Forever Investor

A value trap is defined by Investopedia as follows:

A stock that appears to be cheap because the stock has been trading at low multiples of earnings, cash flow or book value for an extended time period. Stock traps attract investors who are looking for a bargain because these stocks are inexpensive. The trap springs when investors buy into the company at low prices and the stock never improves. Trading that occurs at low multiples of earnings, cash flow or book value for long periods of time might indicate that the company or the entire sector is in trouble, and that stock prices may not move higher.

Loews, the NY-based conglomerate would appear to fit that definition very nicely. I have written about Loews in the past (here) and I have been following it for at least 6 or 7 years; the reason is that I find something very attractive about the extremely patient and contrarian approach of its family-controlled management – they are very conservative and value-focused. The conglomerate structure that they use suits their management style perfectly because they can just sit around and wait to pick off cyclical companies at the bottom of the market, while quietly shovelling money between their subsidiaries in the meantime. As and when the customary conglomerate discount widens excessively, they can buy back shares to increase shareholder value in a risk-free way.

Buybacks

It is difficult to think about Loews without considering their history of buybacks. They started buying back stock when they were run by Jim Tisch’s father, Larry, and have been doing it opportunistically ever since. From 1971, when they had 1.3 billion shares outstanding, the share count has been steadily reduced to 371 million today. Last year alone they bought back 4% of shares outstanding.

This is easy money for Loews and the opportunity to buy back shares cheaply is a clear incentive to avoid building bridges with the Wall Street boys; Jim Tisch wrote the following about it in the latest annual report:

Clearly, our stock price performance in 2014 was disappointing [-13%]. But rather than complain about it, we bought our shares. Seeing value,  we repurchased almost 4% of Loews’s outstanding shares and 1.9 million shares of Diamond Offshore

Loews almost seems to court unpopularity with Wall Street (tiny and static dividend, unpalatable company structure with few apparent synergies, lack of short-term price pumping initiatives, and dearth of interesting new investments) to such an extent that its stock is permanently discounted to such a level (0.8 Price/Book) that buybacks almost always make sense. Buybacks have been one of the main levers that Loews have pulled to earn a total return of 9.66% over the last 15 years, a clear outperformance of the S&P which has generated 4.66% over the same timeframe. Performance has been weaker than the benchmark over shorter time frames, but buying back shares has not been responsible for that, so why would they not keep doing it?

The Bits

Loews currently consists of five main components:

CNA Financial
This is a specialty and commercial insurer that is 90% owned by Loews. CNA’s revenues contribute about 65% of Loews’ and so it is the most important of their subsidiaries and will be a key determinant of their future success. CNA has laboured producing below par results for many years, but has now taken its combined ratio below 100% ((Incurred Losses + Expenses) / Premiums) and so will be hoping that, in time, the market awards it a more generous multiple than its current 0.8 Price/Book. Increasing management confidence is also evidenced by payment of a $1 special dividend last year, and $2 this year. CNA seems to be moving in the right direction, at long last.

Diamond Offshore Drilling
Loews owns about 53% of this owner of drilling rigs. The rigs are leased to energy companies in a market which has had a horrible few years, following the BP crisis and the oil price crash. DO’s shares are currently selling at book value, which is a 10-year low. Seeing value here, Loews bought more of their shares last year. DO has a strong balance sheet and has been a regular payer of special dividends, although it has recently suspended these in order to take advantage of low prices in the industry. In addition to the backing by Loews, DO also has plenty of ammunition of its own to deploy in this highly cyclical business, and would so would seem to be well-placed to generate healthy future returns. Loews would surely back them further, if they required funding at short notice to take advantage of opportunities that may occur.

Boardwalk Pipeline Partners
BPP operates oil & gas pipelines between Southern and North-Eastern US. BPP typically signs long-term contracts with oil & gas companies to store and transport their product and, as such, is not directly exposed to volatile oil and gas prices. The company decided to cut its payout in 2013 so that it could invest the earnings in long-term growth projects. Tisch said that, although not yet online, these projects should generate double-digit unlevered returns over the next two to four years. Loews owns 52% of Boardwalk limited partners and its entire general partner interest.

Loews Hotels
Loews own  21 high-end hotels and resorts and have been investing heavily in these over the last few years. Indeed they invested $300 million in the first four months of this year alone, completing acquisitions of the Loews Chicago and Loews Regency (formerly Mandarin Oriental) in San Francisco. In future years, as capital expenditure slows, the cash flows from these hotels should begin to pay dividends for the parent company. They haven’t paid much in recent years, by all accounts.

Cash
Last but not least, the parent company is sitting on more than $5 billion in cash. From what Jim Tisch has said, opportunities are limited to the energy industry at the moment and Loews already have enough invested in that sector. Consequently, the money will remain in the coffers for the time being, without “being allowed to burn a hole in the corporate pocket”. As and when the next crisis arrives, they will be ready. Note that this does not mean they will do anything new, necessarily, (they certainly didn’t do much during the Great Recession), but they will have the capability to do so should any no-brainers present themselves.

According to a recent investor presentation, their cash pile is used for the following:

• Buybacks
  This is deeply ingrained in the Loews culture and is a safe way to increase per-share value.
• Strategic investments in subsidiaries
  More than $7 billion has been invested by Loews, its subsidiaries and their partners since 2010
• Opportunistic acquisitions
  Overdue, but little appears to be on the horizon

Valuation

I have used the current market valuations of its subsidiaries to calculate their per-share worth to Loews. They own 89.69 of CNA, which as a percentage of its current market value is 9.37 billion. Dividing that figure by the number of Loews shares outstanding gives 25.23 of per-share worth. Similarly, Diamond Offshore and BWP add 5.95 and 5.55 respectively for each Loews share.  Loews broke down the per-share value of their cash and investments (net of debt) in the Annual Report to $9.11.

That gives a clear market value of $45.84 compared with a closing price this week of $40.12, and that is before you add in the Loews Hotel chain and Boardwalk Pipeline General Partner interest. Admittedly the latter probably aren’t worth much more than a couple of dollars per share, but it all adds up – Loews, with its beaten-down but improving subsidiaries, is clearly decent value. The Tischs know this better than anyone, which is why they keep quietly buying back stock.

Who Else Owns It?

I am always interested to see who has a concentrated position in something that I am considering purchasing. I don’t recognise many of the names invested in Loews, but one that is interesting is Patient Capital Management.

This outfit is run by another rather  stubborn contrarian who is one of the distinguished club that totally ignored technology shares during the late 1990s boom: Vito Maida. Maida is a man who will happily sit on a pile of short-term government bonds without making an investment for year after year until asset prices fall to a level he considers attractive (and that level is far lower than most). And when they do fall, he still looks to buy the cheapest of the cheap. Not usually more than 50% invested, his strategy has usually paid off and over the 14 years he has been running PCM he has compounded returns for his investors at over 7% as compared with 2% for the S&P (source: Globe and Mail November 2014, available from the PCM site.)

Currently, according to PCM’s latest newsletter, energy is pretty much the only sector where they are finding value (another of Maida’s views that chimes with Tisch’s, incidentally). Perhaps Loews’ energy exposure, bought at a discount, is the reason Maida is holding Loews? Birds of a feather flock together…

Loews is also held by the legendary Marty Whitman’s old Third Avenue Value fund. This fund is fond of discounted conglomerates, and also holds Cheung Kong Holdings and Investor AB, to add to its collection of old family money companies. But they are for another post…

Will I Buy In?

There is a lot I like about Loews:

• Cheap
• History of well-timed buybacks
• 5.5 billion of cash at the ready
• Run for the long-term (genuinely so, as family-controlled businesses often are)
• Exposure to oil & gas (of which I have zero)
• CNA Financial, its main subsidiary, is finally beginning to motor
• In addition to that already with Berkshire and BACIT, sub-contracting out some more of my capital allocation to Jim Tisch, would lessen risk and reduce my personal responsibility somewhat

What are the downsides?

• Always cheap
• Exceptionally boring (management far from dynamic)
• Dividend annoyingly small – why bother at all?
• Their subsidiaries are volatile, cyclical, and unattractive
• Risk of being taken private at an untimely moment (for minority shareholders)

Is Loews a value trap? Well it is probably not an investment for people looking for short-term action or with imminent catalysts, but if you want something where management interests are aligned with yours and the downside has already been fully explored then it looks to me like a bet with more upside than downside. That said, it is not a bet I have made but, with Loews, what’s the rush?

Disclosure: Still not long L, but getting closer
Disclaimer: This post is not a recommendation to either buy or sell. Please consult your investment advisor.