|Shares Out. (in M):||106||P/E||0||0|
|Market Cap (in M):||740||P/FCF||0||0|
|Net Debt (in M):||0||EBIT||0||0|
This is a relatively simple idea, so I won’t go into too much detail here. BIF is a closed-end fund that trades at a very significant discount to NAV, with a roughly 25% discount as of market close on Friday, February 19th. BIF is a fairly concentrated fund with the largest holding being Berkshire Hathaway (at nearly 27% of the NAV) and followed by a number of other large positions that most value investors are probably reasonably comfortable owning (JPM, Wells Fargo, Yum Brands, Chevron, Cisco, Wal-Mart, etc) at least at a 25% discount from current market prices.
I normally am not much attracted to the strategy of buying CEFs at a discount and waiting for the discount to narrow, but the recent environment has gotten pretty extreme in my view in terms of CEF discounts widening across the board. In addition, BIF does have a lot of strong attributes that makes it a decent candidate for such a strategy. First of all, BIF recently merged three other small funds into BIF to create one much larger surviving fund that has a $740M market cap and nearly $1B NAV, so it’s liquid enough to buy and sell without much issue (unless you run a LOT of money, in which case I’d like to have your problems). In addition, the fund just announced a managed distribution policy in November 2015, which is still so new that most of the CEF databases haven’t reflected this new information yet. This is a nice feature in my opinion, as it allows us a way to receive cash distributions based on the full NAV price as it gets distributed out, and thereby provides some mechanism other than discount narrowing to benefit from the discount itself. While the distribution isn’t huge, it is paid monthly at 3.3 cents or 39.6 cents per annum. This equates to a roughly 5.7% annual payout (either dividend or return of capital, depending on how the fund performs).
The management fee is somewhere in the range of reasonable to a little high for a permanent capital, vanilla equity fund vehicle, but the all-in expense ratio of about 1.35% is not bad and won’t materially detract from the outcome for an investor in BIF today so long as a discount narrowing doesn’t take forever.
For me the most attractive element of this idea is that Berkshire Hathaway appears to me to be trading at a very decent valuation (just a bit above 1.2X year-end book value) which means that investors are buying BRK at below BV via BIF. Drop most any other of the major holdings by 25% and you come up with some really nice valuations as well (JPM, for example, can be bought at 90% of tangible BV via BIF).
The risk factors here are pretty straightforward: 1) the fund performs really poorly, and therefore any value from the discount narrowing doesn’t matter; 2) the discount could widen, but BIF is already the single most discounted CEF of any size across an industry of nearly 600 funds and discounts across the industry are pretty wide by historical standards already; 3) the fund decides to reduce or eliminate the monthly distribution, which while not economically that critical would likely scare away the retail investors that are typically a big portion of the buying constituency for CEFs; and 4) Berkshire Hathaway dramatically underperforms.
Given that points 1 and 4 are related and can be reasonably hedged by investors that wish to reduce the BRK exposure, I think the real risks to the investment case are mostly 2 and 3. My own view is that the Berkshire concentration is actually one of the attractions here, so I’m not worried about 1 and 4. Unfortunately, I have no idea when, whether, or by how much the discount might close, so you are on your own there.
Below is a list of the top twenty holdings as of December 31, 2015:
Holdings are subject to change depending on subsequent purchases and sales of securities. Holdings will be updated as of the end of each month and published on this webpage no sooner than 30 days after month end.
|#||Security||Shares||Market Value||Weight (%)|
|1||BERKSHIRE HATHAWAY, INC., CLASS A||1,144||$226,283,200.00||21.41%|
|2||JPMORGAN CHASE & CO.||1,028,000||$67,878,840.00||6.42%|
|3||WELLS FARGO & CO.||1,233,600||$67,058,496.00||6.35%|
|4||YUM! BRANDS, INC.||915,000||$66,840,750.00||6.32%|
|5||BERKSHIRE HATHAWAY, INC., CLASS B||485,000||$64,039,400.00||6.06%|
|7||WAL-MART STORES, INC.||818,100||$50,149,530.00||4.75%|
|8||CISCO SYSTEMS, INC.||1,822,200||$49,481,841.00||4.68%|
|10||COHEN & STEERS INFRASTRUCTURE FUND, INC.||1,914,058||$36,520,226.26||3.46%|
|12||JOHNSON & JOHNSON||320,900||$32,962,848.00||3.12%|
|15||INTERNATIONAL BUSINESS MACHINES CORP.||145,200||$19,982,424.00||1.89%|
|17||CK HUTCHISON HOLDINGS, LTD.||1,155,500||$15,595,421.97||1.48%|
|18||AMERICAN EXPRESS CO.||210,000||$14,605,500.00||1.38%|
|20||HEINEKEN HOLDING NV||180,000||$13,888,677.58|
· The discount narrowing back to even a more normalized level of 10-15% within a year or so would equate to a decent albeit modest outcome, particularly if the fund itself produces a positive return (or at least relatively good returns as compared to the market).
· I have a generally positive view of the fund management here, and I can’t imagine that they aren’t cognizant of the discount, so I wouldn’t be at all surprised to see them buy back shares given the big discount. Of course, there are also CEF activists that will inevitably get involved at some point if this discount persists, which will at the very least likely increase the manager’s focus on narrowing the discount.
· I’m not sure whether the market recognition of BIF’s new monthly dividend policy being reflected in the online databases will be a catalyst or not, but it can’t hurt.
· Also, I could see Berkshire performing quite well in the near future (at least on a relative basis) as it did back in 2014.
|Entry||02/21/2016 01:52 PM|
Brendan Fischer is the guy who is writing the fund reports (I recommend reading the latest annual letter from November 2015) but I assume Horesji is still involved at the asset manager in some capacity.
The latest annual letter describes in some detail what the manager has been doing to try to close the discount, and the actions taken so far should have been helpful. I happen to think that we are just in a period where a combination of the trend away from active management in general and investor fear in recent months has caused the discount to widen instead of narrow.
|Subject||Re: deferred tax liabilities|
|Entry||02/22/2016 02:41 PM|
Let me address the two issues brought up by gandalf and north481:
On the subject of the past behavior by management, I will point out that prior to combining the four Boulder funds into one, BIF was a tiny, tiny fund and it was getting smaller. While I wouldn't want to see them do another rights offering, I do think that at the time BIF's assets were getting so small that the fund was becoming un-economical. I'd like to think that given the choice I wouldn't have done the same thing, but I don't think those conditions prevail now. The recent actions by the manager have seemed much more friendly. Not that I don't think any management might do something shareholder unfriendly if it saves their little empire, but I don't see an immediate risk of something similar on the horizon in this case. And one can argue that at least a rights offering is a reasonably fair way to raise capital, as it provides existing shareholders with first dibs.
As far as the embedded tax gains on BRK, let's just run the math. BRK is a 27% position. The NAV discount is 25%. So if we assume 100% of the BRK stock was bought at $0 and it was all taxable, and they sold it all, using a blended 25% tax rate would justify a 6.75% discount to NAV. As a practical matter, because BIF has permanent capital (except for the distribution, which they control) and because I perceive that they wouldn't be sellers of BRK at recent prices (given my own view that BRK's valuation is actually as compelling as it has been for several years) I'd be surprised if they sold anything in the near term. Indeed, one of the attractions here is that the positions are relatively stable so you more or less know what you own at any given point in time. This is very much a buy-and-hold type of fund.
I'm not saying that investing in BIF here (or any CEF for that matter) doesn't have some obvious risks. I'm just saying I think the 25% discount more than compensates the investor for taking them, when you also consider that many of the underlying holdings also appear to be on the cheap-ish side.