The Lato Letter: Volume 1, Issue 6.

The Lato Letter: Volume 1, Issue 6.

Sears Holdings (SHLD-NASDAQ, $52.08) reported their fourth quarter results this morning and the results were TERRIBLE but we already knew that because the company pre-announced on December 27, 2011 that these results would be terrible.  The company reported fourth quarter earnings of $0.54 compared to earnings of $3.67 in last year’s fourth quarter.  So, what happened to the stock today?  At the time of writing the stock was up almost 15% to $59.70.

Sears Holdings has been a darling of short sellers, who for the last few years have been big winners, on the premise that the continued poor operating results would drive Sears into bankruptcy and the share price to zero.  The focus of the conference call this morning (the first time in its history as Sears Holdings that it has had an earnings conference call) was on the company’s liquidity and balance sheet.  The company’s CFO, Rob Schriesheim, outlined the debt structure of the company including terms, covenants and borrowing rates and the steps being taken to provide additional liquidity.  Two of the first steps were announced today (the sale of 11 Sears stores and the sale of Sears Hometown to electing shareholders) and will generate somewhere in the neighbourhood of $700M to $800M.

With the notion of an imminent bankruptcy being significantly lessened the “short” thesis is somewhat less valid and it is a fair assumption that the rise in the stock price today was due to the purchase of shares to “cover” short positions.  Sears Holdings has 106 million shares outstanding and 65% of those shares are controlled directly or indirectly by the Board of Directors.  This leaves a free float of approximately 37 million shares, of which the last stated short position was 14 million shares; an incredibly high ratio especially when short sellers begin to scramble to buy stock.

Sears Holdings has been a disappointing holding in the portfolios and is still a long way from overcoming some of its operational issues but with the notion of bankruptcy lessened and the potentially increased demand for the shares by short sellers wishing to cover their positions it continues to be a stock worth holding.  Eddie Lampert, the chairman of Sears Holdings certainly agrees since he recently acquired an additional $150 million worth of stock personally.

A good deal of the above discussion involved the intricacies of short selling.  If you have questions about this, please give me a call and I would be happy to try and clarify anything that is unclear.

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