Fun read here. Good alternative viewpoint on valuation. I agree that 2019 comps are going to be a challenge.
I don’t think bulls would disagree that the company’s greatest assets are its land and mineral interest holdings. Given that, it’s puzzling to me to see focus on earnings per share, cash dividend distributions, or other measures of earnings power. Investors have lost sight of what’s supporting the underlying valuation: The land and its value. As any commercial real estate owner will agree, while commercial property values often correlate to earnings power, they frequently do not align. I see a lot of similarities here to the real estate sector, followers of my work know I spend a good chunk of time analyzing REITs. With that in mind, a focus on the actual current trading value of the land itself is natural for me, but even in REITs it has not common among smaller shareholders. That is clearly a mistake, as investors that have chased earnings yields at all costs in distressed real estate (malls, senior housing) have gotten shellacked. Coming into looking at this company at the request of a peer, this disconnect was my No. 1 concern and something I felt was missing in the discussion. While there’s going to be some correlation – higher revenue and earnings from lands naturally will tend to drive associated land values higher – they do not necessarily move in lock step.
On the far west land held by the Trust…
According to the most recent Texas Rural Lands report (data above), this rangeland is worth about $400/acre in the Far West Texas and Trans-Pecos. While acreage sales in this area are minimal (mainly trading hands between conservationists and ranchers), the Texas Rural Lands report has reported stable valuations in this region for some time, albeit with some range. In valuing the firm, I’ve used the low end of the range based on grazing rental revenue. Why? Texas Pacific Land Trust has historically booked about $0.55-$0.60/acre in grazing lease rental revenue on these lands which is at the low end of the rental range given in the above report. Logic follows that lower-than-average grazing lease revenue implies lower-than-average property value. Additionally, there would be some clear discounting involved in an accelerated wind down in this part of the portfolio given the lack of transactions out there.
In 2015, the surface acreage constituted roughly a third of total enterprise market valuation – on my analysis of the sum of the parts today it will be closer to 10%. The business model has shifted from high multiple, low earnings power assets (rangeland surface acreage) to low multiple, high earnings power assets (royalties). This is the danger of using historical multiples in projecting future value; business models change.
On the value of mineral rights…
With the company looking to post around $115mm in revenue this year, this values these assets at between $1,500-1,750mm on the high end of comps, not too far off the above figure based off usual private market rule of thumb.
At the end of the day, I think the assets can be valued similarly to the oil business. Margins are similar enough, and while the water reserves are not going to be depleted at the same rates as wells, water usage will be highest when exploration activity is aggressive and new wells are being drilled. Perhaps there’s some room for interpretation here, but I’d peg the business as a $900-1,000mm business as it stands today.
Boyd values the company at $3.3B via a conservative sum of the parts analysis.
It’s tough to call what investor expectations might be into Q4 and 2019 when it comes to earnings – particularly because there’s no Wall Street coverage – but my gut is that flat/negative comps beginning in Q2 2019 are going to surprise many people that own the company. I’ve learned that owning companies with that kind of outlook rarely plays out well, and my feeling is that this will be much cheaper before it sees the $700-800/share level again unless bulls are blessed with a dramatic reversion in the collapse in crude oil pricing. I think there are better opportunities out there in the oil patch.
Overall, I don’t disagree with the sum of the parts valuation. $3.3B is certainly short of the current $4.2B market capitalization. Sum of the parts puts the price at $430. We were just there so it’s not out of the realm of possibility.
That said, and I may sound naive here, but I what I think is overlooked is 1) no debt, 2) unique governance (long term decisions take precidence over quarerly beats), 3) share cancellations (ownership concentration), and 4) long term optionality on the land.
If you’re in for the long term, all four factors work in your favor. My gut says that a simple sum of the parts undersells all that TPL entails. That (my gut) and a dollar will get you a cup of coffee.
I follow many industrials in my line of work. Over the past ten years I’ve seen most all of them all 1) add leverage, 2) make short sighted moves to “beat” earnings, 3) buy stock back at high valuations only to neutralize the concentration via issuance for management comp, and 4) squander and neutralize competive assets and divisions by buying “synergistic” losers via M&A. TPL seems, to me, to be the opposite of that.