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No. of Recommendations: 16
Hi Fools,

For whomever might be interested, my "official" Pay Dirt scribblings on TravelCenters of America (AMEX: TA). For those who might not know, Pay Dirt was a spin-off from Hidden Gems where we focused on small cap value stocks, as well as turnaround and/or special situations.

TravelCenters was added to the Pay Dirt Watch List (Translation: Don't buy yet - this is just an interesting idea at this point, but we'd like it cheaper - or for business to show some signs of turning first...) in December 2007. I dutifully watched as things worsened, and we indeed got our cheaper (sorry, better) price, but I formally dropped coverage in mid-2008 as I saw instance after instance piling up cementing the notion that common shareholders would only ever make money on TravelCenters' stock by accident. (Some among you may have gotten to that conclusion sooner - what can I say; I'm a slow learner).

In this thread, I've dumped the whole damn thing. So read on for more than you really (really) every wanted to know about TA.



Watch List: TravelCenters of America
By Jim Gillies
December 10, 2007

Investment Thesis
I'm a big fan of Joel Greenblatt's wonderfully brilliant (but horribly titled) book You Can Be a Stock Market Genius. A valuable insight from that book is that corporate spinoffs -- creating a new company from an existing business and selling shares to the public or distributing them to the parent company's shareholders -- can represent potential repositories of hidden value.

And so, being a truck stop enthusiast (well, not really -- but I am a spinoff enthusiast, and this looks like a good one), TravelCenters of America (AMEX: TA) landed on my Pay Dirt radar in February when it spun off from Hospitality Properties Trust (NYSE: HPT), a REIT specializing in hotel properties. Hospitality bought TravelCenters to diversify its business, retaining nearly all of TravelCenters' real estate but immediately spinning off the operating business to its own shareholders.
Plain and simple, this stock is cheap. TravelCenters' net cash (cash and equivalents minus debt and capital leases) is greater than the company's market capitalization; according to the market, the company is worth less than zero, and the operating business is "free." But there's a catch, of course.

Recall that trucking and transportation company YRC Worldwide (Nasdaq: YRCW) is off by 25% since Bill Mann and Bill Barker added it to our watch list in October. The trucking business is pretty lousy right now -- blame a weakening economy, blame the deteriorating housing market (fewer construction materials shipped to and fro), blame the high price of diesel fuel, whatever you wish; just realize that the industry doldrums hurting YRC are also at play for TravelCenters.

The spinoff from Hospitality leaves TravelCenters subject to a great deal of operating leverage. When business is good, the company should be nicely profitable. When business is lousy (as it is now), it's apt to destroy shareholder value (which it has done).

The trucking industry is cyclical, and this too shall pass. That said, I believe that fuel prices have set up the fourth quarter to be even more depressing for TravelCenters' shareholders and that the year-end financial results will show that some of its cash cushion was consumed. Add in what I suspect is continued discretionary selling by Hospitality investors, as well as by folks seeking tax losses, and I believe we'll see a better price in 2008. That means I think TravelCenters is a company worth watching -- but not yet worth buying. I'll add it to the Pay Dirt watch list and keep you posted on the developments.

The Business
TravelCenters operates a nationwide network of travel centers (no!) located principally alongside interstate highways. The centers include land for parking trucks and trailers, diesel and gasoline fueling services, heavy truck repair facilities, and travel stores. Travelers and truckers can assuage their hunger at restaurants both "quick-serve" (think Subway, Taco Bell, Burger King) and full-service. Other amenities include showers (important), game rooms, and at some locations, hotels.

The travel center industry is very fragmented. There are more than 6,000 truck stops in the United States, and the four largest companies combined own less than 15% of those locations. So there's the potential for industry consolidation, which is exactly what TravelCenters is doing. At the February IPO, TravelCenters was already the largest national full-service travel center network, operating 140 sites with an additional 23 franchised locations. Then in May it bought the operating business of Petro Stopping Centers, while Hospitality ponied up for the underlying real estate and promptly leased it to TravelCenters. Today, TravelCenters' network totals 235 centers in 41 states and one Canadian province.

It gets better. Travelcenters' travel centers sit on prime, perhaps irreplaceable, real estate along interstate highways. Competition is largely shut out geographically -- even if you could pick up the 20 acres of land alongside a highway, you can't just set up an opposing travel center next door and build your own off-ramp. These are moat-like characteristics. About 500 of the total truck stops across North America qualify as full-service entities, and TravelCenters controls about half of them.

TravelCenters is pretty much only an operating company. Hospitality owns the vast majority of the developed real estate (though TravelCenters recently acquired five properties, which will likely be sold to Hospitality and leased back at some point). The front office is pretty lean, with nearly all of the daily business activities (accounting, financial reporting, legal compliance, human resources, maintenance, site selection, etc.) overseen by Reit Management & Research, which performs similar functions for Hospitality. In short, Hospitality is the landlord, TravelCenters is the tenant, and Reit Management & Research manages both.

Like fellow Pay Dirt recommendation Pantry (Nasdaq: PTRY), TravelCenters' business is best thought of as divided into two components. First, there's the fuel business, selling diesel and gasoline to trucking fleets and migrating motorists. This is actually a lousy business to be in -- let's face it, fuel is fuel. In a commodity business, price and location matter. The retailer makes a minimal profit, buying fuel a few cents below a benchmark, selling it at a few cents above a benchmark, and then paying operating expenses out of the remainder.

The fuel business largely drives the second business -- the restaurants, travel stores, and repair operations. Basically, the more folks who stop to fill their tanks, the more burritos, bags of gumdrops, and new sets of rig tires TravelCenters sells. Between TravelCenters' prime Interstate locations and federal rules requiring truckers to take rest periods, the business prospects for this segment remain strong.

While business is somewhat seasonal (the second and third quarters are better), it's more subject to the cyclical winds of the transportation industry. Based on everything I've read lately from TravelCenters, YRC Worldwide, and other trucking companies, the seasonal lows we'd expect to see in the fourth quarter of 2007 and the first quarter of 2008 are being exacerbated by industry doldrums, which is why TravelCenters lands on the Pay Dirt watch list for now.

Caveat emptor: TravelCenters was not set up to benefit its shareholders. Hospitality spun off TravelCenters to maintain its own REIT status (REITs must derive high percentages of their gross income from real estate-related sources), and the lease agreement between the two companies will likely reduce TravelCenters' value during soft periods for the industry. Reit Management & Research sits above both Hospitality and TravelCenters, providing all the back-office functions that make the companies work day to day.

Naturally, this creates some potential conflicts of interest. TravelCenters has two managing directors: Barry Portnoy is the majority owner and chairman of Reit Management & Research and also a trustee of Hospitality; Thomas O'Brien is TravelCenters' CEO and a senior executive at Reit Management & Research, and he used to be CFO at Hospitality.
The key question that should spring to mind is, "Will capital allocation decisions primarily benefit TravelCenters' shareholders, or will they be made in the best interests of other parties?" The answer will likely mean the difference between TravelCenters' long-term success and mediocrity.

Imagine a scenario where TravelCenters' managing directors (heavily tied to Hospitality and Reit Management & Research) spend TravelCenters' cash hoard in a too-rapid build-out. That would likely maximize revenue for Hospitality and Reit Management (which is tied to TravelCenters' revenue) but could leave TravelCenters crippled. Or consider that at a share price around $14, TravelCenters' capital might be better spent on share repurchases than on network expansion -- but repurchases don't lead to long-term higher rents for Hospitality or higher management fees for Reit Management & Research, so don't hold your breath. However, I'd be remiss not to point out that management has already shown a keen awareness of the "value" of its shares, making a follow-on offering at $41 in July when post-spinoff euphoria for the shares was arguably at its highest.

It's not all bad, though. I like management incentives as much as the next Fool, but the purchase and spinoff from Hospitality make it pretty much impossible for TravelCenters' management to have much skin in the game. As it is, O'Brien has purchased shares himself at prices higher than today's and also (along with the rest of the senior executives) received equity grants in late November.

Another caveat: Most of TravelCenters' senior executives at the time of the acquisition and spinoff are now former employees (some willingly; presumably some not-so-willingly). On the one hand, it's good to realize cost savings and eliminate the duplication of tasks that will now be done by Reit Management & Research. On the other hand, TravelCenters has lost vital operating know-how. There have been a lot of moving pieces in the management ranks, and these folks will likely take time to fully adjust to their new roles.

While I believe Reit Management & Research has shown a history of creating value with this REIT-operating company duality (more on this in a moment), if and when Pay Dirt promotes TravelCenters to a formal recommendation, never forget what the company itself says in its registration statement: "We were formed for the benefit of Hospitality Trust and not for our own benefit."

Market Opportunity / Catalyst
Greenblatt loves spinoffs in large part because they're typically overlooked by the rest of the market. His general thesis is that many investors either don't want or can't own the shares that they receive in the spun-off company and often dump them in fairly short order, driving down the price. Yet the parent entity usually has a vested interest in the new company's success, and so it provides ways, both subtle and overt, for the new company to succeed.

Hospitality definitely has an interest in TravelCenters' success, and it's taken several steps to facilitate that success -- contributing $200 million in working capital at the spinoff and earmarking additional funds for capital expenditures. TravelCenters didn't initially experience a broad sell-off (we'd expect a sell-off, since REIT investors tend to invest seeking income, while TravelCenters won't provide any). Selling pressure only really surfaced when TravelCenters posted mediocre second-quarter and then very bad third-quarter numbers. The market now seems to believe that instead of setting TravelCenters up for success, the lease deals from Hospitality will bleed the company's capital dry. If only there were a guide illustrating how this might play out!

Actually, there is.

Let me introduce you to Senior Housing Properties Trust (NYSE: SNH), a REIT that invests in hospitals, nursing homes, and assisted-living properties, and Five Star Quality Care (AMEX: FVE), the operating company that was spun off to run these properties in 2001. Both companies share the same management relationship with Reit Management & Research and a common managing director (Portnoy) with TravelCenters and Hospitality. The relationship between Five Star and Senior Housing was tenant and landlord, much the same as the TravelCenters-Hospitality relationship today.

Within a year, Five Star fell nearly 90% from its post-IPO high, as the rent due on the nursing homes outstripped the profitability of those properties (you'll see in a moment that this is a familiar story). In addition, Five Star was woefully undercapitalized, with Senior Housing contributing just $50 million in cash and working capital. Five Star bottomed at 0.12 times tangible book value before staging a dramatic recovery -- the stock has been a nine-bagger since that point.

The opportunity I see is that the Reit Management & Research crew learned from its experience with Five Star and Senior Housing. TravelCenters was much better capitalized out of the gate than was Five Star. Moreover, Hospitality has unencumbered capital expenditure commitments to TravelCenters that Five Star never had from its REIT partner. And the arrangements with Five Star (including deals with third-party tenants, some of whom were in default) were significantly more complex than with TravelCenters.

TravelCenters' reported financials are somewhat muddied by going public (with its associated costs) as well as the Petro acquisition. Nonetheless, it's still easy to pinpoint the greatest driver of financial success: the lease deals with Hospitality for both the legacy travel centers and those acquired from Petro. These are "triple net" leases (TravelCenters pays all real estate taxes, insurance, and maintenance costs, in addition to rent). The leases also impart tremendous operating leverage to TravelCenters. Since other operating expenses are largely fixed, incremental revenue in excess of the lease payments falls nearly unencumbered to operating profit.

But operating leverage cuts both ways. In tough economic times, those leases may be exceedingly heavy to bear. The annual rent paid to Hospitality for the legacy sites ratchets up about 2.5% annually until 2013, when it flat-lines through 2022. The Petro properties are leased through 2024 for a flat rent.

So it's pretty simple. If TravelCenters generates enough business to handily exceed the lease payments, it'll be tremendously profitable. If it doesn't, it won't. So tracking that lease hurdle and seeing that TravelCenters can clear it handily becomes of great interest.

To evaluate TravelCenters, I like to look at EBITDAR (earnings before interest, taxes, depreciation and amortization, and rent), after adjusting for one-time gains and losses. That leaves us with a measure of operating cash available to pay rent and fund capital expenditures. Since going public, here's how TravelCenters has fared:

8-mths Ending
($MM) 30-Sep-07
Adjusted EBITDAR $130.8
Less Rent Expense ($136.7)
Plus Non-Cash Portion of Rent Expense* $ 12.4
Equals Adjusted Cash EBITDA $ 6.5
Less: Maintenance CapEx ($ 26.2)
EBITDA Less Maintenance CapEx $ 19.7

* Accounting rules require TravelCenters to realize the lease expense on a straight-line
basis (i.e., in equal increments over the life of the loan), even though the actual cash payments
will increase over time. Thus, the GAAP rent expense will overstate actual cash outflows
in the early years of the lease and understate actual cash outflows in the latter years of
the lease.

Sources: Company filings and analyst calculations.

Since going public, TravelCenters hasn't generated enough cash to cover its rent and maintenance capital requirements. Moreover, it laid out a further $52.8 million in growth capital spending. With cash outflows significantly outpacing inflows, you can see why TravelCenters is valued as it is today.

It's not all doom and gloom, though. Hospitality presented TravelCenters with a lovely parting gift -- an unencumbered commitment to fund $25 million in capital spending in each of the next five years. Moreover, TravelCenters can request that Hospitality fund additional capital projects over and above the $125 million commitment, but those funds would subsequently increase the lease payments.

TravelCenters currently trades at less than 0.5 times its tangible book value. And since that tangible book value consists mainly of cash and readily saleable inventory that doesn't suffer a lot of spoilage (fuel), that seems pretty cheap. Then again, the market clearly believes that TravelCenters is going to burn through its tangible cash to fuel network expansion that would see the value largely accrue to Hospitality via rent payments.

In the words of the ever-quotable Bill Mann, TravelCenters is probably best thought of as a call option on the trucking industry's next up-cycle. If the industry continues limping along, so too will TravelCenters' stock price, likely sliding commensurate with the company's cash burn. An industry upturn imparts value to that call option.

What sort of value? If TravelCenters can sell 2.5 billion gallons of fuel in 2008 (which represents increased sales volume of about 5%), then I estimate the company would produce EBITDA minus maintenance capex of about $55 million. Using the Petro acquisition as a guide, TravelCenters paid roughly 4.6 times pro forma EBITDA less maintenance capex. Scaling this multiple back to 4 as an estimate of what the market might award TravelCenters and adding in roughly $200 million of surplus cash, it suggests that TravelCenters should fetch around $30 per share. That would be a nice return from today's price, but I'm waiting for some sort of attenuation in fuel price increases before I'm ready to officially recommend a buy.

Finally, to continue the options parlance, there's also what I'll call the "Hospitality put" on TravelCenters' business. By this, I mean that Hospitality will not allow TravelCenters to crater out into bankruptcy. Not out of altruism, of course, but because TravelCenters represents 68% of Hospitality's third-quarter rental income and 18% of its third-quarter revenue. TravelCenters' failure would jeopardize those fat rental payments. Hospitality won't let that happen.

The Bottom Line
Looking at TravelCenters, I'm struck by an overwhelming sense of déjà vu -- this situation is eerily reminiscent of the Five Star-Senior Housing-Reit Management & Research deal. Though Five Star wasn't a big winner measured from the IPO date, those who waited until some of the uncertainty cleared out received a three-bagger in five years; those who bought at the bottom are sitting on a nine-bagger today.

While I'm not predicting that kind of performance for TravelCenters, I do believe that this picture will look worse before it looks better. So I'm not advocating buying TravelCenters today. Rather, onto the watch list it goes, as I observe the broader industry and economic indicators, especially diesel prices. We're already seeing some softening in oil prices, which portends well for diesel, but I'm content to sit and wait for now. This investment will be particularly sensitive to trends in fuel prices, which makes our watch list status more fluid than simply watching the stock price. In the meantime, I'm looking forward to formally recommending TravelCenters, ideally in the near future.
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No. of Recommendations: 7
Hello again Fools,

Supplementary board ramblings on TA during the time it was an official 'Watch List' selection for Pay Dirt. (And ultimately, it lived up to its designation...we spent a lot of time watching, and did little else with it).

Anyway, skim down to read the final kiss-off. Otherwise, for reference purposes only.



TA – Why the Watch List?
Posted by: TMFCanuck
Original Posting Date: 12-Dec-07

Hello Fools,

Wanted to try to give a little more colour on why TA ended up on the Watch List, rather than as a formal recommendation.

I mean, sure, I cited the slowing economy, and a trucking industry that is - at least according to YRC Worldwide's CEO - already in a recession.

A slowing trucking industry means that TA sells a lesser amount of fuel in aggregate. And fuel sales largely drive (no pun intended) the non-fuel business.

A Look at Fuel Sales
Diesel fuel sales are the proverbial straw stirring the drink. As mentioned in the write-up, the fuel business is basically a 'spread' business for TA - they buy at a few cents below a benchmark, and sell at a few cents above that benchmark. So it follows that, the more fuel they sell, the higher gross income they'll receive from that spread.

To get a feel for how things have moved, we can only use 'same-store' sales, since we don't have complete data for both TA and Petro for the full year. Still, unit growth is fairly slow for this business, so same-store numbers still provide us some interesting information, though the 'true' fuel volume is actually higher when you bring in the sales from the units that aren't included in same-store sales, due to their age:

3-mths 3-mths 9-mths 9-mths
(in thousands) 30-Sep-07 30-Sep-06 Delta 30-Sep-07 30-Sep-06 Delta
Company-operated centers 180 180 180 180

Diesel volume (gal) 517,295 534,704 -3.3% 1,580,742 1,617,783 -2.3%
Gasoline volume (gal) 62,122 65,993 -5.9% 182,422 187,607 -2.8%
Total fuel volume (gal) 579,417 600,697 -3.5% 1,763,164 1,805,390 -2.3%

Total fuel revenue $1,363,396 $1,391,864 -2.0% $3,872,861 $3,938,531 -1.7%

Fuel gross margin $ 53,464 $ 69,080 -22.6% $ 147,639 $ 162,987 -9.4%
Fuel gross margin ($/gal) $ 0.092 $ 0.115 -19.8% $ 0.084 $ 0.090 -7.2%
Total nonfuel revenue $ 322,660 $ 319,936 0.9% $ 914,897 $ 903,557 1.3%
Nonfuel gross margin $ 185,407 $ 183,524 1.0% $ 529,000 $ 524,134 0.9%

Nonfuel gross margin 57.5% 57.4% 57.8% 58.0%
Total gross margin $ 238,871 $ 252,604 -5.4% $ 676,639 $ 687,121 -1.5%

Site operating expense* $ 157,621 $ 151,970 3.7% $ 455,825 $ 442,171 3.1%

Net** $ 81,250 $ 100,634 -19.3% $ 220,814 $ 244,950 -9.9%
* Does not include rent expense.
** Equates site level EBITDAR.

What can we glean from this table?

* Fuel volumes went into an accelerated decline in Q3.

* Fuel revenues have actually held up better than volumes, but gross margin on those revenues has basically collapsed (I'll get to why in a moment).

* Non-fuel revenues have held up well. Actually, very well, since the trend is generally, when volumes go down, it represents less visitors to the travel centers in aggregate. Lower aggregate visitors should translate to lower nonfuel sales. So far, so-good.

* Non-fuel gross margins have held up well. For future reference, a rough ratio of non-fuel to fuel gross margin dollars is about 3.5. That is, the company takes in $3.50 in gross margin on the non-fuel sales, which are the aggregated travel stores, restaurants, hotels (if offered), and repair/maintenance operations, for every $1.00 in gross margin on fuel sales.

What's Up With Those Gross Margins?
Note that the table above is actually presented before that significant operating leverage I mentioned in the write-up takes place (i.e. the lease payments aren't included in any of the numbers above).

Yet, for the 3-mths ended 30-Sep-07, same-store fuel revenues were off 2%, but same-store gross margin (dollars) were off nearly 23%. That's ugly - what's going on?

As mentioned, TA earns a spread on fuel sales, and so is generally fairly agnostic as to whether fuel prices are rising or falling. However, this gross 'spread' profit tends to widen and contract in the short-term with the fluctuations in fuel prices. So, periods of short-term rising prices sees profit contraction, while periods of short-term falling prices sees profit expansion - it should all even out in the wash, but 2007 has been something of an aberration. I'll illustrate in a minute, but first, here's what management had to say about this issue on the last conference call:

Probably the most significant trend in the 2007 third quarter was the pattern of rising fuel prices
during the quarter. Our margins per gallon on a same site basis declined from a record $0.115 in the
2006 quarter to $0.092 in the 2007 quarter. As we've said in the past the best environment for
sustained health in margins even when supply prices trend upwards is one in which supply price increases
are punctuated with periods of decline. This allows markets to recover margin that may be lost during
periods in which supply prices increase.

We had no real recovery periods during the 2007 third quarter. In fact, no quarter so far during 2007
has seen average diesel prices decline during that quarter. Indeed the average daily diesel price
increase insofar in 2007 has been more than twice as large than in any year since NYMEX began to
track that in 1980 and most of these increases were experienced in the 2007 third quarter.

So that was Q3 - and it was pretty bleak.

I'll illustrate using retail diesel prices. Now, this represents the price that TA is selling at, but I think it's a reasonable proxy, since we know the gross margin, and could back out what the average buying price is.

Regardless, you can grab price data here:

I've massaged the data a little to divide it up by quarter, and to "index" the numbers each quarter (so, the starting value is 1.000). Also, I show the 'delta', which is just the change in week-to-week price change on a percentage basis.:

Week Q1-07 Delta | Q2-07 Delta | Q3-07 Delta
1 1.000 -0.6% | 1.000 4.3% | 1.000 -0.2%
2 0.983 -1.7% | 1.018 1.8% | 1.007 0.7%
3 0.955 -2.9% | 1.031 1.3% | 1.021 1.4%
4 0.942 -1.3% | 1.022 -0.9% | 1.021 0.0%
5 0.935 -0.7% | 1.008 -1.4% | 1.020 -0.1%
6 0.944 0.9% | 1.001 -0.7% | 1.024 0.4%
7 0.960 1.7% | 0.994 -0.7% | 1.006 -1.8%
8 0.966 0.6% | 1.005 1.1% | 1.014 0.7%
9 0.989 2.4% | 1.010 0.5% | 1.012 -0.2%
10 1.018 2.9% | 1.003 -0.6% | 1.023 1.0%
11 1.041 2.2% | 1.001 -0.3% | 1.034 1.1%
12 1.039 -0.1% | 1.005 0.5% | 1.048 1.4%
13 1.037 -0.2% | 1.016 1.1% | 1.072 2.3%

You can see that Q1, even though it ended up, had sufficient 'downtime' so as to do well on the gross margin front. If we look at the site operating data at that time (, we see the following:

Q1-07 Q1-06 Delta
Company Operated Centers 141 140 + 1
Diesel Sales Volume (thousands of gallons) 409,218 414,380 - 1.2%
Gasoline Sales Volume (thousands of gallons) 45,313 47,172 - 3.9%
Total Fuel Sales (thousands of gallons) 454,531 461,552 - 1.5%

Fuel Sales Gross Margin ($'000) $31,100 $27,136 14.6%
Fuel Gross Margin ($/gallon) $ 0.068 $ 0.059 16.4%

With the downtrend in pricing for the first half of the quarter, TA made up considerable margin.

In Q2, things were relatively flat (though that big jump in week one set the tone for the quarter), and we saw prices close the quarter higher,

Q2-07 Q2-06 Delta
Company Operated Centers
TravelCenters 137 137
Petro 43 43
Diesel Sales Volume (thousands of gallons)
TravelCenters 371,048 372,370 - 0.4%
Petro 161,048 165,586 - 2.7%
Total Diesel Sales Volume 532,096 537,956 - 1.1%

Gasoline Sales Volume (thousands of gallons)
TravelCenters 52,855 53,724 - 1.6%
Petro 11,733 11,182 4,9%
Total Gasoline Sales Volume 64,588 64,906 - 0.5%
Total Fuel Sales (thousands of gallons) 596,685 602,862 - 1.0%

Fuel Sales Gross Margin ($'000)
TravelCenters $34,955 $36,487 - 4.2%
Petro $15,081 $19,720 -23.5%
Total Fuel Gross Margin $50,036 $56,207 -11.0%

Fuel Gross Margin ($/gallon) $ 0.084 $ 0.093 -10.1%

I'm not sure what happened to Petro's gross margin in Q2, but their results were only included in TA's reported results from 31-May-07 onwards (so only 1/3 of the quarter). Still, given the lack of significant fuel price movements downwards (and thus, short periods where TA picks up some previously 'lost' margin), you can start seeing the divergence of fuel gross margin from revenues.

For Q3, you can see in the first table of this post (go ahead, scroll back up...I can wait) that things fall apart. Then take another look at the 'indexed' fuel price. It's almost a steady progression upwards, which had the predicted impact on results.

That's Nice. So Why Watch List?

Well, I'll re-run that indexed table, THIS TIME with the Q4 numbers-to-date added:

Week Q1-07 Delta | Q2-07 Delta | Q3-07 Delta | Q4-07 Delta
1 1.000 -0.6% | 1.000 4.3% | 1.000 -0.2% | 1.000 0.5%
2 0.983 -1.7% | 1.018 1.8% | 1.007 0.7% | 0.996 -0.4%
3 0.955 -2.9% | 1.031 1.3% | 1.021 1.4% | 0.997 0.1%
4 0.942 -1.3% | 1.022 -0.9% | 1.021 0.0% | 1.015 1.8%
5 0.935 -0.7% | 1.008 -1.4% | 1.020 -0.1% | 1.036 2.0%
6 0.944 0.9% | 1.001 -0.7% | 1.024 0.4% | 1.084 4.6%
7 0.960 1.7% | 0.994 -0.7% | 1.006 -1.8% | 1.124 3.7%
8 0.966 0.6% | 1.005 1.1% | 1.014 0.7% | 1.119 -0.4%
9 0.989 2.4% | 1.010 0.5% | 1.012 -0.2% | 1.130 1.0%
10 1.018 2.9% | 1.003 -0.6% | 1.023 1.0% | 1.121 -0.8%
11 1.041 2.2% | 1.001 -0.3% | 1.034 1.1% | 1.091 -2.7%
12 1.039 -0.1% | 1.005 0.5% | 1.048 1.4% |
13 1.037 -0.2% | 1.016 1.1% | 1.072 2.3% |

You can see that, after considering the 'bad' price trend in Q3, if the fuel business is as sensitive to near unchecked price increases as management says it is, than the financial results that Q4 foreshadows is apt to be very bleak, with little opportunity to 'make-up' what has been lost in prior weeks - I even see that oil is spiking today, which will do the price of diesel fuel no favours, I'm sure.

More to come in subsequent posts.


TA – How Cheap Is It?
Posted by: TMFCanuck
Original Posting Date: 12-Dec-07

Hello Fools,

Since I seem to be making the TA board my afternoon home, a quick word on how 'cheap' TA truly is right now.

From the most recent 10-Q:

Cash & Equivalents $279,317
Restricted Cash $ 37,007
Restricted Investments $266,660
Current Maturities of Long-Term Debt $266,093
Capital Lease Obligations $107,620

First up, the $37MM of Restricted Cash will, by now, have become 'unrestricted'. In mid-November, TA obtained a $100MM Line of Credit, and the restricted cash has been replaced by letters of credit written against the new Line of Credit. So that $37MM should be free and unencumbered by now.

Second, note the similar amounts for restricted investments and long-term debt. These are relics of the Petro acquisition. This is actually defeased debt where the restricted investments are specifically earmarked to pay-off the debt at maturity (which is in February 2008). The restricted investments are invested in U.S. Treasuries, and are held by a remote trustee. So throw both the restricted investments and long-term debt out of any calculations.

Third, that capital lease obligation of $107.6MM is not akin to debt - it's probably more appropriate to view them in the same light as the much, much, larger operating lease obligation that got so much press in the write-up.

The original TA deal included all of the company-owned centers (which had their real estate retained by HPT and the operating centers spun off to the new operating company). There were also 23 franchised locations, 13 of those franchises are owned/operated by franchisees. The remaining 10 franchises are owned by HPT, leased to TA, and then subleased to franchisees. Accounting quirks render these 10 locations as capital leases, rather than operating leases.

I'm not too up on my US GAAP, but in Canadian GAAP, if any of the following criteria is met, the lease is capitalized, rather than treated as an operating lease:

* There is reasonable assurance that the lessee (that's TA folks) will own the leased property at the end
of the lease term.

* A bargain purchase option exists (i.e. the lease calls for transfer of ownership for $1 at
the end of the lease term).

* The lease term is such that the lessee receives substantially all of the economic benefits derived
from the leased property - usually assumed to occur if the lease term is 75% or more of the leased
property's economic life.

* The present value of the minimum lease payments is equal to substantially all (>90%) of
the leased property's fair value.

I don't know which of the criteria is what tripped these leases to be termed capital, rather than operating. Regardless, my opinion is that you can likely lump these capital leases in with the larger operating leases.

At the end of the quarter:

Shares Outstanding: 14,152,665
Stock Price: $13.40

Market Cap: $189.6MM
Debt (no capital leases): ---
Cash $316.3MM
Enterprise Value ($126.7MM)

If you insist on keeping the capital leases in the calculation, the EV 'rises' to ($19.6MM).

Also not included is the present value of the remaining capital spending cash commitment from HPT (approximately $89MM, discounted at 10%, and assuming that there's $11MM spent between 30-Sep-07 and 31-Jan-08, and then $25MM spent in each of the subsequent 4 years).

So this is a cheap, cheap, cheap (so much for bird calls) company.

The question is obviously then, how much cash will be consumed going forward in this soft economic market. As mentioned in the write-up there was $53MM in growth Cap-Ex spent in the first 8-mths as a public company on top of the $26.2MM in maintenance CapEx. Management expects ROI on this new spending to approximate 15% about 18-mths to 3-yrs after spending, but it could be a little lean for the immediate future. I also expect that the company will continue to be negative when considering EBITDA-Mtce CapEx for the next few quarters, which will also consume cash.

And then there's that operating lease commitment, which will be the subject of my next post (after supper or tomorrow morning).



TA - Leases and Leverage
Posted by: TMFCanuck
Original Posting Date: 14-Dec-07

Hello Fools,

Well, it's been longer than I anticipated to get back to post this - something to do over in Hidden Gems regarding SCSS...

Anyway, in my last post, I showed how the market is valuing TA as significantly below zero. Crazy, crazy, stuff.

Now, while I often think the market can get out-of-whack on any particular security for various reasons (both to the high and the low sides), I must suggest that, when you see a company like TA trading with a nine figure negative enterprise value (excluding capital lease obligations), you really have to ask yourself: What is going on? The market may be inefficient...but it's not THAT inefficient!

In the case of TA it is, of course, the (operating) leases that have been signed with HPT. So let's talk operating leases.

There are two major leases. The first is for the original properties that were purchased in the originating transaction by HPT from the private equity group that previously owned TA. The second is for the properties acquired in May with the Petro deal.

TA - Original Lease

The lease deal for the original TravelCenters properties is structured thusly:

* Expiry on 31-Dec-2022

* Annual cash payments as follows:

Year ended 31-Jan-2008 = $153,500
Year ended 31-Jan-2009 = $157,000
Year ended 31-Jan-2010 = $161,000
Year ended 31-Jan-2011 = $165,000
Year ended 31-Jan-2012 = $170,000
Year ended 31-Jan-2013 = $175,000
Annually Thereafter = $175,000

* As of the end of last quarter (30-Sep-2007), the present value of these lease commitments, assuming an 8.5% discount rate, was $1,421MM.

* Starting in 2012, additional rent payment will be due, equal to 3% of incremental non-fuel gross revenue, and 0.3% of incremental gross fuel revenue above a base amount. The increase attributable to fuel revenues is capped at a maximum amount, based on changes in the CPI (i.e. it's tied to government-defined inflation). This latter part is a good thing, since the additional rent that might be due is based on fuel revenues, but presumably, TA will continue to earn a similar spread profit (on a $/gal basis). So presumably, without the cap, if diesel fuel were, say $10/gallon, such a provision could really kill TA's profit.

* TA can request HPT finance additional capital expenditures over and above their initial funding commitment of $125MM. However, this will increase the minimum rent payable to HPT by the greater of:

- the amount funded * 8.5% (gee...I guess we know the implicit cap rate); or
- the amount funded * a benchmark U.S. Treasury interest rate plus 3.5%

Petro Acquisition - Separate Lease

The lease deal for the travel centers acquired from Petro looks like this:

* Expiry on 30-Jun-2024

* Annual cash payments of $62,225

* As of the end of last quarter (30-Sep-2007), the present value of these lease commitments, assuming an 8.5% discount rate, was $546MM.

* Starting in 2013, additional rent payment will be due, equal to 3% of incremental non-fuel gross revenue, and 0.3% of incremental gross fuel revenue above a base amount. Terms are pretty much identical to the aforementioned original TA lease.

Combining The Leases - Thoughts on Valuation & Financials
Together the two major operating leases have a present value - of their minimum rent payments - of $1,967MM. If TA gets HPT to finance ever greater amounts of their CapEx, then rent payments will inch upwards, along with the incremental rent increases to catch up with the CPI beginning in 2012 and 2013. But since these are inherently unpredictable at present, we'll just make note of them and watch TA as time passes.

So, if we capitalize our leases and bring them into our calculations for enterprise value, we get a somewhat picture (note that I've also brought back the capital leases and defeased debt, as well as capitalized the funding commitment to TA from HPT at 8.5%...though you might reasonably argue for a higher discount rate on that one):

Shares Outstanding (thousand): 14,153
Stock Price: $13.10

Market Cap: $ 185.4 (all $ in millions)
Add: Debt - Due Feb-08: $ 266.1
Add: Capital Leases: $ 107.6
Add: PV(Operating Leases): $1,966.7
Less: Cash & Equivalents: ($ 583.0)
Less: PV(CapEx Commitment): ($ 93.3)
Enterprise Value: $1,849.6

So it would seem the market is that crazy after all.

On a valuation front, we'd want to take a first look by comparing enterprise value (EV) to Earnings Before Interest, Taxes, Depreciation/Amortization and Rent (EBITDAR).

In the writeup, I mentioned that TA generated EBITDAR of $130.8MM for their first 8-mths as a public company. The last four months include the results from Petro. If we use Q3-07 to establish a run-rate (Q3-07 was the only full quarter where Petro's results were included in their entirety), I expect the company would generate approximately $211.4MM of EBITDAR in the current depressed environment.

This values TA at an EV/EBITDAR of 8.75, which, frankly ain't cheap (and is again, why the Watch List came into play).

If I run-rate all of the components from the EBITDAR table in the original write-up, I get this pro-forma estimate:

8-mths ending 4-mths ending Pro-forma Year
($ million) 30-Sep-07 31-Jan-08 Ending 31-Jan-08
Adjusted EBITDAR $ 130.8 $ 80.6 $ 211.4
GAAP Rent Expense ($ 136.7) ($ 71.9) ($ 208.6)
Add-back Non-cash Rent $ 12.4 --- 12.4
Adjusted Cash EBITDA $ 6.5 $ 8.7 $ 15.2
Maintenance CapEx ($ 26.2) ($ 9.4) ($ 35.5)
EBITDA - Mtce CapEx ($ 19.7) ($ 0.6) ($ 20.3)

This is the epitome of 'The Trend Is Not Your Friend'. And when we realize that their growth CapEx has been pretty significant (over and above the unencumbered money received to-date from HPT) on both what they're calling 'Operation Refresh' (think of upgrades to existing sorta like a 'one-time' additional maintenance CapEx) and on additional center growth, you can start to worry about that cash hoard holding up.

Enough Doom-and-Gloom
But never forget, dear Fools, that what brought TA to us is their geographic moat, and enviable (and arguably non-duplicatable) network of operations. An upturn in business turns things around PDQ.

By way of illustration, here are three scenarios as to what could happen in 2008.

Slowing Somewhat Stable Turnaround
Business Business Business
Fuel Volume (000's) 2,300,000 2,400,000 2,500,000
Fuel Gross Margin ($/gal) $ 0.090 $ 0.092 $ 0.095
Fuel Gross Margin $ 207,000 $ 220,800 $ 237,550

Gross Margin Ratio
Non-Fuel/Fuel 3.5 3.6 3.6
Non-Fuel Gross Margin $ 724,500 $ 794,880 $ 855,000
Total Gross Margin $ 931,500 $1,015,680 $1,092,500
Operating Expense ($ 665,000) ($ 665,000) ($ 665,000)
SG&A ($ 110,000) ($ 110,000) ($ 110,000)
EBITDAR $ 156,500 $ 240,680 $ 317,500
Cash Rent ($ 218,933) ($ 218,933) ($ 218,933)
EBITDA ($ 62,433) $ 21,747 $ 98,567
Mtce-CapEx ($ 28,050) ($ 28,050) ($ 28,050)
EBITDA - Mtce CapEx ($ 90,483) ($ 6,303) $ 70,517

Under the first two scenarios, we're left in the holding pattern we find the stock in today. Namely, the company will trade at a negative non-operating lease-adjusted enterprise value that falls commensurate with the cash burn.

But a business turnaround of 5% increased volumes, and holding most other things fairly steady takes to $70.5MM EBITDA - Mtce CapEx (a rough proxy 'free' cash flow).

Applying a multiple of 4x to that value, and adding $200MM in free cash, which management has indicated they'd like to keep their cash hoard buffer around, takes us to an equity value of $482.1MM

Divided by 14.2MM shares, that's a $34 stock price.

Operating leverage, indeed.

Thanks for reading.


TA – 2007 Q4 and 10-K Review
Posted by: TMFCanuck
Original Posting Date: 10-Apr-08

Hello Fools,

I'm back from Costa Rica, and have had some time to work through the TA 10-K, quarter-end conference call, and revamp my model based on what I think is going on, or might go on in the near-term. I'll start with the conclusion:

Business conditions have continued to be suitably bad such that I do not believe a promotion from the Watch List is warranted at this time

In a lot of ways, I think the Watch List has been underutilized here in Pay Dirt, and TA would be the poster child for its proper use, in that I had qualms over what worsening business conditions could do to TA when I writing up the pick. I like a great many things I like about the company and the business, as well as the 'dirty' aspects that warrant its inclusion here, but I couldn't shake the notion that things could go very wrong (the flip side is, of course, the Watchlisted pick that rises after the write-up).

So, to business. If you head back to this post (, you'll see the following text:

"I expect the Q4 financials to be ugly. I can tell you that, barring a prolonged and extended fall in diesel prices, it is extremely unlikely there will be a buy alert issued before the quarterly numbers are released."

And that's where our story starts, really. In fact, there has not yet been a prolonged or extended fall in diesel prices, though there has been a plateauing of diesel retail prices over the past 4 weeks, so that should be be somewhat helpful for Q1-08 results. But the high diesel prices continue, with a new high set today; clearly, it's not all tea and dumplings just yet.

Those higher diesel prices are leading to a number of unfortunate (for TA) consequences. Users of diesel fuel, who saw year-over-year prices rise 10% in Q3-2007, 18% in Q4-2007, and 17% in Q1-08 are obviously seeking to use less. So, fleets are implementing lower maximum speeds for their trucks, greater use of double-wide tires, and alternate power units that reduce idle time on their rigs. All of this has led to volume declines in Q4-07, and according to TA, into Q1-08.

Also contributing to volume declines are a couple of broader economic trends. First, simply put, less stuff is going to and fro. Blame the sluggish (stone dead?) housing market, blame a slowing consumer, or whatever you wish. But the American Trucking Association Total Truck Miles Index (a broad performance indicator for the health of the industry, and by extension, TA's business) dropped 2.4% year-over-year in October, 3.7% in November, 5.0% in December, and 2.6% in January (most recent data). Second, the low USD has made imports more expensive, which has led to lower volumes of imported goods shipped by truck. Altogether, the trucking industry is still in the dumpster; mixed with record high fuel prices, this has made TA's business very sluggish

Now, recall that TA seeks to make a spread profit on fuel sales, and so is somewhat agnostic as to what the actual prices do (not that they're cheering for record highs for obvious reasons). In 'normal' periods, TA seeks to match their wholesale cost, and retail sales such that they maintain a fairly stable gross margin from fuel sales. In periods where the price rockets straight up, they don't often have a chance to 'make up' some of the delays they might encounter in raising prices. As such, the best environment for fuel margins are periods of alternating rising and falling - you can have a longer-term broader trend upwards...just let it be gradual. In Q3, this was a problem in that TA never caught up to the rapid rise in fuel prices, and this crimped margins. In Q4, they actually said "hang-it" and rigidly matched wholesale price increases with retail increases....presumably not all their competition did as well (to their own detriment). This had the impact of TA often being the pricier alternative, and led to lower fuel volumes purchased from TA sites, even though margins were maintained and supported.

Fuel Gross Margin (cents per gallon)

Q4-07 Q4-06 2007 2006
All-Sites Operating Data $0.082 $0.076 $0.083 $0.083
Same Site Sales (All Sites) $0.082 $0.078 $0.083 $0.087
Same Site Sales (TA Sites) $0.079 $0.076 $0.082 $0.083
Same Site Sales (Petro Sites) $0.089 $0.074 $0.087 $0.097

So, all this preamble is to say, they're doing alright in arguably the most challenging trucking environment since the 1970's, but fuel volume - which drives the rest of the business (no pun intended) is too low to yet move this to full recommendation. Let me show you what I mean, but I have to diverge here for a moment.

Recall again that raison d'etre for TA's existence is to operate the businesses that run out of the HPT-owned facilities. As such, the deal with HPT has put some really, really, onerous lease commitments onto TA's shoulders. In addition, they have to maintain the quality of the facilities and keep everything shiny.

So, I submit to you that there are two basic premises for an investment case in TA. Here's the first:

TA needs to generate sufficient cash (after all non-rent gross and operating expenses) to pay:
(A) the rent on those massive leases; and
(B) maintenance capital expenditures.

If we're not meeting this basic level of break-even, we are going to see a steady progression towards a negative liquidity event. So that makes TA's available liquidity very important, don't you think? And TA's available liquidity has greatly contracted since our last balance sheet look.

Q3-07 Q4-07 Delta
Cash & Equivalents $279,317 $148,876 -47%
Restricted Cash $ 37,007 $ 4,801 -87%
$316,324 $153,677 -51%

That's a problem, and is why the company also announced in early March that they were curtailing their expansion and growth activities.

There's also an untapped $100MM line of credit (please don't tap it), and the $25MM annual encumbered cash commitment to TA from HPT for the next four years.

The CapEx budget for 2008 has been slashed to $100MM. Even this might be a little too generous, but the vast majority is for projects already started in 2007 so the thinking is presumably that they might as well finish it (though I think that's dangerously close to a "sunk cost" argument). They'll get back $25MM from HPT in Q2-08. They also have the option of 'putting' about $60MM of that remaining $75MM back to HPT in return for turning it into rent at a 8.5% cap rate (simply - they'd 'sell' the $60MM of improvements to HPT in return for a bump in that already prohibitive rent by ~$5.1MM annually - this may not be such a great idea). Approximately $20MM of this budget has been deemed 'maintenance' CapEx (or 'sustaining' CapEx if you prefer). This number is arguably low, but we'll go with it for now.

They also have five owned-sites, and seven 'greenfield' properties (nothing constructed thereon) worth somewhere about $100MM by some accounts. The owned-sites could be sold to HPT, again for a higher future rent. The land could be sold, presumably, to anyone.

So there are options to bolster liquidity in the even that things continue to, well, suck.

But let's forget that for a moment. To assess whether TA can meet the cash obligations to pay rent and maintenance CapEx, we turn to the concept of EBITDAR - Earnings Before Interest, Taxes, Depreciation, Amortization and Rent. Here's how things have gone of late:

Q2-07 Q3-07 Q4-07 2007
Net Income ($ 8.4) ($ 21.6) ($ 68.9) ($123.4)
Add: Taxes ($ 5.2) $ 9.0 $ 2.0 $ 41.2)
Add: D&A $ 7.9 $ 5.7 $ 14.6 $ 39.7
Add: Goodwill Impairment --- --- $ 15.4 $ 15.4
Less: Equity in JV ($ 0.2) ($ 0.5) ($ 0.2) ($ 0.9)
Add: Share of EBITDAR in JV $ 0.3 $ 0.6 $ 0.4 $ 1.3
Less Interest Income ($ 2.3) ($ 5.5) ($ 7.0) ($ 20.3)
Add: Interest Expense $ 4.0 $ 5.6 $ 6.0 $ 20.8
Add: Rent $48.7 $ 59.6 $ 57.8 $190.9
Reported EBITDAR $44.8 $ 52.9 $ 20.3 $ 82.4

Add: Separation Pmts $ 6.9 $ 7.3 $ 0.8 $ 17.2
Add: Merger Expenses --- --- --- $ 45.0
Add: Petro Integration Exp. --- --- $ 1.8 $ 2.6
Add: Operation Refresh Exp. --- --- $ 2.7 $ 3.0
Add: Settled Legal Exp. --- --- $ 1.6 $ 2.0
Add: Debt Extinguish Exp. --- --- --- $ 16.1
Add: Stock-Comp Exp --- $ 0.3 $ 0.8 $ 5.3
Adjusted EBITDAR $51.6 $ 60.5 $ 27.9 $173.7

Note that, even using the generous definition for 'Adjusted EBITDAR', it was somewhat less than cash rent charges, let alone also worrying about actual investment in the business.

We know industry conditions are bleak such that fuel volumes, and associated non-fuel sales will likely remain depressed for first half of 2008, if not the whole year (we've already been told that Q1-08, volume-wise, will be much like Q4-07). So, if we look simply at the unencumbered cash balance of $149MM, assume the capital budget is spent as anticipated (and the $25MM comes back from HPT), and that no other sources or uses of cash are realized (except for the specifics I'll mention in a moment), we have TA finishing 2008 with a cash balance around $74MM.

As well, TA's business is somewhat seasonal, with Q2 and Q3 being the high points, and Q1 and Q4 the low. So, if we annualize the second half of 2007, that points to full year fuel volume sales of 2.25 billion gallons. If the fuel gross margin holds steady, and the ratio of non-fuel gross margin stays roughly level with where it's been in relation to its recent past takes us to a total gross margin dollar value. From that, we deduct an estimate of continuing site-operating expenses and cash SG&A expense, and then give credit for the planned cost savings for 2008 stemming from the work-force cuts announced earlier, as well as a same-site operating expense savings associated with a big uptick at the TA sites. You can see the results across a range of outcomes:

2008 Pro-forma Liquidity

Fuel Sales (million gallons) 2,250 2,300 2,400 2,500
Fuel Gross Margin (cents/gal) $0.083 $0.085 $0.085 $0.085
Non-Fuel/Fuel Gross Margin Ratio 3.70 3.70 3.70 3.70

Fuel Gross Margin $ 185.6 $ 195.5 $ 204.0 $ 225.0
Non-Fuel Gross Margin $ 686.8 $ 723.4 $ 754.8 $ 786.3
Total Gross Margin $ 872.4 $ 918.9 $ 958.8 $ 998.8

Less: Cash Operating Expenses ($ 630.0)($ 630.0)($ 630.0)($ 630.0)
Less: Cash SG&A ($ 120.0)($ 120.0)($ 120.0)($ 120.0)
Add: Workforce Cuts Cash Savings $ 11.9 $ 11.9 $ 11.9 $ 11.9
Add: Operating Costs Savings $ 18.0 $ 18.0 $ 18.0 $ 18.0
EBITDAR $ 152.3 $ 198.7 $ 238.7 $ 337.4
Cash Rent Expense - 2008 $ 219.1 $ 219.1 $ 219.1 $ 219.1
EBITDA ($ 66.7)($ 20.3) $ 19.6 $ 118.3
Mtce CapEx ($ 20.0)($ 20.0)($ 20.0)($ 20.0)
EBITDA - Mtce CapEx ($ 86.7)($ 40.3)($ 0.4) $ 98.3

You can see the problem. If these forecasts are reasonable, then cash will continue to be consumed. If TA can do 2.4 billion gallons in volume with a moderate uptick in fuel gross margin for 2008, then we should be just able to offset the cash requirement for rent and Mtce CapEx, and the liquidity will simply be impinged by the next growth CapEx which will grind pretty much to a halt by the end of Q2-08. Less than this volume, or lower margin, or continued bad industry conditions, will mean a lower equity price still. I will not promote TA off the Watch List until we have some evidence that the 2.4 billion gallon floor is probable. That may mean missing a bottom if things turn quickly; such is the cost we pay.

But then, that right-most scenario - even with curtailed cash, slap a 4x EV/[EBITDA-Mtce CapEx] multiple on it, add the expected $74MM cash hoard, and you have a $16 share price. Welcome to the wonderful world of operating leverage.

So we'll wait for the Q1 results to be released - likely in mid-May. Insert trite Buffett quote here about their being no called strikes in investing.

And remember, I mentioned that there's a second basic premise for an investment case in TA; namely, that HPT has a vested interest in keeping TA out of bankruptcy so as to not have those eye-bleeding leases challenged. However, this is no guarantee that the TA common equity is protected from even today's price (though I doubt HPT would want to see this skate too close to the edge). So we can see how hot the negative industry conditions can make it on TA management. A turnaround here could be very profitable for shareholders - but I still see no rush.

See you all next quarter.


TA – Q1-08 Thoughts
Posted by: TMFCanuck
Original Posting Date: 13-May-08

Hello Fools,

Still watching, still waiting, TravelCenters appears to show no improvement in their first fiscal quarter.

A lot of this post might be repetitive from the previous time we checked in.:

Here's the Q1-08 "earnings" press release - short analysis, ugly as per recent history:

Really, all that needs to be said is that the cash being generated is insufficient to cover the cash rent payments to HPT. As I said in my Q4-07 post linked above, the first basic premise for investing in TA is that they generate sufficient cash to pay A) the rent due HPT, and B) whatever maintenance CapEx requirements there are (forget growth for a moment).

Our measure for cash generation at TA remains EBITDAR (earnings before interest, taxes, depreciation, amortization and rent). Here's the run-down:

Q2-07 Q3-07 Q4-07 Q1-08
Net Income ($ 8.4) ($ 21.6) ($ 68.9) ($ 48.5)
Add: Taxes ($ 5.2) $ 9.0 $ 2.0 $ 0.2
Add: D&A $ 7.9 $ 5.7 $ 14.6 $ 10.9
Add: Goodwill Impairment --- --- $ 15.4 ---
Less: Equity in JV ($ 0.2) ($ 0.5) ($ 0.2) ($ 0.1)
Add: Share of EBITDAR in JV $ 0.3 $ 0.6 $ 0.4 $ 0.3
Less Interest Income ($ 2.3) ($ 5.5) ($ 7.0) ($ 3.2)
Add: Interest Expense $ 4.0 $ 5.6 $ 6.0 $ 4.1
Add: Rent $48.7 $ 59.6 $ 57.8 $ 57.7
Reported EBITDAR $44.8 $ 52.9 $ 20.3 $ 21.5

Add: Separation Pmts $ 6.9 $ 7.3 $ 0.8 $ 2.8
Add: Petro Integration Exp. --- --- $ 1.8 $ 1.5
Add: Operation Refresh Exp. --- --- $ 2.7 $ 0.5
Add: Settled Legal Exp. --- --- $ 1.6 $ 5.0
Add: Stock-Comp Exp --- $ 0.3 $ 0.8 $ 0.2
Adjusted EBITDAR $51.6 $ 60.5 $ 27.9 $ 31.5

So, even if we could add back all those non-recurring expenses and realize the full $31.5MM in cash for the quarter, the quarterly cash rent payment was $58.3MM. Meaning that we're well out of cash before we even get to CapEx items.

Since we're burning cash, we need to check up on the liquidity line:

Q3-07 Q4-07 Q1-08
Cash & Equivalents $279,317 $148,876 $121,061
Restricted Cash $ 37,007 $ 4,801 $ 332
$316,324 $153,677 $121,393

That quarterly (negative) delta of $32.3MM is actually not that surprising. We know we have a shortfall just on EBITDAR versus cash rent of $26.8MM, and we know that the company ran out their CapEx in Q1-08, but also that they put the brakes on hard. CapEx spending in Q1-08 was $40.2MM. Much of this will be funded by the cash infusions from HPT (which I think have already been received). Note that the company did pick up significant cash from favourable working capital items in the quarter, the reasons for which we touched on in that last update post.

Recall that I said I'd not promote TA off the watch list until I saw evidence of at least 2.4 billion gallons of fuel sales and related strength in the non-fuel revenues commensurate with past successful results. In Q1-08, fuel volumes were 527.5 million gallons - and while Q1 and Q4 are seasonally low, that's still too low of a volume. Same-store sales of fuel volumes fell nearly 13% year-over-year (wrong direction folks), and same-store-fuel-gross margin fell nearly 9% (we worry about gross margin dollars because the revenue line gets distorted by rising fuel prices which the company has no control over).

Fuel gross margin came in at $0.079/gal which is up from last year, but lower than my target (again though, there's some seasonal impact here). Non-fuel gross margin was nicely strong - though this might have to do again with a favourable comparison to the lagging fuel gross margin.

Long-story short, there's nothing in today's report (and I haven't checked how the stock is doing today so far - it's my new thing of writing my notes before looking at price in an effort to avoid biasing my thinking) that makes me optimistic today. Moreover, there was another press release that makes me a little concerned:

Basically, this is TA raising cash by selling capital improvements to its sites to HPT in exchange for upping the lease payments in the future. I've said that I'd expect HPT to forestall bankruptcy at TA since it's in their (HPT's) best interest to NOT have to have a bankruptcy court parse those lease deals, and this press release goes a ways to keeping TA alive for a while longer. However, it might not be in the best interests of TA shareholders, since it means higher rent payments down the line. Then again, if you review the last post where I illustrate the operating leverage potential if fuel volumes pick up, in the near term, an incrementally higher rent payment hurdle would probably be fairly easy to hit.

Anyway, we continue to watch.



Posted by: TMFCanuck
Original Posting Date: 20-Jun-08

Hello Fools,

For those still interested in the TA story (and I am very much one of them, since it's hard to ignore the terrific implicit operating leverage of the business, even though $4/gal gasoline and even higher diesel fuel means we're on the short end of that operating leverage for the foreseeable future....perhaps even to the point of bankruptcy), there's some interesting things (read shenanigans) afoot in the boardroom.

Here's the 8-K that TA filed yesterday:

The highlights:

* Two director nominees, Arthur Koumantzelis and Barry Portnoy did not receive majority approval from the shares eligible to vote (they scored 42% and 41% approval respectively). Though they were elected by a majority of shares that were actually voted, because of the lack of majority of all shares, both immediately resigned as directors of the Company. Koumantzelis we don't really care about, but Portnoy is interesting. Recall from my original write-up of the company:

Barry Portnoy is the majority owner and chairman of Reit Management & Research and
also a trustee of Hospitality;

* Immediately after the resignation of Messrs. Koumantzelis and Portnoy, the remaining members of the Board of Directors unanimously voted to elect Messrs. Koumantzelis and Portnoy to fill the two Board vacancies, with Koumantzelis as the Group I Independent Director and Mr. Portnoy as the Group I Managing Director. Koumantzelis was also appointed to serve on the Audit, Compensation, and Nominating and Governance Committees, and designated as the Audit Committee’s “financial expert”. Koumantzelis was also appointed as the chair of the Audit Committee.

So really, what was the point of even voting?

* John Hoadley, executive VP and former CFO resigned from the company - no big loss.

So what does all this mean?

Well, not much. The company is still hemorrhaging money due to the awful economic environment, and won't be coming off the Watch List any time soon. The fact that management is a circle-jerk of self-edification and enrichment is neither new and unknown, nor will it change the actual financial pressure on the company. The only thing is does is reinforce that TA will not a be long-term hold if it ever climbs off the watch list.

But it is entertaining to watch.


TA – Q2-08 Thoughts
Posted by: TMFCanuck
Original Posting Date: 20-Jun-08

Hello Fools,

A lot going on at TravelCenters in Q2 (PulltheTrigger already highlighted the rent deferral agreement signed with HPT), and I wanted to comment a little on what's been going on.

TA's Q2 was actually rather good (as measured against their own recent lousy history). For one thing, they actually made EBITDAR (earnings before interest, taxes, depreciation, amortization and rent) that exceeded their rent obligation to HPT. (Baby steps folks, baby steps...)

Here's the recent performance measure:

Q2-07 Q3-07 Q4-07 Q1-08 Q2-08
Net Income ($ 8.4) ($ 21.6) ($ 68.9) ($ 48.5) ($ 9.8)
Add: Taxes ($ 5.2) $ 9.0 $ 2.0 $ 0.2 $ 0.2
Add: D&A $ 7.9 $ 5.7 $ 14.6 $ 10.9 $ 11.1
Add: Goodwill Impairment --- --- $ 15.4 --- ---
Less: Equity in JV ($ 0.2) ($ 0.5) ($ 0.2) ($ 0.1) ($ 0.3)
Add: Share of EBITDAR in JV $ 0.3 $ 0.6 $ 0.4 $ 0.3 $ 0.5
Less Interest Income ($ 2.3) ($ 5.5) ($ 7.0) ($ 3.2) ($ 2.1)
Add: Interest Expense $ 4.0 $ 5.6 $ 6.0 $ 4.1 $ 2.7
Add: Rent $48.7 $ 59.6 $ 57.8 $ 57.7 $ 58.4
Reported EBITDAR $44.8 $ 52.9 $ 20.3 $ 21.5 $ 60.7

Add: Separation Pmts $ 6.9 $ 7.3 $ 0.8 $ 2.8 $ 0.3
Add: Petro Integration Exp. --- --- $ 1.8 $ 1.5 $ 2.0
Add: Operation Refresh Exp. --- --- $ 2.7 $ 0.5 ---
Add: Settled Legal Exp. --- --- $ 1.6 $ 5.0 ---
Add: Stock-Comp Exp --- $ 0.3 $ 0.8 $ 0.2 $ 0.3
Adjusted EBITDAR $51.6 $ 60.5 $ 27.9 $ 31.5 $ 63.4

So, that's positive. Contributing to these results were the previously mentioned cost cutting of ~8% of employees, combining functions from Petro and TA, and general corporate stinginess. (There were also some other contributors which we'll get to in a moment). A good illustration of the cost containment going on is that SG&A costs fell about $2MM year-over-year, even though this year included the Petro acquisition (which added about 1/3 to the storecount) for the full quarter whereas in Q2-07, it was only included for one month.

Unfortunately, that's about it for the good news side of the equation, although the market seemingly liked what they saw.

You see, while the Q2-08 EBITDAR exceeded cash rent requirements, it still wasn't ahead of CapEx requirements or working capital commitments. The net result was an incremental $15MM hit to liquidity in the quarter as you can see below:

Q3-07 Q4-07 Q1-08 Q2-08
Cash & Equivalents $279,317 $148,876 $121,061 $106,347
Restricted Cash $ 37,007 $ 4,801 $ 332 ---
$316,324 $153,677 $121,393 $106,347

And while Q2 is seasonally better for TA, their fuel volume sold declined 16% - a phenomenon blamed on fuel conservation on the part of TA's customers, and on the company itself being more 'selective' on how they managed their margin. Frankly, I'm not sure on that latter point. CEO Tom O'Brien talked about how, when they were selling a gallon of fuel for $1 and making $0.10 margin (a 10% gross margin), that was fine, but selling that same gallon for $4 whilst making that same $0.10 margin (a 2.5% gross margin), didn't make a terrible lot of sense. As such, they were being less focused on making margin on volume and "racing to the bottom line", and were doing certain things like less discounting, and working on earning gross profit on the 'average' gallon sold, which requires some working capital investments into their suppliers.

I think that's all well and good, but at the end of the day, you still have to have the volume there, but kudos for thinking and acting outside the box.

But the problem is, even if prices come down markedly, the conservation ethos that's sort of been burned into people is unlike to subside any time soon. The longer prolonged high fuel prices go (and what if they don't moderate any time soon) the more likely it is to force a long-term attitude shift in consumer behaviour.

While fuel volumes declined 16%, the levers that TA was able to pull meant that fuel gross margin actually rose pretty spectacularly - to $0.119/gal versus $0.087/gal in Q2-07. I'm not sure this is sustainable (analysts on the call certainly seemed skeptical). Non-fuel sales only fell 3.8% vs. the 16% volume fuel sales decline, but saw some of that recovered by the non-fuel gross margin ticking up 70bp.

However, I'll again point out that, with these positive developments, the business continued to be cash consumptive - indeed, at this lower rate of cash burn, TA has about seven quarters of cash remaining before they'd have to start dipping into their line of credit (and were I their bankers, I'd be a little leery of letting them uncork the credit line...)

Moreover, the slowed cash burn is something of an illusion. You see, TA sold $68MM of improvements to HPT in Q2 – which artificially boosted CFFO. This move largely depleted that previously hidden source of liquidity - remember, that HPT committed $125MM to TA when it spun it out. The original plan was that that money was to deplete over roughly five years ($25MM per annum). TA has greatly accelerated it, tapping that source of liquidity much earlier than expected for their own operations, and removing their potential cash cushion. There remains only about $25MM left of this commitment, so TA can't do this again. Note that this is the portion of capital spending that TA can incur and put back to HPT without incurring rent increases to HPT. And it's running out. Moreover, since TA still has $40MM in CapEx to complete in 2008, I think they're likely to pretty much deplete the HPT liquidity in the very short term.

Beyond this commitment, TA can sell future CapEx spending (mtce CapEx on the existing businesses is estimated by management at ~$30MM annually) to HPT in return for higher rent at a cap rate of 8.5% (provided it qualifies as 'real estate' as HPT is REIT, after all). But, of course, such action, like federal government deficit spending, only screws tomorrow at the benefit of today.

And so, because liquidity remains a huge concern for TA, even in the face of these better-than-expected/anticipated results, TA announced the aforementioned rent deferral agreement with HPT, which is frankly, I think, the stake to the heart of the investment thesis in TA.

Under the terms of this deal, TA can defer $5MM/mth of rent due to HPT through 2010 (they're currently paying about $18.8MM/mth). These deferrals come interest free through the end of 2009, but then start accruing interest at the extremely low rate of 12%. All deferrals and accrued interest must be repaid, in a lump sum if necessary, by June 2011. Oh, and TA is issuing new shares to HPT such that, after their issue, HPT will own 9.6% of the total diluted volume. (REITs are prohibited from owning more than 10% of the company from which they earn their rental income).

This rent deferral deal can be thought of as a series of (expensive) options held by TA. There will be no change recognized in the financial reporting expense (so reported results won't look appreciably different and get an EPS boost or anything). Rather, it's really just the timing of cash outlays from TA to HPT (and 12% interest payable after 2009…and nearly 10% of the shares O/S)

But think about this - any deferrals are due in lump by June 2011 – if used in full, that's a $150MM obligation owed to HPT that will have been taking 12% interest. And given the intense web of conflicts between HPT, TA, and the overarching RMR who manage both companies, why wouldn't HPT encourage the full obligation? They can always restructure the deal at that point. Meanwhile, even taking the $5MM/mth maximum would have, in this quarter just completed (a quarter that was a seasonal high) have only taking the cash bleed to zero - what happens in the lull seasons like Q4 and Q1?

In Summary:
Frankly, this deal stinks for anyone who might consider investing in TA. While the web of conflicts were always a concern, I believed that HPT would at least make some semblance of TA grow and prosper on its own. At this point, all it looks like is that HPT is going to literally milk TA for all they're worth, and who gives a damn about the equity holders? I have considerable doubt that the cash consumption of TA - even in lieu of this deal - will halt any time soon.

So it's not coming off the watch list, and I think it's pretty much time to call this one.


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