Much has been said regarding the ultimate future of Sears Holdings (SHLDQ)-- whether its retail operations can stabilize, the supposed value of its real estate holdings, and lately, the likelihood of bankruptcy. That last one, the b-word, scares most investors, and not without reason. In some cases, equity holders can get wiped out during bankruptcy proceedings, as debt holders are first in line for liquidation proceeds. But what so many continue to undervalue, and in some cases ignore, is the incredibly rich asset base. While entering bankruptcy would likely mark the end of a 121-year-old retailer, it could showcase what Sears really is -- a real estate and brands business worth a multiple of its market value today.
What it would look like
As Sears' earnings continue to cascade and the company sheds assets to raise additional cash, many analysts and investors (including plenty here at the Fool) are rightfully calling the demise of existing operations. Even though CEO and Chairman Eddie Lampert continues to express optimism about the retail business -- pushing stories about the growing online presence and Shop Your Way loyalty program -- the masses are likely correct in forecasting an eventual end to a longtime mall staple.
But after the Sears sign comes down, the company will still own the property and its names. As has been reported by bulls for years now, the property is worth a ton of money, and arguably much more than Sears' market value today. Sears owns in the neighborhood of 2% of U.S. retail space. Sure, much of that space is in undesirable locations, but a good chunk of it (north of 20%) is highly valuable "A" retail space.
So, in the event of bankruptcy, the interested parties may call for the liquidation of the retail business. Lampert has steadfastly championed the idea of a turnaround, but has mentioned multiple times that he would monetize assets if the situation called for it. As corporate bankruptcies are far more forgiving than personal ones, Sears Holdings could unload some of the more unfavorable debt (retail agreements, etc.) and reorganize the capital structure of the business. With many of its cash-generating assets already out the door, the remaining business could easily transition to a REIT (in addition to the remaining brands). Investors also need to keep in mind that much of the real estate is unencumbered, meaning that the company's debt load is backed not by these assets, but elsewhere. To say that Sears Holdings (note, not Sears the department store) has a liquidity crisis is a mislabeling. Equity investors are not nearly as threatened in a bankruptcy situation as many purport.
Exclusively smart money
In regard to Wall Street as a whole, this is certainly a contrarian opinion. But looking at Sears' major holders in proportion to its outstanding shares paints a rare picture -- more than 95% of the business is owned by some of the smartest investors out there, including Bruce Berkowitz's Fairholme Capital (a near 25% owner), Horizon Kinetics (a renowned value shop whose core fund has averaged a more than 11% annual return since 1996), and, of course, Lampert's own hedge fund, ESL Investments, which, in addition to his personal holdings, owns nearly half of the business.
Bears would say that this collection of billionaires holds on to Sears largely as a point of pride at this point, but that would be extremely out of character for every single one of them.
Wise investors will not try to determine the likelihood of a turnaround, but recognize the liquidation value of the business in comparison to its market value. In many cases, a liquidation figure is irrelevant unless the business is broken up, but that is a distinct possibility here, and therefore the low-end scenario should indeed be break-up value. Few are hoping for miracles with Sears, but even fewer understand that the company doesn't need one.
