Cardboard
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Posts posted by Cardboard
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Wow! What a great price! This should calm some fears from FFH shareholders. ;D
No wonder now why they came out with this process of issuing shares instead of swapping FFH for ORH. It has paid out handsomely to pay a little more interest than what was necessary on this recent $400 million CAD debt issue.
See now why I say it is important to maintain good business relationships? The benefits are simply enormous. And now you think that Prem will short cut friends such as Marshfield & Associates?
Cardboard
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Arbitragr,
You mentioned that you had trouble finding the Northbridge take-over documents under Sedar.com. You have to do your search for Northbridge and not Fairfax.
IMO, the fact that Prem came out publicly this time around with his initial offer does not seal the deal. Did they not come out publicly on their first offer to Advent and essentially failed?
Northbridge special committee essentially refused his initial offer and only accepted after he raised it to the middle of the range of fair value proposed by Scotia Capital. Why would it be different this time? Unless the bankers say that fair value for this take-over is right around $60, I can't see the special committee accepting this offer.
Why going public before sealing the deal? I think it has to do with the share issue which is large, material and was not a consideration when Northbridge was bought.
Cardboard
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I think that Ericopoly has got a valid point relative to the value of HWIC embedded into ORH's numbers. The ability to realize large capital gains over time on their portfolio should not be part of the equation.
On the other hand, operating income after tax should be of great use to value the company properly. This amount of income should be recurring and other potential bidders out there (who won't be allowed) should be able to repeat such performance even if they were the ones managing the investments. It is also a value constantly used by analysts and ratings agencies. At ORH, this is now north of $5. The premium paid here has to be light at 12 times or less.
I believe that the great majority here have come to the conclusion that $60 is too low. It is true that Prem has to look for FFH shareholders, but I would argue also for ORH shareholders. Many of the long term ORH shareholders have helped him salvage Fairfax when times were dark by providing a solid bid when ORH shares were offered. They had to endure bad reserving for quite a while, catastrophes and shorts attacking them due to Fairfax. How they are treated now will dictate their future relationship with Prem. It surely will influence my decision to invest in Fairfax in the future or on my idea of the proper valuation for the firm (premium to book or other).
Some have talked about ORH public shareholders being a minority therefore, should have expected, upon buying these shares, a low bid in the event of a take-over by the parent. For perspective, the IPO in 2001 was made at 1.32 times book. The growth in book value since then don't even match the growth in share price! I shall also remind those that as Fairfax shareholders that they are also in a minority position with Prem controlling most voting. If ORH is acquired on the cheap, would you not expect that you would get similar treatment if FFH was taken private by Prem and close friends? Is that a partner that you would want to have?
As I mentioned previously, $80 to $160 million more is not a huge sum compared to what is already being committed and to the long term benefits that a solid relationship with existing ORH shareholders will provide. Again for perspective, just over $140 million was spent on Fairfax dividend earlier this year. It is a group that had $800 million of their capital deployed in ORH as of Friday afternoon. Nice friends to continue having if you ask me.
Cardboard
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The Northbridge Take-over bid circular at Sedar.com dated December 8, 2008 under Appendix A shows how the valuation process was conducted by Scotia Capital.
IMO, based on that info, a final price of $60 is unlikely. Also, I have not seen a single Odyssey Re owner coming out on this board and saying: I like it. Other boards reflect the same. This sentiment must also be shared by many large funds who own ORH. They will pressure the board/special committee to get more.
Everyone knows that book value is likely around $55 now (maybe more). That Odyssey Re is diversified globally with slightly less than 50% of their business done in the U.S., that over 30% of their business is insurance and that they are much more than a simple property reinsurer who writes short tail, high risk business. They are over-capitalized and delivering a combined ratio below 100% at around 96% which was not the case for Northbridge when they got acquired. They were showing underwriting losses. ROE based on operating income after tax alone is much higher than it was at Northbridge. When management shares their business projections to the investment bankers, this will come out loud and clear.
Paying $5 more is only around $80 million to Fairfax, $10 more is $160 million. Not a huge difference when you are already committing $960 million on this acquisition to buy-out public shareholders. More paid to C&F or TIG will simply be returned to Fairfax via a dividend.
The game is psychological. You start with a low offer that makes shareholders unhappy, it sinks in, and somehow they turn happy after the offer is increased a bit. They quickly rush to sign on the dotted line forgetting about the still low price to book value or other metric. Nothing like the taste of a small victory. After getting their cash, they will likely rush to buy FFH.
Cardboard
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Hi Sanjeev,
I reviewed my post and I am not sure if my explanation makes that much sense yet. If they could have swapped shares only with public shareholders (value of around $1 billion U.S.) and then paid C&F and TIG with existing holdco cash, the end result would have been almost identical. However, shareholders of ORH would have been much happier with a chance to continue participating in the fortunes of a bigger enterprise and it would have been tax free. I suspect that guys like Marshfield & Associates will want to continue holding some Fairfax. Maybe that this couldn't be done, I don't know.
I found another possible explanation. There is a big game in town called: buy the acquiree and short the acquiror. It is a fairly low risk, no capital involved game for arbitrageurs to capture a spread if the aquisition goes through via a swap. This tends to create a fair bit of pressure on the stock of the acquiror and at times may require a larger acquisition price or exchange price to offset the impact. If Fairfax already has buyers committed to buy their shares at a more or less guaranteed price that they like, then their way reduces risk.
Cardboard
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I don't think that there was any leak. The share price of Odyssey Re was actually down on Friday on lower trading volume than normal. ORH had been going up since early July in a very similar fashion as FFH with FFH gaining more in percentage. The charts of both stocks are near identical since mid February.
Despite many signs that Fairfax was preparing a take-over, I was actually quite surprised to see so little action in ORH.
A big difference with the NB take-over is that they don't have the cash in hand to do the deal. Well, they don't want to use their existing cash to do it. BofA Merrill Lynch may have had something to do with the timing for the announcement. When you have a lot of people involved then the risk for a leak increases materially.
Also, please note in the press release how much emphasis is placed on premium to market and above valuation of peers. If Odyssey Re kept on climbing then $60 would have looked even less attractive. Then with the hurricane season turning into a non event and better capital markets, it is quite likely that this peer group undervaluation could have disappeared. RE, PRE, RNR and MRH all have strong climbing share price as of late.
Finally, we never saw 4th quarter financial results for Northbridge despite the shareholder vote and transaction occuring after year end. They probably have even less interest in this case to show us and to the bankers preparing the formal valuation these 3rd quarter results ending on September 30. If anyone knows the SEC rules for preparing financial statements, this may also help understand the timing.
Cardboard
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"I don't understand why they didn't just offer a specific amount of shares of Fairfax, fixed to Odyssey's price today. That would make the transaction tax-neutral and they wouldn't incur all the investment bank costs to issue new FFH equity to buy ORH with cash. "
That is a big puzzle isn't? Remember this little "error" on the 13-F (probably related to TIG Insurance Company direct ownership of ORH)? I have a feeling that they are doing this partly due to their structure.
At December 31, 2008 their ownership of Odyssey Re looked as such:
"Fairfax owns 70.4% of our outstanding common shares, directly (0.3%) and through its subsidiaries: TIG Insurance Group (41.5%), TIG Insurance Company (7.8%), ORH Holdings Inc. (10.3%), Fairfax Inc. (2.3%) and United States Fire Insurance Company (8.2%)."
TIG Insurance Company and United States Fire Insurance Company (Crum & Forster) are really stand alone companies, but 100% owned by Fairfax. They are also subject to independent regulatory insurance supervision. To continue holding a stake in Odyssey Re as a private division of Fairfax or an equity interest for accounting purposes if you will is probably not the best. It earns income, but there is no public market to sell the stake. Regulators would likely drop the carrying value to reflect that, impacting the capital surplus of these insurance firms. And, to receive Fairfax shares in return is probably not acceptable. Pieces of yourself?
Here is what happened at Crum & Forster when Northbridge was acquired by Fairfax:
"On December 30, 2008, the Company purchased an 8.2% interest in Odyssey common shares, from TIG Insurance Group, Inc. (“TIG”), a Fairfax affiliate, for $246,066. As consideration for its investment in Odyssey, the Company released its Fairfax Inc. note (discussed below) of equal fair value.
On December 23, 2008, the Company sold its 15.7% interest in Northbridge to nSpire Re Limited (“nSpire”), a Fairfax affiliate, for $248,066 and received a Fairfax Inc. note held by nSpire of equal value. Since Northbridge was accounted for at fair value, no gain or loss was recorded on the sale."
They will have once again to give something to Crum & Forster and this time around to TIG Insurance Company as well in return for their Odyssey Re shares. Together, that is over 9.6 million shares of ORH or over $575 million at $60 a share. That is not even factoring in ORH Holdings Inc. which is 97.5% owned by TIG Insurance Company and only holds ORH shares. Another 6.2 million shares of ORH or over $370 million.
With public ownership of ORH at just over 16 million shares or over $960 million, it makes a heck of a sum to pay all these entities in cash: over $1.9 billion.
This whole stuff looks silly upon consolidation of Fairfax balance sheet, but real cash payments have to be made to these various players to complete the acquisition. That may help explain why they want to raise something like $1 billion in common shares instead of offering a swap to public shareholders of ORH.
Once it is all completed, I think that Fairfax will look a lot simpler and it may even get a ratings upgrade. I suspect that it may also give them more flexibility to invest a greater portion of their portfolios in equities which will improve returns to long term holders of Fairfax. Equity dilution should also be minimal, since they are receiving from public ORH shareholders about as much as they are giving by issuing these new FFH shares.
I may be completely off the tracks too. :-[ Prospectus on the shares issue and coming 10-Q of Crum & Forster should help provide the real answer.
Cardboard
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Prem initially offered $36 for Northbridge or 20% above the last 30 day trading price. Then Scotia Capital explained to the special committee that fair value was between $37 and $41. Following some negotiations, Prem revised his offer to $38, then to $39 and the committee accepted.
It is all well described in the Directors' Circular dated December 8, 2008 under: "Background to the offer" that you can find under this website:
Cardboard
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I agree Sanjeev. Also, they actually took a different approach than with Northbridge.
Northbridge acquisition was announced on December 1 following an initial approach by Prem on November 12. When the announce was made, all negotiations were completed and the special committee had approved the revised offer.
At this stage, the special committee has been formed and legal and financial advisors have been engaged. It took 9 business days from the hiring of financial advisors to the announcement in order to complete negotiations on an acceptable price for Northbridge. I figure that we could see an offer in the $65 range once it is all said and done.
This situation is also different since Fairfax wants to issue stock to raise cash to pay for the rest of Odyssey Re. That is where they surprised me most. First, I don't see why they want to carry so much cash. Second, I figure that many Odyssey Re shareholders would not mind continuing holding a piece of Odyssey Re via Fairfax. This would make it a lot easier to swallow for many who will consider this unfair or a low ball bid and would likely be a tax free exchange.
Cardboard
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$60 a share in cash for Odyssey Re. ;D
Cardboard
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I am glad to see Fairfax share price rebounding. IMO, it is very important since I believe that the acquisition of their remaining stake in Odyssey Re will require some Fairfax stock. The price was starting to head down dangerously.
Cardboard
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I suspected that Prem would go in slowly into China and that seems to be what they are doing. Very smart IMO considering that right now everyone wants to be in China with their prospects for never ending growth... At over 3 times book for a 15% stake (not a take-over), you can imagine the kind of growth baked in the price. What is the P/E on that thing?
In other news, the final universal shelf prospectus to allow the issuance of $1 billion U.S. in new funding has been announced late today. They now have all the tools in place to complete the acquisition of Odyssey Re if they want to.
You know, it still trades below book value. Not 3 times!!! And just below 9 times operating income after tax. :o You don't think that Prem is salivating?
Cardboard
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Uccmal2,
"Cardboard, Quite Frankly, there was absolutely nothing easy about the money I have made since March.
It was unpleasant and stomach churning to dive into megacaps when people were predicting GE was on the verge of bankruptsy. I bought well over a hundred SPY options that lost money into early March. I sold the higher strike ones at a loss and bought lower strike positions.
There was definitely nothing easy about it."
No, I fully agree with you. It took courage to buy in February, March and also last Fall and it took quite a while and a lot of questioning in between until one could finally harvest the fruit of his labour.
My "problem" is that I recently bought two companies that went up around 50% in a matter of days. That is what I call too easy. For me it is a sign to look for the exits.
Cardboard
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I like the balance sheet/income statement thinking. I don't know why it is so easy to apply and to understand for individuals and companies, but when it comes to a country then people start talking about other things and concepts. At some point it will matter. Either the debt will be exchanged for assets or the debt will be "restructured" by issuing more equity or currency: devaluation.
The issue could also be fixed via the income statement by out growing the debt with income. However for that to happen, more taxation does not work since it is just dollars moved from one pocket to another and large real GDP growth seems unlikely considering current demographics.
A great number of U.S. households did not manage their finances properly and now it is the governement doing the same thing and somehow it will end up being just fine because they're bigger? You can't just sweep that whole debt issue underneat the government rug, keep spending like mad and never see real consequences for the country. Also, to "mop up" the excess liquidity simply cannot be done without slamming the brakes on a fragile economy.
Cardboard
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I am with Sanjeev and I am worried now.
Whenever I make money too easily in the market, it is often when it stops. I had the same feeling back in June 2007 and unfortunately I did not pull out. This time around, I am not hesitating to trim positions getting close to fair value.
Regarding moms and pops getting back in the market and pushing it higher, I believe that the majority have been mostly out since the burst of the Internet bubble in 2000. Many have never regained what they had lost. Their trust for the market was killed back then and their enthusiasm never really returned. They turned instead to housing with the result that we have seen... IMO, it is more the "informed" and rich that drive the market since 2000.
Therefore, I think that we can still go a bit higher with hedge funds chasing performance since sitting in cash is no longer acceptable with the S&P up by 14% year to date. However, it seems that we are now getting close to the musical chair game. Many stocks are fully valued or priced for post-recovery earnings. AIG, FNM and FRE are just additional signs of frothy optimism.
Cardboard
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I saw this filing on the SEC website after close on Friday, but not in any news release:
http://www.sec.gov/Archives/edgar/data/1166291/000116629109000031/form8-k.htm
This removes two big uncertainties:
1- The Auction Rate Securities story is now settled with cash in hand at roughly what they carried them at on their balance sheet (about $3 million less) and we retain any potential upside between this settlement value and an eventual return to par for 3 years.
2- This liquidity issue fear should now disappear with enough cash left after the repayment of $78 million in par amount of their convertible and loan to Citigroup to pay all obligations remaining (rest of convert, pilot bonus, Colgan relocation, some capital leases) other than EDC loans which are secured by their Q400's and CRJ900's.
Cardboard
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"In the short run, the government can print all the money in the world, but in Irving Fisher's terms if there is no velocity to that money, there will be no inflation as people are either becoming prudent or paying off debt."
This velocity of money is an interesting concept, but I wonder if it will be dismissed some day like so many economic theories.
Consider this example: If company XYZ split its stock 2 for 1, its share price will be cut in half and it does not take a lot of trading or velocity for it to happen.
If tomorrow morning we have twice has many U.S. dollars in circulation, shouldn't the price of everything priced in dollars doubles without any real growth in the economy and without much transactions? The pie is just divided differently, no?
I believe that the key problem with currencies is that we never really know for sure what is in circulation at any given point contrarily to shares outstanding of a stock. You have M1, M2, M3, but no decisive number anywhere. So the mechanism of pricing discovery becomes a much longer process leading to the possibility of not enough to overdone.
Cardboard
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I hold GLD options. I investigated counterparty risk and feel comfortable with it.
Buying stable U.S. multinationals or other commodities/producers may makes sense to hedge against the dollar/treasuries, but you have to ask yourself this question: what happens if we have a double dip recession?
IMO, oil and other commodities won't do well under this scenario. Oil is already abundant with large inventories while the price is currently high enough to keep producing a fair bit. It is also hard for me to envision JNJ/KO/PM share price going way up if the economy is weak and if the stock market declines.
With Bernanke being re-appointed, if we have a double dip recession or only signs of it, I am convinced that monetization will go on in a huge way. Interest rates can't be lowered anymore, so quantitative easing becomes one of the last tool available. In 2008, gold went down along with other commodities, but this time around the situation is different with most Fed flexibility being gone.
I think these are worth asking: If there is a double dip recession, is the Fed going to just sit around? If not, then what are they likely to do and what is the impact? Is there a possibility to see a terrible economy with massive inflation: Weimar Germany, Zimbabwe today?
Cardboard
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The cheapest way if you buy physical gold or silver is to buy exchange deliverable bars. Go on the London Metal Exchange website and they will list which refiners are approved and the types of bars. Pretty bulky stuff however. Just for perspective, a 1,000 oz silver exchange deliverable bar weigh 63 pounds and is roughly 5 x 5 x 16 inches! You can buy them from Kitco (as mentioned) or at Scotia Plaza in Toronto.
Coins are the most expensive form vs gold/silver content and smaller bars are more expensive as well than the exchange deliverable bars.
Honestly, I would carry only a small portion of your total investment in gold/silver in physical form. This is only useful to survive if we have a complete breakdown of society.
If you don't believe in confiscation ala Roosevelt and believe that the world will survive then I am very comfortable with the Spider Gold Trust ETF or GLD. Ultra low cost, easy to get in and out and based on everything I read, it appears completely legit despite the claims from many gold bugs. John Paulson has something like 17% of his money into GLD. He has made a killing with credit default swaps so I imagine that he knows a thing or two about counterparty risk.
Central Fund of Canada is another interesting one, but it is half gold, half silver. It is a closed end fund and sometimes trades at a discount to NAV. It has been in operation for decades.
Regarding miners, they are levered to the price of gold and silver, but you have things to consider such as management, depleting asset base, cost, growth, hedging. If you pick the right producer, you can make money even if gold does not move. If you are wrong then you may see gold vastly outperform. In other words, you will have to spend as much time researching as for any other stock.
There is really no best option. It will be based on what you feel most comfortable with. Physical eliminates counterparty risk, but consider the negatives of storage, transportation and risk of damage.
Cardboard
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Thanks for posting Sanjeev.
If Hamblin-Watsa thinks like he does right now, I really, really like it. Forget about this Hoisington crap. Yahoo! ;D
By the way, I tried buying these constant maturity swaps or interest rate caps, but without success. Big Canadian banks don't seem to have time for retail investors to buy these things. You may want to buy as many contracts as an institution, but still no time for you. If anyone had a different experience please let me know.
Cardboard
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Gold.
Right now it is still summer time, volatility is low and the market is slowly going higher. Few care about these huge forecasted U.S. deficits (shall we say done deals) and these mysterious treasury issues that are always well received. Why worry, be happy!
At some point, this will become front and center. There is just no way around it with the sheer magnitude of this problem. I don't think that we have repelled yet the law of supply and demand. By the way, I have never seen Warren Buffett discussing publicly about a potential issue that has not become a "real" one at some point down the road.
It will matter big time some day. When exactly? I don't know for sure, but I have a feeling that following Labour Day that this feel good perception may start to change.
If you don't like gold or can't understand its fundamentals, short the dollar some way or treasuries.
Cardboard
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"...restore the capacity which was available to Fairfax prior to its recent offering of Senior Notes which closed on August 18, 2009."
So, $1 billion U.S. minus $400 million CDN = $630 million U.S. left (this debt issue was the only item that took away some of that capacity since the shelf was filed in April 08)
That is a lot of flexibility left over if you ask me combined with $880 million (+) U.S. in cash and investments + this $400 million CDN or $1.25 billion U.S. minimum currently available at holdco.
On top of that, if history is any guide, it takes only 7 days for that universal shelf prospectus to become final and for new securities to be issued. Nonetheless, I like people who are proactive. ;)
In any case for those interested, Odyssey Re needs to trade today at $55 to roughly match Fairfax current valuation on a price to book basis.
Cardboard
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"...if FFH did go for ORH, most of the consideration would very likely be paid in FFH common (tax free roll-overs etc.)."
Considering the current trading prices of both, it would make a lot of sense IF Fairfax was very agressive with its money at holdco. They are not that agressive however.
There was $863 million net at holdco on June 30 and just over 37% of it is in stocks and derivatives. That is a bit more than what you will find at the insurance subs (just under 30%), but not much more. Considering the holdco debt maturities and that they receive fees and dividends from the subs allowing to support interest payments, I would prefer Fairfax to invest close to 100% of this amount in their very best ideas and to hedge.
This portion of Fairfax would then turn into a small hedge fund with investments earning close to 20% a year (or more?) financed with long term fixed rate debt at around 7%. IMO, this would undoubtedly become Fairfax most profitable division. And if something bad were to occur, you liquidate a portion which is hedged or effectively keeping the same big cushion as you have now.
However today, with most holdco investments in cash, treasuries and bonds, I believe that using a good chunk of it to finance a big purchase like ORH makes sense based on return on capital.
Cardboard
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These are futures, so there is an obligation to buy or to sell the security. An issue with them is that the market is not well developed and they are fairly illiquid.
You can create something very similar by buying a call and selling a put of the same strike price and at the money: synthetic long stock. You have unlimited upside, the call is paid by the short put and you have downside limited to the difference between the strike price and $0. I have not done such trade, but I figure that the margin requirement for the short put will be similar to what is required for the SSF.
Cardboard
Pretty interesting correlation here.
in General Discussion
Posted
"The Federal Reserve, although publicly proclaiming the value of the buck, continues to hold the lion's share of the world's physical gold to back their currency."
Hmmm. Are you sure about that? Not a single independent audit has been conducted at Fort Knox since the Eisenhower administration despite many requests from various parties. Why is that? The Canadian Royal Mint admitted to have been stolen recently despite very high security measures. Even GLD conducts regular independent audits and often finds errors such as bar numbers being mis-typed in the log or found in a different vault location.
Also of interest, the U.S. government changed its description of Fort Knox gold in official documents from "gold reserves" to "deep-storage gold" then now to "gold and gold-swaps". What is going on here? A swap is a derivative for starters.
I know that I will sound like a mad gold bug, but the above is disconcerting to me. If there is nothing wrong with Fort Knox, then why creating such confusion? Transparency should be more than just for corporations. How was it called? Sarbanes-Oxley? We can't audit the Fed either. Although, the idea seems to be gaining traction at Congress with a lot of supporters, I will be surprised if that happens.
Relative to gold as an investment. I think that right now is a great time based on its fundamentals: cost of production, reserves, supply/demand. The Chinese government is even putting up adds on TV telling their citizens to buy precious metals and silver in particular since they think it is more undervalued.
Realistically, who cares if it is not permanently "destroyed" by someone like oil or lead? There is a demand for it and no matter what you say, there will always be a small portion of the population hoarding it because they fear other currencies. It is just a fact of life and has to be part of the equation. The people from Mars may find it bizarre, but that is just how it is. Don't fight it! Gold is like any other commodity and I will be happy to dump it when the price makes the supply and demand equation less attractive.
For those who prefer corporations, gold outperformed Berkshire Hathaway during the 70's. So forget about a match of inflation. When it goes it really goes.
Cardboard