“Mysterious” Senor Martinez’s Recent Deal Could Land Him An Airport by Jose Trevino

On June 17th, 2016, Empresas ICA, S.A.B. de C.V. (NYSE: ICA), a Mexican heavy construction company, announced that it had agreed to receive $215 million Dollars through a senior secured convertible lien granted to Fintech Europe.

The deal is an excellent opportunity to get an insight into the investment prowess of Fintech’s founder David Martinez, a man dubbed the most influential Mexican on Wall Street and “Mysterious Senor Martinez”.

Senor Martinez’s proneness to privacy has led many to speculate about his personal affairs, though little has been said about the finesse with which he conducts his investment affairs; It is the latter area where a value investor should take the most interest in Martinez, because he has established himself as a shrewd “work-outs” investor.

ICA, once a darling of Mexico´s investment community, was troubled by a series of awry investments which resulted in costly lawsuits and cash flow management problems. As a result, the company´s debt mushroomed to a staggering $3.4 billion dollars (as of 03/31/2016) with a weighted average interest rate of 10.4%, while 2015’s revenues, income from continuing operations and consolidated net losses attributable to controlling interest were $1.91, $1.14, and $1.18 billion Dollars, respectively.

Prior to its deal with Fintech, ICA announced a business plan intended to lead it back to profitability. The plan has two caveats: a) It doesn’t account for any impact that Fintech’s loan may have on its operating and financial performance, and b) Corporate interest expense is excluded from its financial projections.

Both caveats are materially important because Fintech now has a secured lien on ICA’s most valuable assets, and ICA’s debt load (and cost) is what drove it to its current condition in the first place.

With regards to the transaction terms, Fintech lent money at a very attractive rate, securing its loan with performing assets that significantly reduce its credit risk. Secondly, the loan has a conversion option at Fintech’s discretion, subject to certain suspensive conditions; Given that this is essentially a debtor-in-possession (DIP) loan, we can assume that any deterioration (so called suspensive conditions) in ICA’s financial condition would trigger Fintech’s right to seize collateral.

If suspensive conditions are met, Fintech’s claim may be converted into equity representing 32.02% of total outstanding shares of ICAPI and CONOISA[1], or receiving as full payment 53.45% of COVIMSA’s outstanding shares (Palmillas-Apaseo El Grande toll road), 53.45% of SETA’s outstanding shares (Controlling entity of Grupo Aeroportuario Centro Norte (NASDAQ: OMA), an airport operator in Central and Northern Mexico, being Monterrey its more important location), and 49.9% of DDIO’s outstanding shares (Sarre & Papagos correctional facilities), plus an undisclosed amount represented by ICA’s subsidiaries from its engineering and construction segment.

David Martinez: ICAPI – CONOISA

If Fintech chose to convert its loan into shares of these entities, it would essentially be partnering with ICA. While Senor Martinez has been a white knight for other Mexican companies in distress in the past, this is a highly unlikely possibility unless pre-DIP debt holders take a large impairment on their debt’s principal value and/or they convert their debt into ICA common shares.

Palmillas-Apaseo El Grande Toll Road

ICA has tolling rights on this highway which will connect Mexico City with fast growing industrial areas located in Central and Northern Mexico for a period of 30 years. The project’s book value of equity is $192 million Dollars (valuing Fintech’s collateral at $102.7 million Dollars), and it is expected to be completed by the fourth quarter of 2016.

Based on expectations from Mexico’s Department of Transportation, when completed, the toll road’s traffic may be as high as 40,000 vehicles per day; ICA’s Rio de los Remedios highway registered the highest daily traffic of any of its tolling concessions servicing approximately 30,500 vehicles per day during Q1’ 2016 and EBITDA of $16.3 million Dollars.

Palmillas is expected to capture plenty of traffic in a traffic saturated urban area, so performance will likely be similar (if not higher) to that of Rio de los Remedios. If that’s the case, Palmillas may have yearly EBITDA of $61 million Dollars, plus it will benefit from construction residual income (which as of Dec, 31st 2015 was an estimated $196 million Dollars).

SETA

ICA’s 74.5% ownership of SETA translates into a 12.44% stake in OMA. OMA’s revenues increased at a compounded annual growth rate (CAGR) of 12.6% from 2011 to 2015, operating income at a CAGR of 22% and net income at a CAGR of 19%, and while long term debt increased by more than 50% from 2013 to 2015, the company’s debt to equity ratio is a moderate 0.8x.

Fintech’s prorated ownership in OMA is worth roughly $82 million Dollars (as of June 24, 2016) with the added bonus that SETA’s ownership includes control stock, thus, Fintech would become a majority owner of OMA’s BB shares (control stock), influencing, among other things, the operator’s dividend payment decisions.

Desarrollo, Diseno, Infraestructura y Operación, S.A.P.I. de C.V. (“DDIO”)

DDIO is ICA’s holding company for its social infrastructure concessions (ie. correctional facility management service provider) Sarre and Papagos.

In early 2014, ICA attempted to sell a 70% stake in these facilities for an estimated $116 million (valuing DDIO’s equity at $166 million Dollars), a valuation representing 0.77x or 1.16x 2013’s revenues and earnings before interest and tax, respectively. The transaction ultimately fell through due to regulatory constraints[2], but it set a valuation precedent on these assets.

DDIO has no dollar denominated outstanding debt, thus limiting the negative impact caused by the approximately 1/3 loss in value of the Mexican Peso versus the U.S. Dollar during the period comprehended between the end of 2013 through the end of Q1’ 2016, to DDIO’s operating performance.

Considering the precedent transaction’s multiples as a proxy to what DDIO may be worth today, and its estimated 2016 revenue and operating income (based on reported Q1’ 2016 figures), DDIO’s value ranges from $53.2 million to $99.8 million Dollars, valuing Fintech’s stake in this entity at a range of $25.6 and 49.8 million dollars.

The projects’ counterparty is Mexico’s Federal Government thus virtually eliminating credit risk, and while the projects’ debt payment schedules are not publicly available, the concessions have 18 years until expiration, leaving plenty of room to pay down debt principal and still have residual cash flows accruing to equity holders.

Conclusion

Fintech’s loan to ICA has several features that make it an attractive value proposition.

  • While Empresas ICA is undergoing financial difficulties, the subsidiaries with whose shares the loan was collateralized are actually financially sound. Thus, debtor-in-possession could’ve negotiated an interest rate closer (if not lower) than ICA’s current weighted average cost of debt for this loan, instead of the granted 16%.
  • The loan-to-value ratio is estimated to range (excluding Fintech’s claims to certain unidentified subsidiaries) between .92x and 1.02x; Fintech’s collateral is represented by shares in several businesses which have favorable business and operating conditions working for them (geographic and/or sector monopolies) and which are sustainable long term (long term concessions).
  • If ICA cannot pay the loan in full when it becomes due, Fintech would become an unsecured creditor of ICA for the unpaid portion of its loan principal or interest.
  • Fintech essentially received an out-of-the-money three-year call option on Empresas ICA, so if the latter succeeds in having its debtholders agree to a significant impairment on its debt claims so that it regains financial viability, Fintech would end up with 40% of ICA’s equity, which as early as 2014 (July 4th) was worth $1.2 billion Dollars, giving Fintech a margin of safety of 50%.

Overall, Fintech negotiated for itself a very attractive deal that could potentially represent an ownership in high quality assets free from liens of the troubled parent company, ICA.

About the author

Jose Trevino David Martinez
Author photographed with Warren Buffett outside Piccolo Pete’s in Omaha, 2009.

I converted to Capitalism after reading Roger Lowenstein’s biography on Warren Buffett; I had my chance to tell Mr. Buffett what a life changing impact he had on my life when we shared an elevator ride… I froze and couldn’t utter a single word so I blew it.

The author has no current position on any of the securities herein mentioned and/or any association to the entities and individuals herein referred.

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[1] On June 28, 2016, ICA issues a clarification statement explaining that these shares essentially represent 40% of ICA’s shareholder capital.

[2] ICA has since reconsolidated these assets into its financial statements, so certain assumptions had to be made for the year-end 2015 and Q1’ 2016 information presented, based on company’s public records.