Thursday, October 6, 2011

Notes from Bloomberg's "One Hour with Bill Ackman"

This is a very recent interview with Bill Ackman (BA) in which he discusses several of his past and present investments, and shares thoughts on Hewlett-Packard, Fannie/Freddie, and the overall US economic policies. About half the questions are from the Bloomberg interviewer, and about half are from the admittedly friendly and well-heeled audience. I use Bill Ackman ("BA") when he uses "we" to refer to his fund, Pershing Square. The headlines focused on the HPQ "brain damage" line but the interview has a lot more interesting bits.

Q: What is activism to Bill Ackman?

Lots of capital is managed passively: we are more concentrated. Look for undervalued companies and understandable reasons, and then work with management ("come up with irrefutable answers to problems").

Recent examples:
JCP: "iconic" retailer, moved from NYC to Plano, TX, in 1992. Stock was at $38, BA bought it at $21. JCP also sold its Manhattan building (today worth probably $2.5 bn) and built HQ in Plano. JCP spends $1.3 bn/year on marketing. Old CEO made two changes, but they needed to do more. CEO was near retirement, and BA was invited on the board.

New CEO: HBS, went to Mervyn's, then AAPL eleven years ago to build AAPL retail from scratch. BA worked hard to recruit him.
New CMO: just hired out of TGT

They will work with great assets: the brand, owns most RE or leases it for free, and it will be transformational over time.

JCP is an example of their longer-term, operationally focused approach. A different example is Fortune Brands (BC: formerly FO). FO owned three disparate businesses: Titleist golf, Moet faucets and the parent company for Jim Beam, Sauza and other alcoholic beverages. FO was trading at a substantial discount, BA built a 12% stake at $41, met with management, laid out a case, and the businesses were separated. Today they trade at $57 on an equivalent basis.

GGP: took a 25% stake in Nov 2008. Market cap was $23 bn in 2007, to $10 bn before the Lehman weekend, to $100 mm market cap in November. Founding Bucksbaum (sp?) family stake went from $4 bn to $25 mm. BA bought 80 mm shares for less than $1/share, joined the board (adviser Goldman Sachs did not want him; family member cast the deciding vote), BA led the restructuring. Now BA chairs HHC (Howard Hughes assets from the GGP Rouse acquisition).

Q: Why is JCP going to be successful where you [failed] at TGT?

TGT: it was already successful. We had two ideas for them, sell the credit card business (uses up capital, subscale, no advantage) and separate the owned real estate they own into a very safe REIT with NNN leases (ground rents). The land was worth $40/share with TGT at $50/share.

Went to management, management was very receptive and asked them to be quiet. Management was slow and really missed the market to sell, our loss was 50%, BA was upset, led a proxy contest, management agreed to some changes, little profits after four years. Now JCP hired their top marketing guy that led the designer strategy and now JCP will make it easy to buy Missoni and others.

Beauty of the retail business: JCP has 1,100 boxes, selling an unimpressive $150/sq ft of product. With retailers, next year you can be selling something very different so with the right marketing, merchandising and customer service, the number can improve a lot.

Q: People think that a proxy contest is needed at HPQ. They have hired GS preemptively to defend even though there is no activists around. Why do you think people think that an activist is needed?

Over the last few months, BA has gotten calls from the 5-6 top shareholders of HPQ begging him to take a stake and be proactive. BA focuses on predictability, and HPQ is a number of businesses that are difficult to predict even on a five-year basis. the PC business might be irreparably damaged after the spin announcement.  So it looks cheap but it is a "big complicated mess".

BA learned early in his career to do "return on brain damage" for investment decisions: there would be too much brain damage at HPQ without the potential profit to justify it. GGP justified it, HPQ is a big mess. HPQ is also very large, BA likes 10% stakes.

Q: You recently bet on the reevaluation of the HKD: you gravitate towards retail, real estate, etc. Is it out of your comfort zone?

BA are known for our large stakes but also do small "mispriced probabilistic investments" like CDS on MBIA, bought for $30 mm, ended up at $1.1 bn. Small position; investors "would not notice if we lost it"/asymmetric payouts. Also likes to hedge the big stakes against market declines. Used to do it with CDS but now corporate America has recapitalized and is in good shape. So this is how he came across the HKD.

HKD was pegged to silver, then to GBP, then floating but in the early 1980s, the UK/China handover negotiations were not going well (Thatcher broke her leg, bad sign), the HKD started to depreciate rapidly, people panicked and started stocking up supplies. The government was forced to peg to the USD. However, since then, the GDP has grown by leaps and bounds, HK gained AAA rating while the US lost it, housing market is overheating, inflation is high, but their monetary policy is identical to the US. So ZIRP with 6% GDP growth, heavy imports, heavy asset inflation. The currency is artificially held. Eventually it will break.

Because it has been pegged for so long, the volatility of the options is zero. The bet is $100 mm in calls so a small move will yield enormous profit. It is also a hedge against a USD collapse- we might be headed in that direction. You're earning zero on your money market, buy some HKD, better yield, and may be you'll make out well if the peg is removed and the HKD appreciates.

Q: How do you keep your LPs from getting "squirrly"? Your strategies take time, people redeem.

Benefit of good record over eight years, low 20% compounded net of fees. We've made people money. But more importantly, BA is the opposite of a black box strategy: most investments end up being public and people just know what BA tries to do. They also understand that it is a concentrated strategy. BA does not offer smooth returns and investors understand this. BA communicates quarterly and annual dinner.

Q: Loeb and Einhorn have created reinsurance funds for permanent capital. Will you do this?

Buffett has the best permanent capital because he does not have to worry about redemptions. In BAs case, even though they had good 2008, in 2009, they lost 27% to redemptions from investors who had outside liquidity needs. This means being defensive when it is the best time to be offensive.

BA does not like mixing reinsurance risk (with no expertise, small scale) with investment risk. The world is too uncertain; can't really feel confident in the maintenance of the 30-year old reactors like Fukushima. BA plans to issue a closed-end vehicle to investors some time in 2012 for permanent capital.

Audience questions:

Q: Auto industry?

Might be cheap now, post-restructuring GM is competitive cost-wise, but does not/never did love it. It is too volatile (likes "annuities"-type businesses), too capital-intensive, labor unions always ask for more when times are good. Better opportunities elsewhere.

Q: Newspapers?

Learned a valuable lesson 5-6 years ago with Borders investment. NYT is relatively better now (become more national) as the smaller competitors have blown up. The iPad gives some hope, people are paying for it. The NYT might be a vanity investment, like the WSJ/Murdoch. NYT is now more like artwork, not for me. Also controlled.

Q: Human capital/marketing/etc/ investment in JCP that is required?

JCP is a $18 bn "Start-up", $1bn+ EBITDA to do whatever he wants to. Big advantage. Replacement cost of the real estate is $12-15 bn. You get all that for about $6 bn market cap. The business is cheap, good place to start. Now has to attract talent, new CMO is a coup: now people want to come work for them. With the asset base, attract people and go from there.

Q: Financials?

Likes the big banking franchises, likes C the most, at these prices: there is a lot baked in the prices. The government bailed out the banks, converted to common, sold it, and now sues the banks. FRE/FNM lawsuit is absurd that they did not know. Now best thing, the government should take a face-saving litigation, and let them focus. Regulation also a problem, reporting to too many agencies: hurts small/medium business access to capital. Current stock prices factor a lot, C is still at 6x current bad earnings, and may be 4x core earnings after the noise which will take time. Interesting risk/reward but don't put half your assets.

Q: Why did you not wait to buy financials until now?

By the time the dust settles, the stock is up 50%; you have to do it when it is cloudy. BA bought GGP 11/16/2008, on the brink of bankruptcy, no securitization market, BA has to predict the future but the odds have to be good.

Q: Occupy Wall Street consequences?

Not sure what they are protesting but it should not be ignored. Governments can be overthrown without leaders now. Unemployment and disparity is a problem, especially for non-college educated. Cost of healthcare, housing, commodities increasing. It is critical to have leadership in DC.

The president is the CEO of the US as a business, we can have real problems. Obama began as anti-business, and it cost us. Legislation has made it more difficult, tax policy does not incentivize investment.

Whoever is the next president will have to make the country succeed as a business.

Q: Russia and China/rule of law?

(Goes on to talk about US legal system instead of the international investing question). Our legal system is still pretty good. Some expections to that. Recent proposals are hurting the markets. For example, Wachtell Lipton is in the busienss of protecting entrenched management to get M&A deals. WL invented the poison pill. WL is now trying to speed up activist disclosures and impose cooling off purchasing periods post-5% acquisitions which would effectively mean that BA will not be able to accumulate the target 10% stake. The passive and small retail investors rely on activists for helping but we have to buy a big enough stake.

No outstanding CEO worries who the shareholders are, only the weak ones do.

Q: Yahoo is putting up a fight with Loeb; is corporate America getting better at "defending"?

Usually the entrenched CEO is defending himself. HPQ is very unfortunate story: Hurd had an incident, got fired (is the Board held by the same standards), then hired CEO with no core business expetise. He said he's not acquiring anything then overpays. Then the stock tanks, the Board fires him, does no search, hires Whitman with no core expertise. Morale is low.

Boards are to blame, and the election process is Stalin-esque: there are no alternatives on the ballot, plurality voting, etc. BA ran the TGT slate: it cost BA $10 mm to put up alternatives for shareholders. Last year SEC put up a new rule to help this but it was defeated. The directors are typically selected by other directors or the CEO. TGT board had no retailers, no real estate, no credit card execs.

Q (from Ackman's father): Congress is a disgrace; we cannot get qualified people to run; what can we do to get qualified people to run for office?

Likes the Bloomberg model: business oriented, rich, and can do what is right. Country is ready for a candidate who says what he thinks, this is why people were excited about Chris Christie because he does not care what people think. If BA were Obama right now, he'd come up with a few pro-business policies:

(1) To change both the spirit and the confidence of business, get rid of all tax loopholes. Do a flat rate with no exemptions. Do something similar with personal tax code (incl. HF manager taxation). But now 49% of people pay ZERO taxes: so if you don't pay for the country, you don't care about it. Everyone should have some ownership in the country. Two-page form, couple of rates. BA's personal tax form is an absurdity, has not read it, has no idea if it is right.

Repatriation should be easy/low tax: no sense to have HPQ overpay because it will be taxed at home and subsidize UK employment. Obama has to respect the business community, the corporate aircraft industry is great, don't pick on Las Vegas, people there need jobs, too.

(2) Merge Fannie and Freddie, stop dumping foreclosed houses, turn them into REITs for single homes. In most markets you can make high single digits unlevered. This will dry up the supply in the market. Now FNM FRE are subsidizing apartment construction, their competition. Better off having local renters/maintenance, may be tweak the tax on home capital gains, too.


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