Earnings Notes IV (Q4 2023)

Alpha Metallurgical Resources, Inc. (AMR)
Alpha Met is the largest U.S. met coal producer, representing about one-fifth of total U.S. production. According to their recent investor presentation, 71% of AMR's met coal production is exported, with India accounting for 37% of their export sales over the past five years.

The market capitalization of AMR is now $5.7 billion after earnings. AMR stock has been on an absolute tear since they are allocating lots of cash to share repurchases. (Up 151% since we mentioned last March.) Their current assets less total liabilities (ignoring deferred taxes) are now $255 million, so we would put the enterprise value at just under $6 billion.

For the fourth quarter of 2023 (release, 10-K), AMR's adjusted EBITDA was $266 million and for the full year (2023) it was $1 billion. That puts the EV/EBITDA at about 5.8x. AMR sold 4.6 million tons of met coal in Q4, 18% more coal than the prior year quarter. They got $184/t for met coal versus $155/t the previous quarter. Their cost of met coal sales was up slightly to $119 per ton from $110 per ton the prior quarter.

Cash from operations was $199 million and capital expenditures were $62 million for the quarter, for $137 million of free cash flow, an annualized yield on the enterprise value of 9%. That seems somewhat rich, especially compared with the FCF/EV yields of a coal royalty owner like Pardee, Beaver Coal, or Natural Resource Partners.

AMR had said that they were going to cease paying and focus their cash on share repurchases, "as long as buybacks make sense from a market, trading price, and valuation perspective." They paid $13 million of dividends for the fourth quarter and bought back $137 million of stock, for a shareholder yield of 10.5% (annualized) on the current market capitalization. They shrank the share count by 17% year-over-year!

AerCap Holdings N.V. (AER)
We mentioned aircraft lessor AerCap way back in the "What I Would Buy Instead of Tesla" post in October 2020. At that point the market capitalization was $3.3 billion, which was only a third of book value. They had $35 billion of aircraft (at book value net of depreciation), $10 billion of other assets, and $35 billion of debt, for a net of $10 billion of shareholder equity. It was trading for 3x earnings and we said, "If lots of airlines go bankrupt, this is a zero. If things return to normal, it's worth close to triple."

The market capitalization is now $16 billion and the share price did in fact triple. The share count and market capitalization grew in March 2021 when AER acquired GE's aircraft leasing business (GE Capital Aviation Services) for cash and stock. The other big development was when Russia invaded Ukraine, 152 AER aircraft were stranded in Russia. However, settlements were received from various Russian airlines and insurance companies.

Looking at the 2023 results, book value has grown to $16.6 billion as of year-end 2023. AerCap has $57 billion of "flight equipment," $14 billion of other assets, $46 billion of debt, and $8 billion of other liabilities. So the shares are now at 1x book value.

In 2023, AER earned $3.1 billion. Note that there were $1.3 billion of recoveries related to the Russian planes, so a real steady-state number would obviously be lower. Operating cash flow for the year was $5.3 billion. They spent $4.1 billion (net) on new aircraft and aircraft downpayments. They spent $2.6 billion on share repurchases which was more than their free cash flow, however they have some float from things like security deposits received from customers. With the $2.6 billion of repurchases, they shrank the share count by 18% during 2023.

We like specialty finance businesses with barriers to entry. Another example would be Burford (BUR). Good luck starting an aircraft leasing company; it's not like opening a bank to make mortgages at 4%. The concerns that we have with AER are the leverage (assets 4.4x their equity) and the China risk. They have 16% of their planes on lease to Chinese airlines so in the event of a Taiwan conflict, they could have a massive hole blown in their balance sheet. Why does China need to finance its planes with western capital, anyway?

Lamar Advertising Company (LAMR)
The reason that we initially became interested in Lamar was its high free cash flow margins - the signature feature of a "royalty-like" business.

The market capitalization of Lamar at $108 per share is $11 billion and the enterprise value is $16 billion. During the fourth quarter of 2023 (release), the company reported operating cash flow of $254 million, which was up 4% from the prior year quarter. This quarter's operating cash flow yield on the enterprise value (OCF/EV) annualizes to 6.4%.

Revenue for the quarter was $556 million, which was up 4% from the prior year quarter. Notice that Lamar enjoys a healthy operating cash flow margin of 46% of revenue. The quarterly dividend of $1.25 per common share was a total of $128 million returned to shareholders, a 4.6% dividend yield. (As a REIT, Lamar is required to distribute 90% of earnings to shareholders.)

For the entire year 2023 (10-K), Lamar generated $784 million of cash from operations (37% of revenues). The company reinvested $317 million in acquisitions and capital expenditures and paid $511 million in distributions to shareholders.

Let's compare Lamar's results for the year 2023 with those of 2018 (five years ago). Their shares outstanding have grown only 3% in five years, revenue has grown 30% (a bit better than the 25% PPI inflation), and cash from operations has grown 39%.

So, cash from operations per share went from $5.70 to $7.67, an increase of 35%. It is nice that this is comfortably outpacing PPI inflation. Obviously, CFO is different than free cash flow because it ignores both maintenance and growth capital expenditures, but by using CFO we normalize for the different levels of growth expenditures over time. And billboards do not exactly require tons of maintenance. (They actually said on the Q4 2023 earnings call that maintenance capex is $50 million in 2024 which is less than $500 per billboard.)

Management also mentioned on the call that they think that M&A and consolidation is going to "accelerate" over the next 18 to 36 months.

ONEOK, Inc. (OKE)
The market capitalization of ONEOK is $42 billion, not quite as big as Enterprise Products ($60B) or Enbridge ($73B). You may recall that OKE acquired our Magellan Midstream last year. For 2023, OKE earned $2.7 billion, generated $4.4 billion of operating cash flow, spent $1.6 billion on capital expenditures, and paid $1.8 billion of dividends. Earnings were obviously up significantly over 2022 thanks to the Magellan acquisition, which was funded with both cash and stock. Since the acquisition closed in September 2023, the best proxies that we have for the going-forward results are the Q4 2023 and management's guidance for 2024. Guidance in the investor presentation is for $2.6 to $3 billion of net income, $5.9 to $6.3 billion of adjusted EBITDA, and somewhere near $2 billion of capital expenditures, mostly for growth.

What I Would Buy Instead of Tesla

When I started this thought experiment, Tesla had a market capitalization of $460 billion. It traded around 300 million shares (around $140 billion in value!) at that valuation level. But it has declined and is now a ~$400 billion market cap. So with ~$400 billion in hand, here is the shopping list of what I would rather buy. We can see how this alternative portfolio does over time.

• Toyota Motor Corporation (TM) for $185 billion. Sell the worst automaker and be long the best. Earnings were $17 billion last year. Peak was $23 billion in 2018. Average from 2010-2019 was $13 billion annual. (They made money every year of the decade.) With a market capitalization of ~$185B that's 14x if we look at the ten year average like we do with the S&P as a whole. (Or, only 11x last year's earnings.) Pretty amazing that their net income is close to Tesla's entire revenue (maybe 2/3 of it), but Tesla's market capitalization is 2x higher. TM dividend yield is 3%.
  
• The two U.S. based tobacco companies, Altria (MO) and Phillip Morris (PM) for $72 billion and $117 billion. PM earned $8 billion last year and MO earned $2.3 billion (excluding the Juul write-down). That's $189 billion which is the same market capitalization as Toyota and 47% of Tesla. The P/E of the tobacco companies is about equal to the price-to-revenue of Tesla!
• Valero Energy Corporation (VLO) for $16.3 billion. The second largest oil refiner in the U.S. with 2.2 million barrels/d of capacity. They earned an average of $3 billion per year over 2018 and 2019. The hope here is that the oil refining industry will follow the path of the tobacco industry - a product still in demand but with concerns about the future that discourage entrants to the industry and additional capacity from being added. In this case, the electric vehicle mania is leading people to believe that gasoline demand is going away.
  
• Royal Gold (RGLD) for $7.9 billion. A great business model - streaming/royalty interests on gold mines with no debt. Net income of $200 million for the past year is expensive, but it could/should grow as more mines come into production. (They have interests in 41 producing mines and 16 in development, plus more in the pipeline.) They do about 1 transaction a year but it's lumpy - they did none from 2006-2008 or from 2016-2018.
  
• Texas Pacific Land Trust (TPL) for $3.6 billion. At $460, the market capitalization is $3.6 billion and the enterprise value is about $3.3 billion. (They have a net cash position.) They get a royalty from their land in the Permian and do not do any production themselves. No debt and royalty ownership protects against the risk of ruin in the scenario where there is "deflation first" before an inflation. In 2019, they did $318 million of net income. In the 1H of 2020, they did only $85 million (which annualizes to $170mm). It's a higher quality asset than companies that are more expensive. I think it's a better inflation hedge than precious metals. The big question to me would be whether we overpaid if there's an extended period of deflation. But at least it would be far more likely to survive than something like XOM which has 3x its EBITDA in debt.
  
• AerCap Holdings N.V. (AER) for $3.3 billion. They are an aircraft lessor. This is a covid nothingburger play. It's high risk but high potential reward. It is highly leveraged: they have $35 billion of aircraft (at book value net of depreciation), $10 billion of other assets, and $35 billion of debt, for a net of $10 billion of shareholder equity. Current market cap is $3.2 billion, so very low P/B. The key question is whether the aircraft are worth their carrying values. This was trading for ~90% of book until covid hit. If air travel was going to take a multi-year hit, it would be conceivable that the airline lessees would go bankrupt, reject their leases, and the lessor would be stuck with planes that were worth much less than expected. But, for whatever reason, herd immunity seems to have kicked in far earlier than expected.The Boeing MAX problem is complicated, but if those planes are scrapped it would be bullish for the lessors because it would extend the economic life (and increase the residual value) of existing planes. They earned $246 million in Q2 2020 vs $331 million the prior year. So that is a double digit return on equity. And it makes the P/E about 3x! If lots of airlines go bankrupt, this is a zero. If things return to normal, it's worth close to triple.
  
• Dorchester Minerals LP (DMLP) for $358 million. They own producing and non-producing mineral, royalty, overriding royalty, net profits and leasehold interests. They have no debt. Net income for 1H 2020 of $10 million vs $28 million for 1H 2019. Prices were obviously down during the covid crash, and operators also curtailed production. They bought back some of their own units during April.

So instead of Tesla's $25 billion in annual revenue and no profit (in fact, a cash burn of maybe $5 billion a year), you get revenue of about $400 billion (1x revenue, how about that) and net income of maybe $30 billion a year and distributable (as opposed to reinvested) income that's greater than Tesla's revenue.