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The Next Berkshire Hathaway?

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August 16, 2011 – Comments (9) | RELATED TICKERS: HRG , BRK-B , IEP

 

When exceptional investors and/or business operators take control of otherwise unremarkable public corporations, it's often a prelude to a lucrative transformation of which outside investors can also take advantage, if they happen to notice what's going on before Wall Street wakes upto metamorphosis in progress.


As someone who has been writing about Harbinger Group (HRG) since it was a shell company with a pile of cash that exceeded its market cap (see post: How to buy $148.7 million in cash for $123.4 million, http://caps.fool.com/Blogs/how-to-buy-1487-million-in/397384 ) I was very interested when I came across a new write-up on the stock today.  In a recently published letter about HRG, titled "The Next Berkshire Hathaway? The Brains, Capital, and Deal Flow of a Billionaire Investor at a 38% Discount to NAV" Christopher Mittleman, the CIO of a small New York money management firm, compares Harbinger's Philip Falcone to Warren Buffett. He even goes as far as to compare HRG to an early Berkshire Hathaway.

Mittleman argues that HRG's main investment, a significant stake in Spectrum Brands (SPB) is “absurdly undervalued” for its portfolio of brands, including Rayovac batteries, Remington grooming products and Cutter pest controls.

Of course, Mittleman is talking his book, his firm currently owns approximately 1.7 million shares, around 1.2%, of HRG. Still, his argument that investing in HRG and Falcone today is similar to investing in Icahn Enterprises (IEP) and Carl Ichan at the low point of his reputation back in 1996 is an interesting one.

Here's Mittleman's attempt to value HRG on a sum-of-the-parts basis:

"HRG has 139.202 million shares outstanding. Its stake in Spectrum Brands, valued at SPB's last trade of $22.96, is worth $637 million or $4.58 per HRG share. HRG also owns a recently acquired 3.7 million share stake in Canadian firm North American Energy Partners Inc. (NOA CNC$5.12), worth $19 million today or $0.14 per HRG share. There is also about $70 million of cashworth $0.50 per HRG share. That totals $5.22 per share in NAV, only 16.5% higher than the current stock price...

Another source of upside potential comes from HRG's recent $350 million acquisition of a life insurance company from Old Mutual PLC called Old Mutual U.S. Life Holdings, Inc., which has now been renamed Fidelity & Guaranty Life (FGL)...they state the current equity value of that acquisition is now $625 million, which adds $1.98 per HRG share in incremental NAV net of the $350 million associated debt. That mark-up could be conservative because FGL's subsidiaries had statutory capital of $941 million as of 07/03/11, with net income of $39 million in Q2 2011 alone (excluding investment trading gains). And they control a massive float ($17 billion in assetsunder management). If Falcone can improve the investment returns on that float, even slightly, it could result in huge returns on the capital invested to acquire that business. HRG also createda reinsurance subsidiary to hold and invest reinsurance reserves on the life-insurance policiesand annuities of FGL, another chunk of float for Falcone to invest. So FGL may really be worth around $700 million (74% of statutory capital), and that $75 million in incremental value above current book value would add another $0.54 per HRG share to NAV."

At the very least, the letter is an interesting read.  I am still long HRG here in CAPS.  I have not yet established a real-life position, but I am thinking about it again after reading this compelling piece.

The Case for Harbinger Group as the Next Berkshire

http://dealbook.nytimes.com/2011/08/16/is-harbinger-group-the-next-berkshire-hathaway/?nl=business&emc=dlbkpma21

Deej

9 Comments – Post Your Own

#1) On August 16, 2011 at 8:45 PM, TMFAleph1 (95.10) wrote:

Falcone might be the next Berkshire Hathaway, but Falcone is no  Buffett, not when you know the manner in which Falcone treated his investors.

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#2) On August 17, 2011 at 10:02 AM, PhulishMortal (< 20) wrote:

@TMFBullnBear: Are you talking about the "loan" to himself or something else?

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#3) On August 17, 2011 at 11:05 AM, TMFDeej (99.26) wrote:

It's true that Falcone has been somewhat shady in the past and that he is definitely having problems with the Lightsquared investment that his hedge fund is heavily involved in.  Lightsquared has nothing to do with HRG though.  As was mentioned he's definitely no Warren Buffett.  Having said that, I do like the comparison to Carl Ichan.  If Falcone's future track record is close to Ichan's that would be good enough for me.

I don't think that HRG is the sort of buy it and forget it stock that BRK is.  I definitely would want to keep an eye on Falcone's moves, but it does seem like an interesting opportunity.  To create my own analogy, this seems like it might be similar to a Biglari Holdings (BH) type of jockey investment.  Many people have problems with Sardar Biglari's moves in terms of his compensation, different classes of stock, etc... but if he ultimately makes money for investors then none of that will really matter.

One of the bigger issues with HRG is its cost of funds.  It has raised money at some very high rates lately.  That creates a fairly high hurdle. 

As I mentioned, I plan on keeping an eye on HRG but I have not invested any real money in it yet.  If Falcone proves to be a good investor then HRG will do really well.

Deej

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#4) On August 17, 2011 at 3:46 PM, Teacherman1 (46.42) wrote:

If he has "been somewhat shady in the past", why would one want to invest money in a company he is running?

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#5) On August 18, 2011 at 10:55 AM, TMFAleph1 (95.10) wrote:

@PhulishMortal: Yes.

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#6) On August 18, 2011 at 11:09 AM, TMFAleph1 (95.10) wrote:

@PhulishMortal: Yes.

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#7) On August 30, 2011 at 10:06 AM, MKArch (99.73) wrote:

I'm glad to see you are still following HRG Deej. I did a back of the envelope valuation on SPB shortly after the announcement that HRG would be taking a controlling stake and I came up with mid to high $30's, I don't have a clue how to evaluate the insurance business however given the discount to traditional valuations I was worried this business might need to raise capital and this is what the high priced bonds were for. The article suggessted the re-insurance business will need some capital but the main insurer apparently does not. Do you have any thoughts on how good a deal this acquisition is (or is not)?

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#8) On August 30, 2011 at 10:10 AM, MKArch (99.73) wrote:

BTW I was also thinking that with real operating businesses HRG could eventually pay off the high priced bonds with new financing at more generous terms. Any thoughts on this?

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#9) On January 04, 2012 at 2:32 PM, IlluminatInvest (60.20) wrote:

Deej, you still following this stock or has the Well's notice against Falcone scared you off? 

Seems like this is a screaming value at 4 bucks since the SPB stake alone is worth $5.50 a share.

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