Icahn Enterprises: Still Trapped In A Vicious Cycle (NASDAQ:IEP)

Introduction

On the surface, the income offered by Icahn Enterprises (NASDAQ:IEP) is very desirable but as my previous article discussed, there was a hidden ugly side to their 15% distribution yield. One year later since conducting my previous analysis and sadly, it seems they are still stuck in a vicious cycle that in my eyes, sees them walking towards either a distribution cut or if not, a perpetually lower unit price for 2023.

Coverage Summary & Ratings

Since many readers are likely short on time, the table below provides a brief summary and ratings for the primary criteria assessed. If interested, this Google Document provides information regarding my rating system and importantly, links to my library of equivalent analyses that share a comparable approach to enhance cross-investment comparability.

Detailed Analysis

When conducting the previous analysis one-year prior, the first issue raised related to their cash flow performance, which was very lumpy and often negative, such as during 2019 and 2020 that saw operating cash flow of negative $1.46b and $416m, respectively. Whilst 2021 saw a positive result, it was only a relatively minor $321m, thereby not making up for the two prior years. Upon opening their results for the first nine months of 2022, this was once again on full display but this time, it was the polar opposite with their operating cash flow surging to an attention-grabbing $3.34b. Whilst this is positive if viewed in isolation, it actually stemmed from the sale of $4.339b of securities net of purchases, which provided a massive cash influx and thus, it is obviously not replicable on a consistent basis and if removed, their operating cash flow would plummet back into the negatives.

Interestingly, most of their massive cash influx occurred during the first quarter of 2022 with operating cash flow of $1.92b, which further amplifies the lumpiness of their cash flow performance. Despite not being ideal, on its own, this is not necessarily a deal-breaker for an income investor because others can navigate lumpy cash flow, think Exxon Mobil (XOM).

More so, the bigger issue raised when conducting my previous analysis was the relative size of their distribution payments and the way they are being “paid”. Whilst they are declared in the usual manner, instead of being funded via cash payments, they are almost entirely funded via new units, as per the quote included below.

“As a result of the above distributions declared, during the nine months ended September 30, 2022, we distributed an aggregate 33,364,320 depositary units to unitholders who did not elect to receive cash, of which an aggregate of 31,508,966 depositary units were distributed to Mr. Icahn and his affiliates.”

-Icahn Enterprises Q3 2022 10-Q.

When 2021 ended their outstanding unit count was 293,403,243 and thus funding merely nine months of distribution payments during 2022 saw their outstanding unit count jump slightly more than 11% and thus as a result, materially diluted their units. If they funded their routine quarterly distributions of $2.00 per unit solely with cash like a normal company or partnership, it would have cost a staggering $2.347b. To help better explain the severity of this situation than one-year prior when conducting the previous analysis, this time around I would like to explore the vicious cycle this situation creates that in my eyes, can only be averted via a distribution cut.

Since their distributions are obviously too big to fund via cash payments, there is no way to avoid most being “paid” in new units and thus as a result, a lower unit price due to dilution occurs. Whilst this is already concerning, the bigger problem arises because this requires even more units to be issued to fund their next distribution payments both due to the lower unit price but also, because a higher outstanding unit count equals higher future distribution payments, thereby exacerbating the problem and creating a vicious cycle. Admittedly, if they can grow their earnings sufficiently to compensate for this dilution, it could possibly stop their unit price from sliding lower but realistically, who expects them to grow their earnings at circa 15% per annum? That is a tough task for anyone and based on their unit price, the dilution appears to be the greater driving force, especially one year after my previous analysis.

I am certainly not a technical trader, although the medium to long-term downward trend of their unit price is easily apparent with its high and low points both getting lower as the years pass, especially in the last two years following the beginning of 2021 as they recovered from the Covid-19 pandemic in 2020. Since there is no scope for their operating cash flow to ever fund their existing distribution payments without the sale of securities, I expect this vicious cycle will see their unit price trending downwards and making this problem even larger, until finally, they cut their distributions back to a more reasonable size relative to the consistent cash generating ability of the partnership and cease issuing a large number of new units.

Thanks to their massive influx of cash during the first nine months of 2022, it eliminated their net debt that had previously ended 2021 at $3.256b and whilst positive, it does not absolve the structural issue of their vicious cycle. Since they are presently enjoying a net cash position, it would be pointless to assess their leverage or debt serviceability in detail, as these are null and avoid. That said, as they make new investments in the future, this could likely change but until such time as that eventuates, it remains a wait-and-see situation.

Regardless of what happens with their leverage in the future, at least they sport strong liquidity, which is not too surprising given their new-found net cash position that sees a current ratio of 1.91 and a cash ratio of 0.68. Whilst they still have a variety of debt maturities, these are not of concern right now given their net cash position. Even if this soon changes as they make new investments, thankfully they do not face any debt maturities until 2024 and given their large operational size, they should not have any issues refinancing as necessary.

Conclusion

Whilst a lot can change in one year, alas in this situation, their distributions remain far oversized versus the amount of cash they can consistently generate. In turn, their resulting reliance upon issuing new units to “pay” their distributions is creating a vicious cycle. Whilst their massive influx of cash is nice and may buy time, realistically given the inherently capital-intensive nature of equities trading and investing, this is most likely a temporary situation. I look forward to reviewing this investment in another year to see what, if anything has changed. Given my continued outlook for a distribution cut in 2023 or increasingly severe dilution that pushes down their unit price, I believe that maintaining my sell rating is appropriate.

Notes: Unless specified otherwise, all figures in this article were taken from Icahn Enterprises’ SEC filings, all calculated figures were performed by the author.