Cross shareholding quiz

By Gareth Brown

Next week, The Intelligent Investor will publish a full review of Washington H. Soul Pattinson. The company has a famous and longstanding cross shareholding in Brickworks - Soul Patts owns 49.5% of Brickworks and Brickworks owns 42.85% of Soul Patts.

If history is any guide, the review will prompt numerous intelligent questions from members grappling with how to account for this cross shareholding in a valuation of the stock.

The point of this blog post and the follow up later this week is to describe, by way of simplified example, what I believe is the right way to think about cross shareholdings.

By Gareth Brown

Next week, The Intelligent Investor will publish a full review of Washington H. Soul Pattinson. The company has a famous and longstanding cross shareholding in Brickworks – Soul Patts owns 49.5% of Brickworks and Brickworks owns 42.85% of Soul Patts.

If history is any guide, the review will prompt numerous intelligent questions from members grappling with how to account for this cross shareholding in a valuation of the stock.

The point of this blog post and the follow up later this week is to describe, by way of simplified example, what I believe is the right way to think about cross shareholdings.

Consider two imaginatively-named companies – Company A and Company B. Both have $50m cash and a 50% shareholding in the other company. There are no other assets or liabilities. Both companies have 100 million shares outstanding:

Company:                                                   A                                           B
Cash:                                                        $50m                                   $50m
Long Term assets:                            50m B shares                     50m A shares
Liabilities:                                                 Nil                                         Nil

Shares outstanding:                              100m                                    100m

What is the theoretical fair value of a share of either company? To keep things on track, I'll make it a multiple-choice question. Is the correct answer:

a.    Both A and B are worth $1.00 per share? or

b.    Both A and B are worth $0.50 per share?

For now, please resist the urge to comment on other contributions, but feel free to include your reasoning or workings. I'll publish a post with my answer in a day or two.

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