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Author: BenGrahamMan Big red star, 1000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: of 402  
Subject: Updated BAM Thesis Date: 6/4/2009 11:55 AM
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Please see disclaimer at bottom of this document


Brookfield Asset Management is a diversified conglomerate. Their main areas are Commercial Real Estate, Hydro Energy, Asset Management and Infrastructure.

Quick Thesis:

High leverage, greater costs of capital, potential if not probably refinancing issues, Tangible Book Value of $2.2B, > $12B of debt coming due in less than 3 years, and $32B of debt in total, Incestual sales and potentially unusual uses of related parties, which I think lead to a Quality of earnings and balance sheet issue, slowdown in most areas of their business (because of leverage I believe extreme stress is possible), great capex requirements (i.e. South American Transmission), higher cap rates with commercial real estate (and I believe major assets were bought at historically low cap rates and that we will never see cap rates like that ever again and potentially aggressive accounting usage, especially via inter-companies.

We feel that over the years investors have embraced BAM and their efforts, without really peeling the onion. Interesting to see the value investors who embraced BAM when we first started looking at it in August of 2007, and how there are fewer traditional value investors now. Third Ave Value is the largest holder, yet has been reducing their Common Stock position. I used to speak to analysts in late 2007, that had no idea that Brookfield Renewable issued Financial Statements. These analysts took for face value what BAM wrote in their reports. Yet, if one looked into Brookfield Renewable’s financials (then they were called Brookfield Power Inc.) one could see a potentially different story.

Expanded Thesis:

(1.) I think they are over leveraged and that increased credit costs, costs of capital, lower loan to values, could continue to stress BAM. BAM floated CAD$500M on June 2, 2009. In this market, they were able to secure the funds. Yet, they are paying 8.95% and the covenants are tighter than they have ever seen. The debt is 5 year debt. If BAM is downgraded to below investment grade by 3 of the 4 Ratings Agencies, the debt is immediately due. There were also comments in the note in regards to subsidiary payments. Within the last 30 days, Brookfield Renewable, BPO Properties and Brookfield Properties, were put on Outlook Negative by Standard & Poors.

(2.) BAM has quite a few Joint Ventures or minority interests. On projects they have co-investors. Both Co-Investor and BAM commit capital. I would watch if JV's start failing to meet capital contribution requirements. I think, but am not certain, that BAM has commitments promised on various ventures, that are not showing up as liabilities in their Balance Sheet.

(3.) Incestual sales and potentially unusual uses of related parties. These include related party sales. Related party fundings, which include potential below market loans. Related party dividends, which are not necessarily in the best interest of the entity distributing dividends. Potential use of subsidiaries as a funding source, which might not be considered arms-length in nature. Various recent examples of subsidiaries funding include Brascan Residential in Brazil, Great Lakes Hydro, Brookfield Homes, Norbord, Fraser Papers, and Canary Wharf. BAM could have a quality of earnings issue, as they record inter-company gains, without eliminating on the consolidated parent. These gains include sale of Pingston Hydro and Prince Wind to a conduit owned by both BAM and consolidated subsidiary, and public Fund, Great Lakes Hydro, gains on conversion of debentures to common for various companies owned by Consolidated subsidiary Brookfield Investments Corporation.


Here are some examples of Related Party Usage:


The following is quoted from a SEDAR filing on December 9, 2008 for Brookfield Investments Corporation.

"On December 3, 2008, the board of directors of the Company approved the sale of its 15% interest in The Canary Wharf Group plc (“CWG”) to Brookfield Europe LP in exchange for an approximately 42% limited partnership interest in Brookfield Europe LP with a fair market value of £333,800,000 and cash proceeds in the amount of £107,600,000."

Brookfield Infrastructure Partners - Acquiring Public Private Partnerships (PPP) from Brookfield Multiplex. Purchase price of $20M. I asked if this was discount from BAM’s original purchase price, but presenter was not sure. Properties include 2 hospitals. Anticipated close is November / December 2008 (even though presentation was in December 2008.)

Longview and BIP - Invested in Longview to maintain 30% ownership level. This further investment of $103M was completed in November 2008.

(4.) Slowdown in Alberta CN real estate. (BPO). I previously had this as potential. Slowdown in Calgary. On 3/3/09 this was in the news, "Canada's Economy Shrinks 3.4%" http://online.wsj.com/article/SB12360230...

(5.) High occupancy rates in metro areas deteriorating because of reliance on financial service industry. Interestingly enough, BPO Properties in recent CC, claimed "business as usual."

(6.) Previous access to low cost capital with excess cash based on NAV, no longer available to BAM. Again, they just floated CAD$500M, five year paper at 8.95%. This rate does not appear to be consistent with other S&P A- companies. Notes were priced at 8.95% for 5 year paper. This is 5 year UST (2.45) +~ 650 BPS. I would think that A- paper would be issued at less of a yield than that. Something to watch. I checked Egan Jones, and the BAM issue seems to be priced much higher than other similar credit rating issues. Egan Jones is showing several A- similar rated and duration issues to be yielding in the mid 5.50%'s. Here is another issue I pulled up from Finra with similar characteristics. This bond comes due 6 months prior and has a call provision. Hence, not apples to apples.

(7.) Industry credit tightness, and BAM's high leverage, could cause stress. Noting that > $12B comes due on or before 2011. BAM has $32B of total debt.

(8.) Lower values of assets, which were bought at potentially elevated prices, with concerns that loans that are no longer available to such assets. This potential lack of credit is not just industry specific, but what I believe to be company specific. We have read on several occasions, and as recently as June 3, 2009 in the Commercial Real Estate Alert (www.realalert.com ) that NYC CRE is back to 2004 prices.

Brookfield Properties has $5.6B of debt coming due on a consolidated level in less than 3 years. Most of this is from Trizec purchase in October 2006, which I think is now US Office Fund.

Those are just two items that make up almost $7B in less than 3 years.

In total on consolidated basis, BAM has over $12B coming due within three years.

Here is what BAM mentioned in their 4Q08 supplemental report in regards to non-recourse commercial property debt.

"Commercial property financings are secured by high quality office buildings. Many of the financings which mature in the next three years were arranged a number of years ago and, accordingly, represent a low loan to value. As a result, we expect to refinance these maturities in the normal course at the same or a higher level. Maturities in our North American, European and Brazilian operations, are extremely low relative to the scale of these operations, reflecting the long-term nature of the financing. The Australian property market typically utilizes shorter duration financing, which we are rolling over in the normal course and seeking to extend on a long-term basis where possible."

From above, not only does BAM expect to be able to refinance, they are expecting to refinance for the same amount of debt or greater. Yet, as JPM said today, it is a new ball game for lending. Cap rates, use of lending guidelines , loan to values have all changed. BAM has alluded long term ownership of assets, when indeed, they have $7B due before 2011 on assets that at the earliest were purchased in October of 2006.

If you review BAM and subsidiaries interest coverage ratios they are quite low and have been decreasing over the last few years. In the recent supplemental schedule BAM reported Interest Coverages on Operating Cash Flows, not on Net Income from Operations.

When looking at BAM remember to consider asset sales, debenture conversions and so forth, as non-recurring as well as being sold in most cases to related parties.
(9.) Funds that BAM manage are not performing within expectations. These include Crystal River, Some Hyperion’s, Brascan, Multiplex, Brookfield Properties (projected) and Brookfield Homes (projected).

Here is an example on Multiplex Funds on 3/2/09

On 3/2/09 MULTIPLEX ACUMEN PROPERTY FUND (MPF) closed at $0.03. This has lost 98% of its value since 12/31/07, and 77% of its value since 12/22/08. MULTIPLEX ACUMEN PROPERTY FUND (MPF) at 12/31/07 was priced at $1.25. It closed at $0.29 on 10/31/08, $0.20 on 11/24/08 and $0.10 on 12/22/08.

On 3/2/09 MULTIPLEX EUROPEAN PROPERTY FUND (MUE)closed at $0.12. This has lost 87% of its value since 12/31/07, and 30% of its value since 12/22/08.

MULTIPLEX EUROPEAN PROPERTY FUND (MUE)at 12/31/07 was priced at $0.90. It closed at $0.27 on 10/31/08, $0.20 on 11/24/08 and $0.17 on 12/22/08.

Here are some notes I had on potential debt breaches by a Multiplex fund.

Brookfield’s Multiplex Acumen Fund May Breach Debt Agreements

Dec. 17 (Bloomberg) -- Multiplex Acumen Property Fund, a A$342 million ($238 million) money manager controlled by Brookfield Asset Management Inc.’s Australian unit, said sliding property values may force it to breach debt covenants on Dec. 31.

The fund started its yearly review with lenders and would have 90 days to rectify any breach, Multiplex Acumen said today in a statement to the Australian stock exchange.

“The deterioration in the asset value of a number of the fund’s underlying investments, together with a sector-wide reduction in distribution income, is expected to have a negative impact on the net tangible assets,” Multiplex Acumen said.

Brookfield, the Toronto-based manager of $90 billion in assets including real estate, paid A$5.7 billion last year to acquire Multiplex Group. Brookfield last month said it agreed to refinance $800 million of Australia-related debt.

Credit Suisse, a long time bull on BAM commented the following on 12/17/08.

A. Potential breach of covenants is a minor near-term negative for BAM. CS does not believe that BAM has significant exposure to the fund.

B. The poor market performance for the related funds presents "significant restructuring opportunities."

C. Concern over potential cash funding needs for some of the funds and concern over BAM's ability to raise new money for asset management because of poor performance.

D. Historically CS claims that BAM does well in these funds. I say, historically in depressed economic conditions BAM did not have the excess leverage and pending increases in costs of capital as in the past.

(10.) Previous business conditions with wind at tail no longer exist. Closer eye on Corporate responsibility.

(11.) It seems as though their IFRS reporting could be potentially aggressive. They are using discount rates and other DCF techniques. All legal, all subject to interpretation. I think the discount rates could be raised, which in turn would bring down asset values. Higher the cap rate, lower the asset value. Higher the discount rate assumption, lower the asset value.

(12) Use of cash via buy-backs
We sometimes update our Website for new BAM information. Here are several links to the site.

http://rbcpa.com/companies/BAM_notes.html
http://rbcpa.com/companies/BAM_Related_party_filings.html

Disclaimer


If you are a client of ours, and if you have questions regarding Brookfield Asset Management, Inc., please call our office. If you are not a client of Redfield, Blonsky & Co. LLC Investment Management Division and are reading these notes, we urge you to do your own research. We will not be responsible for any person making an investment decision based on these notes. these notes are a "by-product" of our research. We are not responsible for the accuracy of these notes. We are not responsible for errors that may occur in these notes. Please do not rely on us to monitor or update this or any other report we may issue. In theory, we could come across some type of data or idea, which causes us to eliminate our long or short position of Brookfield Asset Management, Inc. from our portfolios. We will not notify readers revisions to these notes. We are not responsible to keep readers of these notes updated for changes or material errors or for any reason whatsoever. We manage portfolios for clients, and those clients are our greatest concern as it relates to investing. Certain clients of Redfield, Blonsky & Co LLC may not have Brookfield Asset Management, Inc. in their portfolios. There could be various reasons for this. Again, if you would like to discuss Brookfield Asset Management, Inc., please contact Ronald R. Redfield, CPA, PFS (partner in charge of investment management division).

Information herein is believed to be reliable, but its accuracy and completeness cannot be guaranteed. Opinions, estimates, and projections constitute our judgment and are subject to change without notice. This publication is provided to you for information purposes only and is not intended as an offer or solicitation. Redfield, Blonsky & Co. LLC and Ronald R Redfield, CPA, PFS, may hold a position or act as an advisor on any investments mentioned in a report or discussion.
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