Well respected investment company Leucadia National has been buying large stakes of AmeriCredit Corp (ACF) and Jefferies & Company (JEF), Inc. With this article we would like to review the company and these deals.
Leucadia is often referred as mini-Berkshire; it is run by great investors Chairman Ian Cumming and President Joe Steinberg. Contrary to Warren Buffett's favorite investment strategy, Leucadia is not looking for good companies at fair prices and holding them “forever”. They concentrate on deep value investments in distressed or out of favor assets, and stay within their circle of competence which includes, among others, telecommunications, lending/banking, real-estate and mining industries. Once they control the company they turn it around and sell it for what have been historically excess returns.
Leucadia National has delivered a return on equity of above 21% per year over the past 30 years. The company’s stock has gained 33% per year in average, compared to the S&P500’s gain of 9.9% per year in the same period.
The recent crisis in the financial market has been well perceived by Ian Cumming and Joe Steinberg. This is what they wrote in their 2004 shareholder letter:
In the late 1990s there was a tremendous run-up in the value of assets. We concluded that prices were unsustainable and, therefore, sold most of our assets at significant gains. Last year it looked like values might return to more sensible levels. Competition for investment opportunities, however, roared back in the form of 35-year old hedge fund managers – private equity firms who have never known a bear market – and other investors willing to invest at high prices in risky assets with seemingly cheap money. These unguided optimists are ably assisted by the existence of an ebullient junk bond market and the hot potato bank loan market, where banks make loans sending them out the door before the ink has barely dried, disappearing into an amorphous market where credit is at best secondary and mostly forgotten. We wonder who buys these loans. All this speculation casts a familiar shadow and reminds us of 1988, and the time immediately before the demise of Drexel Burnham. But, every speculative era is different and ends in a new way. We are particularly struck by the fact that four of the twelve or so AAA companies listed on the New York Stock Exchange are all under investigation for alleged financial shenanigans (MBIA, AIG, Fannie Mae & Freddie Mac). It may be that it will take some time for the natural workings of capitalism to correct its own excesses, but the process in the end could get pretty ugly.
And “the end” finally came, a little over two years after the writing. Ian Cumming and Joe Steinberg saw it coming, and got prepared with more than $1 billion in cash. They wrote in their 2007 shareholder letter:
Smelling impending trouble in the financial markets we sold $500 million principal amount of newly authorized 71/8% Senior Notes due 2017 at par, and $500 million of 81/8% Senior Notes due 2015 at 98.307%. Leucadia also sold 5.5 million common shares at $45.50 per share realizing $242 million. We are glad to have this extra cash and are hopeful that we will put it to good use over the next year or two.
What did they buy? The first company bought was auto loan company AmeriCredit Corp (ACF). As the asset-backed securities market dries up, AmeriCredit Corp.’s stock was hit by the fear of the default of car loans and the ability of issuing new loans. This caused stock prices to decline from $25 to single digits. Leucadia bought more than 30 million shares of ACF at prices between $11 and $13; since then the stock has been up about 20%. Leucadia now owns more than 26% of AmeriCredit Corp.
What is the risk associated with their purchase? This is what Ian Cumming and Joe Steinberg wrote about it:
As of this writing, we have acquired 26% of AmeriCredit Corp. (“ACF”) for $373.9 million. We have known of this excellent company for many years, having been in the sub-prime auto business ourselves. ACF has made and financed over $53 billion of these loans and none of its lenders has lost a penny. In this environment, financing for ACF is going to be very difficult and management is taking appropriate steps to downsize the company. We are guardedly optimistic that the financial market will climb out of its bunker next year. People need auto financing to get to work.
It is worth noting that we have reported on April 9 in the Premium Feature of “Real Time Picks” that Guru Bruce Berkowitz also bought 12.9 million shares of ACF. Bruce Berkowitz runs Fairholme Fund and has achieved an annualized return of 16% over the past 9 years. Since our report the prices have ACF have gained more than 40%. (If you are not a Premium Member, please Take a Free Trial.) The purchase by Bruce Berkowitz and Leucadia should give us a lot of confidence in ACF. The company is currently traded at 80% of its book value.
Leucadia is also buying Jefferies & Company (JEF). The latest purchases were made yesterday (May 5) at prices of $19.93. Details can be seen here. If you think that you have missed the opportunities in ACF (maybe you haven’t), then you can consider JEF. Above all, JEF is traded only a fraction above what Leucadia has paid, and it is likely that they will continue to buy shares.
Apparently Leucadia has done business with Jefferies before. Ian Cumming and Joe Steinberg wrote in 2007 shareholder letter:
During 2007, Leucadia and Jefferies & Company, Inc. formed JHYH (Jefferies High Yield Holdings), a successor entity to JPOF II which returned 20% compounded annually for seven years. Our commitment to JHYH is $600 million of which $350 million has been funded. JHYH operates in every corner of the high yield market (but no sub-prime mortgages) and has thus far escaped harm, though our share of 2007 earnings was just $4.3 million. For the time being JHYH is hunkered down and has weathered the storm. Thanks to Rich Handler, Chairman and CEO of Jefferies.
Leucadia currently owns more than 42 million shares of Jefferies & Company, which is more than 30% of the company’s shares outstanding.
What should an investor do with this information? Investing in ACF or JEF, following the best in business? Or just invest in LUK and let the best investors do the heavy lifting? With LUK stocks traded at its all time high of $53.89 today (May 6), some GuruFocus users think that the stock is overvalued.
Valuating Leucadia takes a lot of hard work, that is maybe why no Wall Street analysts covers it. Currently Leucadia is traded at 2 times of its book value.
How will the credit crisis end? This is what Ian Cumming and Joe Steinberg see it:
One of us has been mumbling about Credit Armageddon for years and it seemed earlier this year that his fears were to be realized. At least for the time being, this nightmare has been avoided by strong government intervention.
Unfortunately, we suspect that the wizards of Wall Street have not only made mischief in the mortgage market, but in all other loan markets as well and that the full effect of this is not yet visible. It seems that almost all financial institutions and investors have mispriced risk, and many financial institutions have found themselves carrying assets on their balance sheets at amounts considerably higher than market or their intrinsic worth. Recently, and often at the behest of regulators, financial institutions have been forced to sell these assets or to recognize the mark to market losses, all of which erodes net worth, forcing them to raise new equity capital and/or to reduce leverage, a process that has come to be known as deleveraging.16 It may take quite a while for the scrubbing of balance sheets and the unwinding of leverage to come to an end, and we suspect that not all will survive.
We were not immune and have suffered some small damage in one of our investments. We are confident that the financial system will repair itself and to learn to better distinguish who is a worthy borrower and what is a worthy loan. On the bright side, opportunities for courageous investors should abound.