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Fairfax 2018


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This is encouraging.  The Seaspan debt is still performing, and now FFH is up ~US$200m by exercising the warrants and they get another batch of warrants with an intrinsic value of ~US$25m.  That's a tidy profit in a relatively short time-frame.

 

So, with US$500m of debt and a commitment for ~US$700m market value of common shares, how much more should FFH invest in Seaspan?  What's an appropriate position size?  I'd say it's about as large as you'd want to see for that type of investment.  Happily, the additional 25 million warrants have a 7 year expiry, so there's no rush to sink more capital into seaspan than the US$1B that's already been committed.

 

 

SJ

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at $500mm, it looks like its now their second biggest equity position (a few million behind Blackberry).

 

I think the Sokol presentation at the investing presentation the day before the Fairfax annual event was very informative and impressive.  They've announced a willingness to invest more in infrastructure like ports (Vancouver, I believe) which seems more promising that the shipping part.

 

As far as the shipping goes, with their recent merger and newer fleet I think it bodes well if the industry is consolidating.  After the Hanjin fiasco I think people will be more likely to look towards well financed operations with newer fleets (lower fuel costs, and no one was eager to lend money to Hanjin when the collateral they had was a fleet of rust buckets). So the growth prospects look good over the next few years if we avoid a trade war and global recession.

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at $500mm, it looks like its now their second biggest equity position (a few million behind Blackberry).

 

I think the Sokol presentation at the investing presentation the day before the Fairfax annual event was very informative and impressive.  They've announced a willingness to invest more in infrastructure like ports (Vancouver, I believe) which seems more promising that the shipping part.

 

As far as the shipping goes, with their recent merger and newer fleet I think it bodes well if the industry is consolidating.  After the Hanjin fiasco I think people will be more likely to look towards well financed operations with newer fleets (lower fuel costs, and no one was eager to lend money to Hanjin when the collateral they had was a fleet of rust buckets). So the growth prospects look good over the next few years if we avoid a trade war and global recession.

 

 

Well, as I understand it, the book value of the investment currently sits at US$500m in debt and now US$500m in equity for a total of US$1B.  Market value should be ~$500m for the debt and now ~$700m for the equity plus the new warrants that have been granted are worth ~$25m.  So, FFH has dedicated $1b of shareholders' capital to Seaspan and that investment now has a market value of ~US$1.225b.  That's a pretty good short-term return.

 

But, returning to the question of position sizing, the current market value of the Seaspan position is getting pretty close to the amount that was invested in BlackBerry and it's pretty close to the position size of the Bank of Ireland before FFH trimmed it.  My take is that they've put about as much capital into Seaspan as would be wise and that they should think hard before adding more (other than a couple hundred mil to exercise their new warrants in seven years).

 

 

 

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I try to avoid anchoring on the 1B price tag.

 

The RIM/Blackberry position was made many years ago when the balance sheet was substantially smaller. I suspect as a percentage of assets, the Seaspan deal is in line with their previous large positions.

 

 

Okay.  From a risk management perspective, do you have a view point about the appropriate position size?  I have certainly made my views clear about the difference between ploughing $1b into RIM vs ploughing $1B into JNJ....as well as the difference between investing $500m in Bank of Ireland and having it grow to $1B+ vs investing increasing amounts of capital into a posiiton.  So, does $1b in seaspan make sense, or should they bump it to $2B (basically full ownership)?  Is this a prudent investment at its current sizing and does it ever become imprudent?

 

 

SJ

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Share price of nearly all holdings has gone up since the previous quarter's filings.  I put this together pretty quickly and do NOT have great confidence in the number of shares owned by FFH.  Either way, it is a good trend.  Sorry for the poor formatting too...

 

Amount and Increase in BV in millions:

 

Ticker Shares 3/31/2018 6/8/2018 Amount % increase Increase in BV

BB 9.67E+07 $10.72 $12.25 $1,184.58 14.27%       $147.95

RFP 3.05E+07 $8.40 $10.65 $325.34 26.79%       $68.73

EGFEY -       $0.44         $0.53   -         20.40%         -

KW 1.33E+07 $17.50 $20.60 $274.43 17.71%       $41.30

IPI 1.67E+07 $3.47 $4.65 $77.50 34.01%       $19.67

USG 1.53E+06 $39.40 $41.32 $63.24 4.87%       $2.94

CTL 1.85E+06 $16.29 $17.62 $32.55 8.16%       $2.46

                                              Sum       $283.04

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I try to avoid anchoring on the 1B price tag.

 

The RIM/Blackberry position was made many years ago when the balance sheet was substantially smaller. I suspect as a percentage of assets, the Seaspan deal is in line with their previous large positions.

 

The positions that FFH takes are no slam dunks and have significant risk, as well as considerable upside. I think they should be sized accordingly, such that even 2 of them blowing up should not impair the company.

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  • 3 weeks later...

I think the Sokol presentation at the investing presentation the day before the Fairfax annual event was very informative and impressive. 

 

Does anyone have notes or a copy of the presentation?

 

A copy of the powerpoint is here if you scroll down:

 

https://www.ivey.uwo.ca/bengrahaminvesting/events/2018/04/2018-value-investing-conference/

 

It doesn't look like they posted the talk though. 

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I try to avoid anchoring on the 1B price tag.

 

The RIM/Blackberry position was made many years ago when the balance sheet was substantially smaller. I suspect as a percentage of assets, the Seaspan deal is in line with their previous large positions.

 

Okay.  From a risk management perspective, do you have a view point about the appropriate position size?  I have certainly made my views clear about the difference between ploughing $1b into RIM vs ploughing $1B into JNJ....as well as the difference between investing $500m in Bank of Ireland and having it grow to $1B+ vs investing increasing amounts of capital into a posiiton.  So, does $1b in seaspan make sense, or should they bump it to $2B (basically full ownership)?  Is this a prudent investment at its current sizing and does it ever become imprudent?

 

SJ

 

To me the structure is more important than the size. They have $1bn in Blackberry with full equity upside, but $500m of that has practically no downside (company is net cash and will generate FCF from this year, bond matures in 3 years). So, you're massively levered to anything positive happening but downside is 4% of shareholder's equity (andf 1.25% of the whole portfolio, which overall is very conservatively invested).

 

Seaspan is structured the same way (and I would argue there is very little risk in the bonds, despite the headline leverage, due to the phenomenal amount of contracted free cash flow the company will generate now that is has no capex).

 

The other thing that has changed is that Fairfax is a much bigger company due to both equity issues and realisation of value via asset sales. So while Blackberry might have been too big when it was made, I don't think either is now.

 

 

 

 

 

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  • 4 weeks later...

National Bank of Canada is initiating coverage on Fairfax Financial Holdings Ltd. (FFH-T) with a strong rating.

 

Analyst Jaeme Gloyn started coverage with an “outperform" rating and a target price of C$850, which expects a total return of about 20.1 per cent, including the company’s 1.4 per cent dividend.

 

Fairfax attempts to achieve 15 per cent BVPS [book value of equity per share] annual growth over the long term through solid underwriting performance and a focus on generating total returns on its asset portfolio – the latter a differentiator versus P&C insurance peers. With a market cap of US$15.5-billion and net premiums written of about US$12 billion (2018E), FFH is one of the top 10 insurance companies in North America," he said.

 

“We believe the company’s diversified operations (geographic, business lines, risks) and decentralized management approach support stable premiums growth (mid-single digit) and consistent combined ratio performance (long-term average of 95 per cent). We believe recently soft total return performance is in the company’s rear-view mirror following a shift to a more “risk-on” (but still conservative) approach. Though the timing of net gains is uncertain, we believe the company holds meaningful upside on several “at-cost” investments. Moreover, continued deployment of cash into other investments as well as declining interest expenses will further support stronger investment profitability,” he said.

 

“We expect Fairfax to deliver consistent double-digit ROE [return on equity] over the long term. Combining our outlook for underwriting profitability and investment returns, we believe FFH will generate about 10 per cent ROE through our forecast horizon. Supported by a solid balance sheet and capital levels, we expect management to enhance ROE through purchasing non-controlling interests, share buybacks and disciplined increases in underwriting leverage (i.e., in hard markets). Catastrophes (e.g., 2017) and adverse market movements (eroding total returns) pose material risks to our outlook; however, we believe these risks are sufficiently reflected in our target valuation,” he said.

 

“With a consensus ROE forecast of just 8.5 per cent in 2019, implying a approximately 1.2 times P/B [price to book value] – also the current trading multiple – we believe consensus (and the market) are missing some aspect of the profitability outlook. We use a 1.3 times P/B multiple on our Q2 2019 BV estimate to arrive at our price target of US$650 (C$850). Given an approximately 20 per cent total return, including a 1.4 per cent dividend yield, we rate the shares Outperform.”

 

The shares are currently trading near C$720. The median target price is C$755.

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I try to avoid anchoring on the 1B price tag.

 

The RIM/Blackberry position was made many years ago when the balance sheet was substantially smaller. I suspect as a percentage of assets, the Seaspan deal is in line with their previous large positions.

 

The positions that FFH takes are no slam dunks and have significant risk, as well as considerable upside. I think they should be sized accordingly, such that even 2 of them blowing up should not impair the company.

 

thoughts on Seaspan?

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thoughts on Seaspan?

 

It's ending a capex programme so FCF is exploding. It's got a decent capital allocator at the helm and if he can't find any opportunities just reducing debt will be very good for the equity. It's at a good point in the capital cycle (new supply at multiyear lows). It's on c.5x FCF. Looks good to me.

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thoughts on Seaspan?

 

It's ending a capex programme so FCF is exploding. It's got a decent capital allocator at the helm and if he can't find any opportunities just reducing debt will be very good for the equity. It's at a good point in the capital cycle (new supply at multiyear lows). It's on c.5x FCF. Looks good to me.

 

The bear case is one of explosive leverage?  Is there anything else?

 

From what I understand, Seaspan looks to clean up the balance sheet then pick up the pieces in the next downturn occurs in the shipping industry?

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thoughts on Seaspan?

 

It's ending a capex programme so FCF is exploding. It's got a decent capital allocator at the helm and if he can't find any opportunities just reducing debt will be very good for the equity. It's at a good point in the capital cycle (new supply at multiyear lows). It's on c.5x FCF. Looks good to me.

 

The bear case is one of explosive leverage?  Is there anything else?

 

From what I understand, Seaspan looks to clean up the balance sheet then pick up the pieces in the next downturn occurs in the shipping industry?

 

I don’t think the leverage is an issue now given a) equity issuances, b) massive contracted cash flows, and c) virtually no capex.

 

From a strategy point of view they’ve identified that they might be able to consolidate what is a very fragmented industry with several distressed players. They’ve also said they expect over time to deploy capital into other industries when prices are right. That is a cause for alarm or optimism depending on what you think of Sokol, who I think will oversee capital allocation. His record at Midamerican was extraordinary and he was a serious contender for the next CEO of Berkshire before the insider trading scandal, which tells you how much Buffett thought of his skills. I think this is his next “project”, as it were, and he’s said “the next ten years will be a lot of fun”. So I’m summary you’re paying 5x free cash flow to buy into a fairly lousy industry at a fairly good point in the cycle (both the industry’s capital cycle and the company’s free cash cycle) with a free option that a (flawed) genius does something clever with the cash flow. Not a dumb thing for Fairfax to have option - levered exposure to.

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https://ca.finance.yahoo.com/news/canadas-fairfax-set-19-percent-093200572.html

 

I thought Prem had indicated that Fairfax wouldn't be doing insurance company purchases for a while (perhaps he meant large insurance company purchases).  I assume that the feeling was that the price is right on this conversion.

 

 

Thanks for posting that article.  I had no recollection of ~US$80m being invested in a convertible instrument in the Irish insurance sector -- either I never knew about it or I had forgotten entirely.

 

As I opined earlier this year in the buy-back discussion, I would be very surprised if Prem's past behaviour of being a serial-acquirer ever changes.  Adding an Irish insurer to the mix would seem to fit right into FFH's operations.  The remaining 80% of this one looks like it could be added for <US$500m, so it wouldn't constitute much more than a light snack for FFH!

 

 

SJ

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https://ca.finance.yahoo.com/news/canadas-fairfax-set-19-percent-093200572.html

 

I thought Prem had indicated that Fairfax wouldn't be doing insurance company purchases for a while (perhaps he meant large insurance company purchases).  I assume that the feeling was that the price is right on this conversion.

 

This isn't a purchase. He bailed them out in 2015 and the convertible is now in the money. It would be pretty stupid not to convert!

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