How to Find Good and Cheap Companies?

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In this article I analyze Horizon Kinetics portfolio. Horizon is a value oriented institution that tries to capitalize on the overwhelming need for investors to achieve short-term results. According to the fund´s website, long-term price inefficiencies can be created by the collective, short-term focus of the markets. Events visible 3 to 5 years in the future have little utility to the average portfolio manager so the fund seeks to identify and exploit opportunities that capture long-term pricing anomalies to generate unique, above average returns. In other words, this is a time arbitrage strategy.

Horizon Kinetics typically holds a concentrated portfolio and does not attempt to track or mimic any index or benchmark. I mentioned many times in my blog the importance to study what top hedge fund holds in their portfolios. Let’s review Horizon's current holdings:

Great long term assets not currently appreciated by the market

Horizons focuses on companies that holds assets that are not yet monetized but will be in the future. The value may be widely acknowledged, but may require too long an investment horizon to be of interest to most investors.

Dish Network (NASDAQ: DISH) is an example of these types of opportunities. Dish’s chairman and majority shareholder Charles Ergen has been purchasing spectrum licenses at distressed prices since 2008. As he recognizes that demand for wireless and mobile data will increase in the coming years with limited electromagnetic spectrum supply, the strategy of acquiring spectrum licenses makes sense. For example, Cisco expects mobile data traffic for the five years between now and the end of 2016 to increase 17-fold. Horizons thinks that the market is not recognizing the true value of these assets because investors are not willing to wait for these assets to be monetized.

The fund is able to invest in a reasonable priced company that has the potential to provide superb returns without paying for the optionality. Horizons recognizes that in the latest report.

The Howard Hughes Corporation (NYSE: HHC) is another company that Horizons believes has strong assets not well recognized by the market. For example, HHC holds the South Street Seaport property in lower Manhattan and plans to convert this space into a modern retail property with waterfront apartment complexes. Horizons highlights that this property generated $5.65 million of net operating income in 2011 and the property is currently valued at just $5.9 million, a valuation that does not take into consideration the mid-term improvements, increased operating earnings and developments that HHC will make. Howard Hughes trades at 1.2x P/BV and Whitney Tilson, another value investor, considers the valuation for Howard Hughes as high as $125 per share after visiting the real estate company’s various properties.

A collection of great assets packed in a cheap stock

One of Horizon’s biggest holdings is Leucadia National (NYSE: LUK). Leucadia is managed by gifted investors Ian Cumming and Joseph Steinberg. LUK is a diversified holding company that was founded over 150 years ago. Its investment portfolio includes wineries, copper mines and boutique investment banks. Leucadia's expertise is deep value investing, operating like a mutual fund, looking for companies that have executed their vision with great success and operate in industries that make things people frequently use. Over the course of the 32 years from 1979 through 2011, Leucadia's book value per share has expanded by 18.5% per year, and the share price by 19.8% per year. As a basis for comparison, the total return on the S&P 500 during the period was 7.6% per year.

Leucadia has been reducing its leverage by calling $511.3 million of long-term debt in 2012 and retiring other debt during the last three years in market transactions. With those steps, management has cut Leucadia's leverage by over 40%. In addition, Leucadia’s top holdings (Jefferies, Mueller Industries, National Beef, etc) generated strong results in 2012.

The stock is trading in the low range of its historical P/BV showing a disconnect to the improving fundamentals of its holdings. There is nothing fundamentally wrong in this company to justify this level of undervaluation. I think that the market awaited some clarification into succession plans considering that both Cummings and Steinberg are old. That clarification appeared in 2012 when the company announced that Jefferies will merge with Leucadia and Mr. Handler (JEF CEO) will become the Chief Executive Officer of Leucadia, as well as one of its Directors, and also remain Jefferies' Chief Executive Officer and Chairman.

Horizon’s top pick

Horizon believes that Liberty Media (NASDAQ: STRZA) is the best value opportunity that the market can offer. Horizon allocated 9.5% of its portfolio into this stock. Warren Buffett also holds this stock.

Liberty’s primary operating business is the Starz and Encore series of cable channels. Starz has over 54 million subscribers and is one of the largest such properties in the U.S; it is highly profitable and continues to expand, and it is a very scalable business according to Horizons fillings. The fund also highlights that Liberty is only valued at 0.35x core operating earnings, which is extremely cheap.

In a recent report, Canaccord Genuity expects that operational trends and strategic catalysts will provide upside to LMCA shares. In the last analyst day held in NYC, management expects the sequence of catalysts to commence in December 2012 with the spin of Starz and culminate in early 2014 with a spin of the SIRI assets. Over this period, management believes that LMCA will amass a $4.5 billion cash balance that will help to look for great investment opportunities.


martinzaldua has no position in any stocks mentioned. The Motley Fool owns shares of Howard Hughes. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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