Marchex: Joint Tender Offer

Marchex (MCHX) is a small (~$80MM market cap) software company that has gone through a few iterations over the years, now they're focused on call and text analytics, basically trying to capture data on customer interaction to increase sales and improved customer satisfaction.

On 8/31, Marchex and Edenbrook Capital (which owns 19.5% of MCHX) formally launched a 50/50 joint tender offer that expires on 10/7 to acquire up to 10 million class B shares (approximately 25% of the publicly traded B shares), the tender is slightly unique in that it has a tiered payment structure.  If less than 6 million shares are tendered, Marchex and Edenbrook will pay $1.80/share, if between 6 million and 10 million shares are tendered, the price will be $1.96/share.  Above 10 million shares tendered and you'll be pro-rated, but with the shares trading at the lower bound $1.80, it seems like the market is saying that less than 6 million shares will be tendered.

The company has a lot of cash in relation to their market cap, $46.8MM as of 6/30, they did get a $5.3MM PPP loan, so depending how you want to account for that, the enterprise value is roughly $40MM.  They've made several acquisitions in the last few years to bolster their call analytics business that total up to more than that, either some poor capital allocation or the market is missing the transformation.  To highlight that core call analytics business, in parallel with the tender offer the company is selling their legacy business to management in a complicated transaction, it certainly looks a little strange and isn't arms length, but they've tried to unsuccessfully sell it for a couple years now and is essentially a quickly melting ice cube.  It's an attempt to remove the bad business that might be hiding a good business.

Edenbrook clearly thinks there is value here, from their initial letter to the board highlighting the undervaluation:

We believe Marchex’s trading price of $2.63 per share (as of December 21, 2018) demonstrates a substantial discount to comparable industry valuations. Similar analytics-based public companies are trading at 4-6 times revenue, while private companies are being financed at 6-10+ times revenue. If Marchex were valued at 3 times analytics revenue (which is still a substantial discount to the market and less than Marchex just paid for Callcap), and approximately $44 million in cash were factored in, this would yield a value today of approximately $4.65 per share, which is 75% above today’s trading price of $2.63 per share (as of December 21, 2018). Adding in discounted values for the legacy business and the NOL carryforward would yield another approximately $1.60 per share, totaling approximately $6.25 per share, more than double today’s price. Further, given the continued profitable growth of the business, we expect these values to continue to expand in the coming years.

The business doesn't quite click for me, but clearly Edenbrook wants more of the asset (if fully subscribed they'll increase their stake from 11.50% to 36.67%) even though this is a dual share class structure with management owning the super-voting Class A shares.  Edenbrook isn't the only one, another investor has opined publicly, Harbet Discovery Fund (owns 6.4% of MCHX):

After years of investment in the analytics products and platform, which we estimate exceeded $150 million, the Reporting Persons look forward to breakout sales growth in 2020. As the Issuer’s management team mentioned on the last earnings call, early momentum with the Sales Edge Rescue product and the expected expansion into a key OEM client could each independently drive material growth. With accelerating growth, the Reporting Persons can see a path to the Issuer’s stock trading over $5.75 per share (+186% upside from current levels), assuming 10% analytics sales growth in FY20, a 4x sales multiple on that business, and stable cash balance. Over the next twelve months, higher valuations could be reached if the market begins to ascribe the value of the marketplaces business and data library.

 

Absent a significant increase in growth in 2020 in the analytics business, the Reporting Persons anticipate the Issuer may consider a broad range of strategic options to maximize the value of its business units, balance sheet, intellectual property, and data library. Conversely, with rapid growth in the analytics business and the gross margin expansion that should accompany it, the Reporting Persons wonder if the analytics business will ultimately receive the maximal value as a standalone company, and also anticipate the company taking measures to simplify its structure and streamline its model over time. The Reporting Persons also expect the Issuer’s long-term track record of returning capital to shareholders through buybacks and special dividends to persist for the foreseeable future.

So the stock might be worth looking at post tender, some of these large tenders can attach the stock price to the offering price and then afterwards the stock takes off.  I'm not comfortable enough with the business to take that view but either way it makes me a little more comfortable if the tender is oversubscribed and I end up with some orphaned shares.  Edenbrook and management aren't tendering, Harbet Discovery is likely not tendering, so there may be limited shares participating if other institutional shareholders also sit it out.  In the more likely scenario and less than 6 million shares tender, I get my money back and just lose some opportunity cost, for it to work out perfectly and get the $1.96, it is a bit of a thread the needle proposition, but I don't see much risk in attempting it.

Disclosure: I own shares of MCHX

Lubys: Asset Heavy Restaurant Business Opts for Liquidation

Luby's (LUB) is a small restaurant business based out of Houston, TX.  Currently, they operate two restaurant chains (previously a third, Jimmy Buffett themed "Cheeseburger in Paradise", all of which are now closed), the namesake "Luby's Cafeteria", a Texas comfort food buffet chain and "Fuddruckers", a fast casual burger concept that is partially franchised but has seen better days.  Luby's also has a contract food service business that caters their cafeteria style menu to hospitals, senior housing facilities, sports arenas, etc.  Luby's has struggled as their concepts are a bit stale (maybe that's being kind), mature, and operate in hyper competitive market segments like Fuddruckers with burgers.  Luby's has been treading water for several years -- management has reshuffled some senior leaders and fought off a proxy contest (from Jeff Gramm, author of Dear Chairman), but none of the turnaround plans really came to fruition.  Then of course, covid hit and suddenly going out to a buffet/cafeteria style restaurant like the namesake Luby's sounds pretty unappealing or simply impossible due to local shutdowns.

Last year, Luby's commenced an effort to explore strategic alternatives, but on September 8th the company kicked up the effort by formally announcing they were pursuing a liquidation (requiring shareholder approval) by selling their operations and assets in several transactions, then returning the proceeds to shareholders along the way.  Disclosed in the announcement, possibly to convince shareholders to vote for the liquidation, management announced an estimated distribution amount:

While no assurances can be given, the Company currently estimates, assuming the sale of its assets pursuant to its monetization strategy, that it could make aggregate liquidating distributions to stockholders of between approximately $92 million and $123 million (approximately $3.00 and $4.00 per share of common stock, respectively, based on 30,752,470 shares of common stock outstanding as of September 2, 2020)

The stock trades for $2.35 today.

Luby's is a throwback to the old world, they own much of the real estate for their restaurant locations versus leasing them, that's where most of the value is in the liquidation.  They've even previously considered selling the restaurant operations and converting to a REIT at one point.  In the proxy statement they've disclosed the current post-covid value of the real estate (they've hired two separate real estate appraisers):

As of August 26, 2020, we owned 69 properties, consisting of the underlying land and buildings thereon, most of which operate, or have operated in the past, Luby’s Cafeterias and/or Fuddruckers operations. The estimated value of those properties as of August 26, 2020, was $191.5 million.

Hidden Value Blog did a nice write-up on the situation a few months ago and did more diligence than me on the underlying real estate portfolio in order to validate the company's appraisal, worth a read.  Most of the real estate is in Texas, which should hold up fairly well, major cities like Houston, San Antonio and Dallas all annually rank near the top of job growth and new home construction.

The company has ~$63.7MM of gross debt, $10MM of which is a PPP loan that will likely be forgiven by the government.  Without giving value to the restaurant operating entities or on the downside expenses regarding the liquidation, the value of the real estate is potentially worth just over the top end range of $4/share.  There's reason to believe that management might be understating the distribution range, in the background section of the proxy statement, Luby's financial advisor presented the following range on 7/20:

Duff & Phelps noted a reference range of aggregate potential liquidation proceeds available to holders of Luby’s common stock from $127.0 million to $172.1 million or $4.15 to $5.62 per share of Luby’s common stock, based on an estimated 30,625,470 shares of common stock outstanding and the Company’s estimates of value for its owned real estate.

Later in the proxy, its mentioned that the Duff & Phelps estimate didn't reflect the current real estate portfolio, but that seems odd since any real estate sales in the interim would be netted off against net debt.  Or it could just be a financial advisor telling a management team what it wants to hear.

Timing and the duration of a liquidation are always a big risk, these take twice as long to wrap up as you'd think, especially the last puff which can be frustrating if you're late to the situation.  However in this instance, much of the distributions will likely take place in the next 6-12 months as the company has been in active discussions on each of the assets for months.  It is mentioned a few times in the proxy that the distribution estimation is based on actual indications of interest for each asset, reading the tea leaves, it seems likely we'll see significant asset sales in the near term.  I wouldn't be surprised to wake up and see news that Franchise Group (FRG, still long) was buying Fuddruckers after their failed attempt to buy another struggling chain in Red Robin (RRGB) last year.

I've participated in a few liquidations over the years, the only time it worked out poorly for me is NYRT, in that instance an activist came in with overly lofty projections in order to win over shareholders so they could earn management and incentive fees.  Here the liquidation is more of a white flag, management has been in place for two decades and should have a sense of the value of their assets, they also own 30% of the shares and thus aligned to get maximum value within a reasonable time frame.

Disclosure: I own shares of LUB