Should You Go Long PICO Holdings Inc (PICO) As An Activist Gets More Serious?

In a recently-amended 13D filing, an activist investor disclosed a letter it sent to the board of directors of PICO Holdings Inc (NASDAQ:PICO). Knowing that following activists can be very profitable, let’s take a closer look at the company and see if aside from the catalysts that can be created by the activist, PICO Holdings can perform over the long-term based on the sentiment of more passive investors.

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Imitating the moves of activist investors is generally better than trying to emulate passive funds, because activists usually push for changes that increase shareholder value, rather than wait for the stock to gain ground on its own based on other factors. That’s why on average the returns of activist funds have been higher than the gains registered by their passive peers. However, there is an even easier way to monkey hedge funds in order to obtain profits and that’s following them into their top small-cap picks. At Insider Monkey we do just that, analyzing the equity portfolios of over 700 hedge funds each quarter to identify the 15 most popular small-cap picks among them and this approach has helped us generate returns of 102% since August 2012, which was around 53 percentage points above the gains of the S&P 500 ETF (SPY) (read more details here).

Without any further ado, let’s move on to Central Square Management, a long/short hedge fund led by Kelly Cardwell, which has reported a 5.7% stake in PICO Holdings Inc (NASDAQ:PICO) that contains 1.32 million shares, along with attaching a letter sent to the company’s chairman of the board, Kristina Leslie. In the letter, Central Square Management outlined its concerns regarding management’s performance and expressed disappointment that its previous attempts to collaborate with management and the board were not successful.

“Through our recent efforts to work with PICO, we have become increasingly uncomfortable with the leadership of the Company and believe significant changes are needed immediately. Shareholders cannot – and should not – be asked to stand idly by while this management team continues to destroy value at our expense,” the letter stated.

Among the main steps that the board and the management should undertake according to the investor, are the sale of its UCP subsidiary, which could be valued much higher after a transaction and generate value of around $11 per share. Central Square added that the subsidiary could be valued at $14 per share (almost double its current price of $7.17) taking into account its land ownership. “Given UCP’s lack of scale, we believe a formal sale process is the most appropriate and effective method to close the gap between market trading price and fair market value,” the fund added.

Also, Central Square suggested that the company should launch a buyback program using free cash on hand to repurchase up to 40% of its outstanding stock via a self-tender. The investor also thinks that PICO Holdings Inc (NASDAQ:PICO) should monetize a part of its water portfolio since its water resource and water storage operations subsidiary Vidler is worth more than its reported book value. Another issue that needs to be addressed is the compensation of the management team, which needs to be better aligned with the company’s performance as well as with the compensation of management of other companies within the industry.

At the end of the letter, the investor urged for a reshuffle of the board of directors and the addition of three new members, namely Anthony Bergamo, James Henderson, and Daniel Silvers.

“Importantly, there is still time to put PICO on the path toward significant shareholder value creation. We believe PICO’s stock price could double or even triple from its current level if our recommended courses of action are enacted expediently,” the letter concluded.

The full text of the letter is available below:

Central Square Management Letter to PICO Holdings

However, despite the bullish target, Central Square has inched down its stake from 1.37 million shares, equal to 6% of the outstanding stock, disclosed in an earlier filing, where the investor also issued a letter sent to the board (see details).

The market positively received the letter as the stock appreciated by 4% on Tuesday. However, year-to-date the stock is down by over 43%, significantly lagging compared to the average return of its peers among conglomerates. Among the funds from our database, PICO Holdings Inc (NASDAQ:PICO) is not very popular as only ten investors reported holding long positions as of the end of June, however they did amass over 16% of the company’s shares. Chuck Royce’s Royce & Associates held the largest stake, containing 1.94 million shares, followed by Central Square, while other investors reported less significant positions, such as 287,000 shares held by Gregory Bylinsky and Jefferson Gramm’s Bandera Partners, which stands on the third spot.

With this in mind, until PICO Holdings Inc (NASDAQ:PICO) shows some effort towards implementing the changes proposed by Central Square, it’s better to stay away from the stock, although looking at the weak performance of the stock in the past years, it is most probable that other investors will support the activist and urge the board and management to undertake these steps.

Disclosure: None