Cigarbutt

I would suggest that the 2010 Zenith acquisition will eventually be recognized as an excellent one. -Value at acquisition (May 2010): 1.3B for the 91.8% FFH did not own, including a 200M share issue "undervalued" at 355. -Valuation parameters now would suggest a relatively low return since acquisition because the market never really hardened, even if 781M in dividends have been distributed to FFH along the way. Workers comp insurance is very unusual, long-tail and requires an incredible amount of underwriting discipline and IMO Zenith continues to be a significant outlier, the value of which will only become apparent over the full underwriting cycle. Always hard to say ex-ante but many experts suggest that the present status of the net loss and LAE reserves is adequate, a similar situation to the soft market environment of the late 90's when, eventually, it was found, around 2001, that the net loss and LAE reserves deficiency had in fact reached about 33% of the calendar year total premiums (!). It's impossible to know the future but the reserve deficiency cycle suggests that redundancies are likely to reverse. For the 1997-2000 period, retrospective hindsight allowed to (see who was swimming naked) increase each of the ultimate accident year combined ratios by 15 to 23 percentage points (!). The last few years have resulted in an amazingly competitive (soft) environment. Zenith has grown in the early 2010's when there was some hardening but growth (almost doubled NPW) came to some degree from rising premiums per policy and written premiums have been essentially flat to declining in the last 3 to 4 years. ZNT reported very poor combined ratios in 2010 to 2012 due to a very high expense ratio (kept their infrastructure, about extra 10% of the CR) and due to (too) conservative reserves adjustments. Over the long term, Zenith continues to show an enduring capacity to report lower loss ratios than the industry. The reserve release (20.5% CR points) in Q1 2019 is another example of their conservative reserving of prior periods. In 2018, NWP for the year were 789.2M. In 2005, their NWP was 1.2B. They have huge opportunistic capacity to increase market share. Since 2015, many competitors have increased market share with gradually decreasing retention and likely a component of "cashflow" underwriting. In the industry these days, the typical reserves to NPW ratio sits around 3.5 to 4. For Zenith, it is now at 1.8, which means that even in an environment where redundancies become deficiencies, the negative impact will be much less on Zenith. So, the market in this space is incredibly soft and nobody knows when the market will turn but turn, it will. Not long ago, AM Best had this to say about payroll growth and its potential impact on the workers comp insurance market: "However, the US has not recorded a consistent decline in the unemployment rate longer than nine consecutive years since it began tracking the unemployment rate in 1929. Historically, long declines have typically been followed by sharp spikes in unemployment-which may serve as a forewarning for workers' compensation writers to expect payroll growth, and any resulting premium growth, to cease sooner rather than later, unless wage growth accelerates." Zenith looks positioned to profit in correlation to the underwriting discipline they have shown in the last part of the journey.

You may not be familiar with the Comgest people but they occasionally produce interesting white papers and tend to mean that long-term is longer than 3 months. The 2014 Long-term Growth Conundrum paper may contain the info that you're looking for (page 10): http://www.comgest.com/export/sites/default/data/en_data/media/images/WP6_2014-09_LT_Growth_Connundrum_EV_EN.pdf The numbers appear right and I assume that the share prices listed correspond to the share prices at year-end. You start in 1919 with 1 share and end up (if you're still alive) with 279803 shares (at the end of 2013). I would call it sizzling compounding. Let's drink to that! Today's trailing PE is 31.

Both. They are both a lender and shareholder (controlling shareholder actually, 59.6% currently plus warrants that would bring it to 80%) FFH exchanged their common and preferred shares of the old entity for a controlling equity stake in the new entity, which likely rendered the "management" buyout possible as the transaction may have been too leveraged otherwise.

Hi Lance, In this cycle, I have parked a variable amount of "excess" cash in TLT. An argument could be made that it is becoming increasingly reckless to invest in "risk-free" long-term bonds with a shorter-duration mindset but what else is new? In a 1999 investors' expectations article, Mr. Buffett quipped that if one thought that the US was becoming like Japan, the way to go was to buy options on bonds. He also "expected" that the Dow Jones would return about 6% over time. In that article, he compared the return (total return, per year) of a government 30-yr bond to the Dow Jones (1981-1998). 30 yr-bond: 13% (!) Dow Jones: 19% (!) Since then: 30-yr bond: 7.8% S&P: 5.4% 1981 to now: 30-yr bond: about 10% stock index: about 11% Further easing would likely put the 30-yr bond back in the leading position and I wouldn't want to be in charge of a pension fund right now.

PG&E just obtained a regulatory rate hike to pay some of the company's costs for rain and wind events in 2016 and 2017. There is realization (recent government documentation) that home building in high-risk areas should be curtailed and that the recent trend in higher wildfire activity may be due, in large part, to a natural reversion to the mean due to excessive previous fire suppression and poor forest management. Here's a reference that captures the spirit of data and analysis that has been out there for at least 20 years: https://fee.org/articles/let-forests-burn-if-you-truly-love-them/?utm_campaign=FEE%20Daily&utm_source=hs_email&utm_medium=email&utm_content=72148453&_hsenc=p2ANqtz--rLO-JA3sNMQ3amNwGBYs1khAwfty71tl5tNIl8_jZFlcPl3OuCJ1d6Qvp3YWvySMLbwOQA9_Bgc7qIO-rbqe7 A few days ago, there was a rumor that Berkshire Hathaway was looking to buy PG&E, which Mr. Buffett nipped in the bud. I would say there is value in a continuing entity but further wildfire losses this year and the next may have a catastrophic impact on residual value. Interesting to follow.

A hard market? What is a hard market? :) There has been noise about potential hardening including comments from rational players (TRV, RLI, WRB). Soft markets typically die of heart attacks but I guess they can also die from old age (poor pricing will eventually manifest, whatever the circumstances). The pressure seen in the E&S segment may be a false dawn and may be related to AIG (finally) showing some discipline (#1 player in US E&S market). The outcome may depend to what degree others respond, in terms of capital supply (in US E&S market MKL#2, BRK#3 and FFH#8). There is no point in forecasting but I like what Mr. William Robert Berkley said on the last conference call (2 days ago): "So, look, I'm not going to predict the redundancy or the deficiency of the industry. I'll leave that to brighter people than me, but I would tell you that, I think that the marketplace has been pretty aggressive for the past couple of years. I think a lot of that has been glossed over as a result of what was a benign cat environment, as well as positive development from earlier years for the industry. And I think that, at some point you can't keep putting lipstick on the pig, that's my policy." (my bold)

https://www.carriermanagement.com/features/2019/03/25/191219.htm?bypass=e03145bd4548bd8cd9548f6f89c3e8aa Interesting complementary article with additional perspective. This is work in progress with a lot of potential. Standardized forms with streamlined procedures around a bunbled product can take advantage of scale effects. Thinking outside the box resulted in simplification.

^Interesting thoughts and discussion. In the context of a significant rise in corporate debt (compared to GDP) and declining credit quality (leverage and coverage measures, weaker covenants overall including the rise of the covenant-lite loans) many suggest, based on past experiences and basic logic (an opinion I agree with) that the eventual downturn will be associated with lower recoveries. Then, if bond financing is the way to go, under any circumstances, to obtain "an almost 0 chance of being wiped out in a financial crisis or deep economic downturn", how can this be reconciled with the above statement? With the absence of relevant (covenant) triggers isn't there a risk 1-that the cycle is magnified (both ways)? and 2-that zombie firms continue to limp along for longer than they should? Take, as a specific example, what happened to Mattel, the toy manufacturer. It is inappropriate to reduce the firm's downward trajectory to a single variable as there were poor operational decisions, poor acquisitions and an environment of deep secular changes but I would say (just like with Toys R Us) that a fundamental flaw was capital structure and access to easy debt (with insufficient covenants, either as explicit bank covenants or as implicit covenants that management should have considered in terms of capital allocation decisions). Mattel came out of of the 2008-9 episode with relatively low leverage along most measures and with a benign debt profile (short-term senior notes). Then it maintained (2009-2018) an average 58% payout ratio and one way to see the capital movements is to equate the difference (total CFO-dividends) with capex and some acquisitions. From 2010 to 2018, Mattel increased debt by 1.66B and bought back (2010-2014) 1.71B worth of stock. Note: the dividend yield was mostly higher than the cost of debt! The company increased debt ++, lengthened the maturity profile ++, maintained a covenant-like posture with banks and its cost of debt (crude measure: interest expense over total debt) actually went down (from 4.7% to 3.1%). So, following LongHaul's line of thinking, equity holders in Mattel should have felt secure about the lack of strict covenants on the bank loans. In 2018, the cost of debt has doubled (6.1%), Mattel is highly levered and is trying accomplish a most difficult transformation. And now covenants are part of the discussion. I would say Mattel, from a capital structure and capital allocation point of view, would have been better off, had it followed extrinsically or intrinsically imposed restrictions (covenants) instead of falling for easy money and access to cheap covenant-lite long-term debt, in the end, will have made the firm's survival less likely, by a wide margin.

Hi Joel, I reviewed my files and still have the slide presentation done in 2011. I thought I had erased them all. Not much but it's a start. If interested, PM me and I will send it as a pdf document.

^Several data points suggest that we are in a significant corporate bond bull market. The banks remain the most important lender but the growth of bank loans has been relatively subdued. It is just hard to compete with such a thin credit spread. I think the low interest rate environment has a lot to do with present circumstances. If you have run a small business and if you have gone to a bank for a loan, you have realized that you can get a lower interest rate if the banker gets to know you (creditworthiness) and a way to get the rate down is to accept tighter covenants. The dynamics of the "deal" is to reconcile the different priorities of the two agents. You want to get a return on your capital and the banker wants a return of capital with a satisfactory contractual fee. As an equity holder, you can't have your chocolate cake and eat it too (risk and reward) and I agree with 5xEBITDA's point of view although, at times, because of contractual reasons, some of the potential return to shareholders is forgone but managers with vision tend to be able to avoid being caught between a rock and a hard place.

Hear, hear. There's a lot of ownership bias in looking at these situations too. If someone owns debt, they usually clamor for creditors getting more. If someone owns equity (or thinks to invest in equity), they clamor for no BK or equity holders getting more. Since most people on CoBF tend to own equity, there's at least some pro-equity bias. But, as you say, even if someone tries to be 100% fair, it's not easy to do that without knowing the future. The value assessments are sometimes so far apart and do reflect, at least in part, the "strategic" biases that you refer to. An interesting feature of a covenant breach or bankruptcy proceedings is that it introduces a relatively fixed time frame within which one's optimistic or pessimistic outlook (depending where one stands in the capital structure) needs to be realized versus simply buying and holding forever implying that the Market will eventually recognize the value. When I got really interested in USG in 2009 (was impressed concerning how they had "managed" the 2001 bankruptcy related to asbestos claims), I looked back to see what happened to National Gypsum when they filed in 1990. The equity was wiped out. During the adversarial appraisal process, the "senior" group (including vulture funds who had recently bought at a deep discount) valued the enterprise at about 200M. The "junior group" valued the firm at around 1B. So 600M + or - 400M! The senior group's plan was approved and shortly after emergence in 1993, the enterprise value was estimated at 464M. What is amazing is that both groups could have been right. It seems the largest driver behind the "recovery" was the trend in housing activity. https://fred.stlouisfed.org/series/HOUST But who knows what today will bring? Happy Easter to all.

PHI is interesting. I would say that valuation of the oil and gas helicopter division requires specialized knowledge and an idea of where the oil and gas industry is going. There are rumors concerning interested buyers but there is a difference between interest and commitment. So far, it seems that enterprise value is less than total debt (unless you see something different). The interesting dynamics in this case is not about non-insider creditor getting the assets on the cheap but more like the prominent insider shareholder trying to get back ahead in line instead of back in the queue which is an example of intra-class creditor fight which may be about conflicted views or conflicted interests. For Lear, with the benefit of hindsight, it seems obvious now that there was residual equity value when they filed in 2009 but going back to the perspective then with GM and Chrysler filing, with other auto parts suppliers falling like dominoes and with the smell of nationalization, given their significant debt overhang, I would say that enterprise value "deserved" then to be less than total debt. I think management did well by acting rapidly and by submitting a pre-packaged bankruptcy with a satisfactory recap. There didn't seem to be other interested material parties to complain then. The problem with retrospective hindsight and the related impression of residual equity at the time of filing is that one tends to forget the frequent problem seen with inadequate recapitalization and further filing(s) down the road for many other participants. There are exceptions but FWIW I think the US (and CDN) bankruptcy process usually does a good job at price discovery but would also "be interested in examples of where the creditors took a lot of the value from equity, when there was real equity value". An example going on right now where creditors may encroach on residual equity value is PG&E but they didn't file because of a covenant breach, they filed because they wanted to renegotiate their "social contract" with the State of California, which makes it a challenge for valuation.

Your post has at least two lines of thought: 1-Are more restrictive covenants associated with bank loans a good thing? A positive aspect is that (like implied with the pressure to perform linked to highly leveraged private equity deals) a tighter leash will tend to help with capital discipline. Covenant breach (or getting close) may prevent some profitable investments and may happen relatively early in the distress game but may also prevent foolish capital allocation and much more pain down the line compared to weaker covenants found in leveraged loans or capital market bonds. It seems to me also that, given an insolvency threat, having bank debt can be a positive factor to come out of distress with lesser costs or for a "successful" out-of-court restructuring. Covenant breaches are quite frequent and, in general, result in negotiated adjustments and not in opportunistic value transfer. 2-Can opportunistic investors take advantage of covenant breach situations? Yes and mostly in a "constructive" manner. You can look up for instance what Oaktree Capital did some time ago with Regal Cinemas and Loews Cineplex. You can also see what happened to the Loewen Group (see reference at the end). What you describe though is rare but seems to be happening more frequently: the loan-to-own vulture investors that is looking to precipitate default and the "empty creditors" who make proportionally more $ if the restructuring fails. Looking forward to discussing specific and contemporary examples as these issues tend to be cyclical. Corporate debt has gone up, the proportion of "public" financing has gone up ++ and covenant reach has come down and it is said that those phenomena are related to greater sophistication. http://catalogimages.wiley.com/images/db/pdf/0471405590.01.pdf

No partnership letters but this was also discussed here: http://www.cornerofberkshireandfairfax.ca/forum/general-discussion/walter-schloss-article-information-archive/msg330057/#msg330057

It is the name of the game and recent postmortem comments about Theranos mentioned that, to varying degrees and perhaps sometimes in a greater fool kind of way with sequential rounds of financing, it is expected that promoters will "lie" as the frontier with an effective sales pitch can be moot and, in certain circumstances, the level of willful blindness can be high. Theranos went through ten rounds of financing! Anyways, in the biotech IPO sector, there is definitely a new era sky-is-the-limit mindset that has permeated and which, I find, is manifest in valuation levels and earlier phase projects (Preclinical and Phase 1 and 2 offerings versus Phase 3 and later offerings) are met with a wave of increasingly optimistic investors, at stages when a leap of faith is part of the game plan. Somebody seems to see the same phenomenon from a bird's-eye view: https://www.forbes.com/sites/brucebooth/2018/09/24/the-rising-tide-of-biotech-ipo-valuations/#2036ed6165a8 BTW, I have nothing against the $ funding these ventures as the likelihood of positive outcomes is likely to increase, on a net basis, the same way I don't think casinos should be regulated.

They have described before a "doomsday" scenario stress test, periodically used against their portfolio which would still result in their continued ability to write insurance business: 50% drop in the stock market and a 20% drop in convertibles and preferreds. This issue was raised at a recent conference call but I felt the answer was less satisfying. I guess it's about the dual definition of financial flexibility (protect the downside and take advantage of opportunities). Looking back, interesting to remember two episodes. 1-In 1999, they reported a 1,24B unrealized loss on their bond portfolio (about 10% of their bond position and about a third of shareholders' equity). They noted then that the unrealized loss had no impact on regulatory capital although I guess they had to show or explain how they could hold the bonds to maturity. About 50% of the bonds had a put feature with the potential to lengthen duration and maximize gain in a decreasing interest rate environment. Not only did the unrealized loss disappear but realized gains became significant, contributing to the great bond record. Given what they had to deal with around that time, share price declined and they did buy about 8% of shares outstanding in 1999-2000 with an average price of 258.38, not a great deal from today's observation point. 2-In 1990, they reported a 34M unrealized loss (26M from common and preferred stocks) which was about a third of shareholders' equity. The unrealized losses reversed remarkably and, in passing and with their share price going down with the mood of the time, were able to spend 17,46M and buyback 1.8M of their shares (average price of 9$ and about 25% of SO) and I would say that was one of their best transactions. What's the point? FFH have financial flexibility but IMO downside protection is not fortress-like and, because of that, the hypothetical ability to benefit may be muted. This post made me re-read part of the 2001 annual report and that makes it quite obvious how things have changed. The most frequent reason (re)insurers run into trouble is inadequate reserving but asset quality is also something to consider under various scenarios.

The historical return on bonds has been exceptional, explains a lot of the "excess" return earned over the years and, looking at a table that has been included up to the 2017 annual report and at other disclosures, FFH bond returns over 10 to 15 yr periods have mostly beat the return on the S&P, by a wide margin in some periods. This will be very hard to repeat. From a long-term perspective, in the last 10 years, bond exposure has been 2-3x common stock exposure. The proportional exposure was 4-5x in the 2003-7 period and about 10x in the 1999-2001 period. So the times, they are changin'. Whatever regulatory or risk management reasons and similar to Berkshire Hathaway, the cash and fixed income portion of the portfolio has remained quite constant in comparison to liability reserves. Using: (cash + cash equivalents + bonds + preferred) / (Insurance contract liabilities minus recoverable from reinsurers) as a relatively crude but quite accurate measure, the ratio has been 1.06 +/- 0.06 over the last 10 years and 1.03 +/- 0.03 over the last 8 years. At this point, for better or for worse, the 7% pre-tax expected return on the 1425.97 USD investments per share has a lot to do with the net exposure to equity investments in the portfolio.

Many valuable insights form Mr. Walker. I like the way he suggests that there is more than correlation between sleep and other mental parameters, that there may a cause and effect going in two directions and that the causality from quality/quantity of sleep to other endpoints has been vastly underestimated. Sleep needs of children is another interesting topic and the following reference ties together several concepts (figures 5.4 and 5.5): correlation versus causality, potential confounding variables and the Easterlink paradox. https://s3.amazonaws.com/happiness-report/2019/WHR19_Ch5.pdf A nice correlating feature found in figure 5.5 is that the listed happiness-related activities help to balance the caloric balance.

In case some are following or interested. This bankruptcy so far is like a walk in the park. The legislators have come up with a somewhat predictable plan and it seems that concerned parties (despite diverging interests) may be able to get their act together. https://www.gov.ca.gov/wp-content/uploads/2019/04/Wildfires-and-Climate-Change-California’s-Energy-Future.pdf Relevant background data and analysis: https://riskcenter.wharton.upenn.edu/wp-content/uploads/2018/08/Wildfire-Cost-in-CA-Role-of-Utilities-1.pdf https://riskcenter.wharton.upenn.edu/wp-content/uploads/2019/02/Financing-Third-Party-Wildfire-Damages-1.pdf The future remains unknowable but this may become interesting with the smell of smoke and when the threat of utility breakdown to municipals is no longer a footnote.

I do agree that there are some risks with the Canadian housing market, but I see that more as a Toronto thing and a slowdown in Toronto and region would hurt, but 60% of their sales are Quebec, Atlantic and the US, which haven't had the same bubble as Toronto. but I am watching that. The other thing which makes me optimistic is GDL has never made less than $0.85 per share from 1996 to 2015 and had average EPS of $1.41. They then got into trouble with their new ERP System and took some losses, but seem to be turning things around and had had positive EPS of $0.24 and $0.21 the last 2 quarters. Unless their earnings capability has somehow been impaired or competed away, if they can move back even to the lower end of that previous period (say $1.00, but I expect higher), hard to see the stock doesn't move from $5.00 to at least $8 or $9. This is unlikely to become a long discussion so won't start a thread for this idea which I'll follow for a while. The stock is up 15% since your last post. Q1 results out and one quarter does not mean much. Results show a typical rise in inventories for the season but sales are down which means that the bottom line is likely to be hurt going forward unless housing activity picks up significantly later this year. https://www.globenewswire.com/news-release/2019/04/12/1803442/0/en/Goodfellow-Reports-Its-Results-for-the-First-Quarter-Ended-February-28-2019.html https://www150.statcan.gc.ca/n1/daily-quotidien/190408/t002a-eng.htm https://eppdscrmssa01.blob.core.windows.net/cmhcprodcontainer/sf/project/cmhc/pubsandreports/preliminary-housing-start-data/2019/preliminary-housing-starts-data-64695-2019-m04.pdf?sv=2017-07-29&ss=b&srt=sco&sp=r&se=2019-05-09T06:10:51Z&st=2018-03-11T22:10:51Z&spr=https,http&sig=0Ketq0sPGtnokWOe66BpqguDljVgBRH9wLOCg8HfE3w%3D

Uber is out of my league at this point, I respect what Broeb22 said above for the tech/scale space, maybe this time is different and ominous is a strong word but I've followed biotech IPOs for the last 20 years+ and what is going on now feels really bizarre. It feels like the casino has fudged the odds in their direction? It appears that being unprofitable is seen as a positive attribute. https://www.recode.net/2019/3/6/18249997/lyft-uber-ipo-public-profit https://www.recode.net/2019/3/21/18274843/unprofitable-tech-unicorn-ipo-stock-market-profit Anyways, it looks like Uber timed their IPO in relation to their adjusted cashflow measures reaching some significant milestones soon but the call for funds also happens in an environment when investors really want to share the ride.

"What have you been doing in the past 20 years personally?" In the last twenty years, every day, I've woken up thinking how wonderful life is. :) This is an investment board so I won't elaborate much but here's a follow-up article that "frames" the debate well: https://www.nature.com/articles/d41586-018-05582-3 Also, you may want to follow what this guy is up to, to complement your research: http://hekimilab.mcgill.ca/

https://ourworldindata.org/uploads/2017/07/Survival-Curves-UK.png A picture is worth a thousand words. The shapes of the curves show 1-improving life expectancy which is typical across all geographies and which has been mainly due to improved infant and childbirth mortality and improved sanitation (sewage, access to reasonably clean water etc) and the more recent improvements have been characterized by decreasing marginal returns and 2-relative stubbornness for lifespan potential which has increased but a lot of that is due simply to larger pools of people making it through childhood. If death is seen as a bond maturity date, the phenomenon (religion, scientific or whatever explanation) that leads to life's conclusion results in a set of significant conditions that seem to offer a lot of resistance concerning refinancing. NB Conclusions are limited but it seems that medieval aristocrats (at least those that made it to adulthood) lived longer but it took a while for the elite to realize the deleterious effects of inbreeding. On a more optimistic note, the life expectancy increases have been correlated with longer healthy and productive lives with a median ultimate corridor lasting about ten years which remains not so rosy, at least typically. If interested in data: https://ourworldindata.org/life-expectancy

Interesting parallel here with a previous discussion: http://www.cornerofberkshireandfairfax.ca/forum/books/a-blueprint-for-better-banking-svenska-handelsbanken-niels-kroner/ It looks like Svenska Handelsbanken is (again) showing that, for a bank, what counts is not necessarily to be where the puck will be but to avoid being caught with one's pants down. From Viking's link: "Bankers stress their role should be to set up suitable processes that can identify risky customers and transactions but that policing actual money laundering is a matter for law enforcement. “Nobody really understands any of this. We’re getting a lot of concepts mixed up. I barely understand what money laundering is,” says the senior banker. (my bold) From the Blueprint for Better Banking (p.158) "Ask Handelsbanken’s competitor Swedbank, which made a lot of money in the Baltic countries during the good years, how much they are in charge in the macroeconomic upheaval in these countries and how much they can decouple themselves from these developments beyond their control." Simply stated, Svenska Handelsbanken has a different definition of an "edge" in terms of understanding and shows again how to increase market share when it is advantageous to do so. I guess Svenska Handelsbanken comes as close as can be to the definition of anti-fragility, at least for a bank. https://luxtimes.lu/economics/36612-dirty-money-scandal-gives-one-swedish-bank-way-to-tout-virtue (free registration required and similar coverage can be found at Bloomberg)

Submitted for constructive purposes. Disclosure: I have not read everything about Mr. De Grey. Opinion: This is fringe science but parts of fringe science are essential and transformative discoveries have sometimes come from the fringe. A lot of the rejuvenation research involves the mitochondria, a structure which is absolutely fascinating and for which remains a large number of unanswered fundamental questions. The accepted theory now is that the eukaryotic cell, during the evolution and before integrating the mitochondria within its structure, developed a symbiotic relationship with a bacteria. But not everybody agrees as some underlying assumptions don't fit with the data. https://academic.oup.com/bioscience/article/61/8/594/336975 The reference is from 2011 but does a good informational job for those interested.