The Strangest Special Dividend I've Ever Seen

This article is part of our Rising Star portfolio series.

I love to follow special situations in my Special Situations portfolio (hence the name). Special situations are often caused by transactions that create value where it didn't exist before.

But the keys here are to be able to figure out how the transaction creates value and what the stock could be worth.  Often the value created by such transactions is incalculable. And that's what we have with the recently announced special dividend from Sino Clean Energy (Nasdaq: SCEI  ) , a producer of coal-water slurry fuel in China.

The company is distributing to shareholders a contingent value right, or CVR, that enables owners to collect 90% of the proceeds received by the company in its lawsuit against Geoinvesting, Alfred Little, and the owner of SeekingAlpha. Shareholders receive one CVR for each share of the company they own.

The CVR mechanism is a particularly interesting special situation, especially if it's publicly traded following distribution. Investors often receive securities like this and simply sell them, regardless of the potential value. That non-economic selling often misprices the security, leading to the potential for big gains. But this Sino Clean Energy CVR does not appear to be publicly traded.

The striking thing about this whole situation is the extent to which it seems to take advantage of the recent furor surrounding special dividends and CVRs. Numerous companies have announced special divvies, including Diamond Offshore (NYSE: DO  ) , the soon-to-be-acquired optionsExpress, as well as Verisign, Freeport-McMoRan, and PACCAR. Usually those special dividends are paid in cash, though.

CVRs have recently become popular, especially among pharmaceutical companies where the value of future drugs is in dispute. And that's exactly the beauty of the CVR -- bridging a valuation gap. Sanofi (NYSE: SNY  ) structured its acquisition of Genzyme by issuing Genzyme CVRs (Nasdaq: GCVRZ  ) that pay out based on the performance of the drug Lemtrada. (My Foolish colleague performed a nice valuation of the CVRs, too.) Celgene (Nasdaq: CELG  ) also used CVRs in its purchase of Abraxis. Those Celgene CVRs (Nasdaq: CELGZ  ) try to capture value from Abraxane, a cancer treatment.

So the sticky part of the Sino Clean Energy CVRs is how to value them. One might need expertise in the actual lawsuit being filed in the New York Supreme Court. And then there's no guarantee that there's actually a huge payout from the suit, since the company suggests that a settlement is a possibility. And any payout that CVR holders receive is after trial expenses. So this CVR might be attractive if you received it for free. It looks like there are way too many unknowns to get comfortable with any valuation.

And that's why I call this the strangest special dividend I've ever seen.

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