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When Warren Buffett describes a widely professed investment belief as “economically illiterate”, we should probably take notice.
Referring to share buy-backs by listed companies, the Sage of Omaha said in February in his annual letter to Berkshire Hathaway shareholders: “When you are told that all repurchases are harmful to shareholders … you are listening to either an economic illiterate or a silver-tongued demagogue.”
This column heartily concurs. As with any use of money to buy anything, the price at which the transaction takes place is all-important.
Buffett said: “The math isn’t complicated: when the share count goes down, your interest in [the company that repurchases its shares] goes up. Every small bit helps if repurchases are made at value-accretive prices.” All italics are Buffett’s own.
Now in some cases it’s debatable at what level the price paid to buy back shares becomes “value-accretive” – in other words, when the assets represented by the repurchased shares are worth more than the company paid to buy them back.
But there is not much room for doubt if the company concerned is an investment trust whose shares trade at a discount of 20pc, 30pc or 40pc to the value of its assets.
Here, a share repurchase amounts to investing very cheaply in assets that the trust already knows and likes. Very wide discounts are prevalent among trusts that hold “private equity” assets – shares in unlisted businesses.
Yet these trusts have shown a remarkable reluctance to buy back their own shares.
This is despite the fact that, in the words of one broker, such repurchases at steep discounts provide shareholders with “an immediate and risk-free return” by enhancing net asset value (NAV) per share.
Now, though, one of these trusts has broken ranks.
Pantheon International, first tipped here in 2018, has announced a large and flexible programme of share buy-backs at the initiative of its chairman, John Singer. He has said he does not believe that private equity trusts have “kept up with the changing needs of stakeholders”.
He said one of his first acts as chairman had been to establish a review of the trust’s capital allocation decisions.
As a result, “we are revising our capital allocation policy, which in the past has not taken sufficient account of the returns to be generated by reinvesting in Pantheon’s portfolio when the discount is high. The current discount represents an exciting opportunity that we intend to seize on behalf of shareholders.”
Accordingly, the trust will spend up to £200m to buy back its shares in the current financial year. To put the figure into context, Pantheon’s current market value is £1.5bn.
Crucially, though, the trust will not disregard price as it conducts its buy-backs.
From the next financial year it said the sum dedicated to buy-backs “will be determined by reference to the prevailing discount to NAV at which the company’s shares trade and will be reviewed periodically”.
It also helps that Pantheon has a strong balance sheet, so its buy-backs will not result in excessive debt. Of course, our entire argument falls apart if we cannot trust that a discount is real – in other words if we cannot trust the NAV reported by the fund concerned.
Private companies do not have a share price we can just look up, but we can take a lot of comfort in the case of Pantheon from the fact that, when holdings are sold, it has in the period since 2012 made an average gain of 31pc relative to the price at which it had valued the asset.
This reflects a “conservative valuation approach”, Investec, the broker, said. And, as we said when we first tipped the trust, it benefits from the unparalleled access its managers have to the world’s best private equity managers.
Its board and management team are also backing the fund with their own money: Singer owns shares worth more than £1m and another director has about £9m worth, while the managers collectively own another £7.9m.
Questor believes that investors benefit from exposure to private equity within a balanced portfolio.
Pantheon, already an excellent fund, has just made itself even more appealing and we have high hopes that the share price will respond to this muscular buy-back programme. A strong hold for those who already own it; a buy for those who lack private equity exposure.
Questor says: buy
Ticker: PIN
Share price at close: 291p
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