After acquiring the remaining shares outstanding of Jefferies (JEF) a few months ago, Leucadia (LUK) has come into the spotlight. This under-the-radar holding company has been compared to Berkshire Hathaway (BRK.A) in the sense that it owns several unrelated companies and uses the cash flows to invest in different businesses. However, calling the two firms similar is a bit of a misstatement given Berkshire’s enormous insurance operations, and a slightly different investing style.
Unlike Berkshire, which has an enormous “elephant gun” able to acquire relatively large companies with ease (Berkshire also tends to concentrate on reliable, large cap companies with strong balance sheets), Leucadia concentrates on deep value in struggling or unloved companies and industries. Interestingly enough, the companies are engaged in a joint-venture (which we will touch on later).
A Brief History
Leucadia is the child of Talcott, which started in 1854 and became publicly traded in 1937. Long-time managers, Joseph Steinberg and Ian Cummings, came to run the company in the late 1970’s and renamed it Leucadia after dismantling the remains of Talcott. The company has compounded shareholder’s equity at 19% per annum since taking the reins in 1979. Richard Handler, formerly CEO of Jefferies, will take the helm of Leucadia following its acquisition of the investment bank. Today, the company focuses on investing in companies across all sectors, and invested significant capital in Bill Ackman’s Pershing Square hedge fund. Let’s take a look at Leucadia’s companies.
Jefferies
Leucadia recently acquired Jefferies in a stock-swap deal, worth 0.81 shares of Leucadia per share of Jefferies for Jefferies shareholders. The company already owned 28.2% of the company, so the deal wasn’t very shocking.
In late 2011, the market feared Jefferies demise as the result of its exposure to European sovereign debt, but it reduced its exposures to the “PIGS” (nations) and subsequently fears of its solvency diminished. Unlike the “Too Big to Fail” banks like JP Morgan Chase (click ticker for report: ), Bank of America (click ticker for report: ) and Citigroup (click ticker for report: ), Jefferies is a traditional investment bank that doesn’t originate mortgages or take retail banking deposits. As a result, it hasn’t experienced the same benefit from housing market improvements as its diverse competitors.
However, the firm is relatively well-capitalized and could be able to pursue a more aggressive growth strategy with the backing of Leucadia’s capital. Though uncertain regulations resulting from Dodd Frank may adversely impact operations at bank holding companies, Jefferies should remain relatively unaffected. Trading commissions could come under pressure, but asset management deals and growth in M&A could easily compensate for reduced commissions. Restructured compensation at bulge bracket banks has also resulted in a lower cost for adding headcount, making Jefferies a competitor for research talent. We think Jefferies has a chance to perform fairly well as capital markets improve.
National Beef
At the end of 2011, Leucadia acquired 78.9% of National Beef for $867 million. The company accounts for 14% of federally inspected steer. Although the beef processing industry is highly competitive, National Beef has a strong market position, but the industry has mostly matured in the US. However, even with a flat market, the company’s performance should remain stable.
Idaho Timber
Nothing like an investment bank or beef processor, Idaho Timber creates lumber for housing projects and general construction, most of which is sold to large home improvement retailers like Home Depot (click ticker for report: ) and Lowe’s (click ticker for report: ). Like beef processing, the segment is in a highly competitive commodity industry, so the business lacks any pricing power.
Idaho Timber is in as good of a position as any to benefit from the rebound in the US housing market. Revenue year-to-date is roughly flat at $124 million, but with the large new construction backlogs we’ve seen materialize at several of the nation’s homebuilders; we think 2013 could be a turning point in the lumber business.
Conwed Plastics
Conwed Plastics has been a part of Leucadia since 1985. It’s in the business of creating plastic netting which has a wide spectrum of end uses. The company owns some proprietary manufacturing processes and products, but its industry is mature and highly competitive. We think demand should roughly track economic growth, which is somewhat in-line with the flat revenue expansion we’ve seen year-to-date. Still, earnings have increased over 50% year-to-date, giving the company more cash to put to work.
Hard Rock Hotel & Casino
Leucadia also owns a large casino in the Mississippi Gulf region called the Hard Rock Hotel & Casino. The company is within 90 minutes driving distance of New Orleans, the Florida Panhandle, and Mobile, Alabama.
Revenue is up only 3% year-to-date, and unlike large casino operators like Wynn (click ticker for report: ) and Las Vegas Sands (click ticker for report: ), the segment isn’t looking to grow in new regions. Therefore, the casino is a micro-level play. The Mississippi Gulf Coast economy has been somewhat slow to recover since much of the region was hammered in the housing bubble collapse. Still, the southern states tend to be business-friendly, and we could see a housing-related recovery drive employment growth.
Real Estate
Leucadia has exposure to several different portions of the real estate market. On top of the aforementioned lumber business, Leucadia owns 50% of commercial mortgage servicer Berkadia and engages in commercial and residential development. The company’s real estate investment was pegged at $245.7 million at the end of calendar year 2011, but the income and revenue stream is incredibly volatile. Timing is inconsistent, and profit actualization can be sporadic.
Berkadia is a commercial mortgage originator and servicer joint-venture formed with none other than Berkshire Hathaway in 2009. The company services over 25,000 loans with $190 billion worth of principals. Although the investment’s equity value has fallen since its inception, we think the entity is poised to recover with the broader economy.
Other operations
The rest of Leucadia is (unsurprisingly) not related to the previous businesses. The firm owns 96% of Sangart, which is a development stage biopharmaceutical company. Its drug, MP4OX, works to help improve oxygen delivery to organs. We don’t really know why Leucadia is speculating in the biotechnology realm and whether Sangart ever reaches commercialization is difficult to predict.
Leucadia also invests in energy projects, and it owns a winery that posted nearly $37 million in revenue during 2011. The company also invests in iron ore via an investment in Fortescue and owns a substantial portion of copper miner Inmet (IMN). The commodity super cycle could be nearing its end, and iron ore demand in particular looks to grow at a weaker pace than in years past.
Different from Berkshire Hathaway
If we take a simple look at Leucadia’s disparate businesses, we can see that the firm’s strategy is entirely different from Warren Buffett’s at Berkshire Hathaway. Berkshire tends to own strong businesses with fantastic long-term track records (think Coca-Cola or Wells Fargo), only dabbling in some commodity industries like chemicals (Lubrizol) and textiles (which didn’t turn out too well). Leucadia is much more focused on unloved business or challenged industries. In fact, it appears the vast majority of Leucadia’s companies operate in commodity industries.
We tend to prefer the Buffett method—finding great companies at great prices with great momentum—but the stellar long-term track record at Leucadia speaks for itself. Shareholders would have experienced unbelievable capital appreciation had they invested with Steinberg and Cummings during the past thirty years. That may not translate going forward, but shareholders will be very well off if new CEO Richard Handler can provide returns half as good.