May 24, 1999 @ 12:01 am

By Anna Robaton

When Baker Fentress & Co. acquired New York value shop John A. Levin & Co. in mid-1996, the controversial purchase, a first of its kind for a closed-end fund, was hailed as a new beginning for the plodding old portfolio.

Instead, it marked the beginning of the end for $815 million Baker Fentress, one of the country's oldest closed-end funds. Its chronic discount to net asset value, due in part to its history of investing in illiquid securities like Levin & Co., only got progressively worse, hitting a disturbing 25% during the last several months.

Now it's decided to eat its own tail, converting itself next winter into a public holding company for Levin, allowing the money manager to go public without the rigamarole of an initial public offering.

Under a board plan unveiled earlier this month, most of the portfolio's holdings will be sold, with the proceeds going to shareholders.

Yet the fund won't liquidate its two largest holdings, Consolidated-Tomoka Land Co. and Levin & Co. Instead, investors will get stock in each.

That may be good news for John A. Levin, 60, chief executive of both the fund and the eponymous money manager, but the plan is surely a mixed blessing for investors who have suffered through years of underperformance.

For one thing, estimates Kevin McNally, a closed-end fund analyst at Salomon Smith Barney, investors will face a $6.84-a-share capital gains hit. Through March 31, the fund had an unrealized gain of $138 million (including a $64 million long-term gain on its holdings in Consolidated-Tomoka), according to a spokesman.

And of course, Levin & Co. and Consolidated-Tomoka aren't exactly gems.

Long-suffering shareholders should be used to a trail of tears by now. Many were rankled, for example, when Mr. Levin became the fund's largest individual shareholder as it acquired his company using cash and stock worth $131 million, diluting the outfit's net asset value.

No sooner did Mr. Levin take over management of the fund in 1996, than he began to shift its style from mid-cap growth to his trademark large-cap value. Bad timing. "We got into a period where value has been more out of favor than it ever has in history," says Burton G. Malkiel, a Princeton University economics professor who serves on the fund's board.

Mr. Levin declined to comment. But his Levin & Co. has been suffering, too. It saw its operating income drop almost 13% last year to $14.1 million, even though assets under management grew about 12% to $8.3 billion. The firm's assets had been growing by about 25% a year when the fund bought it, according James P. Koeneman, a spokesman for Baker Fentress.

spending for future

Levin attributes the drop in operating income to investments in staff and infrastructure, expenses that are also expected to affect this year's profits. The fund's board has lowered the company's valuation to $115 million, from $120.6 million in June 1996.

Baker Fentress is independently run out of Chicago. It hired Levin to manage its listed stocks, but not its big 79% stake in Consolidated-Tomoka. Levin will be losing the management fee -- $1.5 million last year -- it had been earning to run about 70% of Baker Fentress, or $500 million.

"Would Baker Fentress have been better off liquidating a couple of years ago rather than going through the transaction with Levin & Co.? There are many of us who could make a case for that," says Thomas J. Herzfeld, a Miami-based adviser who manages $100 million. He has invested in the fund on behalf of his clients for the past 35 years.

Last month Levin's high-profile president, Jessica M. Bibliowicz, quit after less than two years in the post (and almost four years before her contract was due to expire) to take the top job at Leon Black-backed National Financial Partners. Ms. Bibliowicz, daughter of Citigroup co-chairman Sanford I. Weill, did not return calls seeking comment.

Making things worse, Consolidated-Tomoka, an investment that dates back to the Florida land boom of the early 1920s and the fund's next-biggest holding, saw its stock price drop 22% last year to $14.12, before bouncing back to about $15. In recent years the company, with a market capitalization of $34 million, has left the home building, resort and citrus businesses to concentrate on land development in the Daytona Beach area.

"There certainly were discussions about whether you could liquify" the holding in Consolidated-Tomoka, says Mr. Malkiel, the director. "I'm sure if someone had come in with an offer we would have looked at it."

Once the conversion of the fund into a holding company is completed, Mr. McNally says, Levin will be one of the smallest publicly traded asset managers in a market where size seems to matter.

What's more, although the firm made some inroads into the retail arena under Ms. Bibliowicz, most of its clients are institutions, and the market "tends to favor managers who can raise large retail assets," says Mr. McNally.

As measured by net asset value, the fund returned 10.9% for 1998, underperforming the Standard & Poor's 500 stock index's 28.6% gain. It returned 15.32% and 14.85% for the three- and five-year periods ended last year, while the S&P gained a respective 28.23% and 24.06%.

"It was bad timing just by serendipity in that value stocks have not been the market leaders in the last few years," says Eric Jacobson, an analyst at Chicago fund tracker Morningstar Inc. "But the fund's overall record has been very poor relative to other large-cap value funds. To some degree that could be the anchor of those two small companies."

Special meeting june 17

Assuming that a majority of shareholders approve the board's plan, the final distributions of cash and stock are expected to take place early next year. A special shareholders' meeting will be called when directors meet June 17.

The Securities and Exchange Commission must approve the proposed conversion of the fund to a holding company.

Mr. Koeneman thinks shareholders will approve the plan. He points out that Consolidated-Tomoka hopes to buy back shares or hold a tender offer when its stock is distributed, using the $22 million (after-tax) it raised from the recent sale of its citrus groves. That should limit the damage from a possible fire sale.

He also notes that value investing has begun to turn a corner, which should be a boon to Levin's future stockholders.

And while fund shareholders will face "some fairly decent tax liabilities," he says the hit could have been worse. "The amount of unrealized gains are a lot lower than they were a couple of years ago. Once Levin came in, they sold off a lot of those old stocks."


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