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On 8/18/08, I wrote a note on LDG titled California Dreaming. In that note I said;

“In short, selling a company’s undervalued real estate creates an enormous tax burden, which limits the cash available to maximize value for shareholders. I truly believe that Bill Ackman knows this, and I have yet to see a structure from him that would get around the tax issue completely.”

Yesterday, LDG offered these comments in a filing;

“The Company’s owned properties were acquired over the life of the Company and, as such, have a low tax basis. Accordingly, if the Company were to sell these properties outright or in a sale-leaseback transaction it would incur a significant tax liability in doing so. The Company determined that, taking this tax liability into account along with the transaction fees, the after tax proceeds from the outright sale of its owned real estate would not offset the loss of income from the sold properties and that the sum of the amounts that the Company could obtain from the sale of its owned properties and operating business separately would not exceed the value of the consideration offered by CVS. Similarly, that if the Company were to lease back these properties that the capitalized value of the increased rent and property tax expense payable over the lease terms would more than offset the net proceeds of the sale (i.e., after payment of the tax liabilities and transaction expenses) and would accordingly not increase the consideration that an acquirer would pay to acquire the Company.”

From this we can rule out another bidder to take advantage of LDG’s undervalued real estate! Where do we go from here? I believe that it’s unlikely that WAG is going to out bid CVS. So who else wants to buy an underperforming drug retailer? WMT? I still have yet to see a sum of the parts analysis that values the company above $71.50, but WMT has the cash to pay more if it wants to.

Wal-Mart Stores is getting ready to open its first Marketside store in Phoenix, AZ. Apparently, WMT is also looking for locations in Southern California. According to the Financial Times, Wal-Mart has applied for a liquor license for a Marketside unit in Oceanside, a coastal city north of San Diego — a couple of miles from a Tesco’s Fresh & Easy. Marketside stores are modeled around a 15,000-20,000 sq. ft. box and will offer fresh foods and prepared meals. I mention this because the average LDG store is also about 20,000 sq. ft. so LDG’s current stores could fit perfectly with WMT’s Marketside store strategy.

Relative to the market capitalization of WMT, buying LDG is a drop in the bucket. With WMT outperforming TGT and the stock on the new high list, the distraction of buying LDG would not sit well with shareholders.