Seth Klarman is the legendary value investor who has helmed Baupost Group to extraordinary returns over three decades. Extremely risk-adverse and somewhat reclusive, Klarman penned a renowned value investing tome called Margin Of Safety, then promptly let it go out of print on concerns that he was educating his own competition and threatening future returns. The book now famously sells for hundreds of dollars.
As a result of increased competition for traditional value investing prospects, Klarman repeatedly espouses his desire for opportunities too complex for most investors to delve into. So it is somewhat surprising to review his recent Q2 2011 13F-HR filing, which readers can view in spreadsheet format here.
Klarman added four new names to his portfolio in Q2:
|COMPANY||Current Price||Market Cap||Yield||PE||EV / EBITDA||Debt to EBITDA|
|BP PLC (BP)||$40.17||126.8B||1.26 (3.17%) ex-div:"Aug 3"||6.3||4.7||1.4|
|Microsoft Corp (MSFT)||$25.10||210.3B||0.61 (2.42%) ex-div:"May 17"||9.4||5.8||0.4|
|Idenix Pharmaceuticals Inc (IDIX)||$4.16||385.8M||N/A||N/A||(7.1)||0.0|
|Central Pacific Financial Corp (CPF)||$10.73||447.8M||N/A||10.0||N/A||N/A|
A quick look at the Baupost filing reveals that BP and MSFT are already among his top five largest holdings. They might also be considered more traditional value investments.
BP p.l.c. is an international oil and gas company, operating its products in more than 80 countries, providing its customers with fuel for transportation, energy for heat and light, retail services and petrochemicals products. Despite returns of 21% ROE and 11% ROI trumping industry averages of 11% and 8% respectively, BP has long had safety issues, culminating in the disastrous Gulf Of Mexico accident last year. The fall-out from that accident has led to massive cash outflows in 2010 into 2011 but obviously, Baupost must feel this development is only temporary. I owned BP stock since 2008 but sold shortly after the Gulf accident due to low visibility on what the company would look like in the aftermath. Klarman has a very good team of analysts so his big bet indicates the worst is over for BP. If so, I'd tentatively value BP at $50 per share.
Microsoft Corporation is engaged in developing, licensing and supporting a range of software products and services. The Company also designs and sells hardware, and delivers online advertising to the customers. Most importantly, it is a profit-making machine judging from its returns vs. industry averages: ROE of 45% vs 20%) and ROI of 33% vs 16%. MSFT generated an jaw-dropping 24% free cash flow return on its asset base. Typically, Klarman would view a stock as MSFT as too readily available to be worthwhile so he may either think it is really cheap or inexpensive enough to provide reasonable shelter in a dangerous investing environment or most likely, some combination of the two. At the height of the financial crisis, I sold naked puts on MSFT with shares trading around $15 for 10% premium on the premise that if the company could maintain its then FCF run rate of $15B annually, the stock was worth $25 per share. Free cash flow over the last two years ranged from $22B - $24B and if the company can continue that pace, I put the shares at $40.
Klarman's other two picks follow in the mold of his off-the-beaten-path investment style. Idenix Pharmaceuticals, Inc. is a biopharmaceutical company focused primarily on the treatment of hepatitis C virus (HCV). Like his other small pharmaceutical investments, IDIX is exactly the kind of obscure play where Klarman can leverage his superior research advantages. The company currently generates no profits and burns cash.
Central Pacific Financial Corp. offers full-service commercial banking with 34 bank branches and 120 ATMs in the state of Hawaii. As we have seen with other noted value investors, from Bill Miller to more recently, Bruce Berkowitz, investing in financials is not for the faint of heart. While those investors may ultimately profit from their investments, it would be extremely difficult to hang on through massive losses without a thorough understanding of what lurks on a bank's balance sheet.
View a report of Klarman's complete filing in spreadsheet format here.