Description

Sears Canada trades for little more than 2x EBITDA and has a balance sheet with significant excess cash.  The retailer is healthy and doing well.  In Q3 2008, Sears Holdings quietly increased its stake in Sears Canada from 70% to 72%.   Though a 2% increase in ownership seems small, the parent company’s acquisition of over 1.5 million shares is significant in my view because it is unprecedented and a large percentage of shares traded in the quarter.

Also, in December 2008, a “top up” agreement provided to Vornado in 2005 - and extended by an Ontario Securities Commission ruling to all minority shareholders who tendered in the failed going private attempt years ago -- expires.  The implication is that Sears and/or Sears Canada will now be able to pay in excess of $18 per share (in a dividend, going private transaction, sale or any other means) to all remaining minority shareholders (now less than 28% of shares outstanding) without having to pay the same premium on the 16+ million shares that were tendered years ago.  

I believe the combination of 1) an absolutely cheap stock, 2) a motivated and smart owner (Lampert), 3) significant and unprecedented insider buying by the controlling shareholder and 4) the elimination of a costly impediment to a transaction add up to make this a very attractive investment.

Please refer to my write up years ago on the company.  The annual reports are excellent.  Cash flow has improved over the years and Canada’s economy is healthier than that of the US.  

The key risk in the investment is that Sears Holdings, acting through Lampert, treats minority shareholders poorly and/or does nothing.  

The mitigating factors are the following:

Ackman’s Pershing Square now owns a majority of the minority shares outstanding and is reputationally incentivized to protect all minority shareholders as they have done in the past.  Pershing Square acquired 673,500 shares in October 2008 bringing their stake to 18.63 million shares or 17.3% of shares outstanding. 

In August 2006, the Ontario Securities Commission ruled in favor of minority shareholders.  If Sears Holdings or Lampert attempted to squeeze out minority holders unfairly, I believe the Commission would be inclined to assist minority holders.

The business is doing well - 2004 EBITDA has increased from $390 to $495 million in 2007 and it is up again in 2008.  Also, Sears Canada has significant excess cash amounting to approximately $500 million. 

Catalyst