Monday, April 09, 2007

Tracking Buffett 3

It's that time again. It's been almost a year since we took a peak at Berkshire Hathaway's equity portfolio, although we may have discussed his new holdings in the passing such as his significant holding in USG Corporation (NYSE: USG), the maker of SHEETROCK.

Since last May, Mr. Buffett has disclosed a substantial holding in Johnson & Johnson (NYSE: JNJ) as well stakes in Sanofi-Aventis (NYSE: SNY) and Unitedhealth Group (NYSE: UNH). These new positions are a play on demographics and the healthcare needs of ageing baby boomers. As a bonus, both JNJ and Sanofi are significant players overseas and provide a natural hedge against a potentially vulnerable US Dollar. Furthermore, they provide exposure to burgeoning emerging markets and their inevitable need for healthcare products and services. My brother and I have been a longtime JNJ shareholder and recently added Unitedhealth at around $53.

Berkshire has also added to its arsenal of construction and housing related holdings, including USG and ACME Brick, by taking a small position in Ingersoll-Rand (NYSE: IR), a manufacturer of climate control and HVAC systems among other things.

Meanwhile, Buffett has eliminated or reduced various positions in the portfolio. Lexmark (NYSE: LXK) and Gap (NYSE: GAP) are both gone. Lexmark's stock has made a nice comeback. Berkshire had doubled down on Lexmark after a monumental decline and probably broke even on that trade. In Q4 of 2006, Berkshire reduced its Comcast (Nasdaq: CMCSA) holding after a nice run up in 2006. We have been doing the same with our Comcast holding in the Model Portfolio.

Today, Mr. Buffett revealed 10.9% stake, at prices up to $81.8, in railroad operator Burlington Northern Santa Fe Corp. (NYSE: BNI). It appears he has taken smaller stakes in two other railroad operators as well. Indeed, in his recent annual report, he had mentioned two undisclosed positions worth a combined $1.9 billion. Railroads' fortunes have turned around significantly in recent years accompanied by improved operating efficiencies and pricing power. The railroads should continue to prosper as globalization leads to increased trade (import and export) and as energy demand (coal and natural gas) continues to rise. It is interesting to note that his good friend Bill Gates has a significant holding in Burlington's competitor Canadian National Railway (NYSE: CNI). Our exposure to the globalization and trade theme comes through Expeditors International of Washington (Nasdaq: EXPD) which we own both personally and in the Model Portfolio.

So as markets continue to fret over the possibility of a recession and a slumping housing market, Mr. Buffett is deploying his cash and finding value where others see trouble.

Monday, April 02, 2007

Cigs, Candy and Pop

If you are a value investor, chances are you are well aware of the buzz surrounding Altria's (NYSE: MO) spin-off of Kraft (NYSE: KFT). In short, today Altria completed the spin-off of its 89% stake in Kraft by distributing those shares to Altria shareholders. We have discussed spin-offs here in the past. And we have participated in them in the Model Portfolio. In a March 22nd email to my brother I described a strategy to play the Altria spin-off:

"The one stock we should probably own is MO. I like the stub strategy. Basically, you buy MO and short KFT. When you receive the KFT spin-off shares, you cover the short position. This way you have created a 'stub' for the MO piece that will be left over afterwards. It's a common strategy to play spin-offs."

If you want to learn more or refresh your memory about the wonderful world of spin-offs, refer back to or order yourself a copy of Greenblatt's book. In this case, on March 22nd, Altria was trading at around $86. Kraft was trading at around $32. So you could have created the 'MO Stub' at about $57.5. Meanwhile, Altria When-Issued shares (which excluded the Kraft portion) were indicated in the mid $60s. At least based on that information, you would be looking at a neat 13% return. Indeed, Altria ended today above $68 as a standalone. Kraft ended below $32. Ignoring the slight gain on our short position, this trade would have resulted in an annualized gain in excess of 270%. Not bad. There goes the Efficient Market Theory again.

In any case, apologies for not writing about this earlier. It would have made for a nice arbitrage opportunity. Here are a few more you may want to consider. One is the upcoming and confirmed split of Cadbury Schweppes (NYSE: CSG). Our friend Nelson Peltz is at it again just as he did with Heinz (NYSE: HNZ), a former Model Portfolio holding. He has amassed a 3% stake. Cadbury will be split its candy and beverage businesses. Who hasn't heard of Trident gum and 7 Up or Dr. Pepper? The confectionary business would be a shoe in for a merger and private equity players must be salivating at the prospects of owning the beverage business. Upon news of Peltz's move, the stock rocketed 10% or so and has inched up since. But dig around a little and you may be surprised to find that a hefty 10%-25% return has been left on the table, based on a sum of the parts analysis, even after the recent run up in the shares.

The other opportunity has nothing to do with cigarettes, candy or pop but has everything to do with the business of security. Brinks Co. (NYSE: BCO) has been the recent recipient of much attention from the hedge fund activists including Pirate Capital and MMI Investments which have taken sizable positions in the company. Pirate's founder eventually got his way and was given a seat on the Board. Since then this one seems to be flying under the radar a bit. Meanwhile, the folks at MMI have been kind enough to share their diligence with us. A bit of sleuthing on the SEC web site and you will come across a set of slides filed by MMI laying out various scenarios under which Brinks management would be able to increase shareholder value. Let me know if you would like me to send the file to you. Needless to say you could be staring at a 10% - 25% return on your investment if you buy the shares at a current $63 with manageable downside risk. So as we did with Harrah's (NYSE: HET), if you are sitting on some cash, you may want to park some with the folks at Brinks.