Leucadia National: Speculating On A Jefferies Turnaround

| About: Leucadia National (LUK)

Reading Leucadia National’s 2010 Annual Report, I immediately became enthused. Not only was the report written in a highly entertaining manner palpable to the layman, it was also full of amazing facts about this company which compel me to immediately add its stock (NYSE:LUK) to my watch list for potential investment in 2012 and beyond.

First, an amusing but on the mark tidbit from the 2010 annual report:

The day this was being written, the Morning Joe television talking heads announced that the unemployment rate fell below 9% after hovering close to 10% the past 21 months. One of us is an immigrant who arrived here at age 15. Since that age, he marveled at the resilience of Americans to get up, get to work, and fix any problem. Less than 9% unemployment suggests America may be getting back up and back to work again.

There are, nonetheless, several lurking problems:

1. The United States Congress is in an eternal mud fight with no adult supervision.

2. The Country has a huge, dangerous debt.

3. Inflation lurks behind each future borrowing.

These things are dangerous and must be stopped and fixed.

This was followed by a couple of interesting facts highlighting the investing acumen of the company:

• In October 2010, we sold all of our common shares of AmeriCredit in a cash merger with General Motors Company. Leucadia received $830.6 million for the shares that we spent $425.8 million to buy. We began purchasing the stock on October 19, 2007 and sold on October 1, 2010. The $404.8 million gain resulted in a compound annual return (IRR) of 29%.

• In May 2010, we sold our investment in Barbados Light & Power Holdings, Ltd. for $85 million in cash and recorded a gain of $66.2 million. We acquired this asset in 1986 for just under $2 million, subsequently invested $18 million in the purchase of more stock, and received almost $22 million in dividends, all resulting in an IRR of 50%.

Leucadia National is a diversified investment company that has been building solid shareholder equity for the past 30 years. The book value of the company has risen steadily over this timeframe and currently sits at $28.53 per share or $23.58 after backing out $4.75 for a $1.1 billion dollar deferred tax asset. Shareholder equity has grown to $5.8 billion dollars as of 2010.

For 2011, Leucadia’s investment in Jefferies Group, Inc. (JEF) has overshadowed its earnings picture with a loss of ($750) million accumulated through the third quarter. However, this is precisely where astute investors may find speculative value aside from Leucadia’s otherwise great record of delivering to the bottom line. As of the third quarter, Leucadia National has an accumulated 9 month loss of (.39) per share compared with a $1.00 per share for 2010 during the same time period.

According to the 2010 annual report:

In April 2008, Leucadia sold to Jefferies 10 million Leucadia common shares and received 26,585,310 Jefferies common shares and $100 million in cash. Including shares acquired in open market purchases, Leucadia owns 49,351,385 Jefferies common shares, approximately 28%, for a total investment of $812.4 million. At December 31, 2010, Leucadia carries Jefferies on its books at fair value of $1.3 billion. Separately, our investment in Jefferies High Yield Trading, LLC had a decent year and earned 6%.

Jefferies' "reported" exposure to European banks has slaughtered its share price over the past year. On December 31, 2010, the share price was $26.63. It now sits at around $14. Many believe the risks are overblown and Jefferies has taken several steps to disprove the rumors, but until a clear fix is apparent for European banking woes, Jefferies may be a potentially negative wild-card on Leucadia’s balance sheet. One of the most balanced and explanatory "special situation" assessments of Jefferies Group that I have come across is one recently written up by Cove Street Capital, a small West Coast advisory firm for high net-worth individuals specializing in value investing. If Jefferies is able to weather the storm, the shares could pay off in a big way for shareholders of Leucadia National.

What makes Leucadia National a compelling investment going forward beyond the Jefferies Group speculation is not only its past track record of delivering shareholder equity, but its highly diversified portfolio of investments, which provide some degree of economic security during downturns. Leucadia National has holdings in mining, casinos, plastics, timber, oil and gas drilling, banking, vineyards, real estate, auto sales, biopharmaceutical, and synthetic natural gas projects.

Disclosure: I have no positions in any stocks mentioned, but may initiate long positions in LUK and JEF over the next 72 hours.