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Buffett Partnership Letter Series – 1960 (Part 3)

December 05, 2012 | About:
In Part 3, we will take a closer look at some of the numbers behind Warren Buffett’s partnership investment in Sanborn Map (as described in the 1960 letter).

For your reference, my previous comments on the 1960 partnership letter can be found here: Part 1 & Part 2.

With that out of the way, let’s jump into the Sanborn Map numbers.

General Facts

  • The first purchases of Sanborn Map were made by the Buffett partnership in late 1958. At that time, approximately 25% of assets of the various partnerships were invested in Sanborn Map common stock. And as of 2/20/1960, that number increased to approximately 35%. Obviously, Sanborn Map was a very large holding for the partnerships.
  • In the early 1930’s, Sanborn started accumulating an investment portfolio. Over time, $2.5 million was invested (approximately ½ in bonds and ½ in stocks). Sanborn’s investment portfolio blossomed in the 1950’s.
  • Despite “carding,” over $500 million of fire premiums were underwritten by “mapping” companies (i.e., companies that used maps like the ones created and owned by Sanborn Map). It’s interesting to compare this number to Sanborn Map’s sales volume of approximately $2.5 million per year (presumably in the late 1950’s or 1960).
  • The value of marketable securities in Sanborn Map’s investment portfolio (presumably in the late 1950’s or 1960) was approximately $7 million.
  • In late 1958, the market capitalization of Sanborn Map was approximately $4.725 million (i.e., $45 per share * 105,000 shares = $4.725 million).
Snapshots in Time: 1938 and 1958

Below is a table that 1) describes business and stock market valuations in 1938 and 1958, 2) compares the pricing between the Dow Jones Industrial Average (DJIA) and Sanborn Map in 1938 and 1958, and 3) examines the price versus value of Sanborn Map in 1938 and 1958.



Year


Business & Stock Market Valuations


DJIA Level


Sanborn Map Price Per Share


Value of Sanborn Investment Portfolio ($ per share)


Implied Value of Sanborn’s Map Business ($ per share)


1938


“Depressed”


100 to 120


$110


Approx. $20


Approx. $90


1958


“Tremendously More Vigorous”


550


$45


$65


–$20


So, in the depressed market of 1938, Sanborn’s stock sold at around the same level as the DJIA (approximately 110). However, in the more vigorous market of 1958, Sanborn’s stock sold at $45 while the DJIA had increased to 550. So, clearly, Sanborn Map did not follow the same path as the DJIA.

But while the company’s share price did not keep pace with the DJIA, the company became a very attractive investment.

  • In 1938, a buyer of Sanborn Map at $110 per share was paying full value (100 cents on the dollar) for the investment portfolio (worth $20 per share) and placing a value of $90 per share on the map business.
  • However, in 1958, a buyer of Sanborn Map at $45 per share was only willing to pay approximately 70 cents on the dollar for the investment portfolio (worth $65) with the still-profitable map business thrown in for free. This implied that investors were placing a value of around negative $20 per share on the map business. This pricing occurred during a period in which business and stock market valuations were “tremendously more vigorous.”
To add some color to the above table, we need to remember that:

  • The after-tax profits of Sanborn Map in the 1930s were over $500,000 (average annual level). However, in 1958 and 1959, after-tax profits of Sanborn Map were under $100,000. This translates into a reduction in profit of over 80% over more than 20 years.
Share Ownership

  • In late 1958, the Buffett partnership bought 15,000 shares from the widow of a deceased president of Sanborn. At that time, there were two other large holdings: one of about 10,000 shares (dispersed among customers of a brokerage firm), and one of about 8,000 shares. These other shareholders wanted “a separation of the investment portfolio from the map business,” as did the Buffett partnership.
  • Later, the holdings of the Buffett partnerships (including associates) “were increased through open market purchases to about 24,000 shares and the total represented by the three groups increased to 46,000 shares.”
Below is a table showing share ownership of 1) the Buffett partnerships, and 2) the aforementioned “three groups” (Buffett partnerships, brokerage firm customers, and the other large shareholder).



Timeframe


Shares Owned by Buffett Partnerships


Shares Owned by Three Groups


Total Shares Outstanding


Shares Owned by Buffett Partnerships Divided By Total Shares Outstanding


Shares Owned by Three Groups Divided By Total Shares Outstanding


Late 1958


15,000


33,000


105,000


≈ 14.3%


≈ 31.4%


Subsequent to late 1958


24,000


46,000


105,000


≈ 22.9%


≈ 43.8%


The above table is interesting because it shows the ownership percentage that Buffett partnership and like-minded investors had when they were trying to “persuade” Sanborn’s board of directors to take some shareholder-friendly actions.

Deal to Take Out Stockholders at Fair Value Who Wanted Out

The 1960 letter states: “To avoid a proxy fight (which very probably would not have been forthcoming and which we would have been certain of winning) and to avoid time delay with a large portion of Sanborn’s money tied up in blue-chip stocks which I didn’t care for at current prices, a plan was evolved taking out all stockholders at fair value who wanted out. The SEC ruled favorably on the fairness of the plan. About 72% of the Sanborn stock, involving 50% of the 1,600 stockholders, was exchanged for portfolio securities at fair value. The map business was left with over $1 ¼ million in government and municipal bonds as a reserve fund, and a potential corporate capital gains tax of over $1 million was eliminated. The remaining stockholders were left with a slightly improved asset value, substantially higher earnings per share, and an increased dividend rate.”

So, 72% of Sanborn stock was exchanged in the deal mentioned above (and I think it’s safe to say that the Buffett partnership opted for this exchange). This represented 75,600 shares of stock (i.e., 72% * 105,000 shares outstanding = 75,600 shares). This left the company with 29,400 shares outstanding.

The 72% of the Sanborn stock exchanged represented 800 stockholders (i.e., 50% of 1,600 stockholders). So, 800 stockholders did not exchange their shareholdings.

We know that the “map business was left with over $1.25 million in government and municipal bonds as a reserve fund, and a potential corporate capital gains tax of over $1 million was eliminated.”

So, it sounds like, after the exchange was completed, Sanborn Map was left with over $1.25 million in government and municipal bonds as a reserve fund. That would mean that the stockholders that opted for the exchange received around $5.75 million in marketable securities at fair value (i.e. the original $7 million in marketable securities held by Sanborn minus the $1.25 million reserve fund maintained by Sanborn after the exchange). (Note: In 1958, the fair value of the marketable securities held by Sanborn was a little less that $7 million. Buffett mentions that there was about $65 per share in investments in 1958. This translates into an investment portfolio value of about $6.825 million – i.e. $65/share * 105,000 shares = $6.825 million. But for the purposes of our discussion, we will assume that the investment portfolio at the time of the exchange was valued around $7 million.)

Warren Buffett also mentions that “a potential corporate capital gains tax of over $1 million was eliminated.” In the late 1950s and 1960, the corporate capital gains tax rate was set at 25% (see here). So, I think this means that the $5.75 million in securities subject to the exchange had a gain of greater than $4 million over its cost basis. Obviously, the elimination of the corporate capital gains tax was a huge benefit to the shareholders.

The market value of securities that the Buffett partnership received from the exchange plan was around $1.83 million, i.e. (24,000 shares/75,600 shares)*$5.75 million = approximately $1.83 million. That translates into about $76 per share ($1.83 million/24,000 shares). (Note: It's probably safe to assume that when the Buffett partnership received these securities from Sanborn Map, it sold them. Buffett states that “a large portion of Sanborn’s money [was] tied up in blue-chip stocks which…[he] didn’t care for at current prices”).

Furthermore, Buffett writes that: “The remaining stockholders were left with a slightly improved asset value, substantially higher earnings per share, and an increased dividend rate.” Here’s what we can say about this passage:

  • “Improved asset value” — I assume he is talking about net asset value here. However, since we don’t know the net asset value of the map business, we can’t quantify this value for the remaining stockholders. But I think it’s probably correct to say that the improved asset value must have been greater than the $65 per share worth of securities that Buffett mentions (assuming the net asset value of the map business was greater than 0). Also, we do know that the remaining stockholders kept over $1.25 million in government and municipal bonds as a reserve fund. This translates into over $42.51 per share in government and municipal bonds (i.e., > $1.25 million / 29,400 shares = > $42.51 per share).

  • “Substantially higher earnings per share” – Since we don’t know the income that the investment portfolio generated, we can’t quantify the company’s exact earnings per share (either before or after the exchange offer). However, we do know that the after tax profits of the map business fell to under $100,000 in 1958 and 1959. Thus, we know that before the exchange offer, the earnings per share of the map business was less than about $0.95 per share (i.e., < $100,000 / 105,000 shares = < $0.95). However, after the exchange, the earnings per share of the map business would have been much greater (due to the reduction in the share count). After the exchange, the earnings per share of the map business would have been less than about $3.40 per share (i.e., <$100,000 / 29,400 shares = < $3.40 per share). So, we can see that the remaining stockholders were left with substantially higher earnings per share in the map business.

  • “An increased dividend rate” — Since we don’t know anything about the dividend amounts that were paid out just before and after the exchange offer, we’ll just have to take Buffett’s word on this one.


Profit and Cost Basis on Sanborn Investment

According to Roger Lowenstein’s book, "Buffett: The Making of an American Capitalist," the Buffett partnership’s profit on the Sanborn investment was around 50%. If that is true, then the partnership’s cost basis was probably around $51 per share (i.e. approximately $76 per share / 1.5 = almost $51 per share). This cost basis is about 13% above the 1958 stock price that Buffett mentions in the partnership letter.

Thanks for running some numbers with me on Sanborn Map. Next time, we’ll take a look at the first half of 1961.

Links to other articles in the Buffett Partnership Series:

Previous article: Buffett Partnership Letter Series – 1960 (Part 2)

Introduction: Buffett Partnership Letter Series

About the author:

Value Study
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