FFH Announces $650 million Equity Bought Deal Financing

[Eric50]

FFH doing a bought is quite out of character.... I never thought they would do that.... Very, very surprised.... Not very fair to existing shareholders.....

 

The good news is that bought deals typically attract a crowd that wants to make a quick buck (Not the long term kind that I thought FFH wants).... So I suspect there will be opportunities to buy at a lower price in the next few months....

[shalab]

I don't question Prem on dividends, it is there and a bunch people own stock for that reason. The dividend is not increasing.

 

+1

 

I disagree. I like the divvie and would actually like to see it raised to 3% but don't think it will happen soon.

I can use that money for whatever purposes I see fit or reinvest in FFH shares if I want to.

Shareholders have different situations, objectives and time horizon.

How do you rationalize the avoidable capital destruction?

 

If anything, I feel like a stock dividend would make more sense. Then the people that want dividends can sell in a more tax efficient manner while maintaining the same number of shares, and the folks that don't want the cash and related tax inefficiencies forced on them can do nothing. I can see multiple reasons this wouldn't happen though.

[Aurelius]

There seems to be some confusion with regards to the FFH P/B multiple.

I'm going to try to have a go at it. All numbers in USD.

 

As per Q4 the the Common shareholders’ equity at December 31, 2014 was $8,361M or $394.83 per basic share (excluding the unrecorded $452.8M excess of fair value over the carrying value of investments in associates). Shares outstanding were 21.18 million.

 

Since then the BVPS has been reduced by $10 due to dividend. (Plus business gain/loss from 1. jan until to now)

 

Prior to the equity deal the P/B including unrecorded associates gain was:

550 / (((8,361 + 452.8 )/21.18) - 10) = 1,35

 

After the equity deal:

527 / (((8,361 + 452.8 + 650)/(21.18 + 1)) – 10) = 1,26

 

These numbers don't take into account Fairfax' unrealized gain on Thomas Cook India and Ridley which had unrealized gain of 152M in dec 2013 and seem to have risen over 50% in 2014.

Also it does not take into account the investment in Eurobank Properties which had an unrealized gain of 109M in dec 2013. Not sure how this investment faired in 2014.

 

Is this approximately right? If not, how would you think about it?

[AZ_Value]

FFH doing a bought is quite out of character.... I never thought they would do that.... Very, very surprised.... Not very fair to existing shareholders.....

 

The good news is that bought deals typically attract a crowd that wants to make a quick buck (Not the long term kind that I thought FFH wants).... So I suspect there will be opportunities to buy at a lower price in the next few months....

 

I'm really confused. Not even kidding.

Not sure if what's going on is selective memory like is so often the case given that this is the corner of B. and Fairfax but they did one about 1 year and a couple of months ago.

http://www.fairfax.ca/news/press-releases/press-release-details/2013/Fairfax-Completes-C431000000-Bought-Deal-Financing/default.aspx

 

And that one was to raise money because they had to put a bunch of it into Blackberry as well as supplement the capital needed because their hedges forced them to fork over $2 billion in cash in 2013. So I don't understand the shock, the out of character, and never thought they'd do a bought deal comments.

At least for this one, looks like you guys have a consensus that it is to buy a quality insurer.

 

Disclaimer: I haven't reviewed the deal myself or anything about Fairfax since the last quarter, so I have zero opinion on the deal. My review process is a consistent one for all companies I follow/care about. I wait for the annual report to come out as well as the letter. And I first read the whole annual report and decide for myself how they did and then read the Chairman's letter to see what he has to say about how they did to see if I agree. I haven't even reviewed the transcripts from the recent conference calls.

So I have no comment other than pointing out the other bought deal in the not too distant past.

[Redskin212]

FFH doing a bought is quite out of character.... I never thought they would do that.... Very, very surprised.... Not very fair to existing shareholders.....

 

The good news is that bought deals typically attract a crowd that wants to make a quick buck (Not the long term kind that I thought FFH wants).... So I suspect there will be opportunities to buy at a lower price in the next few months....

 

I'm really confused. Not even kidding.

Not sure if what's going on is selective memory like is so often the case given that this is the corner of B. and Fairfax but they did one about 1 year and a couple of months ago.

http://www.fairfax.ca/news/press-releases/press-release-details/2013/Fairfax-Completes-C431000000-Bought-Deal-Financing/default.aspx

 

And that one was to raise money because they had to put a bunch of it into Blackberry as well as supplement the capital needed because their hedges forced them to fork over $2 billion in cash in 2013. So I don't understand the shock, the out of character, and never thought they'd do a bought deal comments.

At least for this one, looks like you guys have a consensus that it is to buy a quality insurer.

 

Disclaimer: I haven't reviewed the deal myself or anything about Fairfax since the last quarter, so I have zero opinion on the deal. My review process is a consistent one for all companies I follow/care about. I wait for the annual report to come out as well as the letter. And I first read the whole annual report and decide for myself how they did and then read the Chairman's letter to see what he has to say about how they did to see if I agree. I haven't even reviewed the transcripts from the recent conference calls.

So I have no comment other than pointing out the other bought deal in the not too distant past.

 

+1

[Eric50]

FFH doing a bought is quite out of character.... I never thought they would do that.... Very, very surprised.... Not very fair to existing shareholders.....

 

The good news is that bought deals typically attract a crowd that wants to make a quick buck (Not the long term kind that I thought FFH wants).... So I suspect there will be opportunities to buy at a lower price in the next few months....

 

I'm really confused. Not even kidding.

Not sure if what's going on is selective memory like is so often the case given that this is the corner of B. and Fairfax but they did one about 1 year and a couple of months ago.

http://www.fairfax.ca/news/press-releases/press-release-details/2013/Fairfax-Completes-C431000000-Bought-Deal-Financing/default.aspx

 

And that one was to raise money because they had to put a bunch of it into Blackberry as well as supplement the capital needed because their hedges forced them to fork over $2 billion in cash in 2013. So I don't understand the shock, the out of character, and never thought they'd do a bought deal comments.

At least for this one, looks like you guys have a consensus that it is to buy a quality insurer.

 

Disclaimer: I haven't reviewed the deal myself or anything about Fairfax since the last quarter, so I have zero opinion on the deal. My review process is a consistent one for all companies I follow/care about. I wait for the annual report to come out as well as the letter. And I first read the whole annual report and decide for myself how they did and then read the Chairman's letter to see what he has to say about how they did to see if I agree. I haven't even reviewed the transcripts from the recent conference calls.

So I have no comment other than pointing out the other bought deal in the not too distant past.

 

I missed the earlier bought deal. This is more a matter of principle than anything else.  My view is that bought deals just show disrespect towards existing shareholders. They are diluted and have no opportunity to keep their stake in the business. That's unfair. Plain and simple.

 

I was just surprised that Prem Watsa engaged in that. I still respect him and what he has achieved a lot but I'm disappointed that he did do that, even if I understand the circumstances and that it's a common practice in Canada (Bought deals are Canadian specific, they aren't allowed in the States.)

 

In addition, bought deals can have other ramifications. They tend to mess up the trading and attract the wrong crowd, people who want to make a quick return and get out fast. I doubt that's the kind of shareholders Prem wants for the long term. But it might be our opportunity to buy cheaper in the next few months.

 

[petec]

I still don't really get why people would rather a rights issue than just buying more, if it is so attractive!

 

Pete,

Usually rights are offered at much lower prices... Biglari, for instance, has offered for the second year in a row the rights to buy BH stocks at a price far below BVPS after all the rights were exercised.

 

This is why I would have preferred this solution. ;)

 

Gio

 

Well yeah we'd all like a freebie - but that just dilutes anyone who can't, for whatever reason, participate.

 

I'm perfectly happy that they did it this way, at a share price that until a month ago was an all time record.

[petec]

If you want more stock, buy it from Mr. Market - who has kindly marked it down today so you can do just that!

Isn't the stock more expensive on a PB than yesterday?

The MKT cap has been reduced something like 624M (assuming -4.06%) while the deal financing is 650M

 

I may be being thick but I think the way to think about this is:

Old maths: 2014 YE BV ~8360, share count 21.18, bvps 395, price CAD690/USD556, p/bv 1.41

New maths: BV 8360+650=9011, share count 21.18+1=22.18, bvps 406, price CAD660/USD532, p/bv 1.31.

 

So, I think it's cheaper as a result both of issuing above book and the price coming down.

 

I'm not including the equity/consolidated gains for simplicity, and I'm going off memory, so sorry if the numbers are a bit out.

 

P

What you are doing is applying a premium to the cash that they just raised, if you do that every equity offering will look good when it is done above book. But when you have a business that is worth 2x book that is raising equity at 1.5x book you will get diluted.

 

I'm not applying a premium to anything.  I'm calculating the new P/BV using the new data.  And yes, you're right, raising equity above BV will always be accretive to BVPS and raising equity below will always be dilutive.  That's why I'd rather they raised above and not below.  Actually if you compare FFH's average RoE with their BVPS CAGR over the years there's quite a difference, and I believe it is due to issuing above and buying back below 1x.  Bravo, I say.

[petec]

Just to add to the dividend discussion, a few years back I collected the following data:

 

Markel CEO pay US$8.9m; Berkeley US$19m and his son $4m; Prem, CA$600k.

 

Personally I've no problem with the dividend (though I accept is it not optimal capital allocation, I like getting the cash).  But I would far rather suffer slightly suboptimal capital allocation than have Prem pay himself in line with peers.

 

 

[petec]

I am kind if disappointed that there wasn't a rights offering as well. The stock isn't that expensive when you adjust reported book value by unrealized gains in their equity/control accounted affiliates. It was something like 1.1x. I don't have an issue with them issuing equity to get a large deal done, but just wish it had been offered to shareholders instead of to an underwriter at a discount...

 

They have more than enough money on hand to have been able to do this with some flexibility in another issuance of debt/preferred shares if rights offering turned out to be undersubscribed (unlikely after killer 2014 results...).

 

How did you get to 1.1x?  Reported BV was $395 and then I added $20 from roughly $450m of unrealised gains on equity accounted stakes.  Prem gave that figure and it got me to 1.3x BV when I did the maths at CAD $670 per share.  But I don't think they gave a figure for unrealised gains on consolidated stakes.  Did I miss something?  You've got to find another $91 in book value per share to get to  1.1x!  Which would make me very happy  ;)

 

I still don't really get why people would rather a rights issue than just buying more, if it is so attractive!

 

Fairfax reported unaudited equity figures at their Q4 announcement of $9.74B. Add in an addition 450M for the unaccounted gains in associates and you get equity of $10.19B. With 21.2M shares outstanding, you get a P/B of $480. 1.1x this figures is about $528 which is right around where it's been trading this past month.

 

Sorry - I think you are using total equity not common shareholders' equity.  In other words you should be using $8.36bn in equity not 9.74.  Then you can add the $450 for unrealised gains on associates but I don't think they disclose the unrealised gains on consolidated stakes anywhere. 

[giofranchi]

Well yeah we'd all like a freebie - but that just dilutes anyone who can't, for whatever reason, participate.

 

Of course it does!

 

But imo rights offerings are a wonderful way to let existing shareholders invest more in their company at an attractive price. Therefore, I want the management of my investments to make use of them whenever the right opportunity comes.

 

The company is selling new shares to existing shareholders, not to new shareholders, therefore it can sell them at a very advantageous price! And existing shareholders should recognize a bargain when their company offers one… If they don’t, and decide not to participate, who is to blame? The company or its uninterested existing shareholders?

 

Gio

 

[petec]

Well yeah we'd all like a freebie - but that just dilutes anyone who can't, for whatever reason, participate.

 

Of course it does!

 

But imo rights offerings are a wonderful way to let existing shareholders invest more in their company at an attractive price. Therefore, I want the management of my investments to make use of them whenever the right opportunity comes.

 

The company is selling new shares to existing shareholders, not to new shareholders, therefore it can sell them at a very advantageous price! And existing shareholders should recognize a bargain when their company offers one… If they don’t, and decide not to participate, who is to blame? The company or its uninterested existing shareholders?

 

Gio

 

I said can't, not don't want to.  Anyone short of cash at that precise point in time gets shafted.  I dislike that intensely.

[giofranchi]

I said can't, not don't want to.  Anyone short of cash at that precise point in time gets shafted.  I dislike that intensely.

 

Who is to blame? The company or anyone short of cash? ;)

 

Gio

 

[petec]

I said can't, not don't want to.  Anyone short of cash at that precise point in time gets shafted.  I dislike that intensely.

 

Who is to blame? The company or anyone short of cash? ;)

 

Gio

 

Jesus, Gio!  I'm sure the majority of FFH holders have cash on hand.  But I'm also sure (or I hope, anyway) that some of the company is owned by normal people patiently building a stake which they hope will make them rich over time (as has happened with so many Berkshire holders).  We know, for example, that plenty of the company's employees are doing exactly that.

 

*Those* people may well be in the difficult position of actually having to use most of their cash flow to pay the mortgage and eat.  And personally, taking advantage of their inability to raise cash for a rights offering is not something I'd want to do as a (relatively) cash-rich shareholder. 

 

Again, doing a bought deal (with its advantage of speed) at a price that was a record until a month ago is just fine by me.  We may have to agree to disagree on this one ;) 

[giofranchi]

Jesus, Gio!  I'm sure the majority of FFH holders have cash on hand.  But I'm also sure (or I hope, anyway) that some of the company is owned by normal people patiently building a stake which they hope will make them rich over time (as has happened with so many Berkshire holders).  We know, for example, that plenty of the company's employees are doing exactly that.

 

*Those* people may well be in the difficult position of actually having to use most of their cash flow to pay the mortgage and eat.  And personally, taking advantage of their inability to raise cash for a rights offering is not something I'd want to do as a (relatively) cash-rich shareholder. 

 

Again, doing a bought deal (with its advantage of speed) at a price that was a record until a month ago is just fine by me.  We may have to agree to disagree on this one ;)

 

Ok! I understand your point! I get greedy sometimes! ;D

 

;)

 

Gio

[petec]

 

Ok! I understand your point! I get greedy sometimes! ;D

 

 

Don't we all!

 

I'm also wondering if the additional dilution offsets the lower price of the rights offering (assuming 100% uptake) but I haven't done the maths yet.

[giofranchi]

I'm also wondering if the additional dilution offsets the lower price of the rights offering (assuming 100% uptake) but I haven't done the maths yet.

 

Well, if you participate fully, I think it does! Because you get the chance of buying at a price that might be well below BVPS after all the rights have been exercised, and therefore after all the new shares have been issued.

 

If you then exercise your oversubscription rights too, it gets even more interesting! ;)

 

Gio

 

[Cageyone]

Good discussion guys! I'm part of another group of patient FFH long term shareholders (i.e. retirees) with no new money to invest. So we would be disadvantaged by the options route and we've come to count on the dividend. But I can see the advantages to some shareholders of the opposing views!

[TwoCitiesCapital]

I am kind if disappointed that there wasn't a rights offering as well. The stock isn't that expensive when you adjust reported book value by unrealized gains in their equity/control accounted affiliates. It was something like 1.1x. I don't have an issue with them issuing equity to get a large deal done, but just wish it had been offered to shareholders instead of to an underwriter at a discount...

 

They have more than enough money on hand to have been able to do this with some flexibility in another issuance of debt/preferred shares if rights offering turned out to be undersubscribed (unlikely after killer 2014 results...).

 

How did you get to 1.1x?  Reported BV was $395 and then I added $20 from roughly $450m of unrealised gains on equity accounted stakes.  Prem gave that figure and it got me to 1.3x BV when I did the maths at CAD $670 per share.  But I don't think they gave a figure for unrealised gains on consolidated stakes.  Did I miss something?  You've got to find another $91 in book value per share to get to  1.1x!  Which would make me very happy  ;)

 

I still don't really get why people would rather a rights issue than just buying more, if it is so attractive!

 

Fairfax reported unaudited equity figures at their Q4 announcement of $9.74B. Add in an addition 450M for the unaccounted gains in associates and you get equity of $10.19B. With 21.2M shares outstanding, you get a P/B of $480. 1.1x this figures is about $528 which is right around where it's been trading this past month.

 

Sorry - I think you are using total equity not common shareholders' equity.  In other words you should be using $8.36bn in equity not 9.74.  Then you can add the $450 for unrealised gains on associates but I don't think they disclose the unrealised gains on consolidated stakes anywhere.

 

You're right. Wasn't thinking about the preferred shares they've issued. Thanks for the correction.

[Partner24]

Good discussion guys! I'm part of another group of patient FFH long term shareholders (i.e. retirees) with no new money to invest. So we would be disadvantaged by the options route and we've come to count on the dividend. But I can see the advantages to some shareholders of the opposing views!

 

You're right. Like I said, the thing that they should do IMO is to stop paying a dividend AND stop raising capital with the common shares priced below intrinsic value, especialy if what they get in return with the cash is bought at a fair price. 

 

For the retired shareholders, they could sell some of their stocks from time to time in replacement of the dividend. As long as each dollar of retained earnings translate in a dollar of market value over time, it is even more favorable to that (i.e. taxes) instead of receiving a dividend.

 

Cheers!

 

 

[petec]

Good discussion guys! I'm part of another group of patient FFH long term shareholders (i.e. retirees) with no new money to invest. So we would be disadvantaged by the options route and we've come to count on the dividend. But I can see the advantages to some shareholders of the opposing views!

 

You're right. Like I said, the thing that they should do IMO is to stop paying a dividend AND stop raising capital with the common shares priced below intrinsic value, especialy if what they get in return with the cash is bought at a fair price. 

 

For the retired shareholders, they could sell some of their stocks from time to time in replacement of the dividend. As long as each dollar of retained earnings translate in a dollar of market value over time, it is even more favorable to that (i.e. taxes) instead of receiving a dividend.

 

Cheers!

 

I think the flaw here is that those sellers may have to sell below BV one of these days in order to fund living expenses.  The nice thing (from their perspective) about the divi is it's predictable and allows them to hold the shares essentially permanently.

 

Not suggesting the firm should be run for retirees, but receiving a dividend and selling shares are not necessarily equivalent from their perspective.

[netnet]

 

 

You're right. Like I said, the thing that they should do IMO is to stop paying a dividend AND stop raising capital with the common shares priced below intrinsic value, especialy if what they get in return with the cash is bought at a fair price. 

 

 

Cheers!

 

So this brings two questions,

• What then is the intrinsic value.
  
• And isn't buying geographic diversity, 85 combined ratio and 2.5 billion in float basically worth it?
   
  

 

I'm not saying it is; I am just posing the question: Buffett has said that the float is worth more than equity. Thus the deal is a good one and had to be financed and financed quickly without damaging the credit rating.

[KinAlberta]

Good discussion guys! I'm part of another group of patient FFH long term shareholders (i.e. retirees) with no new money to invest. So we would be disadvantaged by the options route and we've come to count on the dividend. But I can see the advantages to some shareholders of the opposing views!

 

You're right. Like I said, the thing that they should do IMO is to stop paying a dividend AND stop raising capital with the common shares priced below intrinsic value, especialy if what they get in return with the cash is bought at a fair price. 

 

For the retired shareholders, they could sell some of their stocks from time to time in replacement of the dividend. As long as each dollar of retained earnings translate in a dollar of market value over time, it is even more favorable to that (i.e. taxes) instead of receiving a dividend.

 

Cheers!

 

I think the flaw here is that those sellers may have to sell below BV one of these days in order to fund living expenses.  The nice thing (from their perspective) about the divi is it's predictable and allows them to hold the shares essentially permanently.

 

Not suggesting the firm should be run for retirees, but receiving a dividend and selling shares are not necessarily equivalent from their perspective.

 

I think dividends should be viewed from an income replacement/expense coverage perspective first.  Return maximization be damned, you want your cash flow to cover your expenses so you can survive. So you need to look at your utility and food costs, etc. first.  If you need to buy imported products then aligning some cash flow via geographic diversity in your investments might hedge any future increases in your import goods costs. Utility costs can be affected by oil and gas costs. Health care costs by other factors.

 

Once your pensions and investment cash flows have provided some assurance there, then you can look at buying investments that will maximize your return - over the long run.

 

If you look only at maximizing your return (over the long run), you have to be prepared to sell investments (i.e. sell shares in low-to-non-dividend payers) to sustain you.  The huge problem here is that you may have to sell those shares in a down market if you are not adequately diversified and lack other cash flow. (Of course dividends and share sales are somewhat the same thing but dividend policy adds stability and predictability to corporate decision makers and dividends can sometimes even be irrationally sustained by a corporation without impacting the share price, whereas selling shares purely exposes you to market pricing which is influenced by many factors - unpredictable factors. If you're a believer in value investing and consequently a non-believer in the traditional EMH then you'll really kick yourself if you have to sell shares at below intrinsic value in any market.

 

I welcome any criticism of my thinking above.

[Munger_Disciple]

KinAlberta,

 

Dividends can be thought of as selling a portion of your holdings at 1xBook. If the stock trades at a premium to book, you are better off selling shares instead if you need cash. There are exceptions to this of course. Some companies may not be able to earn good rates of return on incrementally reinvested earnings (tobacco companies for instance), in which case they should either buy back stock or payout earnings as dividends.

 

But by issuing dividends you are forcing all shareholders to pay taxes whether they need cash or not. I would rather decide it for myself.

[wknecht]

KinAlberta,

 

Dividends can be thought of as selling a portion of your holdings at 1xBook. If the stock trades at a premium to book, you are better off selling shares instead if you need cash. There are exceptions to this of course. Some companies may not be able to earn good rates of return on incrementally reinvested earnings (tobacco companies for instance), in which case they should either buy back stock or payout earnings as dividends.

 

But by issuing dividends you are forcing all shareholders to pay taxes whether they need cash or not. I would rather decide it for myself.

I used to think this (a dividend is the same as selling at book),  but I'm not so sure this is true. I think cash is valued at cash. I don't know that I ever really hear folks talk about price to book minus cash though.

 

That being said, a lot of folks (including me) think cash in the hand of Buffett, Watsa, Klarman etc is worth more than the cash in their own hands, and a dividend does not get this premium.