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Two share classes worth investigating

Ever wonder why some companies seem to have two listings, and two different prices on those listings?

In earlier articles I have investigated dual share class and dual listing structures for some other companies and was able to draw some conclusions:

Royal Dutch Shell (RDS.A) and (RDS.B) - Article - Dutch law for withholding taxes on dividends makes different shares right for different investing situations.

BHP Billiton Ltd (BHP) and BHP Billiton PLC (BBL) - Article - Differing valuations resulting from Australian tax law makes one of these shares far more attractive for US investors.

Unilever NV (UN) and Unilever PLC (UL) - Article - Dutch law for withholding taxes on dividends makes different shares right for different situations.

Carnival Corp (CCL) and Carnival PLC (CUK) - Article - A lot to consider for the two listings, but in the end little difference between them.

Greif, Inc. (GEF) and (GEF.B) - Article - Two share classes that trade relatively close to each other in price have remarkably different claims on earnings, dividends and assets.

For this article I am looking at Lennar. For American investors buying shares there are two options for investing in Lennar: Lennar Class A Common Stock (LEN) and Lennar Class B Common Stock (LEN.B). This article will investigate the history of the two share classes and what differentiates them today. By doing this, we can draw some conclusions about the suitability of each share class for investors, and perhaps identify unique opportunities that this situation might present.

Company Profile

Lennar Corporation, together with its subsidiaries, engages in homebuilding, financial services, and real estate businesses in the United States. Its homebuilding activities primarily include the construction and sale of single-family attached and detached homes, as well as the purchase, development and sale of residential land. The company also offers financial services, including mortgage financing, title insurance, and closing services for buyers and others. In addition, it is involved in sourcing, underwriting, pricing, managing, and monetizing real estate and real estate related assets, as well as provision of real estate capital and asset management services. As of November 30, 2012, the company owned 107,138 homesites and had access through option contracts to an additional 21,346 homesites. Lennar Corporation was founded in 1954 and is headquartered in Miami, Florida. Lennar became a public company in 1971. (Edited from source: Yahoo Finance and lennar.com Historical Highlights)

Two Share Classes: History and Rights

Lennar has traded in original Common Stock (now Class A) since their 1971 public offering. In 2003, a stock distribution of 1 share of Class B Common Stock for every 10 shares of original Common Stock (now Class A) placed shares of the Class B Common Stock on public markets for the first time.

Prior to that, Lennar's Class B Common Stock, which entitles its holders to ten votes per share, was not transferable, except to members of the holder's family or entities controlled by the holder or family members. The Class B Common Stock was convertible into Common Stock on a share for share basis, but was limited as to dividends to 90% of the dividends paid with regard to the Common Stock (now Class A) in a year. Then, as is now, if at any time the outstanding Class B Common Stock is less than 10% of the outstanding Common Stock (now Class A) and Class B Common Stock taken together, all the Class B Common Stock would automatically be converted into Common Stock (now Class A).

At the time, approximately 99.8% of the Class B Common Stock was held by entities owned by the Miller family (one of the original co-founders). The principal purpose of the distribution was to increase the number of shares of Common Stock (now Class A) Lennar can issue without causing the Class B Common Stock to be converted into original Common Stock (now Class A). In the past, Lennar has sold Common Stock, issued Common Stock in conjunction with acquisitions and sold securities that are convertible into Common Stock. Lennar wanted the flexibility to continue such transactions in the future without creating a risk that the Class B Common Stock will be converted into Common Stock (now Class A).

After approval by shareholders, Class B Common Stock was changed to receive equal dividends to that of the original Common Stock (now Class A) and no longer was able to be converted on a share for share basis, all else remained equal including voting rights. Class B also began trading on public markets for the first time after the stock distribution. (Edited from source: 2003 Form DEF-A14A)

Share Price History

Using Yahoo Finance I pulled historical prices for LEN (Class A) and LEN.B (Class B) common shares. I used the closing price on the first trading day of the month from May 2003 through April 2013, and also included the closing price for both share classes from the first day of trading for LEN.B on April 24, 2003. This graph compares the price of the two stocks over the last 9+ years. (Both share class prices were adjusted for a 2004 2:1 stock-split)

(click to enlarge)

There is no denying the fact that the two share classes trade in near lockstep. They have tracked each other's overall price movements very closely over their entire 9+ year trading history.

Here is another graph showing the % premium for LEN (Class A) over LEN.B (Class B) over the last 9+ years.

(click to enlarge)

LEN (Class A) initially traded at a modest percentage premium to LEN.B (Class B) for the first 4-5 years the two share classes were publicly traded. In late 2008 this premium shot up to over 35% and since that time has spent the majority of time between 20% and 30%.

Shares Outstanding and Trading Volumes

Looking at Lennar's latest Form DEF 14-A filing (2013), there are currently approximately 161.0 million outstanding shares of Class A Common Stock, and 31.3 million outstanding shares of Class B Common Stock. Shares of Class A Common Stock over the last 3 months have had an average trading volume of approximately 4.2 million shares daily. Shares of Class B Common Stock over the same 3 month span have had an average trading volume of 42,000 shares daily. This is a 100:1 ratio of shares of Class A Common Stock traded compared to shares of Class B Common Stock traded on an average day. This lack of liquidity with regards to Class B common shares could make for exaggerated price moves in periods of market turmoil.

Review and Conclusions

After the 2003 stock distribution, both share classes of Lennar now trade on public markets, receive the same dividends and are privy to the same economic share of the company's profits and assets. Shares of Class B Common Stock are entitled to 10x the voting power as shares of Class A Common Stock, but seeing as one of the original co-founding families owns a voting majority, for an individual investor this is little more than trivia.

The biggest difference is in liquidity (average daily trading volumes), and the extra risk that puts in shares of Class B Common Stock in periods of market turmoil (i.e. heavy selling). The current premium fetched by shares of Class A Common Stock is near 30%. That seems high, especially if an investor is holding the stock for the long-term. For the first 5 years after shares of Class B Common Stock began trading this premium remained below 10%, however for the last 5 years this has ranged usually between 20-30%. In my opinion, for a long-term investor interested in owning Lennar, the 30% premium is not justified, and LEN.B would be the better choice. In this type of stock, which rarely experiences gradual change, however, I can certainly understand why somebody not interested in making Lennar a long-term holding would choose LEN.

This article was not written to evaluate the business prospects of Lennar, or its return prospects. Instead, this article was solely written to provide information on the dual-share class structure Lennar employs and remove investor uncertainty surrounding dual-share classes in general.

Do you agree with my analysis of these two share classes? Are there any issues/considerations I haven't covered that are germane to this investigation? Leave a comment below or a suggestion of any other similar share-class structures you would be interested in learning more about.

Source: Investigating Lennar's 2 Share Classes