This is a great example of why you should not rely on the headlines. What the posting did not explain is that Carl Icahn (Trades, Portfolio) merely obtained his position by receiving it as a spin-off from Chesapeake Energy (CHK). As I look at Icahn’s position in Chesapeake, he holds the same percentage of outstanding shares as was just reported for Seventy Seven Energy, meaning he did not actively purchase the shares. People buying in the after-hours are just blindly buying based on the headline.
Spin-offs do have a track record of outperformance if they meet certain criteria. The financial data is not readily available. I will report back after reading through the SEC filings.
The GuruFocus article, “A Crash Course In Buying Spin-Offs”, discusses the characteristics of a successful spin-off:
To avoid holding stock in such a disaster, here are a few things to look for in selecting quality spin-offs worth your investment dollar:
Management Moves – Which executives are taking positions with the new company? If the company is looking to dump toxic assets, no one at the firm will want much to do with it. However, if the CEO, CFO or other high-ranking executives leave the parent to take new positions in the spin-off, this is usually a good sign.
Insider Buying – We have to dig through company reports and SEC filings to uncover the details of these ventures. Company insiders, on the other hand, have intimate knowledge of the new structure. After all, they created it. This is a basic “follow the money” tactic. If insiders are buying up shares of the new firm, or better yet, selling their stock in the parent company to do so, it’s time to get interested.
Stock-Based Compensation – Executive compensation packages can be complex, but try to focus on those where the CEO is rewarded primarily through stock. If an executive leaves the company to take a position at the new spin-off even though the salary is lower, he could be eying a windfall from stock appreciation.
Debt Level – We touched on this earlier, but it is worth mentioning again. Quality spin-offs , i.e. those with the greatest potential for success, start with a clean balance sheet. If a new company is forced to borrow large sums before separating from the parent, the ensuing interest payments will greatly inhibit their ability to generate profits.