2023-08-04 10:00:30 ET
Summary
- Icahn Enterprises L.P. has cut its dividend in half, causing a 35% drop in its share price.
- The company's strategy of paying out a high dividend that exceeded its profits and cash flows has faced criticism.
- Icahn Enterprises' net asset value per share has dropped considerably, and further declines are possible due to dilution from issuing new shares as dividends.
Article Thesis
Icahn Enterprises L.P. ( IEP ), a long-time favorite among income investors due to its high dividend yield, has cut its payout in half. While the dividend yield at the current share price is still easily in the double-digits, this obviously hurts a lot for those that bought the company at a much higher price. IEP has also reported weak quarterly results, with net asset value dropping considerably despite the market being up quite a lot this year.
What Happened?
Icahn Enterprises L.P., in which famed investors Carl Icahn owns a large stake, has announced its most recent quarterly results on Friday morning. The company also announced its upcoming dividend. At $1.00 per share, the dividend is half as high as it was previously -- for many years, IEP had been paying out $2.00 per share per quarter, or $8.00 per share per year.
The market reacted very negatively to this news item, sending IEP's shares down by 35% in pre-market trading at the time of writing. It can be expected that the share price will change throughout the day and likely also next week, as investors need to digest the news and decide whether to sell, hold, or possibly even add to their positions.
A Risky Dividend
Carl Icahn has become a multi-billionaire through his investment acumen, but Icahn Enterprises' strategy has faced questions in recent months. The company did pay out a dividend that was much higher than the profits and cash flows the company has been generating in recent years, as the dividend yield was in the double-digits for a long period of time (relative to the share price), while the earnings yield was much lower than that.
This was possible due to the fact that Carl Icahn and many other investors took their dividends in the form of new shares instead of in cash. This resulted in lowish cash demands for the company's dividend payments. If, for example, a company pays out $1 billion per year in dividends, but 90% of investors take their dividends in the form of new shares, then the actual cash outflow for these dividends is just $100 million. In IEP's case, the dividend was more or less sustainable thanks to the high non-cash portion of its overall dividend payments. Of course, issuing new shares to investors resulted in a substantial increase in the company's share count, as we can see in the following chart:
Over the last decade, IEP's share count soared by more than 220%. This meant that the overall dividend commitment at a $2 per share per quarter payout level soared as well. At the same time, the massive increase in IEP's share count was a major headwind for the company's net asset value per share, especially since IEP's company-wide net asset value performance wasn't especially attractive in the recent past, either.
Earlier this year, a short report pressured IEP's share price massively, as shares fell from the low-$50s at the beginning of the year to as low as $18 (they trade at $21 at the time of writing). IEP was, in theory, able to maintain the dividend even with shares at around $20 -- but the dividend yield was extremely high, at around 40%. If most investors had decided to receive their dividends in the form of new shares, the dilution pace would have been incredibly high.
In an article in May , we warned (emphasis added):
But with a large number of new shares being issued every quarter, dilution will be massive going forward - which will cause net asset value per share to drop lower and lower. It's hard to say whether Carl Icahn believes that this is good for him and other shareholders in the long run. A dividend cut could thus definitely happen , and even if there is none, investors should know that the net asset value of their shares will drop considerably.
A dividend cut wasn't set in stone, but it was pretty clear that there would be a significant dividend cut risk. This always holds true when a company's dividend yield is at a very high level. And in IEP's case, the dilution issue posed a major headwind. If the share count would have climbed by 40% per year forever, net asset value per share would have come under massive pressure -- and it was far from guaranteed that Carl Icahn would be willing to accept that. It now looks like he decided that too much dilution isn't in the interest of himself and other shareholders, which is why the dividend was cut in half.
At the current pre-market price, the forward dividend yield is still pretty high, at around 19%, based on a forward annual payout of $4 per share and a share price of $21. I'd argue that dilution remains pretty significant with the dividend at the new level, and while it is less of a headwind compared to the dilution that would occur if the old dividend had been maintained, there still is no guarantee that the dividend will hold forever at the new level. Carl Icahn might decide to make further adjustments to the dividend -- of course, it is also possible (although, I believe, unlikely) that the dividend gets increased in the future.
Earnings Results Weren't Attractive, Either
The dividend news wasn't the only negative news we got from IEP on Friday. The company also reported its quarterly earnings results, which can be viewed here . The headline numbers looked like this:
All of that looked bad, I believe. Not only did the company miss estimates widely on both lines, but the company also generated a major net loss. EBITDA was positive, but only barely, and EBITDA also was much weaker compared to the previous year's quarter. Considering that depreciation, amortization, interest expenses, and even taxes are backed out when calculating EBITDA, a $34 million quarterly result is not really appealing.
Net asset value, which is a good way to value a complicated company with diverse holdings such as IEP, has dropped by more than 10% so far this year, which is a pretty unappealing result. Even worse, net asset value declined even more on a per-share basis, due to the aforementioned dilution.
Of course, the recent trend of declining net asset value does not have to persist forever. It is definitely possible that Carl Icahn's bets will increasingly pay off in the future. But investors should keep in mind that this is far from guaranteed, and that even if net asset value were to climb meaningfully in the coming quarters and years, that does not mean that net asset value per share will grow as well. Due to dilution that could be deep in the double-digits going forward, depending on how many investors decide to receive dividends in the form of new shares, it is possible that net asset value per share declines even if Carl Icahn manages to grow company-wide net asset value meaningfully going forward. Overall, I thus am not too positive when it comes to IEP's future net asset value per share growth rate -- I believe that further declines are not unlikely.
What To Make Of IEP
For investors that bought IEP very early on, this investment has paid off handsomely. But in recent years, IEP has not done so well, and the news we got on Friday underlines this. The underlying performance isn't great, with net losses and declining net asset value, and the dividend cut has resulted in a steep share price drop. Further selling pressure is possible, and it remains to be seen whether the share price stabilizes around $20. While the forward dividend yield looks high even following the dividend cut, it is not guaranteed that the dividend will be maintained at the new level of $1.00 per share per quarter forever. With the dividend being cut once, Carl Icahn might decide that another cut is a good idea in the future. I am thus staying on the sidelines of Icahn Enterprises L.P. for now.
For further details see:
Icahn Enterprises: Dividend Gets Whacked