Liberty TripAdvisor Holdings (LTRPA) – Capital Structure Arbitrage – 100% Upside

Current Discount: 50%

Target Discount: 0%

Upside: 100% (depending on hedging ratio used)

Expiration Date: TBD

 

A potentially timely situation where the spread can disappear in a matter of a few days/weeks.

Liberty TripAdvisor Holdings is back on our radar for the 3rd time. LTRPA is a tracking stock for Liberty’s 29.2m shares in TripAdvisor (57% voting power and 22% economic value). Tracking stocks often trade at a small discount to their NAV, which used to be the case with this stock as well till March 2020 (see historical graphs below). The pandemic hit travel stocks, while during its peak LTRPA also restructured its balance sheet binding its debt position to TRIP’s share price. All of this has significantly affected the volatility of its NAV creating multiple opportunities for arbitrage. We have already taken advantage of this a couple of times:

  • April’21 – post-COVID travel stock hype pushed TRIP share price upwards and LTRPA discount to its NAV widened to 30%-40%. The idea was closed for months later after the spread narrowed to 7%.
  • March’22 – Russian/Ukraine war and related flight bans pressured travel stocks down causing LTRPA to trade at a premium of around 20% to its NAV. 4 weeks later, the premium reversed to a 12% discount, and the idea was closed with significant 30%+ gain in 1 month.

A lot more background on LTRPA and its debt restructuring can be found in the two above-mentioned write-ups.

Currently, the discount has widened again to the historically high level of 49%. The move has been caused by a blowout/much better than expected TRIP Q2 earnings, which pushed its share price 25% upwards over the last few days. TRIP has reported strong demand in leisure travel. Revenue grew +77% YoY and +59% QoQ, while adj. EBITDA was +336% YoY and +303% QoQ. The reported revenue is already in line with the pre-COVID levels, while earnings are also not far away. Monthly users were up +19% YoY and are now just 17% shy of the 2019 levels.

The spread is unlikely to remain at current levels for too long and will mean-revert closer to 0% as it did many times before. The volatility combined with LTRPA leverage might also cause the discount to temporarily swing into premium.

 

The hard part

Although there is plenty of borrow availability – the hard part for this trade is hedging and its dynamics. We think it makes sense to use the embedded leverage ratio (see here). At current levels, LTRPA NAV sensitivity to TRIP share price stands at 3.8x, meaning that 1% change in TRIP price causes 3.8% change in LTRPA NAV. This ratio will shift with moving TRIP share price. So at the current levels for every $1 LTRPA long, one should short $3.8 of TRIP to have a hedged exposure.

NAV sensitivity table is provided below:

Dynamic hedging might be required to keep the position fully hedged, however, even if you just use the fixed hedge at 3.8 it seems that you should be fine in most cases as long as the discount narrows down eventually. In fact, if TRIP price goes up by the time the discount narrows, a fixed hedge might even increase the potential upside due to LTRPA leverage. However, its works vice versa if TRIP goes down.

Note: the table above was constructed using yesterday’s closing prices. At this point, LTRPA is at $1.1/share (up $19.5%) and TRIP at $26.06 (up +4.5%), so the discount has narrowed by 4% points, but sensitivities should still be similar.

The important nuance here is that LTRPA equity goes to zero/negative once TRIP share price approaches $18/share price. The current discount formed right after TRIP Q2 results, which pushed TRIP stock price away from LTRPA dead equity zone. We think that after these results, TRIP price is unlikely to revert to pre-announcement levels where LTRPA equity was in the dead zone. At least for the next 3 months until TRIP’s Q3 results are out. However, even if that happens and TRIP share price falls to $18/share again, there’s a good chance that the trade (with fixed 3.8 hedge) would still result in profit or at least limited downside. The thing is that historically (check graph above), even when LTRPA equity went to zero/negative LTRPA share price still stayed rather stable at (around $0.75/share). That’s because market prices in the optionality of TRIP share price to rebound in time. So in such case, the discount would simply get reversed to a premium resulting in sizeable gains for this trade. Dynamic hedging would increase the profit of this scenario even further.

The obvious risk is that if TRIP price overshoots and discount remains unchanged, such traded with 4x larger short position will backfire and the trade might result in significant (even if eventually temporary) losses.

Published on: August 10, 2022  •  Published by:
Category: M&A
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30 COMMENTS

    1. Ilja

      TRIP stock went up as well. At current prices the discount is still around 43%.

      4
    2. dt

      Thanks for commenting.

      While I would have loved to post it earlier for SSI subs, I only started looking at it on Tuesday evening and was simply two hours short. LTRPA traded flat/down earlier in the week and then started spiking quite unexpectedly (at least for me) on Wednesday morning as I was putting in the final words in the write-up.

      When I posted this LTRPA was already up 20% on the day, but:
      – LTRPA NAV stood at $2.07/share (with TRIP at $26/share).
      – LTRPA price was at $1.1/share.
      – Upside to discount elimination = 90%
      (for SSI tracking portfolio we are adding the trade at these prices rather than closing prices the day before)

      And while this might look visually unattractive after a further 10% increase in the share price, here is where we stand at current levels:
      – LTRPA NAV is at $2.09/share.
      – LTRPA price $1.27/share.
      – Upside to discount elimination = 65%.

      In my opinion, there is still plenty of juice left in this trade. And if we would find it only at the current discount levels, we would still consider it attractive and post it on SSI.

      11
  1. Tom

    I’m new to looking at this trade so I may be missing something. The LTRPA NAV/share in the sensitivity table looks weird. Shouldn’t it be trending down throughout changes in TRIP’s price? Why is there a big spike up at a TRIP price of $25.50? It also seems inconsistent with the graph that seems to indicate an NAV just below $2. Can you provide the formula you use for the LTRPA NAV/shae calculation?

    thanks,

    Tom

    1
    1. Ilja

      Thanks for spotting Tom. Sensitivity table has been fixed.

      Regarding NAV – current discount is 41%:
      – LTRPA owns 29.25m TRIP shares = $763m
      – Net debt: $371m holdco debt – $33m holdco cash + $266m Certares redeemable prefs = $604m. Prefs are calculated based on the $1000 nominal amount per share multiplied by an accretion factor. The accretion factor is calculated as 80% of the growth of TRIP shares above $17.08. The growth is calculated as 10 last days VWAP. However, as Certares prefs won’t get redeemed for a few years yet, VWAP calculation skews the calculation if TRIP volatility is elevated in the last 10 days. So instead, we calculated the value of preferreds based on the current TRIP price. As of the latest 10Q, 187.414m pref shares were outstanding. So Certares prefs are: (1+(0.8*(TRIP-17.08)/17.08))*187.414
      – LTRPA has 72.4m Series A shares and 3.2m Series B shares (voting shares). B has extremely low float and liquidity and for some reason trades significantly above A shares. Here we just assume that both A and B shares trade at the same price ($1.24/share right now).
      – LTRPA NAV is $159m or $2.10/share. If calculating prefs based on 10 TRIP VWAP instead of just the current price, NAV stands at $120m or $2.7/share (VWAP price of TRIP is smaller and impacts the debt to a smaller degree).

      Hope this helps.

      5
  2. alien7867

    Not to get too far into the weeds, but one might also want consider the 8% coupon on the pref A that get added to the principal value, that would be $30mm in 2 years when perhaps it will be redeemed? Also the optionality of the embedded short calls is pretty material, especially of the pref where it is essentially struck around here and TRIP vol is 50%+ .. it is tricky since the strike depends on the assumption when it gets redeemed/converted ..
    I think that partly explains massive volatility of the “spread” but might help coming up with sensible hedge ratio. Basically every $10mm makes a big difference in the NAV and spread calculation.. Mind you, LTRPA market cap was $45mm as week ago.. sort of a call option itself 🙂

  3. mahe9703

    hi, can u update the latest hedge ratio. if i want to initiate the trade today at market open?

    1. Ilja

      Hey, check the sensitivity table above. At the current TRIP price, it’s about $1 to $3.2.

  4. Tom

    Ilja,

    I’ve calculated my hedge ratio differently from you and I’d appreciate hearing why you choose the method that you did. My NAV numbers are similar to your numbers. I then recalculated the NAV for a 1% change in TRIP ($0.26). The $0.26 change in TRIP results in a $0.07 change in the NAV of LTPRA. Thus, I am long 3.8 (0.26/0.07) shares of LTPRA for each share of TRIP. On a $ basis, my methodology is equivalent to over 5x dollar short/long vs your caculation of 3.8. I used my methodology because I am primarily focused on capturing the spread between LTRPA and its NAV. It seems that your methodology reduces the day to day P/L volatility, but may not result in the capture of the entire spread.

    What do you think?

    Tom

    1. AFPond

      Would be interested to hear more thoughts on this question capturing spread vs. volatility.
      Out of curiosity I tried recreating the above sensitivity table using Tom’s method
      – if TRIP price goes up 30% and NAV discount narrows to 0, you gain 305%
      – if TRIP price goes down 20% and NAV discount narrows to 0, you lose 47%
      a wider outcome given increased exposure to to LTPRA

    2. dt

      I think we are using the same methodology as you, the key difference that you implicitly take LTRPA change relative to the current LTRPA price, whereas we look at LTRPA change relative to its NAV (i.e. intrinsic value to which the stock should trade up). That is why we arrive at slightly different hedge ratios. I think both methods are correct and you can play in excel for different outcomes of this – I personally prefer a smaller short position.

  5. Tom

    AFPond,

    I get very different numbers than you for the scenarios that you ran. In neither case do I lose money. In the 30% up scenario, I earn just over 100% of the initial spread to NAV. In the 20% down scenario, I earn just under 100% of the initial spread to NAV. The differences are due to the jump scenarios in which I have assumed to adjustment to the hedge.

    Assume an initial position of short 1000 shares of TRIP at $27.26 and long 3800 shares of LTPRA at $1.41. Based upon the TRIP price, I calculate an LTPRA NAV/share of $2.42. So, an initial spread to NAV/share of $1.01.

    – If TRIP price goes up 30% (to $35.44), LTRPA NAV/share increase to $4.63. My net P/L is -(35.44 – $27.26) * 1000 + (4.63-1.41) * 3800 = $4,056 This is equivalent to $1.07 per share of LTPRA, which is 106% of the initial spread to NAV. The reason I make a bit more than the initial spread to NAV is because as the market goes up 30%, the number of shares of LTPRA I should be long per 1000 shares short of TRIP decrease. The extra long shares of LTPRA benefit me in the jump up 30%. Of course, if the move up was gradual and I rehedged, I wouldn’t get this small additional gain.

    if TRIP goes down 20% (to $21.81), LTPRA NAV/share decrease to $0.94. My net P/L is (27.26 – 21.81) * 1000 – (1.41 – 0.94) * 3800 = $3,664. This is equivalent to $0.96 per share of LTPRA, which is 95% of the initial spread to NAV. Again, I make a bit less than the initial spread, because I have assumed no rehedging.

  6. drmc

    Thanks for the idea dt, very interesting. I’m new to this one so excuse my ignorance, but as Alien7867 alluded to, should you subtract the ~$30m in future pref share dividends from the current NAV? If so, at the last TRIP price of $26.36, I get a NAV of $1.71 per share (assuming A&B shares are of equal value). At this point have you essentially got a highly leveraged single stock closed end fund trading at a 25% discount to NAV and burning ~3% of it’s NAV per year in expenses?

    3
    1. fishwithwings

      If I am not mistaken, the pref. dividends are non-cumulative and “as long as at least 25% of the original aggregate liquidation value of the Series A Pref. Stock remains outstanding, [the company] will not pay a dividend”.
      So I guess one does not need to subtract the $30mm.

      1. fishwithwings

        But it will be added to the liquidation price.. So I guess drmc’s question still remains.

        1
  7. drmc

    Following on from the above, since April 2020 the B shares have traded about 10x the value of the A shares (the B shares have 10x the voting rights, coincidence?). Can anyone make sense of this? Tiny free float of ~100k B shares so maybe a short squeeze?

    Also, I was unable to reconcile TripCo’s balance sheet with Trip Advisors balance sheet to confirm our estimated NAV. Did anyone have any luck doing this?

  8. Thirdeye

    Thank you for the idea. I was going through the SEC filings and read the below.
    Isn’t that scary? Liberty Trip redeemed 138m nominal of prefs for 373m after just one year! It makes me think that the value of liabilities can go up substantially. By the way, the founder of Certares is Greg O’Hara! Please correct me if I am wrong

    (8) Redeemable Preferred Stock
    On March 15, 2020, TripCo and Gregory B. Maffei entered into an Investment Agreement (the “Investment Agreement”) with Certares Holdings LLC, Certares Holdings (Blockable) LLC and Certares Holdings (Optional) LLC with respect to an investment in TripCo’s Series A Preferred Stock, which was later assigned to Certares LTRIP LLC (“Certares” or the “Purchaser”). Pursuant to the assigned Investment Agreement, on March 26, 2020, TripCo issued 325,000 shares of Series A Preferred Stock to Certares for a purchase price of $1,000 per share. On March 22, 2021, TripCo and Certares entered into a stock repurchase agreement (the “Repurchase Agreement”). Pursuant to the Repurchase Agreement, on March 29, 2021, TripCo repurchased 126,921 shares of Series A Preferred Stock, and on April 6, 2021, TripCo purchased an additional 10,665 shares of Series A Preferred Stock from Certares. The aggregate consideration for the Series A Preferred Stock consisted of a combination of (i) approximately $281 million in cash from a portion of the net proceeds of the Debentures (as discussed in note 7), $252 million of which was paid on March 29, 2021 and $29 million of which was paid on April 6, 2021, and (ii) approximately $92 million aggregate value of TRIP common stock, owned by TripCo, consisting of 1,713,859 shares (a non-cash transaction). The price per share of Series A Preferred Stock was determined by multiplying (a) $1,000 by (b) an accretion factor with respect to the TRIP common stock (determined based on the Accretion Factor formula set forth in the Certificate of Designations of the Series A Preferred Stock as modified to use the closing price of a share of TRIP common stock on the date of the pricing of the Debentures instead of using the Reference Stock VWAP (as defined in the Certificate of Designations of the Series A Preferred Stock (the “Certificate of Designations”))). Following both closings under the Repurchase Agreement, TripCo repurchased a total of 137,586 shares of Series A Preferred Stock from Certares, representing 42% of the Series A Preferred Stock originally held by Certares, for an aggregate value of approximately $373 million. There were 187,414 shares of Series A Preferred Stock authorized, issued and outstanding at June 30, 2022 and December 31, 2021.

  9. dt

    Responding to LTRPA questions:

    – Dividends on preferreds – it might be the technically correct approach to deduct the discounted future dividends from the calculation of NAV. However, the chart above clearly shows that LTRPA price and NAV (based on calculation without deducting the dividends) fluctuate around each other, occasionally eliminating the spread. So the bet is that eventually, this will happen again. I do not think that technicalities around NAV calculation changes the thesis in any way.
    – Spread between A and B shares – if I recall correctly, this one widened during covid. Borrow and liquidity for the hedged trade is limited. These are probably the reasons why the spread does not get eliminated.
    – Deal with Certares – you are correct to point out that it was a very beneficial transaction for Certares. However LTRPA was somewhat cornered as it needed these funds to cover margin loan during the peak of covid market slump. Some more info on it can be found in our previous write-up of LTRPA https://www.specialsituationinvestments.com/2021/04/liberty-tripadvisor-holdings-ltrpa-capital-structure-arbitrage-50-upside/

    1
  10. AlexD

    According to my calculations with LTRPA at $1.11 and TRIP at $22.75 the spread is nearly closed at 7,5%. Anyone thinking about closing this trade now or is there a reasonable bet for significant further convergence?

  11. AlexD

    Closed the trade yesterday at LTRPA $1.12 and TRIP $22.68 for a spread of 4.9% according to my calculations.

  12. dt

    I agree, it seems prudent to exit LTRPA / TRIP arbitrage here. Yesterday, the spread contracted close to zero in intraday trading.

    To be more conservative, for SSI tracking portfolio purposes we are marking the exit at yesterday’s closing prices (TRIP at $23.5 and LTRPA at $1.15), which still leaves 20% spread on the table.

    Overall, a nice 42% gain in 3 weeks – this arb just keeps on giving, now for the third time in a row.

    2
    1. RW

      This moved quickly this time – from high 30s % discount yesterday morning (LTRPA $1.44 vs. $26.80 TRIP) down to teens at today’s close (LTRPA $1.33 vs. $24.39 TRIP). Thanks again dt for posting this.

      1
  13. Tom

    Interesting, the big decline in TRIP overnight really highlights how much LTRPA is like an option position. By my calculation, LTRPA is worthless when TRIP is below $18.30 (absent a restructuring).

    1
  14. vko007

    Is it worth shorting LTRPA and buying TRIP here – is a NAV sensitivity ratio of 12 appropriate or can you rerun/center the sensitivity table?

    1. dt

      I think this trade (short LTRPA, long TRIP) is a bit too risky. The spread will always seem very large when LTRPA is close to zero due to high leverage on the tracking sotck. Also the closer LTRPA intrinsic value moves to zero the more meaningful the option value of LTRPA becomes. So in this scenario, it is pretty hard to call LTRPA as being overvalued.

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