Boulder Total Return Fund BTF S
December 11, 2006 - 7:33pm EST by
2006 2007
Price: 22.45 EPS
Shares Out. (in M): 0 P/E
Market Cap (in $M): 277 P/FCF
Net Debt (in $M): 0 EBIT 0 0
Borrow Cost: NA

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BTF should appreciate by 15% relative to its underlying assets, which are effectively a market type portfolio, as it adopts a managed distribution policy (i.e. Monthly dividend). BTF is a closed end fund holding 28% Berkshire Hathaway stock and a variety of other value style investments.  Its benchmark is the S&P500 index.  Like many closed end funds it trades at a discount to its NAV. 
Based on a Comparison:
Boulder Total Return (BTF) and Boulder Growth & Income Fund (BIF) are closed end funds that have traditionally traded at a 14-18% discount to NAV.  Management of the 2 funds calls them “sisters.”  They have similar holdings, both are similarly overweight in Berkshire Hathaway stock, both have similar management expense (2+%), they share the same investments objective and are both managed by same person, Stewart Horejsi.  Horejsi and his family own 44% of BTF and they own 22% of BIF.   Horejsi is scorned for being so overweight in Berkshire stock and charging high management fees but that issue is irrelevant for this write-up.  Since I go back and forth between BIF and BTF so much in this comparison, and since they’re so similar…  I’m going to put BTF, the subject of this write-up, in a bold font
Exemptive Relief:
A securities law forbids closed end funds from distributing long term capital gains more than once per year.  In the past, the SEC has granted special exemptions to CEFs to allow them to use long term capital gains for a managed distribution policy and pay them out monthly. 
In 2004, management announced their intention to pay a monthly distribution to try to narrow the discounts to NAV.  They applied for “exemptive relief” from the SEC to allow them to make multiple distributions throughout the year from long term capital gains.   The SEC did not grant them the “exemptive relief,” in fact, the SEC didn’t even respond.   Right about this time in 2004, the SEC suspended issuing this exemption because of concerns of inadequate disclosures by investment companies regarding the tax characteristics of distributions.
Meanwhile, shareholder activism was pressuring them to do something about the discount of BIF (it seems they went after BIF since it was a smaller fund than BTF and Horejsi had less ownership control).  As a result, in May of this year BIF began monthly distributions.  BIF had capital loss carryforwards from long ago and doesn’t need the exemptive relief for the time being.  The distribution policy was very successful for BIF.   BIF went from trading at a 5% discount prior to distributions to trading at a 10% premium after the first distributions.  BTF is likely to do the same if a managed distribution policy gets implemented.  In fact, the discount is already closing because of recent activity regarding their SEC application for exemption. 
As I mentioned above, in 2004 BTF and BIF applied for “exemptive relief.”  It was not granted or denied.  At that time the SEC had begun a moratorium on reviewing applications.   
They recently got a letter from the SEC acknowledging their original application.  The SEC response highlights 2 important things that I’m going to paraphrase: (1) the SEC has been working with BIF to develop enhanced disclosure statements and was basically satisfied with BIF’s existing managed distribution disclosures, and (2) the SEC was almost finished with their examination of the overall situation, and will begin reviewing applications again soon.  The market responded positively to this SEC letter and the discount began to close for BTF.  Management has modified their original “exemptive relief” application for BTF and re-applied incorporating some “disclosure suggestions” provided by the SEC (in a separate, non-public communication).  According to management, the SEC began accepting new applications as of Dec. 1 with an intention to actually review & grant them if appropriate.
More Background:
Management wants this distribution policy.  There is pressure on management to maintain the managed distribution policy of BIF.  They realize there are activist shareholders and they want to keep their 2+% management fees.  They know what will happen to BIF if they eventually have to cease distributions.  By the same token, if they get exemptive relief it will likely be for both BIF and BTF.  They won’t have an excuse not to instigate the managed distribution policy for BTF
In the past, management seemed complacent, almost happy, about continually trading at a discount.  Hopefully, they will realize the benefits for raising capital if they trade at a premium, even if it is brought about by monthly distributions (the ole’ ponzi scheme).  Maybe I’m cynical, but my first interpretation of the wording used to explain why the SEC withheld “exemptive relief” was that it was really just to prevent future ponzi type activity.  I asked management if they were aware of any limitations in the new application about raising capital in combination with a monthly distribution.  They said they were not but that it was just brought about by disclosure & tax issues.
Most importantly, based on what I can see there is no reason for the SEC to hold back on the exemptive relief.  They issue the exemption on a case by case basis.  They have withheld it because of poor disclosure policies in the industry yet they acknowledge in Boulder’s specific case that management’s policies for BIF were acceptable.
 (A) Managed distribution policy is not implemented.  If they can’t get approval for their managed distribution policy I expect a slow decline back to 15% discount to nav from its current 5% discount to nav.  You could hedge against this risk by shorting BIF.  If BIF doesn’t obtain the exemptive relief then it will eventually have to cease the monthly distributions.  The hedge would be a very UGLY hedge because management says they have enough tax loss carryforwards for BIF to last approximately 3 more years (getting that check every month is pretty much all the BIF shareholders care about).  
(B) Underlying assets don’t perform well.  I would guess the worst case scenario within reason for the BTF portfolio would be a -20% year.  (if large cap value style investments have a -20% year next year then any kind of income investment will likely do well in the markets).  In addition, you may attempt to short sale some of the stocks (or hedge by shorting some BIF, see above).  Or, as mentioned in the XLP & GE writeups, you might be a smallcap investor like me who can handle some exposure to this asset class.    
The validity of this idea lies in prospect of them getting approval for the managed distribution policy from long term capital gains.  If you would like to take even less risk, and feel comfortable using BIF as a trading proxy for how BTF will behave, then just put this idea on the shelf and wait until the first distribution is actually announced for BTF before you buy it.  If the comparison holds, you will capture the entire 15% gain relative to the nav (and collect a couple of distributions along the way).   It appears the discount is already in the process of closing so this “easy” 15% gain strategy might not be available. 
There are countless examples of CEFs that go from trading at a discount to a premium, irrational as it may seem, just because of the monthly distribution.  Don’t underestimate the appetite of investors for an investment product that contains Berkshire Hathaway and a bunch of other value type stocks sporting a juicy 10% "yield” paid on a monthly basis (Ooooops, sorry SEC.  Proper disclosure: It’s not actually yield… yada yada yada).
Background links:
BTF holdings:
Discount/Premium History:
Boulderfunds explanations of “exemptive relief” issues & SEC letter:


Exemptive Relief
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