The Portfolio of Pershing Square Holdings, Ltd
Total Page：16
File Type：pdf, Size：1020Kb
November 25, 2014 Dear Pershing Square Holdings, Ltd. Shareholder: The portfolio of Pershing Square Holdings, Ltd. (“PSH”) outperformed the major market indexes for the third quarter of 2014, year-to-date and since inception as set forth below1: 3rd Quarter October Year to Date 2014 2014 2014 Jan 1 - Oct 31 Since Inception Pershing Square Holdings, Ltd. 12/31/12 - 10/31/14 Gross Return 6.4% 1.8% 43.4% 62.1% Net of All Fees 5.3% 1.4% 35.0% 47.9% Indexes (including dividend reinvestment) 12/31/12 - 10/31/14 S&P 500 Index 1.1% 2.4% 11.0% 46.9% Russell 1000 Index 0.7% 2.4% 10.6% 47.2% Dow Jones Industrial Average 1.9% 2.2% 6.8% 38.5% The PSH IPO was completed on October 1, 2014 on the Euronext Amsterdam exchange with a capital raise of $2.73 billion from new investors. An additional $212.5 million was raised from existing investors in Pershing Square International, Ltd. who elected to roll over their investments to PSH, and from Pershing Square employees who invested $129 million of additional capital. When combined with existing assets, this capital raise translated into an initial public capital base of more than $6.2 billion. As this is our first letter to the public shareholders of PSH, we thought it would be useful to share how we think about PSH and our long-term goals for the company. Our long-term goal is to compound our capital at a high rate of return while minimizing the risk of permanent loss of capital. While the structure of PSH is that of a closed end fund, we think of PSH as akin to an investment holding company. We expect to continue to concentrate the substantial majority of our capital in about 8 to 12 investments, and estimate that our typical holding period will be long-term, typically four or more years. Our “subsidiaries” are represented by large minority stakes in a handful of public companies. Typically, we are the largest or second largest 1 Past performance is not necessarily indicative of future results. All investments involve risk including the loss of principal. Please see the additional disclaimers and notes to performance results at the end of this letter. 387480.35 shareholder, may have representation on the board, and, at a minimum, have substantial influence by virtue of our large stake and active voice. Our first fund, Pershing Square, L.P. (“PSLP”), began investing capital on January 1st, 2004. Since inception, PSLP has compounded its capital at 21% per annum. Despite these strong returns, our open-ended structure has prevented us from investing our capital in an optimal fashion. While our activist approach to investments has generated large returns on capital, historically we have deployed, on average, only about two-thirds of our capital in this strategy. The balance of our funds has been invested in cash and passive value investments, which have generated minimal returns. Being forced to sell an investment in the middle of an activist campaign can be damaging to the execution of that investment, and, as a result, we have historically set aside cash and liquid passive investments to minimize this risk. By virtue of the permanent capital of PSH and the substantial amount of capital invested by employees and other affiliates in our open ended funds, approximately 40% of Pershing Square’s assets under management can now be considered effectively permanent. Over time, the proportion of permanent capital in our total capital base should grow, as Pershing Square employees and affiliates are likely to reinvest our profits and a substantial portion of our incentive fees, net of taxes, in the funds. We are fortunate in that our open ended capital base is relatively stable compared to most other investment managers. Our open-ended capital is subject to various commitment periods. The most common redemption schedule, which represents over 50% of open ended capital, allows investors to redeem one-eighth of their capital each quarter. The balance of our open-ended capital is subject to rolling two year, and one-third per year contractual lockups. We expect our open-ended investor base to be relatively stable because these investors have benefited from the more than $13.9 billion of profits we have generated over the last nearly 11 years. The combination of approximately 40% permanent capital with our relatively stable open-ended capital enables us to invest a greater percentage of our capital in our core activist strategy. With a greater proportion of our capital in our core strategy, we believe we are well positioned to achieve our long-term goal of generating high returns while minimizing the risk of permanent loss of capital. Over time, we believe that if we continue to generate attractive rates of returns, PSH should trade at a premium to its NAV or book value (the book value of PSH equals its NAV because we mark our assets and liabilities to market). While trading at a premium to NAV is not a common occurrence for most closed end funds, we believe that Pershing Square’s performance history and PSH’s strategy, scale, liquidity and structure differentiate PSH from the typical closed end fund. While our corporate form is that of a closed end fund, our approach, governance structure, and the compensation2 of management are better compared to publicly traded investment holding or operating companies. 2 The incentive fee of PSH is 16% reduced dollar for dollar by an amount equal to 20% of the incentive fees earned on other funds managed by Pershing Square Capital Management. Once the offering expense advance has been repaid, based on current assets under management, we estimate that PSH’s incentive fee will be less than 10% per annum, a level comparable to that of equity incentives granted to public company managements. 2 387480.35 If one were to think of PSH as an investment holding or operating company, one would expect PSH to be valued at a multiple of book value determined based on investor expectations of PSH’s long-term expected return on equity. Companies that have earned similar historical returns on equity to PSH and PSLP (for comparison we use an average ROE of 20% to 25% since 2004) have historically traded at substantial premiums to book value. It is interesting to compare Pershing Square’s historical returns with other publicly traded investment alternatives: A screen of all public companies worldwide from 2004 to 2013 that have earned from 20% to 25% returns on equity yields 190 companies with a median market cap of $7.5 billion that currently trade at a median price to book ratio of 3.5 times.3 Companies which have earned mid- to high-teen returns on equity over this same period also trade at substantial premiums to book value. Doing the same screen for average ROEs of 15% to 20% yields 380 companies with a median market cap of $6.1 billion that trade at a median price to book ratio of 2.7 times.3 By comparison, if PSLP had an incentive fee of 10% (a conservative estimate of PSH’s incentive fees once underwriting costs have been recovered), PSLP would have earned an average ROE of 23% since inception. PSH has a market cap of $6.2 billion and currently trades at a 5% discount to the last reported NAV of $26.57 per share. In comparison to the above examples, PSH appears to represent a relative bargain. Furthermore, PSH has a favorable tax structure when compared with many other investment holding or operating companies because, as a Guernsey company, it is not exposed to entity-level taxation. This is a big advantage in a world in which every purchase and sale of an investment by a U.S. corporation would require a 35% tax on profits. When compared to other closed end hedge funds, PSH has substantially greater scale with more than a $6 billion market cap, a superior long-term track record, lower fees, strong governance, and a unique strategy. When compared with other investment holding or operating companies, PSH benefits by its favorable tax structure and long-term track record. We believe that the combination of the strategy and the structure represents an attractive publicly traded investment alternative for investors. We expect that over time, the market will recognize these attributes with an appropriate valuation. 3 Source: S&P Capital IQ 3 387480.35 Third Quarter Performance Attribution Investments that contributed or detracted at least 50 basis points to gross performance are outlined below.4 Contributors Canadian Pacific Railway 3.2% Fannie Mae (1.1%) Herbalife Ltd. 3.2% Platform Specialty Products (0.7%) Allergan, Inc. 1.8% Howard Hughes Corp (0.6%) Burger King Worldwide 0.7% Freddie Mac (0.6%) Total 8.9% Total (3.0%) Portfolio Update Allergan (AGN) Third Quarter Share Price Performance: 5.33%5 In September, despite extraordinarily onerous special meeting bylaws and burdensome information requirements, described by the Chancellor of Delaware’s Court of Chancery as “quite a horse-choker of a bylaw,” Pershing Square received support from shareholders holding 36% of Allergan shares to call a special meeting, materially exceeding the 25% required threshold. On September 16th, after Pershing Square had sued Allergan to schedule the special meeting, Allergan settled and entered into a court approved stipulation irrevocably committing the company to hold the special meeting on December 18th, and to “take no action, to delay, postpone, or not hold the Special Meeting.” In August, Allergan filed a lawsuit in Federal Court in California against Valeant and Pershing Square for alleged securities fraud and supposed violations of the tender offer rules.