusions borrowing coverage for viruses. There are very few policies where coverage may exist on small participations in our operations, but the total limits exposed are de minimis. So, with respect to property business interruption insurance, CNA's policy language does not cover COVID-19 in virtually all cases, and the company never collected premiums for it".

At the same call, the management also noted that it expects its actions to tighten various terms and conditions within professional liability business to mitigate company's exposure to COVID-19. CNA has received relatively few notices from its ageing services insured, according to the CEO.

Finally, similar to other insurance companies, CNA underscores that industry conditions were improving with price increases accelerating to about 8%.

• Impact of COVID-19 on other businesses is much less severe. The market may be concerned that Loews' pipeline business may suffer as oil & gas production plunged and with lower prices customers will not be able to meet their obligations. Addressing this point, Loews' CEO noted during 1Q20 call that "almost 90% of Boardwalk's revenues are backed by fixed fee take-or-pay agreements. Revenue in 2020 is expected to be about $60 million lower in 2019, due primarily to the expiration of the legacy contracts. At the end of 2020, Boardwalk should have a debt to EBITDA ratio below 5 times leverage… the company expects to finance its capital needs this year primarily by using internally generated cash flow".

As for the packaging operations, Loews expects EBITDA of that business "to be up nicely in 2020 with a good portion coming from completed acquisitions, as well as from organic growth".

• Exposure to hospitality business. Hotel segment suffered the most with only 4 out of 28 hotels remaining open (with much lower utilisation, obviously). Loews estimates that the business would be burning c. $25bn of cashflow every month with its hotels shut. So assuming they remain shut for a year, Loews Hotel would lose $300mn of cashflows –not critical for a business with $3.5bn of cash position.

• Loews is not covered by investment banks. As strange as it may sound for a $10bn market cap company with US listing, I could not find a single investment bank that covered the company's stock. There are only two small independent firms that claim that they cover the company. For traditional asset managers, Loews does not offer a particularly compelling theme of 'digitalisation', 'decarbonisation' or other hot topics which makes it less attractive to own. Losing money in Tesla or Amazon is perhaps less punishing than in a obscure, poorly covered holding company from a career perspective.

Key risks are related to weaker macro conditions, although they would affect all companies and with a net cash position and strong alignment of interests between the management and shareholders Loews should deliver fairly good results.

Another risk is lower for longer interest rates which could reduce returns of the insurance operations as it is a net cash generator. But this could be at least partially offset by the hardening of the insurance premiums as has been reported by several companies in the sector.

One risk which cannot be completely excluded is capital allocation. While Loews has generated growth in book value per share of about 17% per year for more than 40 years, its recent track record has been less stellar. In particular, the company acquired a shale gas producer – HighMount E&P for $4bn in 2007 but then sold it for just $787mn in 2014 after failing to deliver on its original plans.

The company's buyback has been increasing in the periods of strong markets and slowing down in more uncertain times. Of course, it is more preferable to see Loews buy back its shares after they have declined considerably and are trading significantly below the intrinsic value.

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