ValuePlays

Just do not understand this one…what are they thinking???

Press Release:
Target Corporation (NYSE:TGT) disclosed today that after a comprehensive evaluation of various real estate structure ideas proposed by Pershing Square over the past six months, it has decided not to pursue them further. Following a thorough review of the transaction outlined by Pershing Square by members of Target management, Board of Directors and outside advisors, including Goldman Sachs (GS), the company has concluded that the potential value created, if any, is highly speculative and insufficient to merit pursuit of a transaction given the costs, strategic and operating risks, and loss of financial flexibility related to executing the proposed transaction. These concerns are heightened in the current economic environment.

Analysis of the most recent Pershing Square idea revealed that concerns previously expressed by the company remain. These include:

* The validity of assumptions supporting Pershing Square’s market valuation of Target and the separate REIT entity,
* The reduction in Target’s financial flexibility due to the conveyance of valuable assets to the REIT and the large expense obligation created by the proposed lease payments, which are subject to annual increase,
* The frictional costs and operational risks, including tax implications, of executing Pershing Square’s ideas, and
* The risk of diverting management’s focus away from core business operations over an extended time period to execute such a complex transaction, particularly in the current environment.

One additional earlier concern, relating to the adverse impact the company believed the proposed structure would have on Target’s debt ratings, borrowing costs and liquidity, has been partially addressed in the current version of Pershing Square’s proposal, though we believe meaningful risk remains.

“Target has a strong record of engagement and open dialogue with shareholders over many years and we respect the spirit with which Pershing Square’s real estate ideas were presented,” said Gregg Steinhafel, president and chief executive officer of Target Corporation. “We gave these ideas a full and complete review, including numerous meetings between Pershing Square and Target senior executives and a meeting between Bill Ackman, the Managing Member of Pershing Square, and several members of Target’s Board. Target does not share Pershing Square’s perspective that execution of this proposed transaction will generate measurable shareholder value over time and believes the risks, particularly in light of the serious challenges facing our retail and credit card segments in 2008 and 2009, are significant. Both our Board and executive team remain firmly committed to generating value for our shareholders and expect to achieve this objective over the next 3 to 5 years through our continued, thoughtful focus on our current strategy and core business operations.”

So, let’s review. Here is Ackman’s proposal:

Let’s address Targets concerns:

– Market Value: Ackman specifically gives a range of potential values in the presentation based on what current retailers / REIT’s are selling for today. To imply these are wrong is not logical. The market values them at what they value them at, it isn’t wrong.

– Flexibility: This is why Ackman recommended to a partial 20% IPO of the REIT. This would allow management gauge how it is valued by the market and still allow management the financial flexibility having an 80% owned REIT subsidiary comes with. It also, as a REIT increases the flexibility of Target to buy real estate from current landholders

– Frictional costs and operational risks: Can anyone tell me what that means? What operational risk? You are your REIT’s sole tenant. The only “risk” is if you decide not to pay yourself rent. As far as frictional costs, this is just irrelevant. If you are going to monetize a currently worthless asset (in the market’s view), then of course there will be costs involved but they will be dwarfed by the asset’s new value.

– Focus: Can’t walk and chew gum? This borders on absurd. You are creating a REIT with one tenant, yourself. Lock the lawyers in a room for a week, let them draw up the paperwork and sign it at lunch one day. Tell me how the fashion departments purchasing manager’s job will be affect by the REIT plan. Please anyone tell me what I am missing..

Here is the sentence every current shareholder ought to pay very close attention to. “Both our Board and executive team remain firmly committed to generating value for our shareholders and expect to achieve this objective over the next 3 to 5 years….”. Basically, the next 2-3 years are dead money.

Think about it. When do you expect a meaningful turnaround in the macro environment. 1 year? 2? If it takes two years, Target will not turn ahead of it. If anything, one could argue Target may take longer as any ground they made on Wal-Mart (WMT) the previous 4 years was wiped out and then some in the last one.

Target is viewed as a pricey store. True or not is irrelevant. Perception is reality. Just ask Citi’s (C) CEO Pandit. It takes a ton of advertising to change the perception of a retailer and in a recession and dreadful retail environment, the cash to do that is limited.

Ackman’s plan allows shareholder to profit in the short run from the REIT spin and then profit down the road when retail turns around. Win win.

Target management ought to know….Ackman is not going away. Why? He is right and has more invested in the company than they do. He was right with McDonalds (MCD) when it spun Chipotle (CMG) (it should be noted that the CFO of McDonald’s at the time just joined Pershing).

Mr. Ackman will take time and come out guns blazing after the new year….

Disclosure (“none” means no position):Long WMT, MCD, none
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