Street Yells Sell! As Lampert Buys Back 4% of Sears
The results for Sears’ (SHLD) second fiscal quarter are now out and, for most people, they are not very pretty. Year over year sales declines, net income down, lowered guidance. These things are, in essence, death to any retailer, or any publicly traded corporation for that matter.
Here are some headlines I read this morning:
Sears Falls Behind US Rivals - FT
Mr. Lampert, Fire Thyself - WSJ (I even chuckled at this one)
No Future in Sight for Sears Holdings - Motley Fool
Sears Holdings’ net profit falls 62%, more than expected - Marketwatch
Sears’ Q2 Profit drops 62% - AP
Needless to say, everyone was pretty pissed at Lampert and Co. A Zack’s analyst reiterated his “Strong Sell” on Sears’ shares. Even Sears had pretty dismal guidance, saying that full year EBITDA will no longer be higher, but merely comparable to last years’ EBITDA. Do you feel the dread?
On the other hand, do you know what I loved about this quarter? Here it is:
“During the 13- and 26- week periods ended August 2, 2008, we repurchased 5.6 million and 6.0 million of our common shares at a total cost of $437 million and $477 million, respectively, under our share repurchase program. Our repurchases for the 13- and 26- week periods ended August 2, 2008 were made at average prices of $78.22 and $79.34 per share, respectively. As of August 2, 2008, we had $206 million of remaining authorization under our common share repurchase program.”
That number, 5.6mm shares, represents 4.2% of Sears’ previously outstanding shares! In a quarter where the dismal is the norm, Eddie Lampert went out and basically told everyone to go fuck themselves. How else do you explain the horde of shares he bought?
When the shares were punished down under $80/share, I was prompted to comment:
“Sears (SHLD) is now under $74/share, causing yours truly to contemplate selling a kidney to buy more shares.”
I guess Eddie agreed. Most companies take a few years to buy back 4% of shares outstanding. Sears Holdings, boys and girls, is not most companies.
But where did the cash come from? If you read the headlines, you’da thunk Sears would be near bankrupt, a fate that has been oft-speculated. But amidst the pain, Sears made another good move this quarter: inventory reductions nearing $500mm.
One of Lampert’s admitted mistakes so far in the Sears journey was the inventory buildup before Christmas last year, a move that ended up hurting as the economic downturn took hold. Viewing this quarter’s move, he seems bent on not committing the same mistake twice, a trait that strikes me as a rather important part of Lampert’s nature.
So the net effect of these two events is that a $500mm inventory reduction, in essence, fueled a share buyback of $400mm+ in the second quarter. This was probably not by intention, but nonetheless is an outcome of the process. Capital was taken right out of the business and used to enhance shareholders’ proportionate interest in their company. Lampert is the prime beneficiary of such a tactic, by the way, so he isn’t doing this just for giggles. Before you say “he was buying shares at $135, too,” I’ll say this, again: I don’t think Eddie makes big mistakes twice, and the massive buyback this quarter is no accident.
What is the most ironic face-slap of today’s action? Enduring the doom and gloom from the financial press, investors bid the stock up almost a dollar and a half. While the absolute move is a small one, the direction is important. Not only did Sears rise, it rose on a day that the market as a whole fell almost 1.5%! Lowe’s was down, Home Depot was down, WMT, TGT, and JCP were down, but somehow Sears was up, on a day that the Wall Street Journal told Lampert to fire himself (see above). Maybe it’s just me, but that’s tremendously interesting.
If you read Todd Sullivan’s Valueplays, and you should, he put up some short selling “math” today, a look at how the shares outstanding are held. Here’s the main takeaway:
Holder Name—Shares—%
ESL Investments, Inc.—65,639,184—51.0%
Fairholme Capital Management LLC—16,110,090—12.5%
Legg Mason Capital Management, Inc.—12,503,168—9.7%
Pershing Square Capital Management—6,746,568—5.2%
ClearBridge Advisors—4,789,523—3.7%
Perry Capital—2,694,95—2.1%
Davis Advisors—2,020,96—1.6%
Dalal Street, Inc.—517,608—0.4%
T2 Partners Management LP—50,625—0.0%
Greenlight Capital, Inc.—11,240—0.0%Total held by above—111,083,919—86.2%
Total Outstanding—128,800,000
Short Interest—33,656,888—26.1%
Share Not held by Above Holders—17,716,081—13.8%
As you can see above, most of the shares are held by Superinvestors. Lampert owns most, obviously, followed by Bruce Berkowitz, Bill Miller, Bill Ackman, Richard Perry, Mohnish Pabrai, Whitney Tilson, David Einhorn…the list goes on and on. These guys, together, hold over 85% of the shares outstanding. Your author owns a somewhat smaller, but no less important stake.
Thus, if 85%+ are held by long term value investors, and we see that 26% of the shares are sold short, a huge amount considering the public float, a short squeeze of massive proportions could be in the workings. I’m not saying this will occur, or even that probability is in our favor. But one thing is clear: there is an extreme polarization of opinion on Sears, between the value investing world and everyone else. Whomever is correct will reap the spoils, and to the defeated go nothing but destroyed hopes for future riches.
Disclosure; Long Sears
First off, I wanted to commend you on your analysis. I agree on your main points and am your silent partner in the business. We are in good hands and I sleep well at night, knowing Mr Lampert is still awake and burning the midnight oil.
To date, the long thesis for SHLD has been the liquidation value. While I agree that a calculation of liquidation value is prudent, especially when the top line is in decline, I feel this is a hedge - the ultimate value in SHLD is as a going concern. For me, the ideal equity is one that I can pass on to my grandchildren when I die. The only way SHLD will fit this bill is if its alive and doing well. (I’m 25)
Sears has many many assets (real estate, brands, websites, etc.) but the current return on those assets, even when weighed against its grossly under-stated book value, is poor. Consider the Kmart segment: Its 1380 stores for the last 26 weeks have an operating income of $1 million per the latest 10-Q. If you took the book value of these stores and stuck them in T-bills, you’d be a better return.
This is why SHLD is a great investment. It can do so much better if it just got more juice out its puzzle pieces. But the puzzle is still in pieces, and so we must wait. And having the balance sheet that we do, we can afford to prune in some respects and advance in others while the competition makes a wholesale retreat.
JD,
Excellent thoughts, and I agree. I don’t think I ever argued that Sears would indeed be liquidated, but that the value inherent in the assets was much higher than the market price. Clearly, it exists. Your point that they are earning low returns is the one that I’m sure haunts Eddie most.
The great thing about the investment is, those assets can have much better use for Sears shareholders and the man at the top is ready to do it. The problem for most onlookers is that they extrapolate current results into the inevitable future. So while we don’t know how Sears will look in the next few years, I can’t build you a spreadsheet that says ‘here’s what Sears will earn in 2011′, we know that the optionality inherent in the business is massive, and we have Eddie “burning the midnight oil,” as you said, to figure out which option is best.
Thanks for the thoughts.
jeff, i went back & read your july 17 post on shld. i liked the conservatism of your analysis. your hard-nosed willingness to ask “what is this worth” in a worst case type scenario where lampert decides his retail operations are a bust & sells them, unable to capitalize on the lustre of the holding co’s various brands, ‘iconic’ more in terms of their name recognition & history than in the goodwill of their actual results over the last good many years, is refreshing. on the retailing side walmart, target, costco & others have been eating sears’ & kmarts lunch, so the sale of its retail brands has to be considered a more than plausible “what if?” some where down the road. 2.5 bil for sears canada & 3 bil for sears holding co’s other brands seems a reasonable no. that leaves us with real estate carrying an implied current value of about 7 bil. as you pointed out thats about 28 per sq/ft. a barrons article you reference last yr shows a table comparing shld with a no. of different retailers’ EV/avg sq ft. shld was shown to be selling at a substantial discount to the others on that basis. all well & good as far as it goes. but is that the best way to be valuing real estate in an absolute sense? obviously, there is a certain arbitrariness in this kind of measure. a healthy retailer trading at a handsome multiple of earnings will always tend to sell at a premium EV to its avg sq footage. the real question is “what is the avg sq footage of prime retail space selling for today?”. considering the glut of retail space currently competing for spent up not pent up consumer dollars its a fair question. while i think its likely to be subsatntially more than the 28 per sq/ft that shld’s R/E is currently being valued at, i still wonder if anyone has come across some reliable stats.
its going to be very interesting to see how things play out with lampert & shld. and parallel to it, the biglari & sns story. the commonality of risks from deteriorating business trends vs the potential rewards from a successful turn around, combined with the embedded optionality in both cases due to substantial R/E values that can be monetized, is going to be immensely educational, imo. but hopefully not too expensive a one
disclosure: not quite willing to jump on the lampert/shld train yet…
Link,
Great comment. And indeed your concerns about Sears’ real estate is well-founded. I’m not sure that table is reliable in some sense either. Wal-Mart doesn’t trade where it does because it owns real estate, but because it is a great company with ever growing cash flows and massive supply advantages.
However, I do know $28/sq ft is extremely low. It’s just a low number, not indicative of what it could be worth in a sale. The point isn’t necessarily that Lampert will liquidate all the real estate, but that, from the standpoint of a control buyer or LBO operator, there is a huge undervalued asset(s) embedded in the company. My sum of the parts valuation is turning out to be even more conservative as I learn more about the brands. Lands End could be worth the entire number I put on brands.
So while I have absolutely no clue what Sears will look like in a few years, I’m positive it won’t look like this. It won’t be the same story. As JD pointed out above, you have a ton of assets earning sub-par returns. Lampert knows this and it can only continue for so long. He could make the stock go up 30 bucks in a day if he merely issued a press release that he was going to start selling real estate. He hasn’t, and its because he wants to increase his ownership in the company while the stock languishes. Buying shares for Sears does just that. He’s not a dummy, contrary to popular belief.
Regarding your last point, I think that I took the logic and applied it in both cases, absolutely. SNS I see a more operational, cash flow driven investment thesis though. The assets are merely a back-up. As you correctly pointed out here, every day that Sears’ retail struggles it becomes more of a play on all of those assets being put to good use. Steak N Shake just needs to recover its free cash flows and it’ll double or triple.
I believe Sears will be some combination of better cash flow from retail once the economy turns and some other unexpected uses of all of those beautiful assets. Lampert has plenty of plays yet left up his sleeve.
I find your analysis and posts extremely thorough and insightful. Thanks for your great work. Looking forward to more posts soon!