Thrifty3000

The $10 of current earnings are not distributable earnings, but retained earnings. In other words, the only way Berkshire can achieve growth rate of 6% in your model is by retaining the earnings. So you should re-work your model to come up with an intrinsic value estimate that incorporates this fact. It is not equal to $10/(10%-6%) = $250 per B share as you seem to be implying. The company earns $10 in year 1. It retains and reinvests that $10 earned in year 1, and as a result, it earns an additional $.60 in year 2, for total year 2 earnings of $10.60. It does the same in year 3. It reinvests the $10.60 it retained in year 2, and earns $11.24. That pattern continues in perpetuity. In 24 years, for example, it will be earning $40 per share according to the model. Why does that need to be reworked? Seems straightforward. Your’re capitalizing retained earnings rather than distributed earnings. The value of $10 in earnings growing by 6% a year depends on how much has to be reinvested to produce the 6% growth. Your economic assumptions ($10 initial earnings, 100% retention, 6% growth) and your valuation assumptions ($10 initial earnings, 0% retention, 6% growth) are not the same thing. Using your 10% discount rate, you get the following present values for Berkshire’s operating earnings (i.e., the value of Berkshire excluding cash and securities): (a) $10 earnings, 100% retention, 6% growth (using your terminal year of 24): ($40.49/.10) / 1.10^24 = $41.11 (b) $10 earnings, 0% retention, 6% growth (in perpetuity): $10 / (.10-.06) = $250 Under your economic assumptions of 100% retention, 6% growth and a 10% discount rate, Berkshire would be destroying value. In fact, each dollar retained would be worth only 60 cents. Here’s another way to look at it: If Berkshire needs to retain 100% of its earnings to grow by 6% a year, they’re earning 6% on equity. Berkshire is levered 2:1 and the liabilities cost zero (roughly). You’re therefore assuming Berkshire will earn just 3% on the asset side. Of course, assets that produce operating earnings only make up half the balance sheet, but you get the idea. +1 It is really dumb for a company to retain 100% of earnings and grow at a lower rate than its discount rate (alternately, the opportunity cost for shareholders). Such a management action destroys shareholder wealth. This is the main reason Buffett said the condition for earnings retention is to be able produce more than $1 of market value for each dollar retained. Seriously? It's not ITS discount rate it's MY discount rate! I think you might be confusing discount rate with cost of capital. PS. -1

The $10 of current earnings are not distributable earnings, but retained earnings. In other words, the only way Berkshire can achieve growth rate of 6% in your model is by retaining the earnings. So you should re-work your model to come up with an intrinsic value estimate that incorporates this fact. It is not equal to $10/(10%-6%) = $250 per B share as you seem to be implying. The company earns $10 in year 1. It retains and reinvests that $10 earned in year 1, and as a result, it earns an additional $.60 in year 2, for total year 2 earnings of $10.60. It does the same in year 3. It reinvests the $10.60 it retained in year 2, and earns $11.24. That pattern continues in perpetuity. In 24 years, for example, it will be earning $40 per share according to the model. Why does that need to be reworked? Seems straightforward. Your’re capitalizing retained earnings rather than distributed earnings. The value of $10 in earnings growing by 6% a year depends on how much has to be reinvested to produce the 6% growth. Your economic assumptions ($10 initial earnings, 100% retention, 6% growth) and your valuation assumptions ($10 initial earnings, 0% retention, 6% growth) are not the same thing. Using your 10% discount rate, you get the following present values for Berkshire’s operating earnings (i.e., the value of Berkshire excluding cash and securities): (a) $10 earnings, 100% retention, 6% growth (using your terminal year of 24): ($40.49/.10) / 1.10^24 = $41.11 (b) $10 earnings, 0% retention, 6% growth (in perpetuity): $10 / (.10-.06) = $250 Under your economic assumptions of 100% retention, 6% growth and a 10% discount rate, Berkshire would be destroying value. In fact, each dollar retained would be worth only 60 cents. Here’s another way to look at it: If Berkshire needs to retain 100% of its earnings to grow by 6% a year, they’re earning 6% on equity. Berkshire is levered 2:1 and the liabilities cost zero (roughly). You’re therefore assuming Berkshire will earn just 3% on the asset side. Of course, assets that produce operating earnings only make up half the balance sheet, but you get the idea. For an investment that doesn’t pay dividends the cash flows consist of a) the initial investment b) the amount received upon exit. The ROI is a function of a) earnings growth b) earnings multiple at entry vs earnings multiple at exit ^that’s Jack Bogle 101 The longer you hold the investment the less of a factor multiple expansion/compression becomes, while the ROI gravitates toward the earnings growth rate (there is a nuanced relationship between ROE and ROI). It’s why paying a fair price for a great business over the long term works out better than paying a great price for a fair business. ^that’s Chuck Munger 101 I said I can quickly estimate the intrinsic value of a long term index-like investment by using a perpetual growth formula in my head. I didn’t say the result is what I would pay for the investment. I did mention I would get excited about buying at prices below $160 per share - or 16 times my estimated look through earnings (my opinion of a fair price for a good business). If I buy and hold for several decades I would expect my ROI to equate to the long term growth rate. In looking ahead over the next 2 to 6 decades I’m not giving Berkshire any benefits of the doubt regarding a future performance anywhere near past performance - even the recent past. The company is gigantic, it has limited investment opportunities of scale, extreme competition for those investment opportunities, and its leadership is in transition. Personally, I’m concerned the company isn’t being handed over to “leaders.” I think it’s being handed off to managers. There’s a big difference. On the positive front you have Ajit and Todd. Ajit is the real deal when it comes to insurance. And, I’m generally excited about the prospects of capital being deployed by Todd Combs, as I get a sense he can learn to be as shrewd as Buffett. I think Ted and Greg, however, are faking it until they don’t make it. No manager will grasp Berkshire or the investment world the way Buffett did in his prime - when it was easier to grow. And, none of the next generation of senior management has shown any ability to communicate like a leader (David Sokol was the closest - but awkwardly arrogant). I suspect they will communicate like operators not wanting to screw up. And, thus begin the journey toward bigness and dumbness. As far as the 2 to 1 leverage goes, Buffett has set an expectation for float to peak, and even decline, though slowly, in the not too distant future. Markets do saturate. I don’t necessarily believe it will decline, I certainly don’t model for it, but declining leverage would create a drag. Estimating earnings growth of 6% and discounting those earnings at 10% is not destroying value. It’s producing an estimate of what I would pay for a 10% return on an earnings stream growing at 6%. Retaining $10 to earn $.60 in perpetuity only destroys value if the multiple others are willing to pay for that $.60 is less than 16.67.

The $10 of current earnings are not distributable earnings, but retained earnings. In other words, the only way Berkshire can achieve growth rate of 6% in your model is by retaining the earnings. So you should re-work your model to come up with an intrinsic value estimate that incorporates this fact. It is not equal to $10/(10%-6%) = $250 per B share as you seem to be implying. The company earns $10 in year 1. It retains and reinvests that $10 earned in year 1, and as a result, it earns an additional $.60 in year 2, for total year 2 earnings of $10.60. It does the same in year 3. It reinvests the $10.60 it retained in year 2, and earns $11.24. That pattern continues in perpetuity. In 24 years, for example, it will be earning $40 per share according to the model. Why does that need to be reworked? Seems straightforward.

Thanks for laying out the assumptions. Without knowing one's estimates of earnings, growth rate of earnings and discount rate, it is difficult to know where there is disagreement if any. In the base case as of Q1, 2020, I have normalized earnings as $12.5 per share, excluding any earnings from float. Growth rate of 8.5%. To me, it looks like any differences in IV estimates for BRK really boil down to 1) The value of float. This is harder to assess as it is dependent on interest rates and investment opportunities. One simple and likely very conservative way is to assume that $60-80 billion would always remain in cash and as long term interest rates may remain low for a long time, essentially are not worth much. So we end up valuing the rest of the float or about $50 billion. Or assume it is going to earn some low rate on the total float and it ends up adding $0.5 to $1 per share. 2) The discount rate. So you have ROE of about 8.5% which is consistent with the growth rate assumption as well with 100% earnings retention. If you pick a discount rate of 7%, you have to have to look through 30 years to make it worth 1.5x book value. The question I have for you is, if you assume a growth rate of 6%, why would it be worth even book value unless your discount rate is less than 6%? Vinod For a handful of index funds or index-like investments (aka Berkshire) that I hope to hold for decades I basically just capitalize growth in perpetuity. I know it's inelegant, but one benefit is I can do it in my head. For Berkshire I do break down the groves in a spreadsheet, and slice and dice assumptions a number of different ways before landing on a look through earnings estimate. (FWIW, when making an investment I assign a lot more significance to my look through earnings yield estimate than to my ability to forecast growth. Hence, Amazon hasn't made it into the 'ol portfolio just yet.) I'm definitely comfortable with a long term BRK growth rate over 5%. The ROE, compensation structures, and capital allocation discipline ingrained in the culture give me that confidence. (As an aside, it also doesn't hurt that: a) Buffett pledged to give away 5% of his BRK holdings annually to the Gates Foundation b) he is genetically hardwired to increase his wealth over the long term (with a margin of safety), so if history's greatest investor feels a minimum 5% long term growth rate for his own company is probably a safe bet, I'm more apt to accept that assumption.) I do have trouble basing a long term growth assumption on a historical 8.5% ROE. They clearly can't reinvest organically at that rate, so it all comes down to acquisition prospects. And, a) because the universe of sizable investment opportunities in Berkshire's circle of competence is now down to maybe a few dozen companies globally b) because Buffett spent his entire life teaching/training an army of extremely well capitalized competitors (aka private equity) to do exactly what he does, while they're incentivized to pay higher prices, I can see scenarios where the elephant gun that used to be unloaded every 2 or 3 years, now gets shelved for 5 to 10 (or more) years at a time; leaving the next generation of management no choice but to accept lower growth while buying back shares or paying dividends. I was comfortable with 7% last year. Now I'm more comfortable with 6%. I really really really hope it turns out to be at least 8.5%. Thanks for the detailed response. Lots of good points. What I am asking is what is your expected long term expected return on BRK? This is what people would call "required return". If I understand it correctly, you seem to be saying you would be happy with 5%. Vinod My current “normalized” look through earnings estimate is $10 per B share. My long term expected growth rate is 6%. I usually use a discount rate of 9% or 10%.

Thanks for laying out the assumptions. Without knowing one's estimates of earnings, growth rate of earnings and discount rate, it is difficult to know where there is disagreement if any. In the base case as of Q1, 2020, I have normalized earnings as $12.5 per share, excluding any earnings from float. Growth rate of 8.5%. To me, it looks like any differences in IV estimates for BRK really boil down to 1) The value of float. This is harder to assess as it is dependent on interest rates and investment opportunities. One simple and likely very conservative way is to assume that $60-80 billion would always remain in cash and as long term interest rates may remain low for a long time, essentially are not worth much. So we end up valuing the rest of the float or about $50 billion. Or assume it is going to earn some low rate on the total float and it ends up adding $0.5 to $1 per share. 2) The discount rate. So you have ROE of about 8.5% which is consistent with the growth rate assumption as well with 100% earnings retention. If you pick a discount rate of 7%, you have to have to look through 30 years to make it worth 1.5x book value. The question I have for you is, if you assume a growth rate of 6%, why would it be worth even book value unless your discount rate is less than 6%? Vinod For a handful of index funds or index-like investments (aka Berkshire) that I hope to hold for decades I basically just capitalize growth in perpetuity. I know it's inelegant, but one benefit is I can do it in my head. For Berkshire I do break down the groves in a spreadsheet, and slice and dice assumptions a number of different ways before landing on a look through earnings estimate. (FWIW, when making an investment I assign a lot more significance to my look through earnings yield estimate than to my ability to forecast growth. Hence, Amazon hasn't made it into the 'ol portfolio just yet.) I'm definitely comfortable with a long term BRK growth rate over 5%. The ROE, compensation structures, and capital allocation discipline ingrained in the culture give me that confidence. (As an aside, it also doesn't hurt that: a) Buffett pledged to give away 5% of his BRK holdings annually to the Gates Foundation b) he is genetically hardwired to increase his wealth over the long term (with a margin of safety), so if history's greatest investor feels a minimum 5% long term growth rate for his own company is probably a safe bet, I'm more apt to accept that assumption.) I do have trouble basing a long term growth assumption on a historical 8.5% ROE. They clearly can't reinvest organically at that rate, so it all comes down to acquisition prospects. And, a) because the universe of sizable investment opportunities in Berkshire's circle of competence is now down to maybe a few dozen companies globally b) because Buffett spent his entire life teaching/training an army of extremely well capitalized competitors (aka private equity) to do exactly what he does, while they're incentivized to pay higher prices, I can see scenarios where the elephant gun that used to be unloaded every 2 or 3 years, now gets shelved for 5 to 10 (or more) years at a time; leaving the next generation of management no choice but to accept lower growth while buying back shares or paying dividends. I was comfortable with 7% last year. Now I'm more comfortable with 6%. I really really really hope it turns out to be at least 8.5%.

At the end of 2019 my model assumed "normal" BRK.B look through earnings of $12 to $16 per share, and a growth rate of 6% to 8% (a base case of $14 per share look through earnings and 7% growth). Since then I've impaired my estimates to incorporate post-covid margin compression for financials, and more modest growth expectations. I now model for look through earnings of $8 to $12 per share, and growth of 5% to 7% (a base case of $10 per share and 6% growth). For me, intrinsic value falls somewhere in the neighborhood of $240 per B share. I'm perfectly comfortable owning the stock at the current price, and would happily buy more below $160 per share.

I would be cautious looking at cash. its certainly possible (they said this yesterday) that some of the businesses need more cash to survive in the next months/years, and that Fairfax will provide it. so, the question comes back again to whether you think those businesses will be profitable one day, thus the extra cash well invested, or whether they will not, and thus Fairfax is just falling into the sink hole phallacy. They have restrictions limiting the amount they can invest in a single opportunity to no more than 25% of the portfolio. And, only 2 holdings are allowed to consume up to 25%. After those 2 the limit is 20% for the rest. I'm not sure whether that's good or bad. In a way it protects investors from overallocation, but it also restricts capacity to bail out troubled investees.

I may be wrong, but I think the value of BNSF and mid-American energy are their historical purchase cost without any upward adjustment to account for all the value created since their purchase.. So an adjustment would be a boost to BRK book value. I think your comment assumes BNSF was being carried out fair market value, in which case a mark to market drop would bring it down. Yeah, I used BNSF as an example because it was the first holding that popped into my mind that BRK had to mark to market during the prior crisis, but had the luxury of not needing to do that for BNSF this time around.

Yes - I am not saying M2M is particularly worthwhile. My main concern is whether FFH are being a little manipulative, seeming to find ways to lock in relatively high equity accounting values and then being slow to impair. I don't really have an issue with it frankly because no accounting system is perfect but it's something to be aware of. Hard to know whether they are being manipulative, but it does argue for squinting a bit when looking at the EPS number (there was BV growth of 14.8% in 2019, right?!). Usually EPS is one of the metrics used to measure how well a company has performed in a particular year, but the paper gains triggered by periodic marks, or the failure to write down assets that are not marked can conceal true economic performance for the year. Usually when FFH triggers paper gains, they are the result of good decisions made 4 or 5 years ago -- these decisions are still to the credit of management, but they are not really indicative of performance in the current year. Maybe Ben Graham was a pretty smart guy when he advocated the use of a E10? SJ I agree with watching look through earnings over time. It would be nice if we could have any sense of what "normalized" non-insurance earnings looks like now, or what non-insurance earnings might look like 10 years from now. I predict non-insurance earnings in 2030 will be somewhere between $0 and $2 billion. How's that for precision?

I think it mostly provides stability and allows better long term focus. Berkshire enjoys the same benefits. I’m sure, for example, it was nice not having to mark BNSF down to fair market value on March 31.

They were carrying Quess at something like 70 times trailing look through earnings, until they impaired it last quarter to a humble 50 times. I think Bangalore is carried at around 100 times look through earnings. Geez. But, they excused these sky high marks because arms length transactions were done with suckers willing to pay those prices. (I have no doubt Bangalore will eventually be worth it’s carrying value, as more capacity is added and real estate is developed. But, Fairfax was able to fast track years of performance fees thanks to the high marks.)

I 100% get that sense. Their marks to model in India are super aggressive. And, they’re trying to go the same route with Africa. But, you just have to look at the compensation system to see the benefits to them, and why their judgment probably gets clouded. Of course, now they’re in the same boat as Biglari, where it could be years before their next performance fee payout.

I love that the performance fee doesn’t kick in again until book value exceeds $11.69 per share.

Thrifty, I understand that the company is trading well below its book value. That point is not in dispute. A few questions need to be asked, first will the gap between the market price and book value close or at least narrow substantially and second, how long will it take to do so. My view and that all it is....the market has things about right at the current moment. Although there are exceptions (Atlas being one) for the most part the investment held by Fairfax are not very good and in many cases the onset of Covid has severely and permanently impaired the value of many of their investments. As for how long, I am solidly in the camp that the impact of Covid will last a lot longer than the general market seems to currently believe. As a result, I believe there are other investments (other than Fairfax) that offer better risk/reward profiles (with the emphasis on the risk aspect) than Fairfax currently does. I believe the perfect storm has arrived and the low quality level of many of Fairfax's investments along with its elevated debt levels has truly exposed Fairfax. I hope and pray that I am wrong but I have positioned my overall portfolio with these beliefs in mind. You are clearly positioning your portfolio otherwise and I respect that. Alright, let's imagine a pretty nightmarish 3 years to come: - The only bright spot is $900 million dividend income annually for 3 years - But, it's consumed by $800 million annual losses in associates (continuing the $205 million loss trend from Q1/2020) - $0 underwriting profits annually thanks to mega cat losses - $0 gains from investments annually - The dividend is canceled and holding company cash dwindles a few hundred million per year to cover various costs - While tax savings offset holding company interest expense. - In summary: book value declines to, say, $10 or $11 billion in 3 years. (And Fairfax will have been dropped from the title of this website.) Then in year 4 the sun comes out and it feels more like the 2017 - 2019 version of Fairfax: - gains from investments and associates offset holding company costs, interest, taxes, etc - underwriting profits return to a normalized $200 to $400 million - interest income holds steady at $800 to $900 million - $1.3 billion drops to the bottom line, of which $1 billion is attributed to common shareholders, and is celebrated by the owners of 28 million fully diluted common shares - The world finally awakens to Fairfax's "normalized" earnings potential of $35.71428571428571 USD per share, and slaps a 16 multiple on it for a per share value of $571.4285714285714. And there you have it, after buying your shares for $275 in 2020 you doubled your money in true Buffett-esqe style in less than 5 years. Obviously it could play out a few different ways (ex: upon canceling the dividend the share price drops to $50 per share and FFH buys back millions of shares.). But, am I willing to risk one twentieth of my liquid net worth (minus 25% held in cash) on it working out ok? In a word, yup.

Common equity is around $12 billion USD. The company is selling right now for $7.5 billion - a $4.5 billion haircut off of book value. Ouch. Investments in associates, India and Africa are marked to model (generously) and on the books for $7 billion. If Mr. Market was optimistic about those assets then Fairfax would easily trade at a premium to book value (ie. for more than $12 billion). But, Mr. Market is so down on them that he's basically written them off. It seems like at the current price you're getting a first-rate insurance operator for cheap (even if it has to pair back underwriting or renegotiate some debt covenants near term), and you're getting Recipe, Eurobank, the retailers, Thomas Cook, Bangalor Airport, etc, etc, etc for free (aka really really cheap). On top of that you have restructured, global, investment and operations management teams better able to grow whatever's left standing post-covid. (For example, even if Recipe loses half its locations in the next two years, the remaining locations could face a third the competition and twice the profitability after that - who knows. Eurobank could be the last bank standing in Greece. The retailers could band together and unseat Amazon - ok ok the retailers are dead.) Chances are there will be at least something left to work with in the portfolio a few years from now. In short, there's not even a hint of confidence, let alone optimism, priced into this stock right now.

I think an examination of Fairfax's private/control equity investing activities would be a very worth while exercise. Performance in this segment of Fairfax's portfolio has been underwhelming at best. Why is that? To answer this question I think we need to agree on the investments we are talking about. I assembled the following list after a quick review of the recent annual report----feel free to add names that I may have missed: Retail Segment -Golf Town/Sporting Life -Toys R Us Canada -Kitchen Stuff Plus -William Ashley -Praktiker (in Greece) Other Segment -AGT Foods -Peak Performance (Bauer and Easton brands) -Boat Rocker -Rouge Media -Davos Spirits -Farmers Edge Dexterra would have been listed under the Other segment however its recent merger with Horizons Logistics with Fairfax taking back shares of the resulting public company seems to take this one off the table. My thoughts on the list of private investments: -very heavily focus on retail -none large enough to move the needle at the overall Fairfax level -a number of them were decent turnaround/restructuring opportunities however do not make for very good long term cash generating holdings -Praktikar (in Greece)---really---why bother? -a number operate in industries requiring massive scale and investment (e.g., Boat Rocker) which Fairfax cannot provide -Toys R Us Canada -- if the value was in the underlying real estate than steps should have been taken immediately upon completing the acquisition to realize on that valuu. One has to wonder why this was not done? -Some offer good longer term value although the extent of that value is hard to assess: AGT, Farmers Edge Overall I sense the private equity holdings are small, don't really offer much upside, are currently providing a poor return on invested capital, require considerable management time and attention and generally are operating in segments of the economy that have been hit very hard by Covid and will take years to recover. Thoughts/comments of others? I agree. You missed Quantum, the McEwan Group, Blue Ant, Arctic Gateway (partly in AGT). I am sure I have missed some too. Also, minor point but I think Peak Performance is the Bauer/Easton unit and Peak Achievement is the name for the merged Sporting Life and Golf Town. I may be wrong. It looks to me like they’re implementing a pretty clear strategy to improve overall ROI from their private companies and associates. They seem to be picking a leader in a given industry/region, and then seeking to merge like-companies under that leader to better manage/allocate the capital. Look at all the brands under Recipe now, Eurobank’s acquisition of Grivalia, and Seaspan/APR under Sokol. They’re basically using their influence to create mini-holding companies, with specialist managers that can recommend the best use of capital among the brands in their domain. I think the strategy was already starting to work at Recipe. Despite industry headwinds Recipe was shuttering failing locations, sharing best practices with lower performers, and reallocating capital to the winning concepts. I think the whole purpose of this strategy is to get lots of business experiments into the hands of several different, proven, managers, so they can more quickly ramp up the winners while letting the losers dwindle. Theoretically these managers will have their ear closer to the ground in their various industries and be able to make acquisition recommendations, etc. In a way, they’re taking the model they used to allocate capital among insurance subsidiaries, and expanding it to how they will manage private companies and associates going forward. (They did the same thing with investment management teams too.) It might be kind of brilliant. I think this is exactly right. High five!

I think an examination of Fairfax's private/control equity investing activities would be a very worth while exercise. Performance in this segment of Fairfax's portfolio has been underwhelming at best. Why is that? To answer this question I think we need to agree on the investments we are talking about. I assembled the following list after a quick review of the recent annual report----feel free to add names that I may have missed: Retail Segment -Golf Town/Sporting Life -Toys R Us Canada -Kitchen Stuff Plus -William Ashley -Praktiker (in Greece) Other Segment -AGT Foods -Peak Performance (Bauer and Easton brands) -Boat Rocker -Rouge Media -Davos Spirits -Farmers Edge Dexterra would have been listed under the Other segment however its recent merger with Horizons Logistics with Fairfax taking back shares of the resulting public company seems to take this one off the table. My thoughts on the list of private investments: -very heavily focus on retail -none large enough to move the needle at the overall Fairfax level -a number of them were decent turnaround/restructuring opportunities however do not make for very good long term cash generating holdings -Praktikar (in Greece)---really---why bother? -a number operate in industries requiring massive scale and investment (e.g., Boat Rocker) which Fairfax cannot provide -Toys R Us Canada -- if the value was in the underlying real estate than steps should have been taken immediately upon completing the acquisition to realize on that valuu. One has to wonder why this was not done? -Some offer good longer term value although the extent of that value is hard to assess: AGT, Farmers Edge Overall I sense the private equity holdings are small, don't really offer much upside, are currently providing a poor return on invested capital, require considerable management time and attention and generally are operating in segments of the economy that have been hit very hard by Covid and will take years to recover. Thoughts/comments of others? I agree. You missed Quantum, the McEwan Group, Blue Ant, Arctic Gateway (partly in AGT). I am sure I have missed some too. Also, minor point but I think Peak Performance is the Bauer/Easton unit and Peak Achievement is the name for the merged Sporting Life and Golf Town. I may be wrong. It looks to me like they’re implementing a pretty clear strategy to improve overall ROI from their private companies and associates. They seem to be picking a leader in a given industry/region, and then seeking to merge like-companies under that leader to better manage/allocate the capital. Look at all the brands under Recipe now, Eurobank’s acquisition of Grivalia, and Seaspan/APR under Sokol. They’re basically using their influence to create mini-holding companies, with specialist managers that can recommend the best use of capital among the brands in their domain. I think the strategy was already starting to work at Recipe. Despite industry headwinds Recipe was shuttering failing locations, sharing best practices with lower performers, and reallocating capital to the winning concepts. I think the whole purpose of this strategy is to get lots of business experiments into the hands of several different, proven, managers, so they can more quickly ramp up the winners while letting the losers dwindle. Theoretically these managers will have their ear closer to the ground in their various industries and be able to make acquisition recommendations, etc. In a way, they’re taking the model they used to allocate capital among insurance subsidiaries, and expanding it to how they will manage private companies and associates going forward. (They did the same thing with investment management teams too.) It might be kind of brilliant. That is an interesting take on what Fairfax is doing....and if accurate may prove beneficial to Fairfax's bottom line over the medium to longer term. Sadly as a result of Covid many retail stores and restaurants will suffer and not be able to achieve a reasonable level of profitability in any reasonable period. I am attaching an interview with Rivett from yesterday (for a retired guy he sures seems busy) where he addresses the difficulties at Recipe: https://www.bnnbloomberg.ca/recipe-unlimited-chair-urges-landlords-to-play-ball-help-tenants-1.1441853 Industry difficulties create some of the best opportunity for long term capital allocators like Fairfax. If you’re a restaurant company flying solo then you are nothing but terrified right now. If you are a restaurant company backed by an insurance company with a $40 billion dollar portfolio printing $100 million of cash monthly, you call up Prem and say “hey we might have a cheap acquisition opportunity pretty soon. It will be a total dog during Covid, but after that your family will make a killing for as long as humans still like eating.” We will have to agree to disagree on the future for Recipe as a result of Covid......even if/when a vaccine is available the cost structure of dine in restaurants such as those offered under the Recipe umbrella are no longer economically viable as a result of the permanent changes imposed on the restaurants (and many retailers) as a result of Covid.... Restaurants, many retailers and numerous other businesses only make economic sense if they are crowded. The permanent social distancing including severe limits on crowd sizes simply make the fast casual restaurant segment uneconomical. It is for this reason that I believe landlords are not willing to provide rent relief or rent deferrals now.....they do not believe they will be repaid in the future. Just my take on things. Then the dine-in assets of Recipe will be starved of new capital and will dwindle. In the meantime they may find ways to capitalize on the continuing demand for food preparation. A capitalist with cash flow has options.

I think an examination of Fairfax's private/control equity investing activities would be a very worth while exercise. Performance in this segment of Fairfax's portfolio has been underwhelming at best. Why is that? To answer this question I think we need to agree on the investments we are talking about. I assembled the following list after a quick review of the recent annual report----feel free to add names that I may have missed: Retail Segment -Golf Town/Sporting Life -Toys R Us Canada -Kitchen Stuff Plus -William Ashley -Praktiker (in Greece) Other Segment -AGT Foods -Peak Performance (Bauer and Easton brands) -Boat Rocker -Rouge Media -Davos Spirits -Farmers Edge Dexterra would have been listed under the Other segment however its recent merger with Horizons Logistics with Fairfax taking back shares of the resulting public company seems to take this one off the table. My thoughts on the list of private investments: -very heavily focus on retail -none large enough to move the needle at the overall Fairfax level -a number of them were decent turnaround/restructuring opportunities however do not make for very good long term cash generating holdings -Praktikar (in Greece)---really---why bother? -a number operate in industries requiring massive scale and investment (e.g., Boat Rocker) which Fairfax cannot provide -Toys R Us Canada -- if the value was in the underlying real estate than steps should have been taken immediately upon completing the acquisition to realize on that valuu. One has to wonder why this was not done? -Some offer good longer term value although the extent of that value is hard to assess: AGT, Farmers Edge Overall I sense the private equity holdings are small, don't really offer much upside, are currently providing a poor return on invested capital, require considerable management time and attention and generally are operating in segments of the economy that have been hit very hard by Covid and will take years to recover. Thoughts/comments of others? I agree. You missed Quantum, the McEwan Group, Blue Ant, Arctic Gateway (partly in AGT). I am sure I have missed some too. Also, minor point but I think Peak Performance is the Bauer/Easton unit and Peak Achievement is the name for the merged Sporting Life and Golf Town. I may be wrong. It looks to me like they’re implementing a pretty clear strategy to improve overall ROI from their private companies and associates. They seem to be picking a leader in a given industry/region, and then seeking to merge like-companies under that leader to better manage/allocate the capital. Look at all the brands under Recipe now, Eurobank’s acquisition of Grivalia, and Seaspan/APR under Sokol. They’re basically using their influence to create mini-holding companies, with specialist managers that can recommend the best use of capital among the brands in their domain. I think the strategy was already starting to work at Recipe. Despite industry headwinds Recipe was shuttering failing locations, sharing best practices with lower performers, and reallocating capital to the winning concepts. I think the whole purpose of this strategy is to get lots of business experiments into the hands of several different, proven, managers, so they can more quickly ramp up the winners while letting the losers dwindle. Theoretically these managers will have their ear closer to the ground in their various industries and be able to make acquisition recommendations, etc. In a way, they’re taking the model they used to allocate capital among insurance subsidiaries, and expanding it to how they will manage private companies and associates going forward. (They did the same thing with investment management teams too.) It might be kind of brilliant. That is an interesting take on what Fairfax is doing....and if accurate may prove beneficial to Fairfax's bottom line over the medium to longer term. Sadly as a result of Covid many retail stores and restaurants will suffer and not be able to achieve a reasonable level of profitability in any reasonable period. I am attaching an interview with Rivett from yesterday (for a retired guy he sures seems busy) where he addresses the difficulties at Recipe: https://www.bnnbloomberg.ca/recipe-unlimited-chair-urges-landlords-to-play-ball-help-tenants-1.1441853 Industry difficulties create some of the best opportunity for long term capital allocators like Fairfax. If you’re a restaurant company flying solo then you are nothing but terrified right now. If you are a restaurant company backed by an insurance company with a $40 billion dollar portfolio printing $100 million of cash monthly, you call up Prem and say “hey we might have a cheap acquisition opportunity pretty soon. It will be a total dog during Covid, but after that your family will make a killing for as long as humans still like eating.”

I think an examination of Fairfax's private/control equity investing activities would be a very worth while exercise. Performance in this segment of Fairfax's portfolio has been underwhelming at best. Why is that? To answer this question I think we need to agree on the investments we are talking about. I assembled the following list after a quick review of the recent annual report----feel free to add names that I may have missed: Retail Segment -Golf Town/Sporting Life -Toys R Us Canada -Kitchen Stuff Plus -William Ashley -Praktiker (in Greece) Other Segment -AGT Foods -Peak Performance (Bauer and Easton brands) -Boat Rocker -Rouge Media -Davos Spirits -Farmers Edge Dexterra would have been listed under the Other segment however its recent merger with Horizons Logistics with Fairfax taking back shares of the resulting public company seems to take this one off the table. My thoughts on the list of private investments: -very heavily focus on retail -none large enough to move the needle at the overall Fairfax level -a number of them were decent turnaround/restructuring opportunities however do not make for very good long term cash generating holdings -Praktikar (in Greece)---really---why bother? -a number operate in industries requiring massive scale and investment (e.g., Boat Rocker) which Fairfax cannot provide -Toys R Us Canada -- if the value was in the underlying real estate than steps should have been taken immediately upon completing the acquisition to realize on that valuu. One has to wonder why this was not done? -Some offer good longer term value although the extent of that value is hard to assess: AGT, Farmers Edge Overall I sense the private equity holdings are small, don't really offer much upside, are currently providing a poor return on invested capital, require considerable management time and attention and generally are operating in segments of the economy that have been hit very hard by Covid and will take years to recover. Thoughts/comments of others? I agree. You missed Quantum, the McEwan Group, Blue Ant, Arctic Gateway (partly in AGT). I am sure I have missed some too. Also, minor point but I think Peak Performance is the Bauer/Easton unit and Peak Achievement is the name for the merged Sporting Life and Golf Town. I may be wrong. It looks to me like they’re implementing a pretty clear strategy to improve overall ROI from their private companies and associates. They seem to be picking a leader in a given industry/region, and then seeking to merge like-companies under that leader to better manage/allocate the capital. Look at all the brands under Recipe now, Eurobank’s acquisition of Grivalia, and Seaspan/APR under Sokol. They’re basically using their influence to create mini-holding companies, with specialist managers that can recommend the best use of capital among the brands in their domain. I think the strategy was already starting to work at Recipe. Despite industry headwinds Recipe was shuttering failing locations, sharing best practices with lower performers, and reallocating capital to the winning concepts. I think the whole purpose of this strategy is to get lots of business experiments into the hands of several different, proven, managers, so they can more quickly ramp up the winners while letting the losers dwindle. Theoretically these managers will have their ear closer to the ground in their various industries and be able to make acquisition recommendations, etc. In a way, they’re taking the model they used to allocate capital among insurance subsidiaries, and expanding it to how they will manage private companies and associates going forward. (They did the same thing with investment management teams too.) It might be kind of brilliant.

I think a dispassionate appraisal of Fairfax, assuming a continuation of the last decade’s performance as your base case, lands you somewhere in the neighborhood of: - normalized earnings of $25 to $30 USD per share - with earnings growth exceeding the pace of share dilution by a couple percentage points. I’m certain Prem assumes a (much) higher growth rate. And, I’m intrigued by some of the new strategies in progress to achieve faster growth. Structuring specialized investment and management teams around targeted geographies and business models is interesting - and will create multiple channels for deploying capital to the highest return opportunities. For example, if Africa sucks while India thrives we’ll see much more capital concentrated in India than Africa over time (while many on this message board will be overlooking India and whining about Africa. Haha). The Fairfax insurance operations are a cash machine, minting something like a hundred million dollars a month that has to be re-deployed. That’s not the world’s worst problem to have. If you or I had to deploy a hundred million a month for the next 10 years we’d probably make some billion dollar mistakes too. The main questions are: - are you comfortable with the baseline assumption - if so, then what’s $25 to $30 per share - and growing - of passive, look-through, earnings worth to you (what will it likely be worth to others down the road) - Are there better alternatives The short answer is Fairfax is probably worth a good bit more than $270 USD.

A total return swap entitles the buyer to receive payments for capital gains and dividends (the total return). https://www.investopedia.com/terms/t/totalreturnswap.asp

Prem did mention Exxon by name at the Annual Meeting conference call. He made reference to a 10% dividend rate. If they bought it in March and already sold it a few weeks later, they might have made a quick 20% or 25%. SJ Could it be that they purchased after March 31st which is the current filing date? The call was few weeks after that, right? That could explain why it isn't showing. On page 17 of the recent quarterly report it says: "During the first quarter of 2020 the company entered into $676.3 notional amount of long equity total return swaps for investment purposes following significant declines in global equity markets in the quarter. At March 31, 2020 the company held long equity total return swaps on individual equities for investment purposes with an original notional amount of $1,138.3 (December 31, 2019 - $501.5)." I have a hunch the Exxon investment was via a total return swap.

How about tens of millions of people working remotely for the first time ever? Many are communicating over unsecured networks or using vulnerable systems like Zoom, etc. I suspect the odds of a serious cyber attack couldn’t be much higher.

Here is an article that sheds some light on buffett's perspective ("As pointed by Warren Buffett, the percentage of total market cap (TMC) relative to the US GNP is “probably the best single measure of where valuations stand at any given moment.”): http://www.gurufocus.com/stock-market-valuations.php

Prem 's 2006 letter does a good job explaining his expectations for the market and treasuries. According to Prem we haven't finished regressing to the mean: "We continue to be fascinated – morbidly – by the recent Japanese experience. The Nikkei Dow dropped from 39,000 in 1989 to 7,600 15 years later while 10-year Japanese government bonds collapsed from 8.2% to 0.5%, totally contrary to normal historical investment experience. Japanese market capitalization dropped from 149% of GDP to 53% in 2002. The U.S. market capitalization is still at about 120% of GDP, down from over 170% in 2000 but way above its 80-year average of 58% and even higher than its 1929 high of 87%!! Speaking of 1929, it took the Dow Jones index 25 years to trade again at the 1929 level, even though long treasuries dropped for much of that time period. In last year’s Annual Report, we mentioned Jeremy Grantham of Grantham Mayo, who said in a Barron’s article that of the 28 bubbles that they have studied in all asset categories (including gold, silver, Japanese equities and 1929), this recent bubble in the U.S. stock market is the only one that has not completely reversed itself (just as it was about to in 2003, it turned and rebounded). Given that recent after-tax profit margins in the U.S. have only been experienced rarely in the past 50 years, regression to the mean is the great danger facing the U.S. stock markets."