SEC Investigation Proceeding to Next Step at St. Joe

In a Form 8-K filed late Friday,  St. Joe (JOE) disclosed that the Securities and Exchange Commission informed the company June 24 that it has issued a "related order of private investigation," escalating what was to this point an informal inquiry concerning whether the company took sufficient impairments on its real estate assets. The disclosure was inserted at the tail end of a note mentioning that the company had terminated its revolver with BB&T (BBT).

Beyond the descriptions contained in the document, we find the fact that the company chose to disclose this bad news on a Friday before a long weekend disappointing and not something we'd expect from Joe. In addition, our colleagues at FootnotedPro found it strange that Joe decided to word the disclosure as it did, stating:

Instead of using the more common phrase "formal investigation," St. Joe chose to describe this as a "related order of private investigation"--language we haven't seen in any other filing, even though formal investigations by the SEC are somewhat routine. Why? Our best guess is that people (like us) who have automatic search filters set up typically search for the words "formal investigation" in filings, but not this more esoteric phrase.

That said, there's some ambiguity surrounding disclosure rules in regard to SEC investigations at this stage, such that we're not sure the company was even mandated to release the information.

Though the document didn't mention the word "formal," it's obvious that the investigation has entered a new phase in which the SEC can issue subpoenas and compel individuals to give testimony under oath. Investors should be prepared to go several months without resolution. We have no unique insight into the allegations, other than to suggest that we'd be extremely surprised if the SEC hasn't received voluminous unsolicited correspondence from an entity currently reported to be short the name.

The news comes at a time when Joe's fundamentals are getting better, as real estate activity along Route 30A just north of Panama City, Fla. (where some of Joe's upscale communities reside) as well as in other areas in Joe's portfolio are enjoying materially higher activity than in several years. The region's economic development alliance is gaining traction in luring businesses to the area. And management is busy stripping costs from the expense structure such that we think we'll have to bring forward significantly the date at which we forecast the company to break even.

We're not planning on changing our fair value estimate at the moment, as our valuation is derived from a net asset value calculation. If indeed there was fraud involved at the company, internal controls were or are weak, certain owners haven't followed proper compliance rules, or there was lying to the auditors, none of this changes today's value of the land owned by the company. As long as the county records stating that Joe owns the land we think it owns are accurate (and we've checked the records on Joe's most valuable tracts), we think Joe's net assets are worth well north of the current quote. If any of the allegations are true, there will be some dilutive effect on the company's intrinsic value because of a host of issues, including management disruption and distraction, increased costs, possibly more employee turnover, and the inevitable valuation discount awarded a company stigmatized by wrongdoing. That said, we think the primary valuation thesis remains intact as long as Joe controls the land it does.

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