Late afternoon, on October 26, PICO Holdings announced that it would finally return excess capital to owners.
PICO will pay shareowners a Special Dividend worth $5 per share. This will drain the PICO corporate coffers of almost $116 million. Expect the dividend to hit your brokerage account around November 20.
The best part about the Special Dividend: it qualifies as a tax free “return of capital.” Upon receipt of the Special Dividend, most investors will reduce the cost basis in their PICO shares by $5 with no immediate tax consequences.
We say “most investors” because if you own PICO in an IRA or other tax deferred account, other rules apply. Given that most PICO shares are probably held in taxable accounts, the PICO Board did right by providing us with this temporary tax benefit.
Here is what the IRS says about return of capital:
“Distributions that qualify as a return of capital aren’t dividends. A return of capital is a return of some or all of your investment in the stock of the company. A return of capital reduces the adjusted cost basis of your stock. For information on basis of assets, refer to Topic No. 703. A distribution generally qualifies as a return of capital if the corporation making the distribution doesn’t have any accumulated or current year earnings and profits. Once the adjusted cost basis of your stock has been reduced to zero, any further nondividend distribution is a taxable capital gain that you report on Form 8949 (PDF), Sales and Other Dispositions of Capital Assets, and Form 1040, Schedule D (PDF), Capital Gains and Losses.”
For more information about this, see Topic 404.
JFK & PICO – A Big Week For Disclosure
We, and many other shareowners, have lamented the PICO Board’s heretofore unwillingness to return capital to owners and related secrecy. One witty investor wrote to RPN over the weekend: “PICO’s secrecy and our government keeping thousands of pages of information related to the assassination of President Kennedy for more than 50 years end the same way. What was the big secret?”
Another PICO observer said, “I’m not sure what all the prolonged lack of transparency was about. Who obtained any benefit from that?”
Several aspects of the Special Dividend are nice. It is tax-free. It is clean and uni-stroke. It will be paid quickly, as 2017 ends, so investors can collect the Special Dividend in November then only wait 5 weeks to sell for tax year 2018.
One of the PICO Board’s stated objectives was to preserve optionality. It achieved that goal. When the second tranche of Century Communities shares was unexpectedly block traded, the PICO Board was able to return this slug of capital by writing one check. This is nice.
But RPN calculates that greater value would have been created if PICO bought in as many shares as possible at $16 – a situation which persisted in April/May and August/September, then returned the leftovers in a Special Dividend.
RPN wonders if there would there have been much difference if PICO bought back a million shares in May and issued a $4 Special Dividend? Or bought back 3 million shares in April and issued a $3 Special Dividend?
We never wanted PICO to shout “share buyback” from the rooftops. We wrote multiple times that we desired the opposite. But PICO could have repurchased shares quietly in either Q2 or Q3 at great prices.
Upon hearing this opinion, one PICO owner said, “I don’t know why they didn’t do that. If PICO is sold in the next year, the benefits of the Special Dividend exist only at the margin.”
Despite all the secrecy and suspense, the PICO result is as T.S. Elliot wrote: “The world ends not with a bang but a whimper.”
RPN Valuation Exercise
Announcement of the $5 Special Dividend brings us to an important question: what is PICO worth going forward?
We estimate that post-November 20, PICO will have $35-$40 million in cash on the balance sheet. PICO’s going-forward annual burn rate is probably about $7 million. As RPN went to press, PICO shares were trading at around $19.75 per share. Subtracting the $5 dividend indicates that investors value the remaining assets in PICO at about $14.75. Subtracting out the cash of around $1.50 per share indicates investors value the Vidler portfolio at about $13.25 per share – call it $13 bucks for ease. Given that PICO has no debt and there will be no tax paid on a monetization, Mr. Market believes that the Vidler portfolio is worth about $300 million ($13 per share x 23 million shares = $299 million).
Deal Of The Century (Communities)
The $5 Special Dividend was made viable by the unexpected block trade consummated between PICO, Century Communities (purchaser of UCP) and the buyer(s) of the second tranche of approximately 1.15 million CCS shares.
Recall that under the UCP Merger Agreement, PICO was permitted to sell about 1.25 million CCS shares 61 days after the Merger, but could not sell the second tranche of about 1.15 million CCS shares until early 2018. However, much to our surprise, a buyer(s) materialized and CCS approved a sale of the second tranche several months early.
As PICO shareowners express gratitude on Thanksgiving, they can add this confluence of events, which made possible the $5 Special Dividend.
Follow The Money
Cash is fungible, so it is impossible for outsiders to track the Executive Bonus implications of the Special Dividend. Is it being paid out of the Arizona Long Term Storage Credits proceeds? Are 100% of the LTSC proceeds included in the Special Dividend? If the answers are “yes” and “yes,” then PICO CEO Max Webb and CFO John Perri, plus some Vidler employees, stand to receive a Bonus in 2017.
For 2017, the Mendell Energy oil and gas properties were sold for $10.2 million, near historical cost, but about $8 million above carrying value. The Arizona Long Term Storage Credits were sold about $12.5 million above historical cost. UCP was sold several million dollars below both historical cost and carrying value.
The Bonus won’t be a whole lot. The Gross Gain from the LTSCs was about $12.5 million, but that amount must be netted against Administrative Expenses. Both the oil and gas properties and UCP were sold at less than historical cost, so these transactions are ineligible for Bonus Calculation inclusion. Our best guess is the Bonus Pool for 2017 may sum to $300,000.
Speaking of Bonuses, when PICO first announced the Revised Compensation Agreements, the press release stated that Executive Bonuses were reduced from the original Juicer Version.
“Not so fast,” said RPN. It all depends on which assets are sold for what prices. Thus far, our caution has proven warranted.
Recall that the Juicer Bonus Pool calculation was mostly similar to the current one, except the former used carrying value as the starting point, whereas the current version uses historical cost. Shareholders revolted against the Juicer version because many of the assets had been written down, which would have given Juicer & Co. a benefit from their past incompetence.
The final result remains to be seen. Is the current Bonus Calculation is better for owners than the Juicer Calculation? We repeat our familiar refrain: no one knows. It all depends on which assets are sold for what prices.
5 Years Of Burn?
Don’t call your broker with a “Sell” order just yet. There should be more capital coming.
If our calculations are correct, once the $5 Special Dividend is paid, PICO will retain about $35-$40 million in cash in the bank account. Given an annual burn rate we estimate at about $7 million, this seems like a lot. It is 5 years worth of corporate expenses.
When informed about this, one PICO owner said, “Wow. That’s a lot. I did not realize they held on to so much.”
We are not sure what the PICO Board plans from here. But, if history is any guide, we are pretty certain about one thing: there will be no action for a while and there will be no transparency.
RPN Gives Thanks
We do our share of griping and complaining and second-guessing. That is our self-appointed job. Underneath it all, is a sentiment of gratitude for those who have made value maximization at PICO a reality. We thank Daniel Silvers and Andrew Cates, who fought value destroyers who were dressed in creator clothing. Mr. Cates departed PICO before receiving adequate compensation for his efforts. We thank Eric Speron for playing a strongly supportive role. Thus far, Messrs. Webb and Perri have been very good stewards of the PICO enterprise, providing greater clarity to owners and moving deals forward.
In conclusion, this group of value advocates, with strong support from an active shareholder base, has turned a PICO situation that was utterly miserable into an opportunity for value realization.