StubbleJumper

Sad news indeed. The May long weekend takes too many from us. SJ

Its really funny because they used to have this on their freaking website!!!!!! Exactly what you wanted. And now I look at their website and its total garbage. Microsoft used to have an excel spreadsheet with their financials going back to their IPO. All these god-awful site redesigns have made these pages much less informative. If it previously existed on their website, it might be recoverable by using the Wayback Machine: https://archive.org/web/ SJ

Okay, so I am a non-practioner and I do tend to be slightly paranoid (okay, maybe exceptionally paranoid). I mostly don't hesitate to install apps from the Google Play store, or from the Apple iTunes App Store, or add-ons or extentions officially sanctioned by Crome or Firefox. But, installing a 3rd party app that happens to be on GitHub? Nope, I'm a bit too paranoid for that. I use my browser to log into my financial accounts, so I have a certain discomfort with installing apps that are not vetted through the major channels. I have no idea what those apps do and what they don't do. Is there spyware on them that will steal my brokerage and online banking passwords? Do you have any reassuring intel? I don't mind Outline because when it's run in Chrome, it's sandboxed. But who has gone through the Bypass-Paywalls app to ensure it's okay? I will admit to being paranoid, but there are a few people on this site who are trying to protect their assets. SJ I don't look a gift horse in the mouth, if you're that paranoid go buy a subscription. Yep, I think the public library is the way to go. Best of luck with the app. SJ

Okay, so I am a non-practioner and I do tend to be slightly paranoid (okay, maybe exceptionally paranoid). I mostly don't hesitate to install apps from the Google Play store, or from the Apple iTunes App Store, or add-ons or extentions officially sanctioned by Crome or Firefox. But, installing a 3rd party app that happens to be on GitHub? Nope, I'm a bit too paranoid for that. I use my browser to log into my financial accounts, so I have a certain discomfort with installing apps that are not vetted through the major channels. I have no idea what those apps do and what they don't do. Is there spyware on them that will steal my brokerage and online banking passwords? Do you have any reassuring intel? I don't mind Outline because when it's run in Chrome, it's sandboxed. But who has gone through the Bypass-Paywalls app to ensure it's okay? I will admit to being paranoid, but there are a few people on this site who are trying to protect their assets. SJ

Hey, don't judge us.

Nice little article that appeared this morning in one of Canada's largest dailies: https://outline.com/KZXLnb SJ

Spot on. A few more observations: 1) Isn't it just a bit weird that FFH had realized gains on both their equities and their derivatives in the same quarter? Don't get me wrong, I'll take it! But, these were supposed to have been set up as a hedge, but they didn't act as a hedge in Q1. The derivatives are starting to become small potatoes, but I found that was a bit weird anyway. 2) As you noted the CR is up, and favourable development is down. The accident year CRs have been wacked for a number of years and there has been consistent, large favourable development. In Q1 it was still favourable, but the magnitude was down. What's the story? Is it just a few shitty policies at Allied and a bit of bad luck in the other subs, or are we seeing the result of pricing pressure of a year or two ago across the line? While completely irrational, I don't like seeing adverse development in the "new" sub (but somehow I would feel okay if were in an established sub?). 3) The interest rate sensitivity table would suggest that duration has increased a smidgen. Is this a conscious effort and is this a sign of things to come, or is it just a bit of noise? It would seem like a funny time to go a shade longer on fixed income, but in all fairness it would have worked out over the last quarter or two. 4) With the exception of Zenith, net written looks good. It's not that mythical 10% YoY growth, but 5% still shows some real organic growth. It'll be interesting to get some commentary about the pricing environment during the conference call. Nice boring quarter. Let's hope that some of the large block equity postions continue to gain traction. SJ

Interesting that he should say that. A quick and dirty logic check would be to look at the difference between compounding money at say 8% vs 9% over a 20 year period (ie, the time for a child to become an adult). It's not very close to the same at all, unless there truly is no material difference in returns (which might be the intent of his message). I think that I would be biased towards putting the money into BRK, but that's driven by an underlying assumption of a small advantage for BRK returns. SJ

I appreciate the historical context. I can totally believe that one of the prime ways of attracting equity capital is to pay a stable or increasing dividend. It is a complete shame that people who buy equity for the 4% dividend would continue to hold, while the management issues 20% equity, wiping out ~5 years of dividends in one fell swoop. In some respects, it depends on your perspective, your objective, and your time horizon. If you had an investor who desired an eligible Canadian dividend for tax reasons for a 20 year time horizon and wanted "low risk" of it ever being cut, a perpetual preferred share from a lifeco, bank or utility might fit the bill. You buy the perpetual and you collect up the ~5-6% divvy and then 20 years later you unload your perpetual for what will probably be either a small-ish capital gain or a small-ish capital loss. I would propose that a Canadian bank common dividend probably has about the same risk of being cut or suspended, but the dividend runs in the 4-5% range, which is a hair lower than the preferreds. If the investor with the 20-year time horizon buys that common share, he'll sit back and collect his eligible Canadian dividends for 20 years, and the divvy will almost certainly grow considerably over time. We know that 20 years will encompass at least one economic cycle, if not two economic cycles. We know that the banks will likely report low (near zero?) earnings for 3 or 4 years during that time frame, and they might issue more shares during the 1 or 2 downturns (as you've noted, possibly 20% more shares on one or two occasions). But, despite the share offerings, we also know that the oligopolistic banking sector will probably rack up an annualized ROE of 15-20% over those 20 years which will almost certainly result in a considerable capital gain, irrespective of the share issuance. All of this sounds like a free lunch, right? I'd say that it's *almost* a free lunch from the perspective of risk adjusted return. The common does carry a couple of risks that are not present in the perpetual preferreds, notably that this time might actually be different. Past practice aside, dividends might not increase in the future, and they could theoretically be cut or suspended. The ridiculous return on equity might not continue in the future (how much of past ROE was driven by the collapse of the 4 pillars?). There might be considerable policy risk in holding the common if a future government was ideologically predisposed to breaking down the barriers and fostering greater competition, *or* if a future government was ideologically predisposed to taxing the fat-cats as an avenue to achieve greater social justice. So, it's not a free lunch, but over a long enough period, I'd say it's an asymmetric bet. I don't want to seem like a brainless cheerleader for the Canadian banks, but I just like to use them as a point of comparison to preferred shares. I have nothing against preferreds in particular, but I just don't see much value there at present. If the preferred yields to worst were half again as large, I might view it differently. SJ

I agree that there are likely other preferred shares that present much better risk/reward. I just haven't done my homework. With Canada's housing bubble finally unraveling after decades of credit binge, I wouldn't be counting on Canadian chartered banks' dividends to be stable. To me the worst case is quite horrible indeed. If the housing market reverts to the mean, we are likely talking a lot of pain for the Banks' shareholders. Back on topic... your arguments have convinced me to stay away from the FFH preferreds though. :) While this might constitute "whistling past the graveyard," it's worth taking a historical look at Canadian banks' dividend history and how they've approached other downturns. In particular, the financial crisis of 2008/09 and the last major recession of 1992/93 are interesting. Income gets hammered for a year or two as provision for credit losses rises, but the dividends were not cut. Some of the banks issued equity, but the dividends were not cut. In some cases, there were no dividend increases, but the dividends were not cut. In fact, you can go back several decades and not find a dividend cut from a big-5 Canadian bank. The central theme is that a Canadian bank avoids cutting its dividend at all costs. As I said, to a certain extent, that's whistling past the graveyard. If income is vapourized for 3 or 4 years, the story could end up being different this time. SJ

Thanks! I missed that thread. It is interesting that that thread is focused on the ability of FFH to pay because it was mainly happening during the Q4 market swoon. It didn't at all focus on ability to pay. It focussed on risk adjusted return. FFH has securities in the preferred space, but there are any number of other issuers that also have preferreds, so how to you rank their risk adjusted return? And, how do you stack up the preferreds vis-a-vis the common? I have not seen much value in preferreds other than the notion that some how, some way, yields-to-worst will tighten and there'll be a capital gain on the back-end. Maybe. Or you can buy a chartered bank common with a 4-5% dividend rate which will likely grow and which will likely give you some capital gains. In the worst case scenario, how many years would it take for one of the chartered bank commons to out-perform an FFH preferred? Would it be 5 years in the worst case scenario? SJ

Did everybody look at the results of the director voting: https://www.fairfax.ca/news/press-releases/press-release-details/2019/Result-of-Voting-For-Directors-at-Annual-Shareholders-Meeting/default.aspx I would understand that people might not bother, because the outcome is a fait accompli with Prem's multiple voting shares. I did, however, want to take a moment and draw people's attention to the number of votes withheld by subordinate shareholders. It looks like Christine McLean, Ben Watsa, Prem Watsa and Anthony Griffiths were all subject to a considerable percentage of withheld votes (ie, more than 5% of shareholders voted against them). This is a considerable increase from the level of discomfort manifested through last year's vote. Normally it wouldn't be a surprise to see a few tens of thousands of votes withheld, because there are always a few individual shareholders who are dissatisfied with certain directors. But, in this case we are talking about ~1.5 million shares that withheld their vote (the economic interest voting against the Watsa family is roughly equivalent to the Watsa family's economic interest). It would appear that FFH management must have annoyed one or more large institutional holder(s). I hope that Prem is paying attention to how his partners are reacting to the appointment of his progeny to the Board. SJ

The post-mortem thing is probably not that useful because the reasons for an investment flop are usually pretty obvious ex post. The real thing that they need to work through is: 1) Why do they insist on pulling from the "too hard pile"; and 2) why do they throw the largest amount of capital at the ideas where success is contingent on some aspect of the world fundamentally changing. At times, it seems like somebody must have given them a copy of the Kelly Criterion with one of the parameters badly buggered up. Hit a few singles rather than constantly going for a grand slam.

I never click on the Politics Board. Internet politics is the same boring BS pretty much everywhere. But, it's good that there's a contained area for it because it can badly contaminate other more thoughtful discussion areas. SJ

Haven't read the letter yet, but thanks for your summary - useful. I'm not sure relating the notional to revenues or assets is useful. They'd only make the notional if absolute CPI went to zero, IIRC, and that seems unlikely! They could have made a couple of billion, maybe more in a depression, but nothing like the size of the notional. My major complaint is not that they hold this but that they should have structured their hedges this way: deep out of the money derivatives that offer outsized gains on low probability outcomes for (relatively) low absolute cost. Okay, I guess the starting point of the conversation should be, "What is FFH trying to hedge against?" What would be the bad outcome of deflation that requires protection? I can offer a few possibilities: 1) FFH's fixed interest debt increases in real terms as a result of deflation, 2) FFH's equity portfolio might be adversely affected by deflation, 3) the collectability of amounts from reinsurers might become dubious, 4) corporate bonds could become shakey, 5) other? On the liability side, deflation might actually result in reserve releases because presumably IBNR would decline? Deflation would be good for the real value of their sovereign bonds and possibly their munis. What else? So net it out: what's their net exposure? What kind of hedge ratio should be selected for that notional exposure (somewhere between 0% and 100%)? I thought I was being rather charitable when I compared the $100+ billion to their total assets. If you assume that the entire asset base would be adversely affected by inflation with no offsetting benefit on liabilities, and if you were so risk averse that you wanted a 100% hedge ratio, you need what, ~$64 billion notional? Being even more charitable, assume that a year of revenue would all be adversely affected with no offsetting benefit from expenses, that would be another $18-ish billion? So in my wildest dreams, that wold be ~$80 billion notional protection required? Hedging is hedging. Speculation is speculation. So which is FFH currently doing, and does it mesh in any way with Prem's broader macro observations in the letter? Sure, that's the theory, but what do you make of page 59 in the AR (or for that matter, the Asia breakdown on page 115)? Did we get a fair return on the capital that FFH has deployed? Adjusting for the risk of holding assets in shit-hole countries which do not always have a strong legal system, low levels of corruption, or stable central bank policy, are you happy with what you see on page 59? What kind of return would be fair for the risks involved with shit-hole assets? SJ

I read the letter on Saturday and refrained from commenting for a couple of days. A few opinions: 1) If Prem wants to emulate the people in Omaha and write a 20-page letter, he badly needs to hire an editor. There's no shame it in, Warren has used an editor for years. At times, the letter seemed to be effectively a stream of consciousness listing every little company that FFH owns, irrespective of whether anything interesting happened at those companies during 2018. It's nice to get a bit of colour on those companies, but if there was a theme or message that was intended through that shotgun approach, it escaped me. The repeated silliness stating, "the best is yet to come!!!!!!!!!!!" was very tiresome. I could do with less pumping and exclamation points, and more operational performance. Could a guy like Rob Carrick or somebody like that help Prem to tighten up his prose? 2) There wasn't a great deal of broader insight transmitted in this letter. Now, that's no criticism of Prem, but in past letters there have been observations or nuggets about the industry or financial markets that I have found useful (FWIW, I didn't find that I obtained much broader insight from BRK's letter this year either). 3) What can you say about a letter that basically says, "We would have done better if we hadn't made so many shitty investments." It's pretty tough for Prem to polish that turd. 4) Prem did a pretty good job telegraphing FFH's operating earnings potential. That, IMO, is the base upon which higher valuation will be achieved. 5) Why is there still conflicting messages about hedging? On the CC, the CEO mishandled a discussion about a potential drawdown in equity markets. Prem's letter went to great lengths to communicate that there would be no more equity hedging because FFH learned its lesson. It also observes that US economic growth has been strong, rates have bumped up, inflation looks like it's bottomed out, there's a long runway, etc, but despite those clear and obvious conditions, FFH will continue to hold CPI derivatives worth a notional $114 billion. About this, I am perplexed. It's only a $25m market value, but if you are trying to communicate that you are moving on from hedging mistakes in the past, why not liquidate this position. That large notional value demonstrates that FFH was only speculating on inflation to begin with (ie, if you were hedging you would choose a hedge ratio and then buy your protection...the CPI derivatives exceed FFH's combined assets and gross revenue for a year). If Prem and Brian have changed their perspective about world markets (which is a legitimate thing to do, and there's no shame in changing your mind), just sell the damned things and recoup the $25m, which happens to be about $1/share of capital. 6) How did the India/Pakistan conflict escape mention? What percentage of FFH shareholders' capital is in India, to what extent has the conflict recently affected asset valuations, and what's the way forward? I understand that the Indian culture is somewhat more fatalistic than western culture, but I would have expected some sort of reflections from FFH about the situation and whether it at all changes their approach on a going-forward basis. 7) Underwriting has been good, even though cats pushed up the CR a little. Did anyone else take a peek at the loss triangle in the annual (it was nice when the loss triangles of all the major subs were included in past years)? The reserve redundancies have become ridiculous. Now, this is better than the alternative where adverse development is ridiculous, but seriously, they have been systematically overestimating their accident year claims by ~10% (see page 70 of the AR). As I said, this is better than the alternative, but at what point does an auditor call bullshit on this? Or is it a happy circumstance where the current accident year is overestimated, but that is offset by reserve releases from previous years? 8) Am I alone in thinking that many of the smaller international insurance acquisitions look pretty shitty (see page 15 of the letter)? I get that many of these countries are demonstrating rapid economic growth, which portends well for the size of the future insurance market. But, stealing a term from President Trump, if you are going to invest in "shit-hole" countries, wouldn't it at least be nice if the investment was profitable? Seriously, Prem has listed 15 international subsidiaries and when you round the numbers, 12 of them have a CR of 98 or higher. Do you go to a shit-hole country for a CR of 98? Return on invested capital doesn't look great (see page 59 of the AR). 9) I like the table presenting FFH's lottery tickets (see page 20 of the letter). Chances are that FFH ends up taking a ~10% bath on that portfolio of higher-risk debt, but all it would take to offset that would be one or two good wins on the lottery tickets. Currently, it looks like FFH's number is coming up for Seaspan, but it's still early. Hopefully they'll match 5 or 6 numbers to hit the jackpot on a couple of those. 10) Am I alone in finding it ironic that Prem should mention Bitcoin and General Electric on the same page, but with different conclusions? I find that both are impossible to value and have steered well clear! Prem seems to hold one in disdain but embraces the other. Interesting. I've spent less productive Saturday mornings doing other things than reading the letter and perusing the AR, but nothing much changes for me after this release. It's time for FFH to drop the excuses and to execute. The market is from Missouri and is saying, "Show me." SJ

I'm not sure that FFH will ultimately have a choice. Through the Cylance acquisition, BB has used a fair chunk of its cash balance. Will there be $1B of cash equivalents on the balance sheet in Nov 2020 which would enable BB to write a cheque to settle the converts? If they don't have the cash on hand, is there anyone other than FFH that wants to lend money to BB? My guess is that the converts get rolled over. So, reprice the option component, bump up the coupon and push out the maturity for another 3 or 5 years. SJ

Interesting article entitled: "How Blackberry Transformed from a Basket of Parts to a Money Making Cybersecurity Company" https://business.financialpost.com/technology/how-blackberry-transformed-from-a-basket-of-parts-into-a-money-making-cybersecurity-company I'm not sure that the article makes me feel any better about Prem's investment thesis, but it's worth a read in any case. SJ

Travel less often? Not on your life! The price of airline tickets has been plunging in real terms and people have gotten accustomed to flying where ever they want at the drop of a hat (and at the drop of $500). To quote GHB, "The American way of life is not up for negotiation!" We are not going to put on a sweater and turn down the temperature just because Jimmy Carter tells us to do so! I have observed that every tourist destination now seems to be increasingly overrun with tourists from two very large countries with rapidly growing economies (they shall go unnamed, but you know who they are). The rapidly growing middle class in those countries can afford to drop $1,500 on an occasional international flight and they are doing so in greater numbers. There's not a chance in hell that they will eschew a visit to the world's principal Instagram destinations just out of concern about greenhouse gasses. My recommendation to people is that they visit the world's most popular tourist destinations sooner rather than later, because before long they will probably all go the way of Venice. SJ

Could be a few regulatory hurdles to that. At a certain point, anti-combines becomes an issue.

Maybe you're right that it's not a big deal, but it's not a theoretical risk. If the capital situation got bad enough they might have to raise capital (or at least have the threat of it hanging over them). They could cut back on underwriting / increasing inwards reinsurance, but it might be precisely when insurance pricing is really attractive. Mark-to-market can have a detrimental effect. If I'm not mistaken, a whole host of insurers (Europeans?) got into trouble in the early 2000s as a result of having too much equity exposure. I just hope management has run the scenarios and carefully considered the possible consequences. No, don't get me wrong. Seeing half of FFH's equity disappear temporarily would cause most of us to have a shit-fit. But, the question on the conference call seemed to be driving at the notion that it was an existential issue, and I do not believe that to be the case. It would certainly be bad, it would almost certainly result in an equity issuance that disadvantages existing shareholders, and it would certainly come at the cost of future growth. But, the countervailing factor is that FFH would probably make a pile of money on the investment side in those circumstances. SJ

Paul's answer was definitely poor, and it effectively argued that cheap stocks can't get cheaper. Blackberry is currently cheap, but in a market drawdown, it's impossible that the investment community will hate Blackberry even more than they hate it today! It was not a great response, but he might have been a bit of a deer in the headlights on the subject of potential equity hedging. ;D The better answer would be, who cares? If equity is cut in half temporarily, it's cut in half temporarily. As long as the regulators don't get their panties in a twist and as long as it doesn't violate some obscure bond covenant, everything is fine. And, when you look at their premiums to surplus ratio, there's lots of room to haircut capital without constraining underwriting. I don't doubt that a 50% haircut would cause a fair bit of dancing at FFH to move capital around the subs, they might need to make a few decisions about not renewing some business, and they'd probably need to issue a couple million more shares -- but it's probably not an existential question. SJ

I don't have much doubt that it's FCF positive in the short term, I just question whether it is fundamentally profitable on a longer term, bottom-line net earnings basis. If you are of the view that Toys will be put into run-off over the next five or so years, then depreciation and amortization are irrelevant and your FCF represents a bit of gravy while the main course is the capital gains from divesting the real estate. On the other hand, if you elect to view Toys as a longer term going-concern, then you *need* to see a positive net earnings number. A negative earnings number even with positive FCF isn't great because eventually you are forced to make leasehold improvements (spruce up the stores), buy or build new systems or replace other equipment. In this aspect, it is a bit like the Sears story. Based on a back-of-the-envelope sum of the parts analysis, it seemed pretty obvious 10 or 15 years ago that Eddie could easily buy Sears, sell off the assets and walk away with a few billion in profit. Unfortunately for him, it took forever to divest the assets and, in the interim, the retail operations lost a hell of a lot of money before he could make his exit. Turning back to Toys, the comments on the FFH conference call have led me to believe that FFH wants Toys to be a going-concern, but as I said, it doesn't give me much confidence that they have provided shareholders with just an EBITDA number. If it truly is a fundamentally profitable business (ie, positive net earnings), eventually they'll be able to sell it to somebody as a going-concern. But, the concept of running it for a few years to see whether it can be turned around, and then liquidating if it can't be turned profitable strikes me as a pretty poor idea. It'll be interesting to see what will be disclosed in the AR. SJ

Pete, the point is that even for a retailer, EBITDA and Earnings are not the same thing. You might think it's great that Toys R Us generates $100m ebitda, but personally I cannot say whether it's great or terrible (but at least it's a positive number!). I have never seen a retailer that didn't spend considerable amounts of money on point of sale hardware and software and inventory management software. Same thing with shelving, and the million bits and pieces of equipment that retailers require on the floor and in the back room. These expenditures tend to be lumpy, but they should never be disregarded. Similarly, it's a rare retailer that does not have considerable working capital requirements for inventory, and that is normally either funded through supplier credit or a revolver. I have no idea what the magnitude of this might be for Toys R Us, but it will almost certainly be there and interest costs should not be disregarded (if you want to BS a bit about the possible working capital requirements, you can do a bit of hypothetical math -- $100m ebidta might be generated from $1.5b in sales, which could be $300m of inventory at 5 turns per year? I pulled all of that out of my ass, but you get the idea). I look forward to seeing whether there will be more disclosure in the annual, but on the other hand, it's not particularly material to overall operations. I'd be curious to see what happens when that EBITA number flows down to the bottom line. Do you end up with a positive number? If it's positive, does it get haircut from $100m to less than $50m? Less than $25m? Retail is a tough industry to compete in. And it's a great place to find value traps (ask me how I know ::) ) SJ

Yes, I skimmed the conference call transcript and noted the funny description of what they want to do with equities. I'm still not entirely clear what it means. Maybe it means that they'll try to divest some of the stinkers that have not been contributing to a solid return (Torstar, Resolute, BlackBerry, likely Stelco in the future, etc). Some of those could be sold slowly over a year or so and they'd get a fair-ish price for them, but the market is so thin and the holdings are so large that it would be better to find a buyer for a large block. In any case, if they have finally capitulated on a few of them, I would take that as a positive sign. The comments about Toys R Us were a little concerning. It's looking a little bit like a Sears scenario where the real estate is obviously quite valuable, but the actual retail performance is dubious. So, how do you ever unlock value, and does FFH have the internal fortitude to shut down operations to capture the remaining value? I don't generally take much comfort in statements like, "It kicks out $100m EBITDA annually" because that likely means it is fundamentally unprofitable over the long term, or at best it is fundamentally marginally profitable when you account for things like amortization of computer systems, depreciation of the little bit of equipment that they own, and of course, interest on their revolver. It will be interesting to see what sort of break out (if any) is provided in the annual to help us understand whether this is a raisin or a turd. SJ