Bill Ackman: PSH Is Not A Conglomerate Like Berkshire

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Bill Ackman: PSH Is Not A Conglomerate Like Berkshire

In his latest 2020 Pershing Square Holdings Annual Report, Bill Ackman stresses LON:PSH is not a conglomerate like Berkshire Hathaway. Here’s an excerpt from the letter:

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Q4 2020 hedge fund letters, conferences and more

PSH Is Not A Conglomerate Like Berkshire

In this year’s Berkshire Hathaway annual letter, Warren Buffett writes about the “terrible reputation” that has been “earned” by conglomerates. He explains that this bad reputation is due to the fact that conglomerates: (1) are generally required, for regulatory, tax and other reasons, to own controlling interests in businesses, (2) must pay large premiums for these controlling interests, and (3) find it difficult to buy control of great businesses, as they are rarely available for sale. Berkshire has managed these issues with a more open mandate than a typical conglomerate due to its large insurance company investment portfolios, which have enabled Berkshire to invest a large portion of its assets in non-controlling interests in publicly traded companies.

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In last year’s letter, I wrote:

PSH is legally a closed-ended fund, [but] in our view it is best thought of as a tax-efficient investment holding company that owns minority interests in public companies which are of a quality and scale where legal control is often difficult if not impossible to achieve. Our strategy is to acquire smaller pieces of superb businesses over which we have substantial influence, rather than controlling interests in lower quality businesses…

The formal definition of a subsidiary is a corporation controlled by a holding company, where control is typically represented by a 50% or greater ownership interest. In the case of PSH’s “subsidiaries,” however, we have generally owned less than 20% of shares outstanding, and usually less than 10% of shares outstanding. Even so, we are typically one of the largest shareholders of our investees, and we are an influential and supportive owner whether or not we have board seats, regardless of what percentage of the company we own.

If one were to think of PSH as a conglomerate, one should consider PSH’s important distinguishing attributes. Since PSH is structured as a closed-ended fund, there are no securities law, tax or other issues that require any of our assets to be invested in companies we legally control. As a result, there is no limitation on the nature of our ownership stakes; they can be controlling or non-controlling. We did, however, intentionally include an ownership restriction in the investment management agreement which limits PSH’s investment universe to publicly traded companies.

Discounts To Intrinsic Values

While it is extremely rare for a controlling interest in a truly outstanding business to be available without the payment of a large control premium, this is not the case for minority interests in the best publicly traded businesses. Just one year ago, we saw all of our holdings, which represent among the best businesses in the world, become available at massive discounts to their intrinsic values, and we took advantage of this, albeit short-term, opportunity.

We have always believed that the common stocks of even the best businesses can trade at almost any price for brief periods. And it is this volatility – often driven by a disappointing short-term event, missed expectations, macro factors, political events, shareholder frustration with management and/or governance, that has enabled us to acquire large minority stakes in great businesses at bargain prices.

In light of the nature of our strategy, and our long-term track record for effectuating corporate change, we have often been able to obtain influence over our portfolio holdings that is similar to that of a control shareholder, but without the need to pay a control premium. This aspect of our strategy has given us the best of both worlds, that is, the ability to own great businesses as an important and influential shareholder, and the occasional opportunity to purchase them at bargain prices in the stock market.

A Guernsey Closed-Ended Fund

Furthermore, unlike most conglomerates, including Berkshire Hathaway, which are structured as tax-paying C corporations, PSH is a Guernsey closed-ended fund which generally does not pay any corporate taxes.b As a result, PSH does not have the same “switching costs” as a tax-paying conglomerate, which must pay corporate taxes if it sells an investment at a price in excess of its tax basis.

Unlike the typical conglomerate which: (1) has an extremely limited universe of opportunities to buy controlling interests in great businesses at sensible prices, (2) must pay corporate taxes when it sells an existing holding, and (3) is limited in the amount of its assets it can invest in non-controlling interests, PSH suffers from none of these constraints.

PSH has another important benefit because of its closed-ended fund structure and the highly liquid nature of our portfolio, which is almost entirely comprised of publicly traded, large capitalization, investment-grade U.S. equities. We have been able to access low-cost, long-term, non-margin debt in the form of publicly traded bonds to finance our investments and reduce our cost of capital, which should enhance our ability to generate high, long-term rates of return. While in recent years, we have been able to issue bonds at attractive long-term rates, we still believe that PSH remains an underappreciated and underrated credit. Our credit remains misunderstood likely because we are a one-of-a-kind company, and it will therefore take time for fixed income investors and analysts to fully appreciate our story.

You can read the full report here:

Pershing Square Holdings: 2020 Annual Report and Financial Statements

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The Acquirer’s Multiple® is the valuation ratio used to find attractive takeover candidates. It examines several financial statement items that other multiples like the price-to-earnings ratio do not, including debt, preferred stock, and minority interests; and interest, tax, depreciation, amortization. The Acquirer’s Multiple® is calculated as follows: Enterprise Value / Operating Earnings* It is based on the investment strategy described in the book Deep Value: Why Activist Investors and Other Contrarians Battle for Control of Losing Corporations, written by Tobias Carlisle, founder of acquirersmultiple.com. The Acquirer’s Multiple® differs from The Magic Formula® Earnings Yield because The Acquirer’s Multiple® uses operating earnings in place of EBIT. Operating earnings is constructed from the top of the income statement down, where EBIT is constructed from the bottom up. Calculating operating earnings from the top down standardizes the metric, making a comparison across companies, industries and sectors possible, and, by excluding special items–earnings that a company does not expect to recur in future years–ensures that these earnings are related only to operations. Similarly, The Acquirer’s Multiple® differs from the ordinary enterprise multiple because it uses operating earnings in place of EBITDA, which is also constructed from the bottom up. Tobias Carlisle is also the Chief Investment Officer of Carbon Beach Asset Management LLC. He's best known as the author of the well regarded Deep Value website Greenbackd, the book Deep Value: Why Activists Investors and Other Contrarians Battle for Control of Losing Corporations (2014, Wiley Finance), and Quantitative Value: A Practitioner’s Guide to Automating Intelligent Investment and Eliminating Behavioral Errors (2012, Wiley Finance). He has extensive experience in investment management, business valuation, public company corporate governance, and corporate law. Articles written for Seeking Alpha are provided by the team of analysts at acquirersmultiple.com, home of The Acquirer's Multiple Deep Value Stock Screener. All metrics use trailing twelve month or most recent quarter data. * The screener uses the CRSP/Compustat merged database “OIADP” line item defined as “Operating Income After Depreciation.”

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