Note: Hostess stock is down about 8% as I write this; the warrants are down 10%. Make sure you check for an updated quote on both.
My Focused Compounding co-founder, Andrew Kuhn, recently wrote up Hostess Brands (TWNK) common stock on the member site. Today, I put up a link on my Twitter noting that the company’s CEO is leaving and the Executive Chairman (billionaire Dean Metropoulos) will assume additional duties in the interim. From these two facts, you can probably guess Andrew and I have been looking at Hostess.
That’s true. But, this post isn’t going to be a write-up of Hostess stock. It’s a good business with very strong brands (most famously Twinkies). But, it’s also highly leveraged. Hostess Brands is essentially a publicly traded LBO. And, in the past, Metropoulos has flipped the food companies he’s turned around (example: Pabst Blue Ribbon 2010-2014) fairly quickly.
The above suggests there may be two important limitations on Hostess Brands common stock:
1. The company is so leveraged the stock may be unsafe even if the brands are safe
2. The company may be sold within 5 years, limiting the stock’s long-term potential
Downside protection and unlimited time for your idea to work out are usually two of the biggest advantages a common stock holder has over an option holder. If, in this case, the common stock itself is a very leveraged bet and is less likely to be public in 5 years than is normal – you might want to consider buying options instead.
Or better yet: long-term warrants.
Hostess has publicly traded warrants (they trade under the ticker TWNKW – that’s TWNK with an extra “W”) that expire on November 4, 2021 (so, just over 4 years from now).
You need two warrants to get one share of common stock. So, I’ll simplify things by talking in terms of a “pair” of warrants. A pair of warrants are exercisable at $11.50 a share. However, they really must be exercised once the stock exceeds $24 a share, as you can see from this quote taken from the prospectus:
“Once the Public Warrants become exercisable, we may call the Public Warrants for redemption:
• in whole and not in part;
• at a price of $0.01 per warrant;
• upon not less than 30 days’ prior written notice of redemption to each warrant holder; and
• if, and only if, the last reported sale price of the Class A Common Stock equals or exceeds $24.00 per share for any 20 trading days within a 30 trading day period ending on the third trading day prior to the date we send the notice of redemption to the warrant holder.”
So, if you buy 2 warrants today, what you get is: 1) 4 years during which you only need to put down the price of 2 warrants instead of the price of the common stock (as of yesterday, the common stock was over $13 a share and two warrants were priced under $4 a share) and 2) the 4-year possibility of upside limited to movements in the stock price between $11.50 and $24.
So, am I recommending you buy Hostess warrants?
No. But that’s because I’m not ready to recommend you buy Hostess stock.
What I am recommending is that you look at Hostess Brands in general and the warrants in particular.
I was talking to someone who had analyzed Hostess Brands stock recently and asked him: 1) Okay. That’s your appraisal of the stock. Now, what’s your appraisal price for the warrants? 2) If you were going to invest in Hostess, would you do it through the common stock or the warrants?
He didn’t have an answer to those questions. Why? Because, he hadn’t really looked at the warrants at all. Looking at the stock just seemed simpler.
In my last post, I said “As a stock picker: Your job is to find a great business no one thinks is a great business yet.”
Well, looking at a security that some people aren’t thinking about at all is always a good idea. Other things equal, if you know more people are analyzing the common stock than the warrants – you should start by analyzing the warrants.