Results out

[Alekbaylee]

https://www.fairfax.ca/news/press-releases/press-release-details/2019/Financial-Results-for-the-Year-Ended-December-31-2018/default.aspx

[Viking]

“Book value per basic share at December 31, 2018 was $432.46 compared to $449.55 at December 31, 2017 (a decrease of 1.5% adjusted for the $10 per common share dividend paid in the first quarter of 2018).”

 

Investment results continue to drag on results. I wonder if they remain as bullish on Trump and still expect great things from equities the next couple of years.

[Santayana]

When you look at what the overall markets did last quarter, it's hard to imagine anyone having good investment results.  The California fires didn't help the overall results for the quarter either.

[obtuse_investor]

In Q4 2018, "short equity exposure" was down $84.9M! I wonder what's in there.

[Viking]

When you look at what the overall markets did last quarter, it's hard to imagine anyone having good investment results.  The California fires didn't help the overall results for the quarter either.

 

True. But FFH growing book value in a meaningful way (which will then drive the stock price) is tied to them being positioned correctly with their investment portfolio. The company recently completely reversed their investment orientation and expressed a great deal of optomism in the future with Trump as President. They are not short term thinkers so they must have thought stocks had many years of solid returns ahead. 2018 was not a good year for financial markets. With the global economy slowing, including the US, 2019 might be another tough year for financial markets. If so, this will be a continuing headwind for FFH.

[steph]

Not too bad. I was expecting worse.  Insurance is good. Bonds well managed. Equities are a drag but was expected.  All in all rather reassuring.

[Dazel]

 

They did not take the big shot I thought they might but they took bonds too almost $20b so the composition matters....

[petec]

The company recently completely reversed their investment orientation and expressed a great deal of optomism in the future with Trump as President. They are not short term thinkers so they must have thought stocks had many years of solid returns ahead.

 

Go back over the calls. I think you'll find that's not what they thought, not what they said, and not how they acted. They said Trump would kick start animal spirits in the US economy, which reduced the global depression risk for which they were hedged. So they took the hedges off. They were quite explicit that they were not bullish on equities as a whole, and they acted accordingly, keeping vast amounts of cash. Instead, they said they thought it would be a good stockpicker's market, with good individual stock opportunities. I took this to mean they expected more volatile internals.

 

I'd argue they've been more or less spot on so far, but the point is their major action was to take off the hedges, not to go all-in on stocks generally.

 

 

 

[Spekulatius]

The  insurance business has done quite well with a combined ratio of 98.3%. The investment side continues to suck wind. I have reduced my exposure to FFH after some considerations. I would be quite happy to hold FFH, if they would just stick with bond investments like other plain vanilla insurance corporations.

 

I am sure the book value has recovered some since 12/31 due to equities bouncing back, but so has the PPS. I don’t feel like their equity investment are set to perform well going forward though.

[WneverLOSE]

Any way to listen to the conference call without actually calling the number for a playback ?

Not only it is very expensive to overseas investors but it is very inconvenient to sit for an hour on the phone.

 

am I missing something or is fairfax basically the only company that doesn't provide a transcript / playback on their website ?

 

 

[StubbleJumper]

Any way to listen to the conference call without actually calling the number for a playback ?

Not only it is very expensive to overseas investors but it is very inconvenient to sit for an hour on the phone.

 

am I missing something or is fairfax basically the only company that doesn't provide a transcript / playback on their website ?

 

 

If you have an Android phone, you might be able to download a Canadian VOIP app called Fongo.  This will give you a Canadian VOIP phone number and allow you to listen to the conference call re-play for free.  The sound will probably be a little choppy if your internet connection is poor or if the ping is long due to your distance, but free is a good price.

 

cheers.

 

 

SJ

[StubbleJumper]

Did anyone at FFH proof-read this:

 

During the fourth quarter of 2018 the company repurchased for cancellation and repurchased for treasury a total of 150,073 subordinate voting shares at an aggregate cost of $20.4 million.  During the fourth quarter of 2017 and up to December 31, 2018, the company repurchased for cancellation and repurchased for treasury a total of 806,136 subordinate voting shares at an aggregate cost of $413.5 million.

 

 

So they were buying back shares for US$133 each during the fourth quarter?  I feel like a really shitty investor now because I didn't jump aboard that train!

 

 

SJ

[petec]

Did anyone at FFH proof-read this:

 

During the fourth quarter of 2018 the company repurchased for cancellation and repurchased for treasury a total of 150,073 subordinate voting shares at an aggregate cost of $20.4 million.  During the fourth quarter of 2017 and up to December 31, 2018, the company repurchased for cancellation and repurchased for treasury a total of 806,136 subordinate voting shares at an aggregate cost of $413.5 million.

 

So they were buying back shares for US$133 each during the fourth quarter?  I feel like a really shitty investor now because I didn't jump aboard that train!

 

SJ

 

 

Ha ha amazing!

[StubbleJumper]

I didn't mind the quarter.  The headline numbers might make you want to vomit, but the underlying strength is clearly there.  I eagerly await the annual report to get a better understanding of the CR, and particularly I'd like to see those loss triangles.  I'm a little disappointed that they weren't a shade more aggressive on the buybacks as it appears that they've only bought back a total of 800,000 shares over the past five quarters -- it's not exactly CitiBank. 

 

The interesting exercise is to take the actual 2018 numbers and pencil in some estimates for 2019:

 

 

U/W profit: $650                                  <== run rate Q4 net earned premiums to get $13B at a 95 CR

Interest and divvies: $850                  <== run rate Q4 number, probably a little too conservative

Run-off: -200

Non-insurance: 200                            <==plug in rough number from 2017 because 2018 was anomalous

Interest expense: -350                        <==plug in number from 2018

Overhead: -200

Net gains: 0

 

Basic pre-tax income: $950

Tax: $332.5

Net income: $617.5

 

Shares outstanding: 27.2m

 

Basic EPS: $22.70/share

 

 

 

I like it.  A basic EPS of ~$23/sh under the assumption of zero realized gains, zero increase in net earned, and zero increase in interest rates.  It's certainly not hard to imagine an actual figure of double that amount....

 

 

Cheers

 

SJ

[Spekulatius]

I like it.  A basic EPS of ~$23/sh under the assumption of zero realized gains, zero increase in net earned, and zero increase in interest rates.  It's certainly not hard to imagine an actual figure of double that amount....

 

No it’s not hard to imagine, but even if this comes to pass, FFH just looks like an OK value.

[Crip1]

Any way to listen to the conference call without actually calling the number for a playback ?

Not only it is very expensive to overseas investors but it is very inconvenient to sit for an hour on the phone.

 

am I missing something or is fairfax basically the only company that doesn't provide a transcript / playback on their website ?

 

 

Seeking Alpha normally has a transcript of the Conference Call a couple of days later. The problem is that the transcribers are not terribly well aware of insurance terms so you'll need to interpret here and there.

 

 

-Crip

 

 

 

 

[wachtwoord]

Fairfax Financial Holdings Ltd. (FRFHF) Q4 2018 Results - Earnings Call Transcript https://seekingalpha.com/article/4241537?source=ansh $FRFHF

[petec]

My notes from the results and call:

 

97.3% CCR and prior year development continues strong. 8.7% organic premiums growth - pricing generally positive except at Zenith which is on its own cycle. Think the market might harden in 2H19, and confirm they can grow premiums materially if so. Notable that AW produced 98% after a poor 2017. Brit had a tough year but will benefit from Lloyds getting tougher and the market there rebalancing.

 

Accounting EPS of $12 offset by non-P&L currency losses so BVPS down y/y to $432, although their equities have recouped in 2019 over half the $500m they lost in 4q18, which adds about $10/share. NB the adjustment for the market value of associates is now a negative - need to dig into why, possibly the deconsolidation of Quess but I think this is now an associate and so still not marked.

 

Questions about solvency in a market crash. Reiterated they will not hedge wholesale again. Claim the equity portfolio outperformed in 4q and highlight $114bn in deflation swaps plus the debt+warrant deals that give downside protection. Not a full answer.

 

They lose $190m amortising things like client lists which were written up on acquisition. I think that's daft as long as the acquired properties are profitable and growing - if anything the intangibles are appreciating in value. Adds about $4/share in pretax earnings if you exclude it, plus the fact these intangibles are being amortised needs to be taken into account when thinking about p/bv vs p/tbv.

 

"Monetising" and "reoptimising" the equity portfolio. Evaluating the entire portfolio, which is great news, but sounds like one of the opportunities is selling unlisted equities into a hot PE market. The team (Wade, Lawrence, Prem, Roger) are "salivating a little bit" in this "stockpicker's market" but they are at the top end of what they can allocate to equities. Unlikely to sell Seaspan - Sokol is "one of the best managers we have ever seen" and "intimately involved" and they could hold it for a very long time. Also think Eurobank/Grivalia will do very well, and Toys R Us is not on the block yet - sounds like ebitda is still positive but might have contracted, so it needs some work, but the RE alone is worth more than they paid.

 

More cash has gone into ST treasuries and corporates. Dividend & interest income run rate now $800m and they think they can get it to $1bn without adding duration.

 

Have been buying in minorities and shares. Since 1q17 they've bought 1.1m but NB largely offset by options issuance which wasn't discussed other than they split out the 150k 4q buyback between cancellation and treasury and treasury is 2/3rds of it. YE share count was 27.24m and they've bought 0.34m in the first 6 weeks of 2019 so I put them at 26.9m today. Will continue to buy back "particularly at these levels". Doesn't fill me with joy until we know the options plans.

[Cigarbutt]

^It seems that they have reached some kind of transition for their investment stance and IMO it is still unclear what the outcome will be.

 

The underwriting results continue to be strong although Brit's results need to be followed. In the industry, periods of reserve releases are typically followed by periods of negative development and the last period has been particularly significant for releases. For Fairfax, the releases correspond more to a strong underwriting culture than following industry trends but, looking forward, it is reasonable to expect lower releases. In 2018, FFH released the equivalent of about 14.6 CR points in Q4 and the equivalent of about 6.8 CR points for the year. If anything at Fairfax, the trend for releases has been going up which is at least partly a sign of conservatism and may be mitigated by growth in premiums in the future when the trend goes down, but is still something to consider when evaluating future underwriting results. Business at run-off includes a lot of old lines but results there show how long it may take to see the full realization of reserve development.

[StubbleJumper]

"Monetising" and "reoptimising" the equity portfolio.

 

 

Yes, I skimmed the conference call transcript and noted the funny description of what they want to do with equities.  I'm still not entirely clear what it means.  Maybe it means that they'll try to divest some of the stinkers that have not been contributing to a solid return (Torstar, Resolute, BlackBerry, likely Stelco in the future, etc).  Some of those could be sold slowly over a year or so and they'd get a fair-ish price for them, but the market is so thin and the holdings are so large that it would be better to find a buyer for a large block.  In any case, if they have finally capitulated on a few of them, I would take that as a positive sign.

 

The comments about Toys R Us were a little concerning.  It's looking a little bit like a Sears scenario where the real estate is obviously quite valuable, but the actual retail performance is dubious.  So, how do you ever unlock value, and does FFH have the internal fortitude to shut down operations to capture the remaining value?  I don't generally take much comfort in statements like, "It kicks out $100m EBITDA annually" because that likely means it is fundamentally unprofitable over the long term, or at best it is fundamentally marginally profitable when you account for things like amortization of computer systems, depreciation of the little bit of equipment that they own, and of course, interest on their revolver.  It will be interesting to see what sort of break out (if any) is provided in the annual to help us understand whether this is a raisin or a turd.

 

 

SJ

[petec]

I sincerely hope they don’t sell anything just because it hasn’t performed so far, but I do think a hard headed “why are we in this?” analysis needs to be performed on every holding.

 

I’m more bullish on Stelco than you. It seems to me that a lot of their prior errors have been in buying junk that has debt. Stelco is junk, but it’s super cheap and debt free.

 

If T”R”U is generating 100m of ebitda I think that’s great. I doubt much of that comes from amortising software and they can use it to pay debt before paying returns to equity. (Can you recall the size and terms of the revolver you reference, btw?). I was more worried by the wording in the call which made me wonder if it’s still generating that much ebitda.

[StubbleJumper]

I sincerely hope they don’t sell anything just because it hasn’t performed so far, but I do think a hard headed “why are we in this?” analysis needs to be performed on every holding.

 

I’m more bullish on Stelco than you. It seems to me that a lot of their prior errors have been in buying junk that has debt. Stelco is junk, but it’s super cheap and debt free.

 

If T”R”U is generating 100m of ebitda I think that’s great. I doubt much of that comes from amortising software and they can use it to pay debt before paying returns to equity. (Can you recall the size and terms of the revolver you reference, btw?). I was more worried by the wording in the call which made me wonder if it’s still generating that much ebitda.

 

 

Pete, the point is that even for a retailer, EBITDA and Earnings are not the same thing.  You might think it's great that Toys R Us generates $100m ebitda, but personally I cannot say whether it's great or terrible (but at least it's a positive number!). 

 

I have never seen a retailer that didn't spend considerable amounts of money on point of sale hardware and software and inventory management software.  Same thing with shelving, and the million bits and pieces of equipment that retailers require on the floor and in the back room.  These expenditures tend to be lumpy, but they should never be disregarded.  Similarly, it's a rare retailer that does not have considerable working capital requirements for inventory, and that is normally either funded through supplier credit or a revolver.  I have no idea what the magnitude of this might be for Toys R Us, but it will almost certainly be there and interest costs should not be disregarded (if you want to BS a bit about the possible working capital requirements, you can do a bit of hypothetical math -- $100m ebidta might be generated from $1.5b in sales, which could be $300m of inventory at 5 turns per year?  I pulled all of that out of my ass, but you get the idea).

 

I look forward to seeing whether there will be more disclosure in the annual, but on the other hand, it's not particularly material to overall operations.  I'd be curious to see what happens when that EBITA number flows down to the bottom line.  Do you end up with a positive number?  If it's positive, does it get haircut from $100m to less than $50m?  Less than $25m? 

 

Retail is a tough industry to compete in.  And it's a great place to find value traps (ask me how I know  ::) )

 

 

SJ

[petec]

I generally hate ebitda as a measure so I have a lot of sympathy for what you’re saying. Nonetheless it’s a guide to cash flows and it’s the only one we have. I’m not aware of a reason to assume the business is sucking up working capital (sure, it probably needs some, but it’s a mature business so it’s likely to be fairly steady - the biggest danger is actually if it’s working capital positive and revenues are shrinking). D&A, sure, there will be some cash cost in there, but POS units and software can be run for years - the bigger cost is maintaining stores and even that can be deferred if you need to prioritise paying down debt etc. My point is simply that unless it’s loaded with debt, which I sincerely hope it isn’t, if it’s generating a decent slug of ebitda there’s a decent chance it’s FCF positive. Would I care to put a number on that? No. But if the real estate covers the purchase price then the risks are probably fairly low. That’s all I’m driving at.

[StubbleJumper]

I generally hate ebitda as a measure so I have a lot of sympathy for what you’re saying. Nonetheless it’s a guide to cash flows and it’s the only one we have. I’m not aware of a reason to assume the business is sucking up working capital (sure, it probably needs some, but it’s a mature business so it’s likely to be fairly steady - the biggest danger is actually if it’s working capital positive and revenues are shrinking). D&A, sure, there will be some cash cost in there, but POS units and software can be run for years - the bigger cost is maintaining stores and even that can be deferred if you need to prioritise paying down debt etc. My point is simply that unless it’s loaded with debt, which I sincerely hope it isn’t, if it’s generating a decent slug of ebitda there’s a decent chance it’s FCF positive. Would I care to put a number on that? No. But if the real estate covers the purchase price then the risks are probably fairly low. That’s all I’m driving at.

 

 

I don't have much doubt that it's FCF positive in the short term, I just question whether it is fundamentally profitable on a longer term, bottom-line net earnings basis.  If you are of the view that Toys will be put into run-off over the next five or so years, then depreciation and amortization are irrelevant and your FCF represents a bit of gravy while the main course is the capital gains from divesting the real estate.  On the other hand, if you elect to view Toys as a longer term going-concern, then you *need* to see a positive net earnings number.  A negative earnings number even with positive FCF isn't great because eventually you are forced to make leasehold improvements (spruce up the stores), buy or build new systems or replace other equipment.

 

In this aspect, it is a bit like the Sears story.  Based on a back-of-the-envelope sum of the parts analysis, it seemed pretty obvious 10 or 15 years ago that Eddie could easily buy Sears, sell off the assets and walk away with a few billion in profit.  Unfortunately for him, it took forever to divest the assets and, in the interim, the retail operations lost a hell of a lot of money before he could make his exit. 

 

Turning back to Toys, the comments on the FFH conference call have led me to believe that FFH wants Toys to be a going-concern, but as I said, it doesn't give me much confidence that they have provided shareholders with just an EBITDA number.  If it truly is a fundamentally profitable business (ie, positive net earnings), eventually they'll be able to sell it to somebody as a going-concern.  But, the concept of running it for a few years to see whether it can be turned around, and then liquidating if it can't be turned profitable strikes me as a pretty poor idea.

 

It'll be interesting to see what will be disclosed in the AR.

 

 

SJ

[petec]

Agreed. My thinking is that +ve FCF is useful if you want to a) pay down whatever debt there is, boosting net income and b) shop it to private equity which sounds like it might be on the cards. I'm not proposing that ebitda alone is enough for it to be a good long term hold.