Saturday, April 2, 2016

Questioning An Alternative Investment Giant's Asset Valuations (BAM)

From Barron's:

How Fair Are Brookfield’s Fair-Value Estimates?
The asset manager’s profits depend on its own property valuations. Barron’s checks some estimates.
Brookfield Asset Management has become a giant among alternative asset managers in the past two decades, as institutions and individuals sought exposure to “real assets” and gave the firm the wherewithal to amass a $225 billion global portfolio of office buildings, container ports, toll roads, and hydroelectric dams. Since 2000, Brookfield shares have climbed more than 10-fold, to $34, valuing the company around $35 billion.

Brookfield’s accounting has always been complicated because the Toronto-based firm’s holdings are a puzzle of interlocked investment trusts, private partnerships, and public vehicles. It got even trickier after 2010, when Canadian companies like Brookfield (ticker: BAM) adopted International Financial Reporting Standards, or IFRS, which let the firm revalue assets as often as each quarter. Marking-to-market can be easy for financial assets with actively quoted prices, but Brookfield specializes in illiquid properties whose values it calculates from “unobservable inputs” such as the discount rate applied to a property’s projected cash flows. 
These valuations are Brookfield’s most critical accounting decisions. Although the firm enjoys cash flow from rents, tolls, and management fees, the majority of its reported earnings in recent years actually came from noncash markups of the “fair value” of its investment properties. Over half of its $4.7 billion in 2015 net income derived from these adjustments. In 2014, such markups accounted for 79% of the year’s $5.2 billion in earnings. Obviously, the earnings figures have a major effect on the valuation of Brookfield’s New York- and Toronto-listed shares.

Firm executives contend they use conservative valuation methods that are supported by the firm’s sale of assets at prices above their carrying values. 

BARRON’S SPOT-CHECKED some Brookfield fair-value calculations that cropped up in the 30%-owned affiliate that holds its interests in railroads, ports, and energy transmission: New York-listed Brookfield Infrastructure Partners (BIP). The $7 billion market-cap limited partnership has grown its cash flow and dividend at better than 10% compounded since its 2008 spinoff and sports a 5.5% yield at today’s unit price of $42. Brookfield Infrastructure’s book value has also grown over that span, with substantial assists from fair-value adjustments.

Two investments that together account for 14% of the infrastructure partnership’s book value—U.S.-based Natural Gas Pipeline Company of America and Brazilian toll road network Arteris (ARTR3.Brazil)—are held jointly with other public companies that report their own valuations of the assets. Arteris shares even trade on the São Paulo exchange. As it turns out, the valuations reported by those co-owners have been lower than Brookfield’s.

Serving the Chicago area, NGPL is one of the largest pipeline systems in the country. For more than five years, Brookfield Infrastructure has shared its ownership with the pipeline’s operator, Kinder Morgan (KMI). In 2010, NGPL slashed its rates in a settlement with federal regulators, so Kinder Morgan took an impairment charge on its 20% share of NGPL’s equity—reducing its carrying value from $700 million to $266 million, and by extension, reducing its valuation for all of NGPL’s equity from $3.5 billion to $1.3 billion. By comparison, Brookfield carried its 26% of NGPL at a year-end 2010 value of $384 million, implying a pretty similar overall equity value of $1.5 billion....MORE