Back on November 21, 2008, USG Corporation (USG) issued a total of $400 million of 10 percent contingent convertible senior notes due 2018, $300 million to Berkshire Hathaway Inc. (BRK-A) (BRK-B) and $100 million to Fairfax Financial Holdings Limited (FFH). The notes would initially bear interest at a rate of 10 percent per annum. At the time, USG stated that it would seek shareholder approval to allow conversion of the notes into shares of USG common stock. If approved, the notes would become convertible into shares of USG common stock at a conversion price of $11.40 per share. If shareholder approval is not obtained prior to the 135th day after closing of the sale of the notes, the notes would bear interest at 20 percent per annum until after shareholder approval is obtained.
At the time, according to GuruFocus Data,Warren Buffett, through Berkshire Hathaway, owned 17 million shares, or 17.22% of the company. Another investor of convertible notes, Prem Watsa’s Fairfax Financial Holdings Ltd. (FFH), had 16,800 shares.
Fast forward to February 9, 2009, far less than135 days later, USG announced that its stockholders approved the conversion feature of its recently issued $400 million of 10 percent contingent convertible senior notes due 2018. As a result, the notes are convertible into shares of USG common stock at an initial conversion price of $11.40 per share and would continue to bear interest at the initial rate of 10 percent per annum.
As a result, also according to GuruFocus Data, Warren Buffett now owns 43.3 million shares of USG, or about 34% of the company. Fairfax Financial Holdings, on the other hand will have 8.78 million shares, or about 6.5% of the company.
There is no argument that Warren Buffett is the stock Investment Guru of modern times, still his investments into USG seems offers a case study that the Guru could be flexible with his investment principles at times.
GuruFocus featured USG as one of the opposite examples for the companies that Warren Buffett like, companies that have proven and predictable earning. USG’s revenue, on per share basis, has been sporadically declining at a 2.5% per year – it is cyclical company with very little growth at the best. Its EBITA (that is Earning Before Interests, Taxes, and Appreciations) could easily be negative or positive.
Warren Buffett also stated that he likes companies having wide and widening “economic moat”. Usually, when a company possesses such an advantage can raise the price without worrying too much about competition. Look at the gross margin of USG during the past ten years in the chart below. Again, it is sporadically trending down. As of 2008, it is at a low 4.2%.
What concerns me the most is its mounting debt. At the end of 2008, before the conversion the total liability is at $3.2 billion while the total equity is $1.7 billion. Apparently even the management and the majority of shareholders agreed that leverage was too high, hence they approved the conversion, effectively recapitalizing their balance sheet.
USG is traded at $6.60 per share and change, about 95% lower than its all-time high. It is sold 30% of book value, and 15% of its annual sales. It is probably a bargain now.
New buyers at this point can be comforted that Warren Buffett and Prem Watsa just converted their note rights to common shares at $11.4 per share, substantially higher than the current price.
Shareholders, both old and new (Warren and Prem excluded, of course) should lose some sleep at night on the thought that Warren Buffett and Prem Watsa will continue to reap 10% off their original investment for the next 10 year. That is $40 million per year.
And for Warren Buffett and Prem Wasta themselves, they just ate the cake and still had it.
Now that they have essentially doubled down on USG, GuruFocus will watch how these investments play out.
Filed Under: USG, BRK-A, FFH, BRK-B,
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