Spin-offs are a lucrative niche.
Many of the best investors in the world have built their track records with the help of spin-offs.
My favorite investor, Joel Greenblatt, who generated 50% gross returns for a decade said the following:
“You can make a pile of money investing in spin-offs. The facts are overwhelming. Stocks of spin-off companies significantly and consistently outperform the market averages.”
Legendary value investor and founder of Baupost, Seth Klarman, said the following:
“Spin-offs often present attractive opportunities for value investors.”
And famed Fidelity portfolio manager, Peter Lynch, is also a fan of spin-offs.
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Lynch managed Fidelity’s Magellan Fund from 1977 to 1990. During that period, assets grew from $20 million to $14 billion and he generated annual returns of 29%. Pretty incredible.
In Lynch’s investing classic, One Up on Wall Street, he wrote this about spin-offs:
“Spin-offs often result in astoundingly lucrative investments.”
Let’s take a step back.
What exactly is a spin-off?
A spin-off is when a public company breaks up into two or more public companies.
There are three upcoming spin-offs that look interesting.
Let’s dive in…
3 Upcoming Spin-Offs
Spin-Off #1: Almacenes Exito (EXITO)
Companhia Brasileira De Distribuicao (CBD) a Brazilian grocery company, will spin off a significant stake in Exito (trades in Colombia), a Colombian grocery company in Q2.
If Exito doesn’t sell off at the time of the spin-off, the transaction is a home run because the stub (CBD RemainCo) is currently being assigned negative value by the market.
The one thing to consider is whether Exito will sell off once the spin-off is complete. It’s currently trading at 13x forward earnings which doesn’t seem expensive but doesn’t seem particularly cheap, either.
My guess is we will see some selling pressure on Exito.
Nonetheless, it’s a situation worth monitoring.
Spin-Off #2: Fortrea (FTRE)
Labcorp (LH), a global life sciences company announced that it is on track to complete its spin-off of its Clinical Development business in a tax-free transaction shortly. The spin-off will be named Fortrea (FTRE) and regular way trading will begin on July 3.
Following the spin-off, Fortrea will function as a worldwide contract research organization (CRO), providing comprehensive services for drug and medical device development. Fortrea will have a workforce of over ~20,000 individuals and will specialize in managing Phase I through IV clinical trials and facilitating commercialization solutions for pharmaceutical and biotechnology companies across the globe. Fortrea peers trade at ~15.0x EBITDA. At that multiple, Fortrea should have an enterprise value of $6.2BN and a market cap of $4.6BN.
Fortrea is trading in the when-issued market (happens before the official spin-off) at 34 which implies a valuation of 10.9x, a very reasonable valuation.
Spin-Off #3: PHINIA (PHIN)
BorgWarner (BWA) recently announced that it is on track to complete the spin-off of PHINIA (PHIN), their Fuel Systems and Aftermarket segments, by the end of the day on July 3, 2023.
The spin-off is focused on turbochargers which are required for internal combustion engines, not electric vehicles.
Given investors’ preference for EV stories, the spin-off could be an interesting “indiscriminate selling” opportunity. I expect the spin-off to be sold indiscriminately given its poor secular outlook. However, the business quality should be quite high (high margins, low capital intensity, etc.).
My favorite types of spin-offs are the small micro-cap ones because they tend to be more mispriced and offer greater upside potential.
Sign up for Cabot Micro-Cap Insider and you will get immediate access to my analysis on a small-cap “spin-off machine.” It has spun off six companies in its past and is poised to spin off two high-growth subsidiaries in the years ahead.
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