Time arbitrage involves taking advantage of the opportunity for long-term profit offered when short-term investors sell due to disappointing short-term macro or business progress. Bill Ackman has been an expert in exploiting this strategy, and has written about this in his Q1 2012 newsletter.
Bill Ackman's investment approach is to wait for the opportunity to purchase a great business at a highly discounted valuation, when investors overreact to negative macro or company-specific events. His time frame for value realization is long term, and does not typically react to short-term factors that have little impact on long-term, intrinsic values. His greatest competitive advantage is the ability to buy a stake in a company with the ability to intervene in the decision-making, strategy, management, or structure of the business, even with large corporations. Now, let us look at some of his investments.
Procter & Gamble (PG): P&G has struggled in recent years as the economy continues to weaken and the company cut its full-year 2012 earnings forecast. While the economy has played a role in its poor performance, the company is also suffering from major strategy snafus, including its delayed move into emerging markets, high overhead costs and a decision to sell premium brand products at premium prices.
According to Bloomberg reports, P&G board members are displeased with CEO Bob McDonald's record, and have considered ushering in former executives to take the top post. Ackman's timing could not be better to help make that happen. Morgan Stanley (MS) Analyst Dara Mohsenian has proposed three possible changes Ackman could push for:
- More aggressive cost-cutting
- Organizational changes: Mohensian think that management changes are coming and feels that investors and analysts would welcome it.
- Strategic Actions (Divestitures or split ups): Procter recently divested its Pringles business, and Ackman has pushed for splitting up companies in his past investments.
With a market cap of $180 billion, P&G is the largest producer of household and personal care products by revenue. The company has raised dividends for 56 consecutive years, and offers an attractive dividend yield of 3.5% on a payout ratio of 69%. Its peers -- Kimberly-Clark (KMB), Johnson & Johnson (JNJ), and Colgate-Palmolive (CL) -- yield 3.4%, 3.5%, and 2.3%, respectively. According to the 13-F filing, Pershing Square held 21,916,208 shares (worth around $1.34 billion) and call options for an additional 8,387,700 worth of PG shares. Also, Ackman would be in the company of other big name investors, including billionaire D. E. Shaw, Ken Fisher and Warren Buffett, whose Berkshire Hathaway (BRK.A) is one of the top five shareholders.
General Growth Properties (GGP): Pershing Square owns 72,233,712 shares valued at around $1.3 billion. GGP had posted strong Q1 results with greater tenant sales, higher occupancy and improved leasing spreads. The company's mall segment reported 4.1% same-store NOI growth, putting GGP on pace to exceed management's full-year guidance of 2.8% growth for 2012 by a healthy margin. As below-market leases that were negotiated in bankruptcy continue to expire and are replaced at significant rent premiums, GGP's earnings momentum is expected to continue.
Despite the substantial increase in GGP's stock price over the last six months, the company remains attractively valued at a 5.3% earnings yield. By comparison, Simon Properties (SPG) -- GGP's direct competitor -- trades at more than a 15% higher multiple. While GGP trades at a lower valuation than its Class A mall peers, it has meaningfully more cash-flow growth potential. In a world in which there are few opportunities to earn safe cash yields, Class A malls at mid 5% and growing yields offer both a relative and absolute value.
Canadian Pacific Railway (CP): Canadian Pacific Railway is a $12.5 billion market cap transcontinental railway company providing freight transportation services in North America. Pershing Square Capital Management acquired a 12.2% stake during Q3 2011. In May 2012, Bill Ackman won a proxy vote to shake up the railroad's board and unseat the chief executive as shareholders voted to support the hedge-fund manager's seven-person selection of directors. CP's business issues are almost entirely operational in nature, and its operating margins are half that of its Canadian competitor due to its inefficient asset utilization and productivity. The turnaround is substantially less risky than one predicated on increasing revenue growth.
Canadian Pacific Railway pays a dividend yielding 1.6%, and has increased dividends at an annual rate of 11.6% over the past five years. The company is expected to grow its EPS by an average of 12.8% a year over the next five years. The stock is currently trading at $85.65 a share (1-yr return of 62%) and carries a high premium relative to the industry.
I have written about the Time Arbitrage strategy employed by Bill Ackman (CEO and founder of Pershing Square Capital Management) in my previous article, "Bill Ackman On Time Arbitrage / Public And Private Equity Volatility Strategy".