Bill Ackman (Trades, Portfolio) can’t seem to get enough of The Howard Hughes Corp. (HHC, Financial). According to GuruFocus Real-Time Picks, a Premium feature, the activist investor’s Pershing Square Capital Management now owns 32.19% of the company’s total shares outstanding after buying more shares on May 4, 2023. This marks the sixth time the guru has bought Howard Hughes stock this year.
Ackman has been a shareholder and Chairman of the Board for Howard Hughes ever since it spun off from General Growth Properties at the end of 2010. General Growth Properties had only just recently exited Chapter 11 bankruptcy at the time, so Ackman got a great deal.
The activist investor has built a strong bull case for the real estate company. However, believing in the company’s future may not be the only reason why Ackman keeps buying the stock. Based on comments from the guru’s 2022 shareholder letter and past interviews, it’s possible that it might also be the next step in Ackman’s plan to structure Pershing Square like Warren Buffett (Trades, Portfolio)’s Berkshire Hathaway (BRK.A, Financial)(BRK.B, Financial).
Getting to the same place as Buffett
In a 2021 interview with Fifth Avenue Synagogue, Ackman talked about Berkshire’s early days and how he has tried to structure Pershing Square to be like Buffett’s investment vehicle.
“If you follow him from the mid-1950s to the late 1960s he managed what is best described as an activist hedge fund…” Ackman said, going on to describe how, by merging his hedge fund with an operating business (Berkshire Hathaway, which at that time was a textile company), Buffett essentially “gave up the right to receive a share of the profits in exchange for permanent capital which tells you how he valued it, or how highly he valued it.”
Having permanent capital is important because it reduces the need to trade in and out of assets as a hedge fund’s investors shuffle around their money to adjust to market conditions. Transaction costs may not seem like much individually, but they add up over time, and then there’s the lost opportunity costs and the increased risk of buying or selling at a bad time.
Ackman then discussed Pershing Square’s listing of its own public entity on the London Stock Exchange, Pershing Square Holdings (LSE:PSH), structured as an asset management company.
“We started about 12 years in at Pershing Square. We launched a public entity, structured as a European closed-end fund with a business plan to get to the same place ultimately as Buffett…
Didn’t get there precisely the same way but over time the vast majority of our assets are now in the public entity. Buffett also owns half of this public company, in our case I and the other employees own about 25% and it takes a 75% vote to liquidate the entity so the large stake we own gives us effectively permanent money to make very long-term decisions…”
Pershing Square couldn’t list in the U.S. because hedge funds operate outside of many of the country’s traditional regulatory restrictions, preventing them from going public without having a sizeable enough operating business like Berkshire or growing into a big-name investment management firm like BlackRock (BLK).
An operating company in the U.S.
While Pershing has managed to achieve an enviable level of investment stability reminiscent of Berkshire through its London listing, the holding company’s shares on the London Stock Exchange suffer a persistent and increasing discount to net asset value. The stock’s discount to NAV has grown to 33.2%, even as Ackman has tried to combat this with share buybacks.
The solution to this problem, and the next step in making Pershing more like Berkshire, could be to list Pershing on the NYSE, but in order to do this, Ackman will need an operating business. Ackman brought up this topic in his 2022 semi-annual letter to shareholders:
“As PSH grows in market capitalization and its ownership stakes in its portfolio companies increases, one can envision a world in which over time PSH becomes a controlling owner of one of more businesses that comprise the substantial majority of our assets and income. We expect to continually evaluate PSH and its operations, and consider whether in the future it may be able to operate not as an investment company in the U.S., but rather as an operating company that could be listed in the U.S.”
Why Howard Hughes?
With a market cap of $3.79 billion as of this writing, Howard Hughes alone would not be enough of an operating business to allow Pershing to list in the U.S., even if Ackman were to acquire the company in its entirety. Pershing has approximately $14 billion in assets under management. Even if shares of the real estate company doubled, it would not be enough.
Still, Pershing will have to start somewhere if it wants to build an operating business to house its investment operations on the NYSE and help close that discount to NAV. Why start with Howard Hughes, though? In his 2019 letter to shareholders, Ackman wrote:
“In addition to residential land sales, HHC has a significant, under-appreciated profit opportunity in the commercial development of its MPCs [master planned communities]. As MPCs reach a tipping point of residential density, demand arises for retail, office, multi-family and hospitality development in HHC-owned MPC town centers. Over time, the stable and recurring real estate cash flows (net operating income or NOI) from these properties will represent a growing percentage of HHC’s value.”
Howard Hughes’ small market size also makes it a viable target for gaining a controlling interest and opening the door to a potential acquisition. Most of Pershing’s other stock holdings are huge companies, many of which not even Buffett would have a shot at acquiring, like Lowe’s (LOW, Financial) with a $122 billion market cap and Canadian Pacific (CP, Financial) Railway with a $75.01 billion market cap.
From Bill Ackman (Trades, Portfolio)’s commentary, it looks like gaining control of operating businesses in order to eventually list Pershing Square in the U.S. is a viable possibility that he is actively considering and may work towards if it is in the best interests of the company and its investors.
It doesn’t seem likely to be an imminent development. Howard Hughes might someday be a step in that direction, but Warren Buffett (Trades, Portfolio) didn’t build Berkshire Hathaway overnight. Moreover, transitioning to the kind of model Berkshire has isn't as simple as just acquiring and building up operating businesses and listing in the U.S. Unlike a hedge fund, Berkshire doesn't charge performance fees, profiting with investors rather than just from them.
Nevertheless, it will be interesting to see how the situation develops, especially if Howard Hughes can position itself to take advantage of the underbuilt U.S. housing market when interest rates are lowered. Even if nothing more comes of it, Ackman's mimicking of Berkshire's permanent capital advantage demonstrates one of the most enduring principles of value investing: it's better to stay invested in quality stocks in the long run than trade in an out of positions on a whim.