Carl Icahn’s announcement that he has a 9.4% stake in Family Dollar Stores (FDO) has the markets in a tizzy. Some speculate that dollar stores in general are prime for consolidation. Others believe that Icahn simply sees a business that can better control costs while delivering improved top- and bottom-lines.
The rumors flying around the discount space at the moment means the next few weeks should be very interesting from an M&A point of view.
So what’s the activist investor up to?
Carl Icahn paid $266 million for his FDO shares, most of which are American-style call options exercisable at $38 per share and open until April 8, 2016. The total cost to Icahn assuming the exercise of the shares underlying the options is $622.4 million or $58.22 per share. Considering the billionaire’s got almost two years to exercise the options combined with Monday’s $8 move to $68.61 by the close, it means he’s already generated $110 million in paper profits without even starting discussions with Family Dollar Stores.
Icahn Capital LP, a firm controlled 100% by Icahn Enterprises (IEP), Carl Icahn’s personal holding company, stated in its June 6 filing with the SEC that it intended to have discussions with management, believing FDOs shares are undervalued. Options available include improving the discount retailer’s operations or pursuing strategic alternatives such as a sale to private equity or a merger with Dollar General (DG).
At the end of November, Carl Icahn delivered a presentation that shows the value of activist investing. Over a five-year period between November 2008 and November 2013, if investors bought shares in 20 companies at the exact time an Icahn representative joined the boards in question, they would have achieved an annualized total return of 28%.
Whatever Carl Icahn decides to do, you can be sure it will be to his benefit … but not necessarily Family Dollar Stores’ benefit.
Family Dollar Stores
Like a deer caught in the headlights, FDO is now scrambling to get ahead of this story. CEO Howard Levine owns 8.4% of the company and is the son of the company’s founder. He’s been there a long time, becoming very adept at fighting off seasoned investors like Bill Ackman and Nelson Peltz.
The latest salvo by Carl Icahn forced Family Dollar’s board to adopt a one-year poison pill that prevents Icahn from acquiring more than 10% of its shares without paying a control premium. If Icahn exceeds 10% ownership, there is a triggering event that gives existing right holders (Icahn excluded) the opportunity to purchase preferred shares that convert into FDO stock at a 50% discount to the current share price, thereby seriously diluting its stock costing and costing Icahn a whole lot of money should he actually wish to acquire the entire company.
With Nelson Peltz’s representative (Edward Garden) already on the FDO board — Garden was the only dissenting vote for the shareholder rights plan — it gives them some additional time to consider the options available. The vultures are circling, but if they’re serious about buying FDO, this move allows the board to negotiate better terms with Carl Icahn, Peltz or any other activist investors looking to gain control of its business.
But I’m not sure this makes long-term sense for FDO or any other firm trying to fend off a takeover.
Forbes contributor Walter Loeb, whose missives about retail I enjoy very much, wrote an article about dollar stores a year ago. In it, he wonders if we really need 40,000 of the suckers.
Especially puzzling to Loeb was FDO’s announced plans to triple its number of stores to more than 23,000. A year later, those plans look like they’re coming unhinged as it now expects to open as few as 350 per year — 30% less than the pace it was on as recently as 2013. In April, it announced that it was closing 370 stores and an unspecified number of jobs.
It’s not just the number of dollar stores that’s so bothersome. It’s the fact that so many other companies, including Walmart (WMT), are also seeking to corner the discount market. God help them if the economy actually improves and shoppers decide they’d rather go upscale, moving on to Kohl’s (KSS), JCPenney (JCP) and — heaven forbid — Macy’s (M). If that happens, you can turn out the lights on dollar stores.
For these reasons, I believe a Dollar General, Family Dollar combination makes a heck of a lot of sense. As Walter Loeb concludes, that 40,000 is “a number that may not be sustainable and will result in a battle of survival of the fittest.”
Carl Icahn knows one thing for certain: Family Dollar isn’t anywhere near the fittest when it comes to dollar stores.
As of this writing, Will Ashworth did not own a position in any of the aforementioned securities.