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Should You Invest in a Holding Company?

May 28, 2012 | About:
Chandan Dubey

Chandan Dubey

91 followers
In simple words, holding companies are companies that hold other companies. In fact, most of the world’s most successful companies are holding companies, e.g. Berkshire Hathaway (BRK.A).

With the recent pummeling of everything European, I have been keeping my eyes on a few companies. Out of these are a few holding companies and in this article I would like to touch upon one of them and make some comments on how I look at the situation.

A pure holding company is a company which does not have any operations or any active businesses and instead holds assets, i.e. things of value. To understand this situation better let us see how a holding company is created.

Let us that we decide to open a holding company called Gobbledygook Inc. After necessary legal proceedings, we issue 1m shares at $100 each and receive $100m in cash. With this cash we do the following

  • We buy 1m stock of Pepsi at $60 each, for a cost of $60m.
  • We buy bonds worth of $20m which yield 3% per year.
  • We open a new company called Franchise LLC of which we are 100% holders. The company is going to open franchises of McD. We hire a new CEO and he is almost independent to run this business as he pleases. We give $10m to this business and the business takes $2m in debt from a bank and opens new franchises for McD.
  • We keep $10m in cash.


So now, our holding company Gobbledygook has $60m of Pepsi stock, $20m in treasuries, $10m invested in Franchise LLC which has an additional $2m in debt and $10m in cash. The balance sheet of our company will show $102m in assets and $2m in debt.

Some holding companies never bother to open new businesses and just invest the money. According to the financial practices in many of the countries in the world, if the holding company holds less than 50% stake in a company then it is treated just as a stock holding. Otherwise, the liabilities, and assets are translated to the balance sheet of the holding company.

One of the benefits of the holding company model is that say our Franchise LLC went bankrupt, we will not go bankrupt. We will write off the $10m investment we made in Franchise LLC when we invested in it, and call it a day. Furthermore, we will still be able to use all the brands which were associated with the Franchise LLC.

Consider the situation in a real life scenario. Icon plc (ICON) holds many brand names. In a sense, it is a holding company. The brand is used by other companies to make products and sell them in the market. If the company which manufactures the products and is sued or for other reasons goes bankrupt, Icon will see no effect on its own business. It will write off any investment it has in the company which manufactures the products and will still keep the rights to the brand. In a way, Icon protected its brands and its business because of the holding structure. Many of the companies you know for example Procter & Gamble (PG), Pepsi (PEP), and Coco-Cola (KO) are holding companies in disguise.

Pargesa SA



Pargesa is a holding company whose shareholding structure is shown in the diagram below. All the companies below trade as a public companies and hence the net asset value of Pargesa can be calculated quite easily by looking at the individual stocks.



Following is the calculation of the net asset value of Pargesa on April 30, 2012.



The current share price of Pargesa is SFr 53.25. This is a 42% discount to the net asset value of SFr 78.63 per share. This is a substantial discount to the net asset value and offers a very good margin of safety. But before we run to buy the shares, we should do the following:

  • One should look at the individual companies as investments by themselves. A holding company is as good as the investments it has made. You should ask yourself: do I want to own this set of businesses ? We see that Total, Pernod Ricard and Lafarge together make 65% of the net asset value. I really like these companies and hence buying Pargesa might be a good thing for me.
  • You should understand that in case of holding companies, the discount to Net Asset Value may take a long time to close. So, if you decide to invest, you need to be very patient.
  • Another very important thing to do is to look at the management of the company. The importance of judging the management cannot be stressed enough. One needs to figure out why this holding company was created. Many times as in the case of Enron, the holding companies are created to hide debts or to make them profitable at the expense of the individual holding companies. Sometimes, the holding company will remain profitable even when the majority owned companies are suffering from losses. Sometimes, it is best to avoid complicated structures and shareholdings.


In case of Pergesa, research reveals some striking facts, which are as follows (from wikipedia)

  • Pargesa is owned 54.3% by Parjointco, a company owned 50/50 by Agesca, a Dutch holding company and Power Financial Corporation, a subsidiary of the Canadian conglomerate Power Corporation of Canada.
  • Agesca is owned 89.5% by Compagnie Nationale à Portefeuille, a Belgian holding controlled by Albert Frère, and 10.5% by the holding Frères Bourgeois, the holding company of Albert Frère and his family.
  • Pargesa owns 50% of GBL, which itself is a publicly traded company.


You will agree that walking down this path of ownership is going to be very time consuming and figuring out the interplays more so. The more complicated things are, the more prone to error we are.

Even though the margin of safety is substantial, I do not understand why such a complicated structure has been created. Obviously, investing time to figure out the individual holding companies in the chain will help us unravel the cross-holdings a bit but I fear that I can use my time more productively (and more safely) by figuring out one company than a chain of 4 companies.

About the author:

Chandan Dubey
I invest because I want to be free by the time I reach 40 years of age i.e., 2025. My investment style is to find a small number of bets with large margins of safety. I pay a lot of attention to management and their incentive. Ideally, I like to buy owner operator businesses. I am fortunate to have a strong inclination towards studying. I aid my financial understanding by extensive reading in psychology, economic, social sciences etc.

Rating: 3.9/5 (35 votes)

Comments

Cornelius Chan
Cornelius Chan - 1 year ago
Interesting article! I have never even thought about holding company until now.

How would you make the comparison between a holding company and an ETF? The two are similar in that their stock performance is tied to the individual performance of the underlying businesses yes? If the two are that similar, in my simple way of seeing the world it is better to invest in an ETF and call it a day because with ETF you are eliminating the unnecessary analysis of yet another set of management.

Regarding the holding company Pargesa, I concur with your opinion that analyzing this convoluted entity is a complete waste of time for the enterprising investor. For Pargesa I apply the common sense "some things are best left alone." LOL

marcolanaro
Marcolanaro - 1 year ago
Hello Chandan,

As you show it is not pargesa that owns the stock investments but GBL (groupe bruxell lambert) which is itself quoted on the belgian stock market and is a good investment.

The history of Pargesa begins with with the election of President Giscard d'Estaing in France in 1981 and the fear that at the time there was of potential nationalizations, in some arcane ways bank Paribas looking for ways of hiding assets formed Pargesa in collaboration with the Desmarais and Frere families. I suspect that in a few years Pargesa will be eliminated either by being taken private or by exchanging shares with the corresponding shares of GBL. Either way will be positive for shareholders.

The Desmarais and Frere families are at the core of current management and they are excellent and proven managers with the added feature that are also shareholders friendly.

As for the Pargesa stock it is trading at huge discount because of widespread fear of european equities and lately french ones in particular, keep in mind that you are not buying only the huge discount but that the stock holdings are themselves depressed, so you get a double discount. You also get an almost 4% dividend yield in swiss francs, compare that to the 10-year swiss bond at less than 1%. I personally like very much both Pargesa and GBL and own them.
cdubey
Cdubey premium member - 1 year ago
@Marcolanaro Where did you find the history from ? I will interested in reading about it. Maybe I should look at GBL and see what is going on there.

The thing that bothers me is that GBL has its own management, which gets paid a fair amount of money ... then Pargesa siphons another fraction of the money for its own management. The question is why ? I do not see Pargesa as serving any purpose which GBL could not. It would just be simpler and cheaper to get rid of Pargesa totally.

I understand that you are of the opinion that this will happen soon. But do you have any facts to back this inference ? How do you say that the families are of integrity ? I agree that they are shareholder friendly in the sense that the dividend is high and they almost all the earnings in the form of dividends.
cdubey
Cdubey premium member - 1 year ago
@CWR Holding company and ETF are totally different things. ETF rarely trades at a discount (it does not ever).

Obviously, we can make our own small ETF by making the same weights as Pargesa in their holdings ... but this will not give us the discount in the NAV. We will pay around SFr 78 for which we can pay SFr 54.

Yes, ETFs are cheaper to analyze, but a holding company with sound management might be a good investment in my opinion. If they treat your money as your own and treat themselves as stewards of our capital ... I will be happy to invest alongside them. Think of Berkshire for example.

marcolanaro
Marcolanaro - 1 year ago
Chandan, I will send you information on that story just have to find it in my notes.

I agree with you that at this point Pargesa makes little sense but look at the other important shareholders, bank paribas and in particular First Eagle fund, mr. Eveillard is a well known value manager and owns quite a chunk of pargesa so I find that I am not alone thinking of it as a good investment. On the issue of selecting pargesa over gbl , it just depends on which one is trading at the largest discount.

There is an agreement between Desmarais and Frere to buy each other participation and that agreement will expire in 2014, plus cash movements at GBL and Pargesa, the removal of the Imerys participation of Pargesa and its consecuent addition to gbl, the aggressive debt reduction at pargesa, etc. make me suspect that they are preparing to eliminate pargesa and my suspicions point to 2014 as the date.

Desmarais is a canadian billionaire and with a track record wich is as good as Buffett, but contrary to buffett they keep a very low profile, Frere is a business man with excellent track record, I am not aware of either of them getting into any scandal plus their business record is good enough for me.
vgm
Vgm - 1 year ago
Hi Chandan

Nice piece on PARG. It's a very high quality operation. I've been on the point of investing recently and likely will.

You may want to look at these for additional background if you haven't already:

http://www.gurufocus.com/news/116068/who-is-the-warren-buffett-of-canada-prem-watsa-of-fairfax-financial-ffh-or-paul-desmarais-of-power-corporation-of-canada-pow

http://www.gurufocus.com/news/156597/pargesa-holding-sa-a-european-berkshire-hathaway-brka
cdubey
Cdubey premium member - 1 year ago
@Marco It seems that First Eagle does not have Pargesa as its one of the top 10 holdings now. Here is the historical top 10 holdings.

cdubey
Cdubey premium member - 1 year ago
@Vgm Thank you for the articles. I will have a look.
marcolanaro
Marcolanaro - 1 year ago
Chandan, you are right. They used to be listed on pargesa's web page under major shareholders and they are not anymore, so First Eagle should have sold very recently. I will investigate further.
Cornelius Chan
Cornelius Chan - 1 year ago
This discussion of whether or not to invest in holding companies is an interesting one. After taking a quick look at Pargesa it appears to me they are indeed a good quality enterprise run by highly intelligent and well-connected individuals.

Then again, so are Imerys, LaFarge, Pernod Ricard, Suez, GDF Suez and Total - in varying shades of either intelligence or connectedness. The question then becomes this: why not simply invest in shares of these companies at valuations and prices you like and call it a day? Why go on and invest in Pargesa? Because it is a cheap, high quality enterprise that pays dividends? Actually those are good reasons... however the redundancy seems unnecessary.

There is a scenario where it makes sense to invest in a well managed holding company: if operating companies were unlisted, private businesses.

marcolanaro
Marcolanaro - 1 year ago
C.W.R., the biggest advantage in investing in pargesa instead that directly in the the stocks owned by pargesa is that you get those stocks at a discount, and you pay nothing for management's ability to allocate capital. If you trust them to be good capital allocators which I do.
ramands123
Ramands123 - 1 year ago


I think i read or heard somewhere Warren Buffett saying that he doesn't like conglomerate's.

You have highligted negatives pretty good. To me by defination most of the time it breaks very fundamental principle of investing - " Is it too complex to understand " .
AlbertaSunwapta
AlbertaSunwapta - 1 year ago
Has anyone taken a look at Power Corporation?
batalha
Batalha - 1 year ago
You have to be careful with Holding Company discounts. Only rarely you will find one trading close or at par because there are good reasons for such a discount. To name a few:

1) Overhead: you have additional expenses and costs on top of the subsidiaries operating whcih reduces final cash flow

2) Liquidation discount: if the holding was going to sell some assets it can incurr in legal, advisory and comissions fees that certainly deduct from the final value

3) Liquidity discount: holding large blocks of shares or more illiquid positions willl usually drive the price down in the event of a sale

4) Marketability discount: for private equity stakes, these more illiquid skates can be hard to sell at "instrinsic" value"

best

vgm
Vgm - 1 year ago
Wouldn't companies like Leucadia, Brookfield, and Cheung Kong be considered holding companies or conglomerates? All have been very successful investments over time.
vgm
Vgm - 1 year ago
On the subject of whether there will, or should be, a discount to par at the holding company, here's the response from Jean-Marie Eveillard in an interview from Value Investor Insight a few years ago when discussing Pargesa as one of his holdings:

"...my contention is that Albert Frere has done an excellent job of shuffling assets every now and then. The holdings are actively managed, in what has proven to be a positive way, and there's no reason for the holding company shares to trade at a discount at all."

In other words, by owning Pargesa, we get the benefit of Frere's investing talents for free. I guess it's analogous to getting Buffett's at Berkshire.
batalha
Batalha - 1 year ago
Vgm - JME is being absolutely clear that he belives Albert Frere shouldnt trade at a discount. I think you make a wrong point in trying to generalize his comment.

" there's no reason for THE holding company shares to trade at a discount!.
AlbertaSunwapta
AlbertaSunwapta - 1 year ago
Think Loews CNA 2008/09. There are advantages.
vgm
Vgm - 1 year ago
Batalha - let me be clear. I was referring to Pargesa with the JME quote. I believe it has advantages over holding the individual stocks on account of Frere.

But clearly there are other cases where it's true also - BRK/Buffett, LUK/Cummings/Steinberg, etc.

Actually it was your response which generalized and needed correction.
vgm
Vgm - 1 year ago
And Batalha, let me add this further, and more recent quote, from First Eagle (though not JME this time). Again, the topic was Pargesa:

"We have had a lot of success over the years with holding companies like this, but there are clearly cycles in how they are valued, with bear markets frequently widening the discounts to the underlying assets."

So, obviously their positive experience is NOT limited only to Pargesa.
boutch2fr
Boutch2fr - 1 year ago
yep, first eagle has in the past months built a position in another European conglomerate: Bouygues

http://www.brightwire.com/news/196760-first-eagle-investment-increases-stake-in-bouygues
batalha
Batalha - 1 year ago
No I didn't generalize, I said one has to be careful with holding companies discount.

Clearly, you were not referring to Pargesa only but Holding Companies in general.

"On the subject of whether there will, or should be, a discount to par at the holding company, here's the response from Jean-Marie Eveillard in an interview from Value Investor Insight"

What is worse, you demonstrated a high degree of selection bias by hand picking a few succesfull names to demonstrate the validity of investing in holding companies. Obvisoulsy, there is no empirical evidence in your thesis. This is akin to say that investing in hedge funds is good, when you can have stellar performance funds and others where you can go belly up. Moreover, I can also name dozens of holding companies that turned out to be crappy investments.

Again, the art is selecting to appropriate ones to invest in.
vgm
Vgm - 1 year ago
Batalha - if you're going to quote me, please be rigorous and don't simply take a fragment out of context that suits your thesis. I specifically wrote:

"On the subject of whether there will, or should be, a discount to par at the holding company, here's the response from Jean-Marie Eveillard in an interview from Value Investor Insight when discussing Pargesa as one of his holdings."

As with any investment, one has to be selective. It's axiomatic. You're like the efficient marketeer who goes from saying that the market is often efficient to presuming it's always efficient!

'Nuff said.

Boutchfr2 - thanks for the info. Interesting. As you likely know, there are quite a few such holding companies around in Europe.
vgm
Vgm - 1 year ago
Most of the top holdings in Marty Whitman's Third Avenue Value Fund are holding companies - Henderson, Cheung Kong (also a favorite of Southeastern), Wheelock and Investor AB among others.

Many of them are based in Hong Kong, and have a real estate core with other components like energy, retail, infrastructure and telecommunications.

Henderson, for example, which comprises 15% of the Value Fund, has a 40% stake in Hong Kong and China gas which accounted for about 55% of its market cap. Cheung Kong (11% of the Value Fund) owns 50% of telecom giant Hutchinson Whampoa.

They are described in detail in the Third Avenue October 31 2011 commentary. Like Pargesa, the Hong Kong holdings are currently trading at a discount to intrinsic value (!), and have recently been summarised:

http://www.thirdavenuefunds.com/ta/HongKong_Feature.asp

batalha
Batalha - 1 year ago
The point you have been trying to make, that even a six year old kid is able to understand is that investments in holding companies turn out to be good investments. One more quote, now more rigorously:

" Wouldn't companies like Leucadia, Brookfield, and Cheung Kong be considered holding companies or conglomerates? All have been very successful investments over time."

Again, I just said that in many cases some kind of discount is actually merited since you will not be able to realize estimated values. This is something that shouldn't strike as odd to a value investor as you. Graham himself applied different discounts to balance sheet items such as inventory and accounts receivable. He went to even greater lenght in simply writing off any PPE value. Holding Companies do not have working capital but other assets such as illiquid stakes and hard to value equity holdings.

Do the math you want to do I would rather be more conservative.

Best

cdubey
Cdubey premium member - 1 year ago
@Batalha & @Vgm You guys are trying to make the same point. I do not see why the conversation has to be acerbic.

Investments in *some* holding companies have been very successful over time. This does not mean that investment in *all* holding companies will be successful.

Some discount to the NAV is merited. In particular cases this may not be true. One good example is Berkshire. Buffett has been able to compound book value at close to 20% rate over a long period of time. This does not mean that *all* holding companies should trade at a premium to the book value.

In investment, no generalization is true. Furthermore, the definition of risk/conservatism differs on a person to person and case by case basis. Batal might not be comfortable investing in Pargesa at 50% discount to NAV and Vgm might be comfortable investing at a 30% discount. Maybe because Vgm understands Pargesa a bit more than Batal or maybe because Batal seeks better margin of safety. You both are right according to what you think and both approaches can be justified depending on the situation you find yourself in.

batalha
Batalha - 1 year ago
cdubey - I agree with your comment. In no way, I judged the merit of an investment in Pargesa. I think you make a compelling investement case.

Also, I think BK and some other holding companies deserve no discount at all.

Best
vgm
Vgm - 1 year ago
Thanks Chandan. Not a problem.

My original point about the merits of Pargesa, and many other successful holding companies, stands.

Good luck to all!

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