BAM - Brookfield Asset Management

[John Hjorth]

Again, chrispy,

 

Where are the facts as basis for your last post?

[bizaro86]

John - While I know you prefer to impose your own order on this board, I'm not really seeing the issue with his post?

 

Are you questioning whether BAM management owns the majority of their stake through a holdco, which appeared to me to be his only claim? I would say that has been well discussed here. If you believe that it needs a citation, I can provide it for you on his behalf.

 

The management information circular has the details of each director's holdings: https://www.investorx.ca/Doc/VV86DUDU6FB/2018/05/15/brookfield-asset-management-inc/management-information-circular-english

 

They separate their direct stakes from stakes held through Partners Value (the holdco he mentioned)

 

Bruce Flatt, for example, owns 8.4 MM shares directly/indirectly, while he effectively owns 31.6 MM shares held through Partners. So his stake is much larger through the holdco.

 

Back to the topic that caused the comment - they could collapse the holdco discount at partners instantly if they wanted by distributing the shares to the owners on a pro-rata basis (that would be convenient/profitable for me!) but they don't. Given they don't at Partners where it would benefit them all directly and significantly, I doubt they'll do so at BAM any time soon. 

[John Hjorth]

Well, for a spin-off/break-up scenario to actually happen, it requires Mr. Flatt & his team to change their mind, ref. what I have already quoted Mr. Flatt for. I personally consider that as unlikely as a break-up of Berkshire. It's about the most important asset inside the Brookfield sphere, that you don't find in the consolidated BAM balance sheet, while it actually saturates everything in the sphere: Client relations. I personally think it's important for the clients to know that they are in the same boat as their asset manager. One starts tinkering with that if you break up the whole structure, I think.

[cubsfan]

Well, for a spin-off/break-up scenario to actually happen, it requires Mr. Flatt & his team to change their mind, ref. what I have already quoted Mr. Flatt for. I personally consider that as unlikely as a break-up of Berkshire. It's about the most important asset inside the Brookfield sphere, that you don't find in the consolidated BAM balance sheet, while it actually saturates everything in the sphere: Client relations. I personally think it's important for the clients to know that they are in the same boat as their asset manager. One starts tinkering with that if you break up the whole structure, I think.

 

I think this is correct - you can see Flatt has great respect for Berkshire and Buffett, one of the few firms Buffett has done JV's with.

BAM's alignment with shareholders and clients alike is under appreciated - they will do what is right for both.

[Jerry Capital]

This thread completely misses the point.

 

BAM uses the LP subs as permenant capital resulting in perpetual fee streams. They did the same thing with TERP. This should eventually translate into a higher multiple on the fee stream than traditional buy/fix/sell private equity multiples.

 

They would never buy back or spin their LP units in their entirety. They may reduce ownership. The key to the structure is the alignment of the asset management business with the LPs and the private capital (i.e. BAM investing alongside private capital and LP capital).

 

As for the discount to NAV. It is nice to have but is only a small part of a thesis of long-term compounding of "long-life/real assets" and a high margin asset management business with more operating leverage left in the model.

 

As for BPY they are buying those units because they think they are undervalued, not for financial engineering reasons or as a hope to reduce the discount to NAV.

 

Thinking about "closing the discount" is extremely short-term thinking.

 

[Packer16]

I disagree that reducing the discount is about short term thinking.  This discount is going to be around as long as the structure is the way it is & is dead weight loss for everyone involved.  Now if the discount was 5 to 10% I would agree this is not a factor but the magnitude of the discount is an important factor.  Especially when part of your strategy is to buy LP units at 100 & the market will only value them at 70 when you hold them. 

 

BAM can do the spins of the LPs & selectively purchase LPs when they think they think they are cheap & spin them off at some time in the future.  Management can also maintain their ownership of the LP interests they now have in direct interests which will have a higher value.  The reason why these structures make sense for others is to maintain control but Brookfield has control via the GPs.  What is point of holding the LPs in BAM if they can retain control of the LP assets via the GP (and thus access to permanent capital) & retain management ownership/incentive of some of the funds directly?  I just do not see the benefits as all the benefits folks have been discussing can be retained via an LP spin-off with a reduced discount.  There would have to be some explanation but I think clients & investors would understand the economics have not changed but the structure has to increase everyone's value.

 

Maybe I am missing something about how the GP/LP structure works.  Can the LPs remove Brookfield as the GP if a certain number of LP units vote to remove them?  I do not think so.

 

Packer   

[KJP]

I disagree that reducing the discount is about short term thinking.  This discount is going to be around as long as the structure is the way it is & is dead weight loss for everyone involved.  Now if the discount was 5 to 10% I would agree this is not a factor but the magnitude of the discount is an important factor.  Especially when part of your strategy is to buy LP units at 100 & the market will only value them at 70 when you hold them. 

 

BAM can do the spins of the LPs & selectively purchase LPs when they think they think they are cheap & spin them off at some time in the future.  Management can also maintain their ownership of the LP interests they now have in direct interests which will have a higher value.  The reason why these structures make sense for others is to maintain control but Brookfield has control via the GPs.  What is point of holding the LPs in BAM if they can retain control of the LP assets via the GP (and thus access to permanent capital) & retain management ownership/incentive of some of the funds directly?  I just do not see the benefits as all the benefits folks have been discussing can be retained via an LP spin-off with a reduced discount.  There would have to be some explanation but I think clients & investors would understand the economics have not changed but the structure has to increase everyone's value.

 

Maybe I am missing something about how the GP/LP structure works.  Can the LPs remove Brookfield as the GP if a certain number of LP units vote to remove them?  I do not think so.

 

Packer 

 

I don't think your post addresses the argument some people are making that ownership of LP units (appears to) align BAM with LP unitholders, making the LP itself a more attractive investment for third party investors. 

[Packer16]

What you really want aligned with the LPs is BAM management, the other BAM shareholders are along for the ride.  This can be done with them holding direct interests in the LPs which would be spun-off to them in the LP spin-off from BAM.  Going forward management would have to add to their LP holdings in current proportions held by BAM versus just holding BAM but I think this would be a calculation & would have a much smaller economic effect than a 30% discount on the value of the LPs held by BAM.  As a shareholder you could tailor you mix of LPs to your taste. 

 

Packer

[vince]

Bizaro, can u tell us what the partners value discount is and a quick way to determine it ?

[Spekulatius]

Maybe I am missing something about how the GP/LP structure works.  Can the LPs remove Brookfield as the GP if a certain number of LP units vote to remove them?  I do not think so.

 

I believe it is possible and has occurred, but is a rare occurrence. I believe it can occur when the fiduciary duty if the GP is breached and may depend on the partnership agreement. In any case, the hurdle is very high for the LP’s to remove the GP.

[Jerry Capital]

What you really want aligned with the LPs is BAM management, the other BAM shareholders are along for the ride.  This can be done with them holding direct interests in the LPs which would be spun-off to them in the LP spin-off from BAM.  Going forward management would have to add to their LP holdings in current proportions held by BAM versus just holding BAM but I think this would be a calculation & would have a much smaller economic effect than a 30% discount on the value of the LPs held by BAM.  As a shareholder you could tailor you mix of LPs to your taste. 

 

Packer

 

You are overcomplicating this and are missing the key reasons they have structured the business in the way they have .

 

Your goal is to completely change the corporate structure of a $50 billion dollar company to reduce a discount to NAV. Bruce Flatts goal is to compound his personal capital at high rates for another 30 years or so.

[StevieV]

I don't think BAM is going to change their structure.  So, I don't think you invest with the idea that they will.

 

That being the case, I don't see how Packer is wrong or mis-guided.  If BAM has $1 million cash, and buys $1 million in BPY, that stake is generally discounted to $700K by virtue of being held in the BAM structure.

 

BAM management may argue that the discount is unjustified.  That BPY LP units are undervalued.  And, given that, purchasing the BPY shares is the best use of capital.  Apparently that is what they do think (at least that buying BPY shares is their best use of capital).

 

Anyway, as I mentioned initially, BAM isn't going to change their structure of operation.  Accordingly, best to decide whether they are worth investing in under the current structure and plans.

[Jerry Capital]

 

That being the case, I don't see how Packer is wrong or mis-guided.  If BAM has $1 million cash, and buys $1 million in BPY, that stake is generally discounted to $700K by virtue of being held in the BAM structure.

 

 

Let's take a step back. If BAM believes BPY IV is higher than the current MP they are creating value by purchasing shares, over the long-term that benefit acures to BAM shareholders and BAM management. Using your argument above they should just return all cash to shareholders liquidate all their investments in everything and close the discount. That is the definition of short-term thinking.

 

[StevieV]

 

That being the case, I don't see how Packer is wrong or mis-guided.  If BAM has $1 million cash, and buys $1 million in BPY, that stake is generally discounted to $700K by virtue of being held in the BAM structure.

 

 

Let's take a step back. If BAM believes BPY IV is higher than the current MP they are creating value by purchasing shares, over the long-term that benefit acures to BAM shareholders and BAM management. Using your argument above they should just return all cash to shareholders liquidate all their investments in everything and close the discount. That is the definition of short-term thinking.

 

Two things:

 

(1) I don't have a problem with BAM buying shares of BPY, or with keeping them in the current structure.  BAM gets the distribution from the BPY units they own.  If BPY is a value, they will keep and grow the distribution at a nice rate and BAM will benefit from that.  Additionally, they could distribute the shares or otherwise try to close the discount at any time in the future.

 

(2) Even with (1), I don't think it is wrong for Packer to question why you would buy something that the market will give you an immediate 70% discount for, and why you wouldn't consider different structure.  Obviously, Packer can speak for himself.  I just disagree that he is off the mark.  I think his question is fair.  Regardless, I don't expect the structure to change.  So, the answer is, maybe there could be a better structure, but the structure isn't going to change anytime soon (my opinion).

[Spekulatius]

Selling LP Units often incurs high taxes. The reason fir this is that distributions often are mostly return of capital and hence lower the tax basis. This makes it often uneconomical to sell LP units, after holding them für a while.

Also as mentioned before, LP like the GP being invested along them. This makes GP- LP conflicts less likely and also underpins confidence for capital raises.

[Sportgamma]

Great discussion everyone.

 

I would add this:

 

BAM Discount

The assumption that BAM is trading at a 25% discount, implies that one would be willing to pay a 20x multiple for the Management Fees and 10x multiple for the "Target" Carried Interest from the asset management business. Given the quality of the revenue stream and the growth projections for AUM, those multiples might eventually produce a high internal rates of return over a period of 5-10 years. Nonetheless, the fact is you are paying for growth (not that there is anything bad about that, per se)

 

On the other hand, let's assume that you are only willing to pay a 10x multiple of the management fees and 5x multiple for the carried interest. You also might want to add a small "leakage" discount to the invested capital (tax and operating costs), lets say 3%. This would bring the $56B sum of parts value down to about $42.5B or basically the market value at the time of the investor presentation.

 

Capital Allocation

If we assume that the BAM discount is real, then the reinvestment decision of BAM management should focus on if the discount provides more value than the value creation of investing into a new partnership that create new streams of AM fees. It makes sense, that it could still be more lucrative to invest in funds than buying back BAM shares at a discount.

 

 

[Packer16]

Your logic assumes the discount for the BPY shares that are being purchased is going to decline which I disagree with & there is plenty of evidence to the contrary (over time holding company discounts rarely close).  What they are doing is turning 100 bills into 70 dollar bills and saying price & growth will make up for the discount.  Now if they think BPY is undervalued by 30% then by holding them in BAM, they will break even.  I never said anything about liquidation just discounts that are in the market & ways to remove them with little or no impact on management or incentives.  The label of short-term thinking (how that differs from long-term or just good thinking is beyond me) is beside the point that doing a spin-off would benefit all parties involved.  Who are losers in a spin-off scenario?

 

As to selling LP units, that is not what I am proposing.  You get the LP units & you can decide what to do with them.  I am sure institutional investors care little if the BAM managers hold the LPs directly or via BAM.  They may actually like the direct holdings better.

 

I agree this is not the way the structure is now but it would be interesting to see if there is a reason why economically it would not make sense.

 

Packer

[StevieV]

Your logic assumes the discount for the BPY shares that are being purchased is going to decline which I disagree with & there is plenty of evidence to the contrary (over time holding company discounts rarely close).  What they are doing is turning 100 bills into 70 dollar bills and saying price & growth will make up for the discount.  Now if they think BPY is undervalued by 30% then by holding them in BAM, they will break even.  I never said anything about liquidation just discounts that are in the market & ways to remove them with little or no impact on management or incentives.  The label of short-term thinking (how that differs from long-term or just good thinking is beyond me) is beside the point that doing a spin-off would benefit all parties involved.  Who are losers in a spin-off scenario?

 

As to selling LP units, that is not what I am proposing.  You get the LP units & you can decide what to do with them.  I am sure institutional investors care little if the BAM managers hold the LPs directly or via BAM.  They may actually like the direct holdings better.

 

I agree this is not the way the structure is now but it would be interesting to see if there is a reason why economically it would not make sense.

 

Packer

 

Not sure if this is replying to me, or someone else.  But, I'll respond to the various points.:

 

(1)  Your logic assumes the discount for the BPY shares that are being purchased is going to decline which I disagree with & there is plenty of evidence to the contrary (over time holding company discounts rarely close)."  I don't assume that the discount will decline or disappear.  I do think that BAM could buy now, and spin them off later.

 

(2) "What they are doing is turning 100 bills into 70 dollar bills and saying price & growth will make up for the discount. Now if they think BPY is undervalued by 30% then by holding them in BAM, they will break even."  Agreed re 100/70.  That's why I originally posted.

 

However, I'll give one caveat.  The distribution at BPY (or any other sub) makes the situation is a little different than buying something without a significant distribution.  It is not all about the market agreeing.  BAM gets an income stream from the LP distributions, which it can then allocate in hopefully some useful way.  If the income stream is valuable enough, the money received from that income stream is deployed sensibly, and the market gives credit for that, then I'm not sure it is as necessary for it to re-rate.

 

To give an extreme example, let's say the market gave BAM a 50% discount for holding BPY.  BPY yielded 20% and grew the distribution at 20%/annum.  It would never be necessary for the market to ever re-rate BPY or the 50% discount BAM got for holding BPY.  The income stream alone would be worth the purchase.

 

(3) "The label of short-term thinking (how that differs from long-term or just good thinking is beyond me) is beside the point that doing a spin-off would benefit all parties involved."  Presumably this one is not directed at me.

 

(4) "Who are losers in a spin-off scenario?"  BAM generates a lot of cash beyond what is necessary to run the business.  They can invest it in their funds, buyback shares, pay a dividend, make acquisitions or buy shares of the subs (though they could buy shares of anything).  Perhaps you are thinking differently, but I don't think they would spin BPY and then start purchasing units again.  So, a spin would foreclose the last option. Obviously, it's not an option you like, but one management apparently does.

 

[bizaro86]

Bizaro, can u tell us what the partners value discount is and a quick way to determine it ?

 

Partners Value publishes their NAV adjusted for the warrants in every quarterly result. As of June 30th, 2018 their NAV was $34.50 USD, or about $44-$45 CAD. BAM is up from $53.33 to $56.98 since then. Given each PVF.UN represents about 0.97 BAM shares on a quick and dirty basis they're up about $3.50 this quarter (they have other assets, but BAM is the biggest). That puts them around $47-$48, and they last traded at $40.99. That feels to me like a smaller than normal discount, I'd guess it has usually been around 20-25%? Not sure, my entry points have all been at least 20% discounts to NAV.

 

See: http://www.pvii.ca/_Global/80/img/content/File/Quarterly/2018/Q2-18-PVI-LP-PR.pdf

[Spos]

"The label of short-term thinking (how that differs from long-term or just good thinking is beyond me) is beside the point that doing a spin-off would benefit all parties involved.  Who are losers in a spin-off scenario?"

 

The way I see it, you compare doing the spins today to doing the spins 10 years down the road.  Assuming BAM continues to generate excess cash and uses that to do buybacks, if you do the spins now, you will be doing your buybacks at 100% of intrinsic value (as your discount closes).  If you do the spins 10 years from now, you will be doing the buybacks at 70% of intrinsic value, so your intrinsic value following the spin -once you close the discount in year 10- should be higher.

 

I believe it was in one of the annual reports that Buffett was talking about IBM and he made the point that if you're a long term shareholder of an IBM, a company that does a lot of buybacks, you would want the share price to be low, not high.  IMO, this is the same concept.

 

I also think this logic will always apply from the point of view of BAM's management, so they don't have an incentive to ever really do a spin.

 

Nice discussion, thanks all.

[John Hjorth]

... BAM can do the spins of the LPs & selectively purchase LPs when they think they think they are cheap & spin them off at some time in the future.  Management can also maintain their ownership of the LP interests they now have in direct interests which will have a higher value. The reason why these structures make sense for others is to maintain control but Brookfield has control via the GPs.  What is point of holding the LPs in BAM if they can retain control of the LP assets via the GP (and thus access to permanent capital) & retain management ownership/incentive of some of the funds directly?  I just do not see the benefits as all the benefits folks have been discussing can be retained via an LP spin-off with a reduced discount. There would have to be some explanation but I think clients & investors would understand the economics have not changed but the structure has to increase everyone's value.

 

Maybe I am missing something about how the GP/LP structure works.  Can the LPs remove Brookfield as the GP if a certain number of LP units vote to remove them?  I do not think so.

 

Packer

 

Those are some positions and questions, that actually qualify - at least, to me , personally. Time to go BAM digging - again! [To me, it's [ still] about the understanding of the whole inner workings of the Brookfield sphere, going forward.]

 

Thank you for your post, Packer.

[bigbluffzinc]

I think people have liked seeing Flatt speak and I don't think I've seen these in this chat...  If this is old news in here my mistake...

 

 

[shoeless]

thanks for sharing

[Packer16]

One other benefit of the current structure is new funds can be started if capital is scarce but given BAMs size I wonder if that is an issue.  They only have one more vertical (credit) they can move into so maybe as a larger firm with funds with plenty of liquidity & the asset manager generating plenty of cash this structure may no longer be needed. 

 

Packer

[Sportgamma]

Packer, I'm curious, do you think there is a level of float% that would close the discount. Let's say that BAM would spin off a number of BPY LP shares that would bring the float to 51%. Do you think that would be sufficient for the market to value BBY differently?