Reading Buffet's mind.....

Sum evaluates what are the key “take away” from Berkshire Hathaway buy of Burlington Northern Santa Fe Railway?

He bought a rail road company spending USD 45 billion coz he says his father didn’t bought him a toy rail when he was a kid. Buffet’s biggest Private Equity deal involving buying the remaining 78% stake in Burlington Northern Santa Fe Railway (BNSF) is being read by market watchers for signals on how the smartest and richest American Investor assess and evaluate America’s prospects going forward. After window shopping in Asia and Western Europe for nearly a year he chose to invest back home in capital intensive transport sector which traditional he and his company avoided. Buffet’s Berkshire Hathway thought PE investments in capital intensive businesses had fewer opportunities for generating value and making profitable exists. If his timing and foresight is anything to go by, his investment in Goldman Sachs is up 20 %. Goldman turned to

He remained invested with a minority stake in BNSF all through the recessionary times and waited for clear skies to invest even though BNSF share hit a bottom of around USD 51. The deal price of USD 100 per share aggregating USD 45 billion for a 78% stake is undervalued as per Buffet and he believes he can make a profitable exit. A striking thing about this takeover is that Buffet closed the deal very neatly in less than ten days and without the help of any investment banker. No valuation done, no due diligence process, it’s a firm decision swiftly executed.

So why it is that a Private Equity investor like Buffet can add value to a company while the present management is unable to do so. And more so Private Equity funds are able to buy distressed and underperforming assets at dirty cheap prices, turn them around and sell them at a premium making a neat return of a couple of hundred basis points. The answer lies in better management of these assets/ companies by integrating the interests of senior managers with the long term valuation of the companies. In a normal company with a public float there is increased pressure on managers to maintain a company’s stable or growing dividend policy or maintain the company’s share price and report quarterly figures (all short and medium term goals). The company’s performance is dissected by numerous markets participants like analysts, brokers, market makers for search or undervalued or overvalued securities and there is a lot of pressure on meeting analyst expectation. Focus is on achieving long term goals and incentives to achieve them by senior managers of the company are very strong in a PE set up. Secondly PE replaces the high cost debt of the company by repaying it and leveraging the company’s capital structure by borrowing at low cost. PE funds are able to borrow at low cost because of their excellent debt repayment reputation. As the company is turned around the operating cash flow and EBIDTA generated is used to deleverage the capital structure. There is restriction on payment of dividend till the debt is repaid and all funds generated are used to deleverage the company to normal acceptable levels.

So coming back to our basic question, what signal can we read out of this big ticket investment? First take away for many would be Buffet’s confidence in American economy and an expectation of a medium to fast recovery. This dispels doubts of a prolonged slowdown. Clearly he is investing in a company which will weather the oil price spike better than trucking companies or the airlines. He expects oil to spike in the near term and business to shift to rail road from trucking and airlines. Second with all the climate change and environment talk in the town he is expecting subsidy and tax credits for green companies from the congress. If you give any weight to his proximity to law makers, cap and trade and environment regulation is a take away and expects some movement on this from the congress going forward. He is also betting big on increased trade between China and America particularly through the opening of Panama Canal for trade. Walmart has already set up a big warehouse to transport exports from China through Panama Canal to mainland US. Thirdly he is expecting American to get realistic and mend their spending patterns particularly when it comes to travel. He has put all his money on a cheaper mode of transport so all those who trust his trading skills can short stocks of airlines and trucking companies.

For me the biggest take away is that going forward he has recognized and realized that America will no longer be as flamboyant as it used to be. It has just survived a major stroke and now America is expected to return to cheaper ways of life. All said and done I am very excited to see how Buffet profits from this investment for this is one investment I really do not agree with him.

Sum' frontruns the "Economist"

Sum frontruns the "Economist" on applauding NREGP. (Sum blogs on Oct 13,2009; "Economist" follows with a similar article in the Nov 7-13 issue.

Sum frontruns "Economist" this time. A blog which I posted applauding UPA's flagship NREGP on October 13 gets similar applause from the the heavy weight business and economic weekly "Economist". The parameters of applause are much the same so I am happily posting an article from a Firang Magazine which I have frontrun at least by a fortnight. Read the "Economist" Nov 7-13 edition. The article in the Finance and Economics section is headlined "Rural Job Guarantees - Faring Well". The introduction lines read "India's grand experiment with public works enjoys a moment in the sun".

Hot Money ....

FIIs touch make emerging economies steaming hot.

Its a problem of plenty for emerging economies like India and Brazil. With ultra low interest rates in the developed nations there is a reverse flight of hot money in emerging economies. It is creating an asset bubble particularly in the equity markets of emerging economies. Emerging economies as an asset class constitutes the biggest proportion of private equity funds, hedge funds and big ticket investors. For an emerging economy like India or Brazil all money is welcome money but with such robust inflows central bankers are in a quandary to avoid bubbles and prevent markets from over heating. Brazil imposed a tax on all FII inflows (2 % or thereabout), India is still scratching its head to find a solution to the problem of excesses. Any interest rate rise at this juncture will further give impetus to FIIs who are facing near zero interest rates in their home countries. It'l be interesting to see how central bank handles the robust inflows while raising interest rates to rein in the threat of inflation. Inflation in consumer goods sector is already in double digits and the full blown effect of weak monsoon will pinch even more in the coming weeks. RBI is now caught between a catfight of its wife (economic growth) and mistress (inflation control). Lets see how RBI balances its marriage and who comes out a winner; the wife or the mistress.