ASB Partners Q424 Performance and Year End Letter
Letter sent to LPs summarizing the performance of ASB Partners for Q424 with a discussion of $ELAL...Please see the risk disclosures.
January 7, 2025
Dear Limited Partner,
For the quarter and Year to Date ending 12/31/2024, ASB Partners’ unaudited net results were +16.1% and +41.1% respectively. The following tables summarize various performance and concentration metrics.
Reflections on 2024
After The Fund’s strong performance in 2024, it’s worth recalling the wisdom of King Solomon: “The time of mischance comes to all.” While this year brought many successes, a concentrated equity portfolio is inherently exposed to volatility, particularly over a 12-month horizon.
As the saying goes, “There’s no such thing as past consideration.” What truly matters is what the Fund owns today and how those companies are positioned for the future. With that perspective, I won’t focus on past results for too long, though it’s clear that several key holdings drove performance in 2024:
When I launched the Fund in September 2022, my goal was to build a portfolio of high-quality stocks and hold them indefinitely, allowing compounding and tax efficiency to do their work. I’m deeply aligned with Charlie Munger’s view that “The big money is not in the buying and selling, but in the waiting.”
That said, 2024 will be an exception to this philosophy due to the acquisition of the Fund’s largest position, which will result in short-term capital gains. While this is a departure from the long-term approach I aim to maintain, it’s reality that there will be realized capital gains from time to time.
Selected Portfolio Discussion
EL AL: The Cheapest Airline in the World
EL AL ($ELAL: Tel Aviv Stock Exchange) is Israel’s flag-carrier airline. Since Hamas' October 7th, 2023 attack and the withdrawal of most other major carriers due to safety concerns, EL AL has experienced a dramatic increase in its market share and earned windfall profits. The consensus view is that EL AL is not attractive as a long investment, and possibly even a short, because earnings will inevitably decline as other carriers return to the Israeli market. While we concede that EL AL’s earning power will eventually fall from peak levels, the equity is mispriced for several reasons:
Profoundly Depressed Valuation on Normal Earnings -
*EBITDAR, which removes the rental/leasing expense, is used to compare airlines to account for differing levels of leasing/ownership.
Hard Catalyst/Return of Capital - EL AL cannot issue dividends or buy back stock until the end of 2025 because of a Covid bailout. In the meantime, net debt has declined from $1.5 billion in Q324 to $376mm in Q324 and will grow to a net cash position in the middle of Q125.
Enhanced Earnings From COVID Restructuring and New Management- In conjunction with US Investor Kenny Rozenberg’s bailout and purchase of a controlling stake in 2021, EL AL reduced its workforce by 20% and is implementing an ambitious five-year plan for enhanced capacity growth and profitability.
Constrained Supply Post War - EL AL will continue to enjoy macro tailwinds, at least through 2025 and possibly longer, given the continuing threat from the Houthis and the overhang from the Turkish government’s support of Hamas (Turkish Airways was the #2 carrier at Ben Gurion).
EL AL equity presents an asymmetric risk/reward for the above reasons. A depressed valuation based on conservative numbers supports the downside. On the upside, the equity simply needs to trade in line with its peers to justify a 3-4x increase in the share price.
Normalized Valuation
To reiterate what was said above, this thesis is not premised on continuing geopolitical turmoil. Instead, this bet is based on the conviction that EL AL can simply return to the profitability levels it generated before the war, which were some of the first "clean" quarters after Covid and restructuring.
In their Q124 Earnings Deck, EL AL provides some helpful information for analyzing how much normal EBITDAR the business can generate :
This 2023 Adj. Number of $497mm shows the trailing EBITDAR from Q4 2022 - Q3 2023, which excludes the impact from the first few months of the war, which began in October of 2023.
Granted, the first 9 months of 2023 were a strong period for commercial aviation in general. However, EL AL wasn’t even running at full capacity during this period, given the need for heavy maintenance on aircraft that had been mothballed due to COVID. Pilots sidelined during Covid also needed to be retrained, further limiting capacity and artificially inflating costs. Nonetheless, the business generated FCF after all CapEx and debt service:
In the column showing Y2023 Adj., the company highlights the $92mm in FCF they generated in 2023 (the major difference between Y2023 and Y2023 Adj. relates to COVID deferrals of principal and interest pushed out to 2023). The fact that the business was FCF-positive is significant since it provides a floor for earnings even in the unlikely event that performance reverts to its pre-war levels. Regarding the margin of safety, $92mm of FCF on a $922mm Market Cap represents close to a 10% cash-on-cash yield.
Valuation Relative to Comps
Global Airlines operate relatively similar business models (same planes, same fuel, same airports), with the main differences relating to ancillary revenue streams, percentage of fleet that is leased versus owned, and leverage. The median EV/EBITDAR for International Airlines is ~6x:
At 6x $497mm of 2023 Normal EBITDAR, EL AL’s equity is worth $3.4 billion or $7.50/share relative to the current $2.07/share price.*
*$EL AL’s stock trades on the Tel Aviv Stock Exchange and is quoted in Agorot (100 Agorot = 1 NIS/Shekel)
This valuation is based upon the current net debt level of $376mm, but EL AL has at least two quarters and possibly more of outsized FCF generation, which should drive further equity upside:
Upside Scenario / Post Fleet Renewal Valuation
For reasons outlined below, there’s a strong case to be made that EL AL deserves to trade at a premium valuation relative to its peers:
Commercial Aviation is essentially a commodity service with limited differentiation among the major carriers. However, EL AL has a reputation for the best security in the world. Planes are equipped with anti-missile systems, and undercover agents (carrying concealed firearms) sit among passengers on every international flight.
80% of its pilots are sourced from the Israeli Air Force, which provides a unique labor pool.
Most airlines run with net leverage. EL AL will have NET CASH by the middle of Q125, given their earnings will remain elevated for Q424 -Q125 and possibly through the entirety of 2025.
Passenger growth in EL AL’s home market has been running >10% from 2010-2019
EL AL owns 60% of its fleet, which has become increasingly important given the chronic undersupply of new planes from Boeing and Airbus:
In 2023, EL AL announced a five-year strategic plan to expand its fleet and monetize ancillary services like its Frequent Flyer Program (FFP). Relative to other airlines, EL AL’s loyalty/branded credit card programs are underpenetrated:
With new capacity, EBITDAR and FCF will grow to record levels supported by the strong organic demand in the Israeli market:
If you were counting, we listed eight bullet points demonstrating why EL AL deserves to trade above the industry average of around 6x EV/EBITDAR. For the sake of conservatism, however, if you use the industry average of 6x but give them credit for $634mm in post-fleet renewal EBITDAR, you get $8.70/share.
Fleet renewal will happen gradually over the next few years, beginning with the 787s next year:
Return of Capital/ Investment in EL AL Frequent Flyer Program (FFP)
While the valuation disparity speaks for itself, there are hard catalysts next year that could accelerate the repricing of the stock. By way of background, the near-death experience in Covid forced a dramatic cost restructuring and brought in new management. However, in conjunction with loan guarantees from the government, the company agreed not to return capital until the end of 2025:
Now that we are entering 2025, the return of capital will become an important part of the story. While dividends or a buyback would be accretive, M&A in the loyalty/credit card space may represent the best use of capital. Co-branded credit cards and loyalty programs are massive profit centers for other airlines. This is low-hanging fruit for EL AL since only 356,000/2.6mm of its Frequent Flyer Members use their co-branded credit cards (this still represents 10% of total credit card spending in Israel).
In October 2024, EL AL bid for 45% of Isracard (TASE: ISCD), an Israeli-based credit card provider with 40% market share. However, the deal fell through because Isracard demanded that due diligence be completed by a specific deadline.
M&A can be risky, but there’s a proven business case in this situation based on other airlines' experience, so it could be hugely accretive with low risk. In the 9 months ending September 30, 2024, revenues from loyalty programs were $24mm, but only ~13% of the FFP members are using the credit card:
You can’t force M&A, especially since there are a limited number of targets in the Israeli market. However, the good news is that EL AL has an absurdly low valuation and a ballooning cash balance, so they can just buy back their own stock if they can’t find anything to buy.
Risks
The most significant risks facing EL AL are reputational and political. There’s been a lot in the Israeli press that EL AL has taken advantage of their customers during the war. This reaction is understandable, but there are a few counterpoints worth considering:
Unlike US airlines, EL AL received limited direct money from the Israeli government during COVID. Instead, the government guaranteed loans and oversaw the company's recapitalization. At some level, the Israeli government has given over control to shareholders who accepted downside risk during the uncertainty of COVID in exchange for a share of the upside.
EL AL has provided pro bono services for Israelis during the war, like rescuing Israeli soccer fans from a pogrom in Amsterdam
EL AL added expensive capacity during the war, ultimately benefiting Israelis who were shut out by other carriers.
The other significant risk is that start-up airlines will enter the market. However, Israel passed a law compensating passengers for substantial flight delays, which will keep ticket prices high for new entrants.
Conclusion
"The Middle East is a region where the expected does not happen, and the unexpected happens all the time."
— Abba Eban, former Israeli diplomat and historian
Why does this opportunity exist? To be this cheap, there’s going to be many reasons.
While moving in the right direction, the Middle East is still “hot,” and the Iranian regime is still a hugely destabilizing influence.
Israelis have a love/hate relationship with EL AL and remember the “bad old days” of government ownership and poor service.
From our conversations with Israeli hedge funds, it appears that investors fear EL AL’s share price will fall with news of other carriers coming back and the inevitable decline from peak earnings. This is a real risk in the short term but irrelevant for the long term. It is also worth noting that as of the time of this report (late December 2024) and EL AL’s Q323 conference call in November, few of the major carriers have returned:
If you are a fleet manager for Delta or United, you have rebooked your planes on other routes, which are ticketed months in advance. When other carriers decide to return, it will take months for the new capacity to come online.
Over 50% of EL AL’s shares outstanding are locked up by Kanfei Nesharim Aviation. The free float is relatively small at ~$500mm in Market Cap (daily volume is decent at ~2.2mm shares), so EL AL is essentially a stub equity many investors have never heard of.
This is an Israeli company with no ADR. Conference calls are in Hebrew. Financial results are reported in dollars, but the stock trades in Shekels.
Given the big move in EL AL’s stock price, investors assume they missed it:
But EL AL is CHEAPER now than it was before the war!
In conclusion, the geopolitical situation in the Middle East is so fluid and uncertain that it is understandable that investors would demand a robust margin of safety for this investment. Not only is EL AL strategically so important to the Israeli economy that the government won’t let it fail, but we think ~2.6x EV/ Normal EBITDAR is statistically cheap for a world-class carrier providing an essential service to a wealthy, landlocked country that thirsts for travel. While commercial aviation is a tough business, EL AL has a lot going for it: a pristine balance sheet, the longest stage lengths on average in the world (long international flights are more profitable than shorter flights), an underpenetrated loyalty program, and the potential for a substantial return of capital in the near future. With a dramatically deleveraged balance sheet and several more quarters of windfall profits, the risk/reward is asymmetric: There is downside support from free cash flow and a depressed trading multiple and the opportunity to earn a minimum of 3-4x on the upside by trading at parity with other airlines. The upside could be much greater if EL AL successfully expands its Frequent Flyer Program through a co-branded credit card deal. In the meantime, the market is discounting that 2025 might be another year of record profits, which is increasingly likely given the recent headlines.
I appreciate your support. Please let me know if you have any questions.
Sincerely,
Adam Buckstein
Managing Member
646-353-8314