Hedge Fund Has Bull's-Eye on Target

Tables: Buyers | Sellers

HEAVY INSIDER SELLING IS NORMALLY an ominous sign, but at Target activist shareholder William Ackman has just bought nearly $2 billion in stock and call options, dwarfing those sales.

The department-store retailer's trendy designs and hip marketing scheme have propelled its stock well beyond the broader market and plain-Jane retailers such as Wal-Mart Stores in recent years.

The stock's 50%-plus gain since last July's lows has sparked heavy selling by company executives and directors in recent weeks, but the actions of Ackman's hedge fund, Pershing Square Capital Management, may indicate that there is more upside.

Late Monday, Pershing disclosed it has paid $1.98 billion to take control of 81.76 million Target shares, representing a 9.7% stake, in transactions starting April 17, according to the Securities and Exchange Commission. The firm paid $157.6 million for nearly 2.55 million Target shares and $1.5 billion to purchase American-style call options on 79.2 million shares. Pershing controls the voting power of all underlying stock.

These call options, expiring at staggered dates from Dec. 14, 2007, through April 6, 2009, were purchased at prices ranging from $16.99 to $29.31 and carry strike prices ranging from $34.63 to $53.12. To purchase the options, the hedge fund had sold some directly held shares and traded cash-settled equity swaps.

Pershing's open-market stock transactions took place at per-share prices ranging from $58.13 to $66.76 in April and May.

In its activist 13D filing, Pershing said the leading U.S. retailer was headed by "the strongest operating management in the retail industry" and still has "significant growth opportunities." The hedge fund also said it would hold discussions with the company's management to seek ways in which the stock's "undervaluation can be corrected."

Both Pershing and Target declined to comment on Pershing's actions for this article.

Deutsche Bank Securities analyst William Dreher wrote in a note Monday that Pershing's disclosure "has potentially significant positive implications for Target shares." Ackman's proposals will likely range from stepping up share repurchases to monetizing nonretail-specific assets such as Target's credit-card portfolio or real estate, he said.

Pershing has had a long history of management-friendly activism to unlock shareholder value, according to Ken Squire, founder of 13D Monitor. In recent years, Pershing convinced McDonald's to buy back more than $1 billion in stock and fast-food rival Wendy's International to spin off Canadian doughnut chain Tim Hortons.

Notably, Pershing's filing pledged one-third of its net profits from Target to charitable organizations.

The Pershing bullish disclosure runs up against the seemingly bearish selling by Target executives and directors.

Over the past 30 days, six insiders sold more than 1.2 million shares for $86.2 million -- the largest monthly sale in the past two years, according to data from InsiderScore.com. Nearly all of these shares were acquired through options exercised at prices from around $19 to $40.

The largest transaction was made by Target Chairman and Chief Executive Officer Robert J. Ulrich, who grossed $70.4 million by selling one million shares on the open market. All of these shares were acquired through options priced at $19.94 each and were set to expire in March 2008.

A Target spokeswoman says that Ulrich's options were granted in 1998 and that he "typically holds his options for nearly full term."

According to Target's April proxy, Ulrich beneficially owned 5.19 million shares, of which 4.4 million were in options, as of March 14. That's less than 1% of shares outstanding.

Michael Painchaud, managing director of research for Market Profile Theorems, says that he would not be a buyer at current market prices because the insider sales have dragged insider sentiment down to their lowest level in 28 months.

Even so, it is not necessarily a time to sell, says Mark LoPresti, vice president of Thomson Financial's proprietary research group. While this round of selling appears to exceed record sales of $54 million during the first quarter of 2005, insider sales did not in the past "presage big reversals or trends" in Target shares.

Overall, there has been very little turnover in institutional holdings over the past two years, notes Joshua Hong, director of research at OwnershipAnalyzer.com. At the end of the first quarter, 847 firms held 742.3 million shares compared with 829 institutions that held 753 million shares a year earlier.