Gate City Capital: Long PICO Analysis

In the Q1 2019 issue of Hidden Value Stocks we featured Gate City Capital.

Gate City Capital’s founder, Mike Melby, picked out AMREP Corporation (NYSE:AXR) and Pico Holdings Inc. (PICO) as his two favorite stocks at the time of the interview.

One year on, we asked Mike if he still likes these companies, if Gate City has been adding to its holdings, and what’s changed since our initial interview.

The other stock you highlighted in our Q1 2020 was Pico Holdings Inc. Have you made any changes to your position?

Gate City Capital Management has added to our position in Pico over the past 12 months. In our initial interview, you claimed that the company’s water rights and credits are worth more than the value implied by the market cap of the business.

Pico has completed a handful of asset sales over the past year. Have these deals confirmed your original claim?

As a reminder to your readers, Pico owns water rights, water credits, and related infrastructure in the southwestern United States. Pico’s water assets are located in rapidly-growing areas, including Reno, Nevada, Phoenix, Arizona, and Las Vegas, Nevada.

Pico has a market capitalization of approximately $200 million and an enterprise value of $190 million. In the last twelve months ending September 2019, Pico generated almost $22 million in water and land sales. These sales include 175 acre-feet of water credits in Reno, Nevada for proceeds of over $6 million or $35,000/acre-feet, the sale of 470 acre-feet of water rights in northern Nevada for $3 million in proceeds, and $8.9 million in land sales. Additionally, in Q4 2019, Pico sold 25,000 acre-feet of water credits for $8.7 million in proceeds. These sales were all consistent with our expectations.

Pico continues to own 7,800 acre-feet of water credits that are designed to serve the North Valleys communities of Reno, Nevada, and are currently being marketed for $36,000/acre foot. There are several large subdivisions in the North Valleys that we expect to have demand for these water credits. Pico also continues to own over 28,000 acre-feet of water credits in the Phoenix area that we value at $350/credit and 250,000 acre-feet of water credits 70 miles west of Phoenix that we value at $250/ credit. Additionally, Pico owns water rights in other vital areas, including Carson City, Nevada, and north of Las Vegas that have significant value.

In our initial interview, you also stated that based on your analysis of land values, the intrinsic value of the business was $22.50 per share. Has your view changed at all based on recent deals?

Our view of intrinsic value has not changed – we believe it is supported by the recent transactions.

The firm recently announced a $100 million share buyback. Do you think this was the right action for management to take?

The announcement is further evidence of the company’s intention to monetize assets and return proceeds to shareholders. Pico has completed over $38 million in share buybacks in the last three years in addition to paying a $5.00 special cash dividend of almost $116 million.

The $100 million share buyback indicates that management and the board expect to monetize a significant amount of assets over the next few years and have the intention of returning the proceeds to shareholders.

Our view is that the company’s assets are worth significantly more than the price implied by the company’s share price, and utilizing asset sale proceeds to repurchase stock is a good use of capital.

You initially projected that it could take 10 years for the company to wind-down. Is this time frame still realistic?

That time frame remains consistent.

And finally, last year, you pegged your worst-case scenario downside target at $9.50 per share. Does this still stand?

Our downside scenario is consistent with last year’s levels and is currently at $9.00/share. I would highlight that this does not represent a “worst-case scenario,” which could involve any number of geopolitical events beyond our control. Our downside is based on an orderly liquidation of the company’s assets at sizeable haircuts to current market prices.

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Disclosure: Gate City is long PICO, the author of this article has no position in the company.