Ackman Totally Off Target

Mar.17.09 | About: Target Corporation (TGT)

Bill Ackman rose to prominence as a hedge fund manager due to his well published short position in MBIA (NYSE:MBI) on the heels of his presentation, Is MBIA AAA?

In an ironic twist of fate, the same analysis of the credit markets that lead Mr. Ackman to short MBIA ended up betraying him with Target (NYSE:TGT).

As Mr. Ackman focused on the value opportunity that might have been realized monetizing Target's credit card platform, he simply failed to see that it was the expansion of TGT's credit card receivables that was driving a good chunk of their sales growth.

And, as the credit crisis inevitably hit the TGT card portfolio, so too did we see the stock price collapse as consumers ran-up against their borrowing thresholds.

I know a hedge fund manager who was short TGT while Ackman was long. Turns out he isn't the only smart guy in town. Turns out there are two sides to a trade.

As a result of Mr. Ackman's mistep, Mr. Ackman's foray into TGT stock and call options with short-run expiries has been - simply - a disaster for his investors. 95% loss of capital with a fee on top...not exactly consistent with successful due diligence. The truth is, Mr. Ackman simply goofed on his Target call.

So now what?

Well, now the parade route for hubris is heading in a different direction. In his latest salvo, Mr. Ackman is trying to shake-up the board and seems intent upon monetizing Target's real estate portfolio in order to use the capital to buy back shares.

Institutional holders of TGT should summarily dismiss Mr. Ackman's latest idea as risky, short-sighted, and dangerous to TGT's retail operations.

Effectively, the sale leaseback concept asks the operating company to swap their wholly owned real estate for cash and then start to pay a "lease/rent" expense in the income statement of the Opco.

Effectively, if you present value the lease expense, what you have is just another example of the application of financial leverage in order to change the profile of the cashflow stream without actually adding any real value over the long-term.

Mr. Ackman's strategy is designed to juice the short-run stock price through share buybacks etc., while sticking the long-term shareholder with the levered balance sheet that would result from this financial approach.

This kind of leverage will only reduce Target's financial flexibility in the future.

The job of Target's board, and hopefully the sentiment of Target's institutional shareholders, should be to operate the best retail operation it can, without saddling the operating company with unnecessary debts or additional long-run operating expenses.

The value of Target's real estate is not "locked-up" as Mr. Ackman suggests. On the contrary, the absence of a need for TGT to fund its ongoing real estate operations from operating cashflow is a real and bona fide benefit that flows to shareholders as a result of the fact that 90+% of TGT's real estate is wholly owned.

Just because it doesn't show-up as a line item in the financials doesn't mean the cashflow benefit doesn't exist.

This dynamic is a sustainable source of competitive advantage that Mr. Ackman wants to throw away in pursuit of a short-run "pop" in the stock price.

To add insult to injury, now Mr. Ackman wants Target management to expand its food operations to build traffic, a notoriously low margin business.


Nobody would argue that Mr. Ackman isn't a smart guy, but he is far from infallible. Recent forays into Borders (BGP), AIG, and, of course, Target have been met with terrible investment results.

And yet now, he is somehow qualified to "chip-in" on how best to run a retail operation?

Hopefully the balance of Target's institutional shareholders will have the good sense to send Mr. Ackman back to his offices at Pershing Square in NY; if they are lucky, maybe he will ultimately punt his 10% position to them with his tail between his legs and leave them alone.

Mr. Ackman's financial strategy to gear the Target balance sheet at a time when the operating environment is stressed is foolhardy, ill-timed, and ill-advised.

Remember, Target's real estate only has solid long-run value if the value of the retail operation that sits upon it is vibrant and robust. One need look no further than SHLD for evidence of how real estate value suffers when the Opco struggles.

So, to summarize, Mr. Ackman's idea to add an additional operating expense to the Target Opco is - off Target!

Hopefully the board and the balance of TGT shareholders will take the appropriate stand against this reckless enterprise. And perhaps Mr. Ackman might awaken to the notion that financial alchemy was last year's news.

Disclosure: no positions