AVALON HOLDINGS CORP (AWX) stock intrinsic value fair value estimate & owner earnings analysis

Avalon Holdings runs two quite different businesses side by side: a waste-disposal brokerage and captive-landfill management operation (which also includes salt-water injection wells used to dispose of oilfield wastewater in Ohio), and a golf, country club and resort business built around a flagship resort in Warren, Ohio, plus several other clubs in Ohio and Pennsylvania. Revenue has grown steadily over the last decade, from about $61 million to roughly $84 million. But the cash actually left over for owners, after paying for the capital the business needs just to keep running, has been far less steady. For several years, the company was spending heavily — first building out its injection-well network (one well was shut down by state regulators for several years over concerns it could trigger earthquakes, before eventually being allowed to restart under revised terms) and later expanding golf and resort facilities. In several of those years, that spending consumed all of the cash the operations produced and then some. The last two years look much better: capital spending dropped sharply and owner cash flow after reinvestment came in at healthier levels. However, the company has told shareholders that the coming year's capital spending is expected to jump back up, mostly to remodel hotel rooms and other areas of the flagship resort — so the near term is likely to look more like the leaner years than like the recent ones. Because spending comes in large, multi-year waves rather than smoothly, we think it's right to value this business on a full spending cycle rather than on its two best recent years. Our base case assumes the coming year is a heavy reinvestment year, spending gradually eases back over the following two years, and owner cash flow then settles at a modest run rate — growing slowly with revenue — well below the recent peak. On that basis we estimate the shares are worth around $4.30 today. Our bear case (roughly a one-in-ten downside) assumes the earlier heavy-spending pattern repeats: renovation and compliance costs, including a possible new regulatory restriction on the injection wells, consume most or all of the cash the business produces for an extended stretch. In that scenario the business is worth very little on our numbers — modestly less than zero per share — not because of debt, but simply because the business would be spending more to maintain itself than it earns. Our bull case (roughly a one-in-ten upside) assumes the injection-well build-out really is behind the company, the current resort renovation is a one-time refresh rather than the start of a new multi-year cycle, and owner cash flow settles near the better of the last two years and grows modestly from there. That scenario would value the shares at roughly $10.60. Given how much of every case's value depends on what the business earns many years out, and how sensitive that is to how the current renovation cycle plays out, the margin-of-safety price is about $2.15 per share, and a higher figure would assume the next couple of years actually confirm a return to modest capital spending, with no new trouble at the injection wells. One accounting judgment worth flagging: we build owner cash flow from operating cash flow and strip out working-capital swings and the growth portion of capital spending, leaving only the upkeep portion. Because this company's spending comes in large waves, this can look unusually harsh in peak-spending years and unusually flattering in light years; we averaged across a full decade — including both a heavy-spending stretch and the recent lighter one — rather than anchoring on the two best recent years.