David J. Reynolds of the WSJ reports that Sardar Biglari purchased $1.1M in Steak N Shake (NYSE:) shares last week:
Steak n Shake recently disclosed plans to purchase Western Sizzlin, a steak restaurant chain that Mr. Biglari also heads.
The young activist — he is listed as 31 in a recent regulatory filing — became chief executive of Western Sizzlin in 2007 after buying shares and agitating for change at the company.
Ben Silverman, director of research at InsiderScore.com, said Mr. Biglari’s purchase showed his confidence in the outlook for the combined company. “The buying here is bullish,” Mr. Silverman said.
Mr. Biglari is “a value guy,” who has had plenty of opportunity to assess the worth of the business combination, Mr. Silverman added. “The proposed transaction seems to be the culmination of a two-plus year plan” to take control of both companies and combine their operations…
Mr. West said the proposed buyout was a “liquidity grab” by Mr. Biglari, a 33% holder of Western Sizzlin — more attractive for Western Sizzlin holders because those shares trade relatively infrequently.
A year ago, I remember thinking about this exact possibility, that Steak N Shake (NYSE:) and Western Sizzlin (NASDAQ:) could merge.
Here’s what I said:
One thing I’m wondering is whether we’ll see a merger between Steak N Shake (SNS) and Western Sizzlin (WEST). It would be a little similar to what Eddie Lampert did with Kmart and Sears. The same could happen with Steak N Shake with Western Sizzlin since both are in the restaurant industry, we could see some cost savings and synergies achieved by merging. Although getting the financials to work out, especially currently, would be a major stretch.
At the time it seemed highly unlikely because Steak N Shake had a number of issues relating to debt and management that needed to be worked out. The common thread here is value investor Sardar Biglari, who manages the Lion Fund. As chairman of both companies, Biglari has implemented a holding company structure in both of them.
The real benefit here is simplification in the organization structure. Merging both companies will preserve the benefits and reduce the redundancies of running two different holding companies.
So let’s look at the transaction and figure this out. For shareholders, the changes are on the WEST side rather than the SNS side.
The Letter of Intent contemplates that on or prior to closing Western will distribute to its stockholders all of the SNS shares beneficially owned by Western. Further, under the terms of the Letter of Intent, the consideration payable to Western’s stockholders will be based on a net transaction valuation of approximately $22,959,000.00. At closing, each share of Western’s common stock would be converted into the right to receive an amount equal to approximately $8.11 in the principal amount of debentures issued by SNS. It is anticipated that the SNS debentures will have a term of five (5) years, will bear interest at the rate of 14 percent per annum and will be pre-payable without penalty at the option of SNS after one (1) year from the date of issuance.
From Western Sizzlin’s 10Q we know that Western Acquisitions owns 1,5553,545 shares of SNS. Shareholders of WEST own 85.1% of Western Acquisitions. So this means that WEST shareholders control 1,322,066.79 shares of SNS. There are 2.38M shares of Western Sizzlin outstanding.
1 share of WEST = 0.466 shares of SNS + $8.11 in SNS debenture.
The debentures pay a rate of 14% per annum, creating an added incentive for WEST shareholders. For SNS shareholders, I think the real question is going to be whether or not the integration of WEST adds any real benefit to justify the debentures. I would guess that there is a long term benefit from owned Western Sizzlin. Western Sizzlin’s restaurant operations alone will likely add about $2.2M per year in FCF which could be used for accretive investments which would benefit shareholders of Steak N Shake.
Today is the Western Sizzlin annual meeting in New York. I expect that we’ll see some interesting conversations come out there. I’ll be sure to link to any blogs that post up notes from the meeting. I’m sure more details surrounding the proposed merger will be out by then so we can do a more comprehensive analysis.
Western Sizzlin (NASDAQ:) is an interesting company for investors to study. Many of us would love the opportunity to invest in the next Berkshire Hathaway. There will never be another Berkshire, but it does not mean that there won’t be companies that come to embody a similar philosophy. Some seem to think that Western Sizzlin, run by Sardar Biglari, is shaping up to be just that. I don’t currently own WEST, but I think that it’s certainly worth looking at.
Sardar Biglari’s took control of Western Sizzlin a couple years back and so far has tried to implement the same kinds of value practices at the company. Western Sizzlin really started as simply a restaurant operation; currently the company owns 5 restaurants, 104 franchise restaurants, and a joint venture in a buffet-concept. Under Biglari the company has expanded quite by acquiring significant stakes in public companies, operating a real estate investment partnership, and picking up an investment advisory business.
To value a business like WEST, which contains a number of different parts and moving elements, you should try to break the business down into pieces and figure out a value for each. The best approach is to value as much as possible using net asset values and then applying other methods for the restaurant and investment advisory operations.
Public Investments
Common stock investments in ITEX Corporation (OTC:) and the Steak N Shake Company (NYSE:) are probably the two biggest drivers in WEST stock. What you want to do is figure out how much of each company does 1 share of WEST control. Here’s how to do this:
Company stock owned / Shares of WEST outstanding
SNS: 1,322,222.15*/2,822,785 = 0.47 shares of SNS per share of WEST.
(*Western Investments owns 85.11% of Western Acquisitions, which owns underlying shares in SNS)
ITEX: 1,704,201/2,822,785 =0.60 shares of ITEX per share of WEST.
Now you can start doing the math of figuring out how much a price movement in ITEX or SNS affects your WEST stock.
Simply take (.6*Current Price of ITEX)+(.47*Current Price of SNS) or, using today’s numbers:
((.47*8.93)+(.6*.57))= $4.54 per share
Real Estate
In 2007, Biglari established a new subsidiary called Western Real Estate LP, to serve as a vehicle for investing in real estate. In December of 2007, the company purchased 23 acres of land in Bexar County (San Antonio – where Biglari is from). With the inclusion of Kenneth R. Cooper (a lawyer who specializes in real estate transactions) on Western Sizzlin’s board of directors its likely that Western Real Estate will see more transactions in the near future.
I tried to do some due diligence work on the land transaction. Going onto the Bexar County clerk’s page, I was able to obtain the public records for the purchase (PDF:Land Transaction). Unfortunately, the descriptions inside these documents will only give a person indirect information of the parcel’s actual location. You’re not given absolute coordinates, so I was unsure about how to plot this out. But, if you look at the report here, it seems as if real estate prices in San Antonio are rather stable, meaning that it may be valid to record the real estate transaction’s impact on net asset value based on its cost.
WEST assigns the land owned by Western Real Estate LP a value based on the cost of $3.75 million. $3.75 million / 2,822,785 = $1.33 per share
WEST owns 5 company-operated restaurants, a joint venture in the Wood Grill Buffet concept, and finally a franchising operation for 104 restaurants. To figure out its per-share commitments, we have to deviate a bit from the previous methods. I believe that figuring out this segment’s free cash flow and then assigning a multiple to it will be an adequate means of obtaining its value.
Free cash flow from restaurant operations is about $2.2 million. To get this number you have to take the company’s meager reported net income for 2008 ($175K) and add back a series of one time charges while also deducting (-$34K) for maintenance capex. You’ll peg this number at $2.2 million of FCF for 2008. At this point, I think a multiple of 8X is quite fair. The number of restaurants franchised by WEST has declined over time from 123 (2006) to the current 104, it might be a stretch to project any growth to come out of this area. I’m using a multiple of 8X as opposed to 10X because of the decline in franchised restaurants over the past 2 years. The restaurant operation’s contribution to WEST common stock comes out to $6.30 per share.
2. Mustang Capital
The fees generated from Mustang Capital’s advisory fees come out to approximately $240.5K. With a business of this nature, I think that net income actually approximates free cash flow, as typical with most financial businesses. Mustang Capital operates as an advisory firm where fees are derived from a percentage of assets managed. Since this was during 2008, I would say that its certainly not a peak number, so assigning a 9X multiple works. This contributes $0.77 cents per share.
You might argue for a higher multiple, but I think that because there are so many uncertainties about the asset management business, we should err to the side of caution. We don’t quite know what the composition of assets are (if they’re mostly one person, evenly divided, and so on) so 9X should be fair.
This implies that WEST is actually slightly overvalued, nota screaming bargain. But if you go ahead and take a look at the per share impact of ITEX and SNS, you’ll see that a $1 increase in either’s stock price would add $0.60 and $0.47 to the company’s estimated NAV. This means that estimated NAV will be moving up and down every day. As a result, one should think like an owner when investing in WEST. I consider it to be blind investing if you simply look at the investments in aggregate and assign growth rate multiple and assume that is what their contributions will be to the company’s valuation. That is what I would consider to be too much faith put in Biglari’s hands. Not that his hands aren’t good at investing, but the sheer fact that there is so much concentration in two securities makes it essential for you to go out and calculate the intrinsic values of Steak N Shake and ITEX.
Western Sizzlin has the potential to be a really attractive investment, and a few days ago when I was working on this write up the valuation spread was wider, at 22%. Still, for me personally, I see little reason for investing in WEST while owning shares of SNS. For others, especially those who believe that ITEX shares are undervalued, Western Sizzlin could be a way to play both while having one portfolio position. I also see the company as a jockey stock. I know a few investors who will only invest in “Buffett”-like managers, such as Prem Watsa, the partners and Leucadia, the Tisch family at Loews, and so on. From what I understand, its a strategy that works pretty well.
For me though, I would rather stick with just SNS, where I see there being less moving parts and a simpler situation to value — than wading through Western Sizzlin with its various subsidiaries and operations.
Analyst Steve West said in a note to investors that the company’s “long-awaited” strategic plan is due to be released in the next few months – a move that likely will improve sentiment in the stock and make for the beginnings of a turnaround.
West said he does not see traffic at the chain improving until at least 2009 “as the strategic plan will take time to implement and the consumer remains strained.”
But he said the company’s management is “taking the right steps for a fiscal year 2009 rebound.”
Although he said he does not know details of the plan, he expects it to include closing underperforming stores, cost-cutting, selling real estate, refranchising company-owned stores and repurchasing shares.
I believe that one of the right steps was the sale-leaseback transaction Biglari executed recently. The move elicited a pretty negative response from some investors, but when faced with the possibility of bankruptcy since the company was/came close to violating debt covenants, it seemed like the right move.
Biglari’s withdrawal of the tax abatement plan appears to be the right move as well. Receiving that kind of support from the local government could have added to the costs of Steak N Shake (NYSE: ). These tax abatement plans are there typically for a business that is supporting and employing members of the community. They would discourage or possibly prohibit the closing of underperforming restaurants and firing of employees, which is just the sort of cost-cutting we might need right now.
Right now, controlling costs is at the forefront for most fast food and casual dining chains. It’s evident from the reports coming out that describe McDonald’s (NYSE:) retooling of the double cheeseburger to make it less of a loss-leader and Burger King’s (NYSE:) hope of reducing the size of the Whopper Jr. to control costs. With most commodities going up, all of these companies are in a tough position. It’s an intensely competitive business, with your enemies usually operating next door. If you raise your prices to push your increasing costs to the consumer, you risk losing sales.
I’m still holding my shares, and believe that my previous estimate for the company’s valuation of $20 per share is still in tact, but I’m not entirely sure of how long it will take to play out. We’ve already seen the bankruptcies of Bennigans, Steak & Ale, and creditor pressure on Uno’s.
It’s likely that we’ll see more distress in this sector, just as some of the highly leveraged chains find themselves strangled by a perfect storm of debt, higher costs, and lower customer traffic. Shrewd capital allocation skills are going to be needed as the industry passes through this rough period, luckily our new CEO seems to have them.
In an ideal world, managers at corporations would listen to the ideas that shareholders bring to them. After all, the shareholders are the true owners of a company. Usually though, egos start to fly and things don’t work out that way. When that happens, shareholders often utilize proxy contests in order to replace members of the board of directors and make their voices heard. The problem is that these proxy fights are messy and expensive. You have to obtain extensive legal council and take on the costs of actually mounting a campaign to distribute ballots and get votes yourself. For smaller investment funds the fight just might not be worth it.
The reason I bring this up is that there seems to be a little controversy regarding Sardar Biglari’s reimbursement of $500,000 from Steak N Shake (NYSE: ) while also serving as CEO of Steak N Shake (and taking a salary).
In connection with his appointment as Chief Executive Officer of the Company, Mr. Biglari’s annual salary was increased to $280,000. There is no other plan, contract or arrangement to which Mr. Biglari is a party or in which he participates that was or will be entered into, or any material amendment to such a plan, contract or arrangement, in connection with Mr. Biglari’s appointment as Chief Executive Officer. Mr. Biglari does not receive board fees or any other compensation.
On August 6, 2008, the Company’s Board of Directors agreed to reimburse Western Sizzlin and the Lion Fund for expenses related to this year’s proxy contest in the amount of $500,000. Mr. Biglari serves as the Chairman and Chief Executive Officer of both Western Sizzlin and the Lion Fund. This expense reimbursement is being disclosed pursuant to Item 404(a) of Regulation S-K.
While this looks sketchy, it’s not. Back in January, Biglari publicly disclosed that he would be seeking reimbursement for expenses incurred by having to wage a proxy contest with Steak N Shake. He says here:
The expense of soliciting proxies is being shared pro rata by the Lion Fund, Western Sizzlin and Western Acquisitions based on their pro rata share of the aggregate number of Shares held by all members of the Committee. Costs of this solicitation of proxies are currently estimated to be approximately $[________]. The Committee estimates that through the date hereof, its expenses in connection with this solicitation are approximately $[________]. We intend to seek reimbursement from the Company of all expenses we incur in connection with the solicitation of proxies for the election of the Nominees to the Board at the Annual Meeting. We do not intend to submit the question of such reimbursement to a vote of security holders of the Company.
Had Biglari pulled the reimbursement out of a hat, as a shareholder I’d be angered. But he didn’t. When he began his proxy contest with the company he publicly disclosed that he would seek reimbursement. If shareholders had disagreed with this, they could have voted in favor of company management.
In general, I like to see these reimbursement policies in play. They are enablers for shareholder activism which means that even in the micro-cap/small-cap area, we can see corporate management held accountable to their shareholders.
This weekend I had the privilege of reading the new Robert Cialdini book Yes!: 50 Scientifically Proven Ways to Be Persuasive. I first learned about the book from reading and watching a few talks with Charlie Munger, Warren Buffett’s right hand man. Yes! is a great book, it showed me a lot of different ways that we see psychology being used – especially when businesses are trying to sell to us.
One of the chapters which stood out to me discussed an experiment on how companies report their earnings.
Fiona Lee and colleages suggest that organizations that attribute failures to internal causes will come out ahead not only in public percetption but also in terms of profit line.
They also suggest that the public response to an organization’s internal focus to explain failures might be to assume that the organization has a plan to modiy the internal features of the organization that may led to the problems in the first place.
So what does it look like when a company does not attribute failure to an internal cause?
From the Steak N Shake (NYSE: SNS) 10-Q:
During the second fiscal quarter, same-store sales declined 6.3% primarily as a result of a decline in guest counts of 8.8%. Our same store sales and guest counts were negatively impacted by multiple factors, including further deterioration in the consumer economic environment and increased promotional activity from competitors…
Rising unemployment rates, steadily increasing gasoline prices, continuing housing related issues and declining levels of consumer confidence resulted in decreased guest traffic for us and many of our peers in the restaurant sector.
The researchers controlled variables and looked at companies which blame internal factors (strategic decisions, the release of new products) for poor earnings versus companies that blame external factors (the economy).
The results:
They discovered that when these companies explained failures in their annual reports, those that pointed to internal and controllable factors had higher stock pries one year later than those that pointed to external and uncontrollable factors.
This got me thinking to a quote I saw from Sardar Biglari at the Western Sizzlin meeting:
Steak N Shake is not declining because of the economy … almost everything that could go wrong with Steak n Shake has gone wrong.
We should be in for good things now that we have a CEO who is willing to blame our current woes on internal deficiencies, instead of writing them off as problems outside of management’s control.
Today Steak N Shake (NYSE ) annouced that Sardar Biglari will serve as Chief Executive Officer:
Mr. Biglari commented, “I would like to thank Wayne for his guidance over the last several months. In reviewing Steak n Shake and beginning to implement its restructuring, the Board and I concluded that to achieve the best results, we need an executive who will be focused on restaurant operations. As a consequence, we will seek a president with significant restaurant experience to concentrate on improving restaurant operations, whereas I will assume the CEO position, leading the organization principally from a strategic, financial, and governance perspective. Concurrently, we are presently undergoing a comprehensive examination of the company and are in the process of implementing a restructuring program — closing underperforming locations, reducing G&A, shortening hours of operation in many locations, and other initiatives — all on the premise that Steak n Shake will be managed based on cash flows in order to create long-term value for shareholders. Steak n Shake is an iconic brand with greatly talented people working throughout the organization. Because of all these advantages, I am confident we will regain the chain’s prior status as a great company. Details of our plan will be disclosed within the next 60 days in a shareholder letter.”
My reaction to this change is positive but mixed. Biglari became chairman with the intention of helping influence the board into finding someone to run operations for Steak N Shake (SNS). The fact that this has not happened is a little disappointing, but I know that Biglari is working 17 hour days and he has already had a positive effect at the company (steering SNS to tax savings). I’d rather that we patiently wait for the right president to be found. We’re going to need someone good in order to excel in this kind of economic climate.
One thing I’m wondering is whether we’ll see a merger between Steak N Shake (SNS) and Western Sizzlin (). It would be a little similar to what Eddie Lampert did with Kmart and Sears. The same could happen with Steak N Shake with Western Sizzlin since both are in the restaurant industry, we could see some cost savings and synergies achieved by merging. Although getting the financials to work out, especially currently, would be a major stretch.
My name is Tariq Ali, I run Street Capitalist. I recently graduated from the University of Texas at Austin. There, I stumbled onto value investing via the school library. I read everything I could and now I'm here, writing out my thoughts and investment ideas.
I have a lot of heroes when it comes to investing, it seems like every investor has some kind of niche. Some, whose books and writings have had the biggest impact on me are: , ,, , and .
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