Description

Corporación América Airports S.A. (CAAP)

Price: $4.54

Target: >$18 by 2023

Market Cap: US$725MM

Liquidity: $2.8MM per day

Airports Introduction

CAAP develops and operates airports, primarily in Latin America. Before I get into CAAP’s specifics, I want to provide some background on airport concessions. Most cities only have one or two large airports capable of serving commercial air travel. These airports are effectively natural monopolies and are heavily regulated. Governments either operate the airports themselves, such as the NY/NJ Port Authority does at JFK, or sell a concession to operate the airport to a third party. Typically, this concession is sold with an upfront payment and annual capex commitments that entitle the third party to earn a regulated rate of return over a set period. For example, in exchange for an upfront payment of $100MM and $10MM in annual capex commitments, CAAP would be entitled to earn a 10% rate of return on its invested capital captured by charging airlines a fee per passenger over a 20-year period that yields $11MM in annual operating profit. There are two key features of the airport concession model that attracted me to airports versus other aerospace investments. First, while there are numerous technicalities, airport concessions are basically government guarantees to earn a specific level of profit regardless of macro issues. In theory, if passenger traffic falls 90%, airports are entitled to raise fees per passenger 10x. In practice, the operators and governments have been working together to get through a difficult time without price gouging, but the explicit government guarantees on airport concessions explain the benevolence governments are showing to airports as opposed to airlines. Second, in the event a suitable return cannot be earned, the operator is entitled to the return of its initial payment and capital investments plus fees. In a truly “worst-case scenario,” airport concessions have very real, government-guaranteed liquidation values. Despite an aerospace and travel industry ravaged by the pandemic, I believe airport concessions are a safe investment with a predictable profit stream over time, albeit with one gigantic covid bump in the road.

Thesis

CAAP is structured as a holding company with airport concessions in seven markets: Argentina (50% of “normalized’ profits), Italy, Brazil, Armenia, Uruguay, Ecuador, and Peru. At first glance, CAAP appears to be an equity stub on a mountain of debt struggling to break even due to covid. However, CAAP is more accurately a portfolio of private equity investments with non-recourse debt and a government backed liquidation value many multiples of its current market cap. We are getting numerous “shots on goal” to a significant upside recovery with strong downside protection if things get worse. To the upside, I believe even with a lag in vaccinations, CAAP can return to prior profitability by YE2023. 8x 2023 EBITDA of $500MM yields $18 per share, which compares to European airport peers trading 10-14x “normalized” EBITDA. To the downside, in the highly unlikely event that all CAAP’s concessions fail, CAAP entered 2020 with $3.0B of intangible assets from concession rights, which roughly corresponds to the value of the concessions’ initial fees and capex. If the concessions are terminated, either by CAAP or the governments, I believe CAAP would be entitled to a break fee of roughly 1.0-1.2x book value, which net of $1.0B in consolidated debt yields a $13-$16/sh. liquidation value. Further, CAAP’s Italian operations are publicly traded – Toscana Aeroporti (TYA IM) – and at present worth roughly $1.50 per share of CAAP, despite historically accounting for sub 10% of EBITDA, and CAAP is entitled to an ~$1/sh. payment from the termination of one of its Brazil assets.

Finally, a word on CAAP’s geographic exposure. The perils of Argentine and emerging market stock investing are not lost on me. CAAP operates in some dicey areas with less than stellar reputations, and its 50% weighting toward Argentina is a clear negative. I am comfortable with these risks for three main reasons. First, beyond Argentina, CAAP is well-diversified and the odds all the concessions would fail is remote. Second, even if Argentina were to fail, using the same 8x EBITDA multiple, the rest of the business is worth roughly $8/sh. and CAAP would be entitled to an Argentina break fee worth over $3/sh. Third, despite fears that Argentina’s socialist president would nationalize the airports, he instead recently extended CAAP’s concession and provided financial support. The recently signed extension is publicly available and implies a $2.0-$2.5B DCF valuation, or $13-$16/sh. (See presentation here, but warning it’s actually the powerpoint that must be downloaded - http://s23.q4cdn.com/702696462/files/doc_presentations/2020/AA2000-10-year-Extension-and-Regulatory-Model-Dec-2020-v3(1).pptx ) The reality is airports are one of the safest assets a country can open to outside investment. If the governments want to attract foreign investment, as almost all emerging markets do, they need to be fair to airports.

Risks

EM Risks – CAAP operates in emerging markets. However, a typical and significant EM risk is forex volatility, which is mitigated here as the vast majority of CAAP’s concessions and fees are priced in USD.

Covid Recovery Delayed in EM – The vaccine rollout in developing markets could be slow and a significant return of air traffic may be a 2022 or later event

Brazil Debt is Recourse – CAAP has ~US$218MM of Brazil level debt, of which ~$204MM is recourse to the hold co.

Catalysts

Return of Latam Air Travel – ‘Nuff said

Operations and Liquidity

To be blunt, the present state of CAAP’s operations and liquidity looks bleak. When global air travel falls >90%, it is kind of hard for an airport not to look bleak. Having said that, underlying results are better than at first glance. Most of their airport concessions are cash flow breakeven, helped by the cargo business. Local governments have been providing aid via new debt, wage support, and reducing or eliminating concession fee payments. CAAP has also had success deferring interest and principal payments, which is made easier as many loans are from government supported banks. The airports and the governments have essentially come to an unwritten agreement – the government is going to bail the airports out and provide support to get them through to the other side, and the airports aren’t going to go to the regulators clamoring for 1,000% rate increases. For instance, in Italy, the government extended all airport concessions for two additional years and has provided loans, in CAAP’s case €85mm with a six-year term and two-year grace period vs. Q3 EBITDA of -€2MM. CAAP’s current liquidity looks manageable and as we emerge from covid and air traffic recovers, CAAP should rapidly see an EBITDA recovery. Frankly, although CAAP has executed admirably and not had much issue extending debt, I would not be surprised if CAAP hit a speed bump in one or two markets this year. However, I think they will manage through and the non-recourse nature, ex-Brazil, helps me sleep at night.

Argentina Concession

For better or worse, the majority of CAAP’s value is tied to Argentina, a country which has had repeated political and economic issues. There are presently many “cheap” Argentina stocks and CAAP at points trades as an “Argentina play.” However, there are a few mitigating factors. 40-50% of CAAP’s “normalized” EBITDA is ex-Argentina and diversified across six countries. At 8x ~$200MM of ex-Argentina EBITDA and net of ~$400MM in proportionate net debt, the rest of CAAP is worth ~$8/sh. and CAAP would be entitled to an ~$3/sh. Argentina break fee if the Argentine government were to cancel the concession. Further, while the stock has repeatedly traded on Argentina fears (see the collapse from $8 to $4 in Q3 2019 on Argentina electing the socialists), the socialists’ government has actual treated CAAP fairly thus far. Since IPO, CAAP’s largest risk factor has been the renewal of the Argentine concession, which was set to expire in 2028 and can be canceled by the government at any time. When covid struck, investors feared Argentina would nationalize the airports. Instead, as can be seen in the stock price rally in November 2020, the socialists extended the concession until 2038 and helped CAAP fund future capex payments. The wild nature of Argentina warrants a multiple discount, but I believe 1) CAAP shares are cheap even if Argentina is a disaster, and 2) the government is highly incentivized to play fairly with CAAP and its recent actions support that.

Liquidation Value – Brazil Fee Example

While my theoretical “break fee liquidation value” might seem oddly out of place with the current stock price, CAAP is currently in the process of exiting a concession, which highlights this value discrepancy. Prior to covid, CAAP had struggled for several years to earn an adequate return on its two Brazilian assets. In early March 2020, CAAP began the process to turn the Natal concession back over to the Brazilian government, who is in the process of finding another operator. Once CAAP exits, the Brazilian government will return CAAP’s initial R$700MM investment plus any additional capex spent minus amortization on a 2014-2040 timeline. CAAP believes this payment will be ~US$100-$150MM net of $15MM in Natal level debt, which represents 15-20% of CAAP’s current market cap. The cash will then transfer to the hold co. level, where in theory it would be freely distributable to shareholders, though I assume CAAP retains the cash to reinvest.

As I highly doubt CAAP “turns in the keys” on many other concessions, I do not expect to receive my liquidation value. I highlight it simply to show that while operations look bleak, we do have very real downside asset protection from the significant concession fees and capex spent pre-covid.

Family Controlled

CAAP is controlled by the Eurnekian family, who retain an ~75% stake. The patriarch, Eduardo Eurnekian, inherited a family business making textiles, which he divested in the early 1980s and pivoted towards cable and media. Eventually, Eduardo sold a majority stake in his company, Cablevision SA, to Malone’s TCI, and reinvested the profits in a variety of assets, particularly travel and infrastructure. http://www.cilicia.com/armo22_eduardo_eurnekian.html He is a strong, sharp businessman who employs many family members in his businesses, such as his nephew and CAAP CEO Martín Eurnekian.

I think investing in a family-controlled company is a mixed bag, but at present in CAAP, I think it is a clear positive. The family has significant assets beyond CAAP and is unlikely to see its 75% holding, which was worth ~$2B at IPO, turn worthless over a sub-$100MM liquidity need. Further, a year into covid, the family has not tried anything shady, such as a dilutive liquidity injection or a CAAP takeout at a cheap price. I think the family cares about the stock and wants to keep it public and see it succeed. At IPO, there was talk of the Eurnekians using CAAP as a public vehicle for other family holdings, like some European infrastructure holding companies, and/or as a currency to grow their airport business. I think the Eurnekians are shrewd operators and am comfortable investing alongside them.

Catalyst

Return of Latam Air Travel – ‘Nuff said