Fairfax Proposes To Buy Odyssey at $60 Per Share!

[Cardboard]

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

[ubuy2wron]

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

 

cardboard within 15 minutes of the debt deal for Fairfax being announced their was a print of 1500 contracts of the ORH 60 options it was a bull spread. I used that print to figure out that something was up and bought some ORH stock and and options myself. That trade was unusual ,also this board was full of take-over talk. The posters here just used their powers of deduction the parties taking on that option trade, me thinks perhaps were  relying on more than a hunch. Traders will give anecdotal evidence that volume increases and unusual option activity often preceeds the announcement of a takeover. I mean its understandible right ,I-Bankers and wall street lawyers are sooooo poorly compensated a little a little larceny is the only way they can make ends meet.

[Uccmal]

Well, based on the speculation here I bought 2000 shares a couple of weeks ago at about $47.00.  I did not expect this quick a turnaround.   

 

Price for ORH is cheap but they can easily point at the trading range.  I expect they will be pressured to raise it somewhat.  The reasons for the stock issue reflect the complexities Cardboard has presented I expect.

 

Fair Friendly Acquisitions does not seem to include the word generous or they would be Fairfag Financial Holdings. 

 

Viking, I second the motion.  I cant imagine that a financial advisor could be of any use to you whatsoever even as a second opinion. 

[Packer16]

Do any of you think this may be a signal that FFH is fully valued similar to the Berkshire General Re transaction or is it more of ORH is more undervalued the FFH and FFH is trying to capture arbitrage profits?

 

Packer 

[Vinayd]

Congratulations to everyone who took positions on ORH or ORH options.  I have a large position in ORH as well, and am pleased with the release of this announcement.

 

I was getting a bit nervous for a pre Q3 closing, as Fairfax would need at least a month to close the deal.  

 

If it's similar to the NB deal, FFH will need 50% of the minority shareholders vote to close the deal.  The 2 long term holders of significance are Marshfield (about 2.7M shares) and ORH management (about 1M shares).  I'm sure FFH has these 2 shareholders on board, so they would only need another 3.5M shares voted (assuming there is only 15M shares left outstanding), which is a high probability of occuring.  So, I don't see a need to raise the bid.  Any minor raise in the bid would likely be accompanied by a higher price issuance of FFH stock.

 

The quick FFH share offering also closes an issue in my mind regarding the $400M debt sale.  The quick increase from $150M to $400M debt offering and the very amicble rate of 7.5% on a 10-year investment grade note seemed a little too good to be true.  I'm sure there is a quid pro quo of those who purchased the notes, to also be obliged to buy up some FFH common equity from this share offering -- even if it is a tad overpriced.

 

Congrats again to everyone, as this has made my Canadian long weekend -- and investment year!

 

cheers,

Vinay

[nodnub]

me thinks perhaps were  relying on more than a hunch. Traders will give anecdotal evidence that volume increases and unusual option activity often preceeds the announcement of a takeover. I mean its understandible right ,I-Bankers and wall street lawyers are sooooo poorly compensated a little a little larceny is the only way they can make ends meet.

 

 

hahahaha.  my biggest laugh today.

[Grenville]

I am looking forward to the conversation I will be having with my new financial advisor who felt (strongly) that I was too overweight in ORH shares.

 

I thought these words from Benjamin Graham in Intelligent Investor (1949) are applicable. He is speaking in regard to "Bargain Purchases" in chapter 1.

 

“Since the selection of these issues naturally requires more than a little skill and good judgment, it is no business for the tyro or the superficial practitioner. It is desirable and perhaps necessary that such transactions be passed upon by a competent security analyst who is free from some of the besetting prejudices of his guild. But their distinctive feature, as we see it, is this:  Once a competent analysis has been made and the salient facts presented, the intelligent investor will have the material needed to satisfy his own mind that the commitment is sound and attractive. He will not have to subordinate his own judgment to that of his advisers – which is often required of him in other types of security operations.”

[Parsad]

Hi Cardboard, I think your thought process on the transaction is the correct one.  That would make sense why they had to issue equity but pay for ORH in cash.  Cheers!

[Guest longinvestor]

I am a novice when it comes to shorting. So, what happens to all those short positions when FFH buys up 100% of ORH? Shorts have to cover, I would think. How about any phantom/naked shorts?

[Guest longinvestor]

 

Ran across this at Shortsqueeze.com. Dont know if 3.35% of float is a big number?

 

$ 50.07

ORH  -0.16

 

Short Interest (Shares Short) 838,900

Days To Cover (Short Interest Ratio) 5.0

Short Percent of Float 3.35 %

Short Interest - Prior 859,200

Short % Increase / Decrease -2.36 %

Short Squeeze Ranking™ 5

 

% From 52-Wk High ($ 54.56 ) -8.97 %

% From 52-Wk Low ($ 31.55 ) 37.00 %

% From 200-Day MA ($ 42.16 ) 15.80 %

% From 50-Day MA ($ 46.72 ) 6.69 %

Price % Change (52-Week) 30.10 %

 

Shares Float 25,060,000

Total Shares Outstanding 58,477,067

% Owned by Insiders 1.14 %

% Owned by Institutions 96.00 %

Market Cap. $ 2,927,946,745

 

 

[arbitragr]

I am a novice when it comes to shorting. So, what happens to all those short positions when FFH buys up 100% of ORH? Shorts have to cover, I would think. How about any phantom/naked shorts?

 

Try it and see what happens.  :)

[Cardboard]

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 

[StubbleJumper]

I am a novice when it comes to shorting. So, what happens to all those short positions when FFH buys up 100% of ORH? Shorts have to cover, I would think. How about any phantom/naked shorts?

 

Try it and see what happens.  :)

 

 

The short answer is that those who are short will need to cover, and this will probably occur in the weeks leading up to the actual acquisition date.  If there are enough shorts, it is possible that ORH may actually trade at a modest premium to the actual buy-out price as people are forced to cover. 

 

More broadly, even in cases where it is obvious that a company is going bankrupt (ex, Air Canada a few years ago, or Eaton`s), the shares still have a bit of value prior to de-listing due to people needing to cover.  When this occurs, it is an apparent paradox that people would be prepared to pay any positive price, but the shorts don`t really have an option.

 

SJ

[StubbleJumper]

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 

 

 

Is there anything that prevents FFH from offering a choice to ORH shareholders?  Ie, your choice of either $60 cash or 0.25 FFH shares?  A buyout structured in such a fashion would seemingly enable FFH to skirt around the corporate structure issue that you`ve identified, while simultaneously enabling ORH shareholders to have a tax-friendly disposition (if they so wish).

 

It will be very interesting to see what the ultimate takeover price will be, as $60 does seem to be a little light at this point (but it would have been more than adequate in March!).  Probably a few dollars north of $60, but I`d be surprised if the offer were jacked a great deal higher.

 

Time will tell.  Ultimately we should not forget that as investors, these are good problems to have!

 

SJ

[Guest longinvestor]

I am a novice when it comes to shorting. So, what happens to all those short positions when FFH buys up 100% of ORH? Shorts have to cover, I would think. How about any phantom/naked shorts?

 

Try it and see what happens.  :)

 

 

The short answer is that those who are short will need to cover, and this will probably occur in the weeks leading up to the actual acquisition date.  If there are enough shorts, it is possible that ORH may actually trade at a modest premium to the actual buy-out price as people are forced to cover. 

 

More broadly, even in cases where it is obvious that a company is going bankrupt (ex, Air Canada a few years ago, or Eaton`s), the shares still have a bit of value prior to de-listing due to people needing to cover.  When this occurs, it is an apparent paradox that people would be prepared to pay any positive price, but the shorts don`t really have an option.

 

SJ

 

I am sure that Prem is not obsssed with shorts anymore, however, making the shorts pay up is not a bad thing, especially with so much that the long termers have suffered since 2003. So, if there is a higher buyout price as some have suggested,  the shorts pay even more. Sweet.

 

 

 

[watsa_is_a_randian_hero]

I think $60 is a fair price for ORH. 

 

A. Its a healthy premium to current market price and any price its ever traded at.

B. Its a fair premium for a reinsurer

C. For those who believe ORH should be bought at 1.3x like NB, look at the business line.  Reinsurers are higher risk, and therefore investors require a higher rate of return on investment and multiples closer to BV.  Reinsurers almost always trade at a lower P/BV than P&C insurers.

 

In fact, from FFH's perspective, I would be upset if they paid more than $60.  Its not worth it for them to do so.  They already have majority control.  The strategic advantages of owning 100% and then cost savings of 1 public co vs. 2 only warrant a small premium in my opinion, especially when you consider if they were patient they could continue to buy back 10% or so a year below or at book value.

 

 

[txlaw]

I think $60 is a fair price for ORH. 

 

A. Its a healthy premium to current market price and any price its ever traded at.

B. Its a fair premium for a reinsurer

C. For those who believe ORH should be bought at 1.3x like NB, look at the business line.  Reinsurers are higher risk, and therefore investors require a higher rate of return on investment and multiples closer to BV.  Reinsurers almost always trade at a lower P/BV than P&C insurers.

 

In fact, from FFH's perspective, I would be upset if they paid more than $60.  Its not worth it for them to do so.  They already have majority control.  The strategic advantages of owning 100% and then cost savings of 1 public co vs. 2 only warrant a small premium in my opinion, especially when you consider if they were patient they could continue to buy back 10% or so a year below or at book value.

 

 

 

The point about ORH's business line is well taken -- I agree that reinsurers should generally get a lower book value multiple.  Having said that, I would like to see the offer upped by at least a few bucks, since the value of ORH should be higher as a wholly owned subsidiary versus as a standalone reinsurer. 

 

Also, I own the February $50 calls, so even a $2 bump up would be material to me! 

 

I wonder how likely it is that the special committee recommends a slightly higher price and then FFH agrees to the new figure as a matter of course?

[Santayana]

Schwab is showing a bid/ask of 59/72 right now.  Will be very interesting to see how the price reacts next week.    Often on a buyout announcement you see the target trade below the proposed price because of fear the won't go through.  I think in this case we'll see ORH trade over $60 as people may be expecting a higher offer.

[triedtestedand]

Regarding valuation ... I would simply remind FFH/ORH management of oft-repeated messaging of recent years that ORH's business mix is much more now than simply re-insurance ... it would be more than a bit myopic now for FFH to lump ORH back into the re-insurance only mix for valuation purposes ...

 

Further, if NB played out with an initial offer of $36 which was subsequently upped to $39 (mid-range of the valuation committee's $37 to $41 range) ... I would be disappointed if:

 

a) Prem did not repeat similar with an (initial) bid that is lower than expected (as he should if looking out for FFH shareholders)

b) ORH's independent directors and valuation committee did not counter/highlight some of the items that a non-FFH-biased shareholder would hold a little dearer and/or recognize that FFH would have interest in (100% ownership allowing greater discretion over dividending, etc.)

 

Once the valuation committee does it's thing, $67 sounds right to me ...

  a) 30%+ premium to latest price

  b) 20% premium to highest price

  c) 1.3x Q2 book value

  d) 1.2x? (or less?) current book value

  e) continued growth

  f) value of 100% control

  g) valuations should reflect mix of business beyond strictly re-insurance

  g) as existing majority shareholder, FFH have been realizing significant value anyway over past 12-24 months just from ORH's continued buy-backs, and have been in position of control to guide such actions (which admittedly have been of long-term benefit to minority shareholders as well)

 

By the way ... I'm not one of the holders of the $60 or $65 Feb '10 call options.  ;)

 

 

PS -> And woudn't that # would more than "fair" once a certain jewel-in-the-rough called ICICI (which is held by FFH principally within a certain entity called ORH, isn't it?) gets polished off and added into the valuation fold at more than a crazily discounted value ...

 

[Parsad]

Watsa, I agree with you, except that I think the 1.16X offer should be on current book, not June 30th.  Either that or Fairfax should pay 1.2x June 30th.  I think at $63, they would get 2/3rds of the remaining shares.  I have a hard time believing that it will happen at $60.  I'm not complaining though!  ;D  Cheers!

[ERICOPOLY]

Watsa, I agree with you, except that I think the 1.16X offer should be on current book, not June 30th.  Either that or Fairfax should pay 1.2x June 30th.  I think at $63, they would get 2/3rds of the remaining shares.  I have a hard time believing that it will happen at $60.  I'm not complaining though!   ;D  Cheers!

 

I agree that the only relevant book value in this discussion is the present one, as of September 4th.    June 30th???  Pfftt!!.

 

I think ORH's book is understated by about $1.50 due to accounting on ICICI.  Adding in equity portfolio gains of 10.3%, and $1 in operating income puts book value per share at roughly $57.50.

 

$66.70 would be the price using 1.16x against real book.

 

June 30th book is too out of date.  It's not worth a multiple of June 30th, or March, or December last year, or June five years ago.  It's worth a multiple of what it is fu*** currently at.  Obviously.

 

 

 

[Viking]

Also, re-insureres typically trade at a lower valuation (price to book) during hurricane season than after. We are also in a soft market and this is also depressing valuations...

 

As mentioned, ICICI Lombard needs to be factored in as well as quarter to date gains.

 

What about all the surplus capital they are sitting on? How many of their peers have the balance sheet strength they currently have and are poised to grow like stink during the impending hard market?

 

Perhaps ORH should use up some of its surplus and give existing shareholders a one time distribution?

 

What would you pay for a company that has grown BV by 20% per year since 2001 and has a balance sheet and surplus position that is significantly better than any of its peers?

 

If FFH put is up for sale what multiple to BV do you think it would fetch?

 

Add it all together and I believe $60 is a steal.

[Cardboard]

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

[ERICOPOLY]

What would you pay for a company that has grown BV by 20% per year since 2001 and has a balance sheet and surplus position that is significantly better than any of its peers?

 

Except HWIC isn't for sale, only ORH. 

 

[arbitragr]

To be honest a 20% premium is quite poor given most who have held have been doing so for almost 1.5+ years now.

Relatively speaking there have been things one could have bought in the last 2months or so that have returned alot more than what current ORH shareholders are getting.