This Famous Investor Spent $3.4 BILLION on These 3 Stocks

Tim Begany's picture

Wednesday, August 22, 2012 - 9:00am

by Tim Begany

One of the stock market's biggest players has made three bets that should grab the attention of investors everywhere. Not only because of the amount, a whopping $3.4 billion altogether, but because this guru is so influential that his presence as a shareholder can often push the stocks he buys to greater heights of performance.

This is possible because his investment approach stresses bold, highly-concentrated positions large enough to give him a say in how a company is run. He then intervenes to bring about positive change. He did this most recently with the underperforming railroad firm Canadian Pacific Railway Ltd. (NYSE: CP), after he purchased a 14% stake in the company during the fourth quarter of 2011.

The acquisition brought him enough power to turn the company around, including picking a new CEO, nominating seven candidates for the board of directors and making plans for more efficient operations. His involvement in Canadian Pacific already seems to be paying off. Since his initial purchase of the stock on Oct. 28, 2011, shares are up 33%, to almost $86.

I'm referring to Bill Ackman, founder and CEO of the $10-billion hedge fund Pershing Square Capital Management.

While Ackman hasn't achieved the same level of fame as investors such as Warren Buffett and Carl Icahn, he's well on his way. Since starting Pershing Square in 2004, Ackman has delivered investment returns of 24% a year, on average, typically by concentrating assets in only about 10 stocks (other equity mutual funds usually hold dozens or even hundreds of stocks). Though Pershing Square isn't a public company, it has to reveal its holdings regularly on the Securities and Exchange Commissions' form 13F, which can be an excellent source of investment ideas from one of Wall Street's most successful money managers.

The three stocks I mentioned were revealed on Pershing Square's two most recent 13F forms, filed with the SEC on Feb.14 and Aug. 14. One of the buys was a new $1.9 billion position in consumer products behemoth Procter & Gamble Co. (NYSE: PG). The other two positions were established earlier in the year -- $1.3 billion of stock in spirits maker Beam Inc. (NYSE: BEAM) and $194 million of Alexander & Baldwin Inc. (NYSE: ALEX)

Here's why all three stocks could be worthy additions to your own portfolio.

1. Procter & Gamble 
Although large in dollar terms, Ackman's new position in Procter & Gamble won't afford much, if any, say in how the company is run, because it only amounts to 1% of outstanding shares. But it was a smart buy because Procter & Gamble was already taking bold steps to enhance profitability, which has suffered the past few years on tepid revenue growth (sales have risen by only 2% a year since 2009) and a bloated cost structure.

Management is taking steps to achieve an 8-10% growth rate. These steps include offering cost-conscious consumers better values in detergents and many other product categories, and further penetrating faster-growing emerging markets where Procter & Gamble has been slow to the draw. In February, the company announced a cost-cutting initiative aimed at eliminating $10 billion of operating expenses during the next several years, mainly by trimming the Procter & Gamble workforce, consolidating manufacturing operations and setting up more localized distribution systems.

A huge plus for Procter & Gamble is free cash flow, which totaled $35 billion during the past three years. Because the company generates so much cash, analysts project a dividend growth rate of 9% a year for the next three to five years. This would increase the per-share dividend to $3.17 in 2016 from $2.06 in 2011 and should keep the yield around where it is now (roughly 3.0%).

2. Beam 
Ever since Beam was spun off from Fortune Brands Home and Security Inc. (NYSE: FBHS) on Oct. 3, 2011, rumors have been swirling about a possible takeover by the world's second-largest spirits maker Pernod Ricard (OTC: PDRDY) or the No. 1 player in the spirits industry, Diageo PLC (NYSE: DEO). Both are foreign firms that would love to have Beam because of its wide U.S. exposure resulting from recognizable brands like Jim Beam, Courvoisier, Skinnygirl and Kilbeggan Irish whiskey.

Ackman is set to profit from a takeover, if it occurs. His Beam investment, reported in Pershing Square's 13F filed Feb. 14, makes him a 13% owner and therefore in a position to heavily influence the terms of a buyout. Analysts say this would occur at $64 a share -- 10% more than the current price of about $58.40 and an 18% gain from the $54.18 a share the stock closed at on Feb. 14.

3. Alexander & Baldwin 
Although by far the smallest of the three Pershing Square holdings I've described, this one (also initially reported on Feb. 14) resulted in a 9% ownership position with lots of clout. While I'm not aware of Ackman ever making any public announcements about his plans for the company, which is in the cargo shipping, real estate and agribusiness industries, the goal was apparently to unlock shareholder value through a breakup.

On June 28, the shipping segment of Alexander & Baldwin was spun off as Matson Inc. (NYSE: MATX), and Ackman received $3.6 million shares. The spinoff was a smart move because it resulted in a separate company with strong cash flows and reliable dividends. The stock currently yields a solid 2.4%, based on a per-share dividend of 60 cents and a stock price of $25.40. The real estate and agribusiness still exist as Alexander & Baldwin. These are the more growth-oriented segments of the company, with potential for profit through the development of commercial properties and the sale of coffee and sugar cane. 

Risks to Consider: Like many hedge-fund managers, Ackman often takes huge risks that may not be appropriate for most investors. His stake in Beam is particularly risky because major success hinges on a buyout, and there are no plans for one yet. Although a solid company on its own, Beam isn't the best play on the spirits industry. I much prefer Diageo, a company I profiled on Aug 6.

Action to Take --> Of the three stocks I've described, I think Beam is riskiest because there are better spirits stocks and the biggest reason to buy -- a lucrative buyout -- is just a rumor. If a buyout doesn't happen, then shareholders will be left with a so-so spirits stock.

Procter & Gamble and Matson have much wider appeal because of their stability and reliable dividends, so I think buying shares of both for income and diversification is an excellent course of action. I'd stay away from Alexander & Baldwin (minus the shipping segment) though, because earnings from the real estate segment tend to be volatile. 

Tim Begany owns shares of PG.
StreetAuthority LLC owns shares of PG in one or more of its “real money” portfolios.