DuPont Spins Conoco
What's a Fool to do?

by Ann Coleman (TMF

ALEXANDRIA, VA (July 23, 1999) -- Another spin-off is in the works for some Foolish Four investors. DuPont (NYSE: DD) is spinning off Conoco (NYSE: COC) this week and next. This is an interesting spin-off, very differently structured than the GM/Delphi spin-off that we recently went through. This time, DuPont shareholders have a choice.

You might call this a voluntary spin-off, and it's a very nice idea. DuPont shareholders have been offered a chance to exchange some of their DuPont shares for Conoco shares. Unlike many spin-offs, the choice to accept shares in the baby company is strictly up to the individual investor. I like it!

Since this is a voluntary spin-off and no one has to accept the Conoco shares, Foolish Four investors can simply ignore the whole issue if they like. For those whose aim is to follow the strategy strictly, it's a non-event. Remember, this is the set-and-forget portfolio -- the round-the-world cruise portfolio -- the 15-minutes-a-year portfolio.

You don't have to do a darned thing. To put it more technically, if we were holding DuPont in the Foolish Four real money portfolio, we would have simply said, "No, thanks" to the offer. Also, if this kind of event had taken place during the backtest, we would not have accepted the Conoco shares.

But, well... maybe you want to know a bit more about this, mmmmm? That's not surprising, because the spin-off has been structured to be appealing.

DuPont is accomplishing two things with this spin-off. First, they are divesting themselves of an oil company so that they can better concentrate on their core business. Second, they are reducing the number of outstanding DuPont shares, a bonus for shareholders. (If you're fuzzy on why it's a good idea to reduce the shares outstanding, check this old article -- the the part about the benefits of reducing the shares outstanding starts in the middle: The Dark Side of Dividends.)

Both of these goals are in DuPont's best interest, so the spin-off has been designed to be attractive to shareholders. Here's how it works. You can (through your broker and for a fee) tender as many of your DuPont shares as you like up through August 6. For each DuPont share exchanged, you will receive 2.95 shares of Conoco. (Keep reading -- more on that later.) On the day that the exchange ratio was set, that represented an 18% premium. DuPont closed at $68 5/8 the previous day and Conoco closed at $27 3/8.

So imagine you own 100 shares of DuPont. If you could exchange those shares for 295 shares of Conoco, which would you rather have? One hundred shares of DuPont worth $6863, or 295 shares of Conoco worth $8076 ($27.375 x 295)? Even if you thought DuPont was a better stock, you could immediately sell your Conoco shares and buy DuPont. Or could you? (Keep reading.)

But wait. What about taxes? (IRA investors can skip this part.) This is a tax-free exchange, so you won't owe capital gains taxes on the exchanged shares, and your purchase date for the Conoco shares will be the day you bought DuPont. But if you sell the COC shares and rebuy DuPont in an attempt to capitalize on that premium, you will end up paying capital gains taxes on that sale. You'll probably end up paying taxes on those gains eventually anyway, but with taxes, it's always better to pay later.

Look at it another way. Say you were in the market for some Conoco stock. You could buy DuPont stock and trade it in for Conoco and get an immediate 18% profit. That's where Mr. Market comes in. Today DuPont closed at $71. The class B shares of Conoco aren't trading yet, but the comparable Class A shares closed just under $26. That's only an 8% premium. So you might not get the bonus you expect. AND you also won't necessarily get all of the Conoco shares you request. (The Class B shares are expected to trade at approximately the same price as Class A since there is no substantive difference between them. Any differences in price will likely be due simply to the ebb and flow of orders.)

Once all the tender offers are in, DuPont will match the number of shares offered with the number of shares available. There are a lot of shares available (about 440 million), but it's a sweet deal, so it's quite possible too many DuPont shares will be offered for exchange. If more Conoco shares have been requested than are available, you will only get a percentage of the shares you requested.

There's an exception to that: Odd lot shareholders (those holding fewer than 100 shares of DuPont) who have requested that all their shares be exchanged AND who were holders of record prior to July 7 can request "preferential treatment." If possible, all of their shares will be converted to Conoco. It's nice to see the small shareholder getting preferential treatment, but it's not goodness-of-heart at work here.

It's far more efficient for large companies to deal with larger shareholders. All those annual reports, proxy notices, calls to the Investor Relations Department, etc., cost money, so it's not in DuPont's interest to create a bunch of shareholders who were stuck with 6 shares after the spin-off.

Note that anyone can buy DuPont right now (as long as the trade settles by August 6) and take advantage of this deal. What I would expect to happen is that the premium will continue to erode. By the time the offer closes at the end of next week, my feeling is that there won't be much advantage to the deal for small shareholders. The arbitrageurs will still be interested, but they get off on the idea of making $0.25 per share because they trade in the zillions of shares. For you and me, I doubt it will turn out to be worth the effort.

Fool on and prosper!

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        DJIA     -0.53%  -0.55%  19.62%  19.15%
        S&P 500  -0.30%  -1.15%  10.97%  11.24%
        NASDAQ   +0.30%   0.25%  22.79%  24.47%

    Rec'd   #  Security     In At       Now    Change

 12/24/98   24 Caterpillar   43.08     61.00    41.60%
 12/24/98    9 JP Morgan    105.51    133.56    26.59%
 12/24/98   22 Int'l Paper   43.55     54.63    25.43%
 12/24/98   14 3M            73.57     89.50    21.65%

    Rec'd   #  Security     In At     Value    Change

 12/24/98   24 Caterpillar 1034.00   1464.00   $430.00
 12/24/98    9 JP Morgan    949.62   1202.06   $252.44
 12/24/98   22 Int'l Paper  958.12   1201.75   $243.63
 12/24/98   14 3M          1030.00   1253.00   $223.00

              Dividends Received      $49.99
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                            TOTAL   $5199.06