Fairfax 2021

[Viking]

1 hour ago, Daphne said:

Having been involved in a number of retail turnaround deals in the past, my guess is Putman paid nothing or next to nothing.  The scenario is often “take this dog off our hands and send us some money if/when you’re successful”.

Makes sense. What i hope is that this deal removes the liability of the Toys ‘R Us retail business from Fairfax’s balance sheet. It would be interesting to know what the real estate is and what it is worth today  

[Viking]

7 hours ago, petec said:

Viking, I very largely agree with that analysis. Fairfax is getting simpler to manage and greater access to third party capital to fund growth, and that's good. Whether it is also getting better management for its investee businesses...I guess we will see.

 

The one I don't know much about is Exco. The stock appears to trade but I can't find financials and you need a login to get to the investor relations page. How does that work?

 

 

Here is a little more detail on EXCO. With oil prices trading +$60 they must be making good money these days. Free cash flow was $36 million in 2020; it must be materially higher in 2021. I hope EXCO becomes a good example of some of the purchases made by the old Fairfax: buy chunk of struggling business for cheap price, sink more money in it when things get worse, restructure and/or bankruptcy converting debt to equity, make a return on investment 5 or more years later  

————————-

Fairfax owns 44% of EXCO; private holding

Valued at US$238 million at Dec 31, 2020

 

EXCO Bankruptcy Illustrates Power of Chapter 11 Restructuring Nov 2019

https://www.kirkland.com/-/media/publications/article/2019/11/new-york-law-journal-exco-bankruptcy-restructuring.pdf

 

2020 AR Page 28: Fairfax owns 44% of Exco, a U.S. oil and gas producer. Despite weak energy prices in 2020, Exco generated $128 million in EBITDA and $36 million in free cash flow. Net debt fell to $145 million (1.1 times EBITDA). Led by Chairman John Wilder and CEO Hal Hickey, Exco achieved these results through high field level productivity and company-wide cost control. In December, Exco recorded its 73rd month without a lost time incident. Exco’s Chairman, John Wilder, is a great partner. We are well served by his leadership.

 

Page 70: On June 28, 2019 EXCO Resources Inc. (‘‘EXCO’’) emerged from bankruptcy protection and settled the company’s holdings of EXCO bonds with common shares, resulting in the company recording a net loss on investment of $179.3 (realized losses of $296.3, of which $117.0 was recorded as unrealized losses in prior years).

[petec]

39 minutes ago, Viking said:

Makes sense. What i hope is that this deal removes the liability of the Toys ‘R Us retail business from Fairfax’s balance sheet. It would be interesting to know what the real estate is and what it is worth today  

Exactly. 

[petec]

1 hour ago, Daphne said:

Having been involved in a number of retail turnaround deals in the past, my guess is Putman paid nothing or next to nothing.  The scenario is often “take this dog off our hands and send us some money if/when you’re successful”.

Agreed - but the real estate and royalty make up a nice heads I win, tails I don’t lose package.

[Xerxes]

Viking 

 

you will probably find this interesting. There is a podcast called YAVB with an episodes on lumber. Interestingly there are lots of references to Paul Rivett and Resolute. you will probably enjoy it 
 

Was listening to it on and off while on a flight to Vancouver (so far an interesting city). 

[Viking]

13 hours ago, Xerxes said:

Viking 

 

you will probably find this interesting. There is a podcast called YAVB with an episodes on lumber. Interestingly there are lots of references to Paul Rivett and Resolute. you will probably enjoy it 
 

Was listening to it on and off while on a flight to Vancouver (so far an interesting city). 

Xerxes, thanks for posting. Yes, i did enjoy the lumber/Paul Rivette discussion  i had never heard of GreenFirst before; sounds like a pretty crazy (high cost assets)/somewhat messed up transaction (shades of old Fairfax?). Big bet on higher lumber prices. 

Edited August 22, 2021 by Viking

[glider3834]

Just sharing this chart I put together - really just to visualise the significant discount that Fairfax now trades relative to book value.

 

I notice now that Fairfax is reporting the excess of fair value over carrying value of non-insurance investments under 'Book value per basic share'. IMO Prem & mgmt would like investors to measure their progress not just in terms of BVPS growth, but also factor in this excess of fair value for non-insurance investments.

 

 

  

Edited August 23, 2021 by glider3834

[glider3834]

Here is another chart I have done - shows float per share (which drives investment return) & gross premiums per share (which drives underwriting profit)

 

Both have increased substantially over the last 5 years - given these are both profit drivers you would normally expect the share price to follow - but it hasn't!

 

 

 

 

 

[steph]

6 minutes ago, glider3834 said:

Here is another chart I have done - shows float per share (which drives investment return) & gross premiums per share (which drives underwriting profit)

 

Both have increased substantially over the last 5 years - given these are both profit drivers you would normally expect the share price to follow - but it hasn't!

 

 

 

 

 

very useful! Thank you. 

[glider3834]

3 minutes ago, steph said:

very useful! Thank you. 

Cheers!

[nwoodman]

Excellent Glider,  shows the massive loss of market faith in their capital allocation capability nicely.  The switcheroo between poor insurance underwriters/ good allocators and vice versa has been quite profound.  The bet moving forward is simply they will “do no harm” on the capital side, if they achieve this, then the returns should be good indeed.

Edited August 23, 2021 by nwoodman

[petec]

Riverstone sale has closed, so presumably the Brit/OMERS transaction will too, and the holdco will have some more cash. There was $500m on the revolver (which they have said they will pay down) at the end of June.

[Daphne]

Believe we’ve crossed the Rubicon!!  Range of coming Dutch Auction?

[Viking]

US$700 Riverstone UK + $375 Brit = $1,075 million

 

Repay revolver = $500 million

 

Balance = $575 million

Cash on hand at Fairfax at end of Q2 was close to $1.5 billion. 
We should see solid earnings in Q3.

We could also see more monetization of assets.

 

30% of Eurolife was purchased in July for $142.6 million.

 

Bottom line, Fairfax looks to be entering a phase where cash is building on the balance sheet. The question becomes what will it be used for?

 

Stock buybacks are a very easy decision. For years Prem has talked a out buying back significant stock; i don’t think this is hyperbole. The top priority for excess cash for the past 24 months has been supporting the subs to take maximum advantage of current hard market. With the hard market looking like it is in the later innings perhaps stock buybacks will move up the capital allocation ladder. However, with hurricane season just getting started perhaps Fairfax holds off for a few months (or starts modestly). 
 

Stock buybacks look to me to be the most likely near term catalyst for FFH shares. There is not a lot of volume in Fairfax shares. So any buyback will likely push the price higher and perhaps materially. 
 

Perhaps we are at the beginning of the next phase of Fairfax’s rebirth: meaningful stock buybacks. 
——————-

The sizable total return swap giving exposure to 1.95 million FFH shares also will increase Fairfax EPS should FFH shares move higher. This holding creates kind of an interesting incentive for Fairfax management i.e. stock pops $50 = $100 million increase in pre-tax earnings…
 

We also know Fairfax feels their shares are trading a crazy cheap valuation. 
 

Lots of very good reasons to start meaningful stock buybacks. And now they have the cash. And the insurance subs don’t need it (their equity holdings have all increased materially over the past 9 months).

 

Edited August 23, 2021 by Viking

[wondering]

https://www.fairfax.ca/news/press-releases/press-release-details/2021/Fairfax-Announces-Successful-Completion-of-Sale-of-RiverStone-Europe-to-CVC/default.aspx

 

Finally

[petec]

27 minutes ago, Viking said:

Cash on hand at Fairfax at end of Q2 was close to $1.5 billion. 

Actually this was cash and investments. The breakdown is complex, and I’m not entirely sure how much is highly liquid/cash equivalent. It might be significantly less. 

[Viking]

1 minute ago, petec said:

Actually this was cash and investments. The breakdown is complex, and I’m not entirely sure how much is highly liquid/cash equivalent. It might be significantly less. 

Agreed. My point is significant excess cash is building on the balance sheet that is not needed (they are already flush with cash and marketable securities at $1,480 at end of Q2). With more coming. 
 

Looking forward to what they do with the excess cash  Stock buybacks look like an easy decision. However, they could do other things.

[Viking]

Now that the Riverstone UK sale has closed it is informative to look back. In 2008 the business had shrunk to 53 employees and $100 million in assets. Instead of winding the business down (the prudent thing for an insurer to do), Fairfax decided to go the other way and aggressively grow the runoff business. 12/13 years later Fairfax is selling the business for $1.3 billion (with the opportunity to earn another +$200 million). Bizarre (only an idiot would grow their runoff business!). Audacious. Very impressive. 

 

Riverstone UK is also a great example of hidden value; who at the end of 2019 valued Riverstone UK at $1.3 billion in their build of what FFH was worth at the time? No one i am aware of. Further, having a large runoff operation is usually a big negative when valuing an insurance company (it is not normal). 

 

So Fairfax was able to find considerable value in a hidden asset on its balance sheet that was never going to be appreciated by insurance analysts and most investors. There are parallels with the First Capital sale  a couple of years ago (another under appreciated and grossly undervalued asset). Makes one wonder what other assets on Fairfax’s balance sheet are currently being undervalued by investors? 

——————————-

Here are the mentions Riverstone gets in the 2020 AR. They provide a great summary; sorry for the length. 

 

Page 6: Late in 2020 we announced the sale of RiverStone Europe (owned 60% by us and 40% by OMERS) to CVC Capital Partners. RiverStone Europe is an industry leader in run-off insurance services, and CVC’s scale and vision will give RiverStone Europe, under the continued leadership of Luke Tanzer and his management team, the opportunity to further grow the business. Nick Bentley and Luke are also very supportive of this transaction, based on their strong belief that it is the best way for RiverStone Europe to continue to grow and pursue run-off transactions. RiverStone Europe was born out of the acquisition of Sphere Drake Insurance Company. Due to performance issues, in 1999 it was put under the management of RiverStone. For the first ten years RiverStone Europe was kept busy with many of our own run-off portfolios including Sphere Drake Bermuda, Skandia UK, CTR and the Kingsmead Agency at Lloyd’s. By 2008 they drove down the reserves and were down to only 53 staff and $100 million in capital. Instead of closing the operations we pivoted from internal run-off to third party acquisitions. They did their first deal in 2010 and have never looked back. They have completed over 20 transactions bringing in over $5 billion of assets and producing a great return on capital, which allowed us to sell the company at $1.35 billion. RiverStone Europe is a great story of success, first directly under the leadership of Nick Bentley and then for the last twelve years Luke Tanzer. We wish Luke and all employees at RiverStone Europe much success in the future.

 

Page 11: We began equity accounting RiverStone Barbados in 2020, so its investment portfolio is no longer consolidated. Within its investment portfolio are positions of many of the common stocks listed in the common stock holdings table above. For example, RiverStone Barbados owns 9.7 million shares of Fairfax India that are not included in the 41.9 million shares of Fairfax India we show in the common stock holdings table (combining both would give us 51.6 million shares or 34.5% ownership). The same can be said for a number of other holdings such as Atlas, BlackBerry, Commercial International Bank and Recipe. As part of the sale of RiverStone Barbados to CVC, we have the opportunity to purchase these securities over the next two years, at December 31, 2019 prices.

 

Page 22: At our RiverStone run-off operations, led by Nick Bentley, while not recently active in U.S. run-off acquisitions (other than some small very successful captive insurance deals), the team has been very busy focusing on our U.S. legacy reserves, especially asbestos claims. Although we needed to strengthen reserves again in 2020 (about half of the previous year), the team continues to deliver significant value and savings from its dedicated focus and best in class experience – I can assure you these reserves are in good hands. As mentioned previously, late in 2020 we announced the sale of our remaining interest in RiverStone’s European business to CVC Capital Partners. Luke Tanzer and his entire team at RiverStone Europe had a very busy year, closing five run-off deals. They are excited to continue to expand in the very active UK run-off market, and again, we wish them all the best going forward.

 

Page 107: Sale of RiverStone Barbados to CVC Capital Partners

On December 2, 2020 the company entered into an agreement with CVC Capital Partners (‘‘CVC’’) whereby CVC will acquire 100% of RiverStone (Barbados) Ltd. (‘‘RiverStone Barbados’’). OMERS, the pension plan for Ontario’s municipal employees, will sell its 40.0% joint venture interest in RiverStone Barbados as part of the transaction. On closing the company expects to receive proceeds of approximately $730 for its 60.0% joint venture interest in RiverStone Barbados and a contingent value instrument for potential future proceeds of up to $235.7. Closing of the transaction is subject to various regulatory approvals and is expected to occur in the first quarter of 2021. Pursuant to the agreement with CVC, prior to closing the company entered into an arrangement with RiverStone Barbados to purchase (unless sold earlier) certain investments owned by RiverStone Barbados at a fixed price of approximately $1.2 billion prior to the end of 2022.

 

Page 108: Contribution of European Run-off to a joint venture

On March 31, 2020 the company contributed its wholly owned European run-off group (‘‘European Run-off’’) to RiverStone (Barbados) Ltd. (‘‘RiverStone Barbados’’), a newly created joint venture entity, for cash proceeds of $599.5 and a 60.0% equity interest in RiverStone Barbados with a fair value of $605.0. OMERS, the pension plan for municipal employees in the province of Ontario, contemporaneously subscribed for a 40.0% equity interest for cash consideration of $599.5, based on the fair value of European Run-off at December 31, 2019 pursuant to a subscription agreement on December 20, 2019, and entered into a shareholders’ agreement with the company to jointly direct the relevant activities of RiverStone Barbados. At closing on March 31, 2020, the company deconsolidated the assets and liabilities of European Run-off from assets held for sale and liabilities associated with assets held for sale on the consolidated balance sheet respectively, which included European Run-off’s unrestricted cash and cash equivalents of $377.8, and commenced applying the equity method of accounting to its joint venture interest in RiverStone Barbados. The company recorded a pre-tax gain on deconsolidation of insurance subsidiary of $117.1 in the consolidated statement of earnings, comprised of a gain of $243.4 on the disposal of 40.0% of European Run-off and a gain of $35.6 on remeasurement to fair value at the closing date of the 60.0% of European Run-off retained, partially offset by foreign currency translation losses of $161.9 that were reclassified from accumulated other comprehensive income (loss) to the consolidated statement of earnings. The deconsolidation of European Run-off increased the company’s non-controlling interests by $340.4 at March 31, 2020 as RiverStone Barbados holds investments in certain of the company’s subsidiaries as described in note 16.

[wondering]

Thanks for highlighting these finer aspects of the insurance operations, that isn't always appreciated by the investment community at large (and by me too a lot of times).

 

[Viking]

1 hour ago, wondering said:

Thanks for highlighting these finer aspects of the insurance operations, that isn't always appreciated by the investment community at large (and by me too a lot of times).

 

The other aspect of the sale of Riverstone UK that deserves mention is fit. Riverstone UK is looking to grow dramatically and this would have been difficult for Fairfax one two fronts:

1.) funding the growth

2.) optics

 

imagine the outcry from investors (and downgrades from analysts) if Fairfax put hundreds of millions in new money and brought significant new runoff liabilities onto its balance sheet? Clearly a bridge too far.

 

So instead Fairfax found its runoff operation a home where it can realize its potential. This is no different than what Fairfax has been doing with its vast number of equity holdings (re-positioning them or finding them a new home where they can be more successful). Probably provides a little insight into why lots of people who know and work for Prem like him so much.

Edited August 23, 2021 by Viking

[glider3834]

9 hours ago, Viking said:

US$700 Riverstone UK + $375 Brit = $1,075 million

 

Repay revolver = $500 million

 

Balance = $575 million

Cash on hand at Fairfax at end of Q2 was close to $1.5 billion. 
We should see solid earnings in Q3.

We could also see more monetization of assets.

 

30% of Eurolife was purchased in July for $142.6 million.

 

Bottom line, Fairfax looks to be entering a phase where cash is building on the balance sheet. The question becomes what will it be used for?

 

Stock buybacks are a very easy decision. For years Prem has talked a out buying back significant stock; i don’t think this is hyperbole. The top priority for excess cash for the past 24 months has been supporting the subs to take maximum advantage of current hard market. With the hard market looking like it is in the later innings perhaps stock buybacks will move up the capital allocation ladder. However, with hurricane season just getting started perhaps Fairfax holds off for a few months (or starts modestly). 
 

Stock buybacks look to me to be the most likely near term catalyst for FFH shares. There is not a lot of volume in Fairfax shares. So any buyback will likely push the price higher and perhaps materially. 
 

Perhaps we are at the beginning of the next phase of Fairfax’s rebirth: meaningful stock buybacks. 
——————-

The sizable total return swap giving exposure to 1.95 million FFH shares also will increase Fairfax EPS should FFH shares move higher. This holding creates kind of an interesting incentive for Fairfax management i.e. stock pops $50 = $100 million increase in pre-tax earnings…
 

We also know Fairfax feels their shares are trading a crazy cheap valuation. 
 

Lots of very good reasons to start meaningful stock buybacks. And now they have the cash. And the insurance subs don’t need it (their equity holdings have all increased materially over the past 9 months).

 

Agree Viking - this does give Fairfax flexibility to step up the pace of share repurchases & I would be expecting this. They will  balance with continuing to build cash/capital position. These sales (Riverstone & Brit stake scheduled for Q3'21) plus Digit revaluation (closing scheduled Q3'21)should meaningfully reduce Fairfax's leverage ratios - which is a big positive.

 

I need to look into the AVLNs & how they work with Riverstone Europe sale & any financial commitment here.

 

Would agree the insurance subs appear not to need any cash - over first 6 mths of 2021 - they sent net divs to hold co. of $122 mil ($212 from insurance and reinsurance companies less $90 mil to US Run-off)

 

With the TRS I do have a question for the board,  is it correct to say the payer of this equity swap to perfectly hedge their exposure to Fairfax, would be siting on 1.964 million Fairfax shares or 7.5% of the outstanding float in Fairfax? Given the low liquidity in Fairfax's shares I am guessing it would be difficult to purchase this size stake on open market without significantly moving the share price - so if they haven't done this, would they have purchased these shares off market? Alternatively, could they bought call options to buy equivalent amount of shares in Fairfax for the same spot price as the TRS - but then I don't believe you can actually buy call options on Fairfax shares? Curious if anyone has insights in this  

 

 

[glider3834]

Just having a look at Eurolife transaction - it looks like it will be a net positive for shareholder equity & earnings.

 

Fairfax will increase its ownership from 50% to 80% & will consolidate Eurolife.

 

So instead of carrying as 50% equity investee at cost plus net earnings (CV 303 (at 31 Dec-20) plus 143 for additional 30%) = US$446mil

 

They now consolidate 80% interest x Eurolife shareholder equity US$863 mil approx (at 31 Dec'20 was €738 mil) = US$690 mil

 

https://www.eurolife.gr/gnoriste-mas/eurolife-group/Financial-Data/

 

Then possibly a fair value adjustment (?) (Fairfax looks like it showing FV for Eurolife at approx 90% of Eurolife's shareholder equity) 

 

I get 621 mil for Fairfax 80% interest - so would mean potentially 175 mil increase in shareholder equity (621 -446) in Q3 for Fairfax.

 

Any thoughts/comments :)?

 

some details on Eurolife transaction Q2 2021 interim - see below

 

Acquisition of Eurolife FFH Insurance Group Holdings S.A. On July 14, 2021 the company increased its interest in Eurolife FFH Insurance Group Holdings S.A. ("Eurolife") to 80.0% from 50.0% by acquiring the joint venture interest of OMERS, the pension plan for Ontario’s municipal employees, for cash consideration of $142.6 (€120.7). The remaining 20.0% equity interest in Eurolife continues to be owned by the company's associate Eurobank. The company will commence consolidating the assets, liabilities and results of operations of Eurolife in its consolidated financial reporting in the third quarter of 2021. Eurolife is a Greek insurer which distributes its life and non-life insurance products and services through Eurobank’s network.

 

 

Edited August 24, 2021 by glider3834

[petec]

15 hours ago, Viking said:

Agreed. My point is significant excess cash is building on the balance sheet that is not needed (they are already flush with cash and marketable securities at $1,480 at end of Q2). With more coming. 

 

Well this is what I am wondering. In round numbers cash + marketables + Riverstone + Brit - Eurolife comes to $2.4bn. We know they plan to repay $500m on the revolver and Prem has historically talked of the need to have $2bn in cash + marketables at the holdco. So yes cash is building, but by their own benchmark they are not flush. 

 

Personally I think they should be buying stock, not repaying a revolver that runs to 2026, but I appreciate their conservatism.

[StubbleJumper]

2 hours ago, petec said:

 

Well this is what I am wondering. In round numbers cash + marketables + Riverstone + Brit - Eurolife comes to $2.4bn. We know they plan to repay $500m on the revolver and Prem has historically talked of the need to have $2bn in cash + marketables at the holdco. So yes cash is building, but by their own benchmark they are not flush. 

 

Personally I think they should be buying stock, not repaying a revolver that runs to 2026, but I appreciate their conservatism.

 

 

Yes, it's worth thinking about the holdco cash balances for the next 12 months on a sources and uses basis:

 

Sources of Holdco cash June 30, 2021 to June 30, 2022:

 

Holdco cash as at June 30, 2021:  $1,480m

Proceeds from Riverstone and Brit: $1,075m

Subsidiary dividends: ~$200m (this might be a shade high, but presumably the subs will send up some divvies)

Management fees: ~$100m  (this is whatever FFH gets from Fairfax Africa, India, and Hamblin Watsa's investment fee)

Interest and divvies on holdco cash: ~$50m

Total return swaps on FFH shares:  ???  (where are the swaps held, at holdco or in the subs?  will the TRS be a source or use of cash over the next 12 months?)

 

Uses of Holdco cash June 30, 2021 to June 30, 2022:

 

Revolver repayment: $500m

Eurolife buy-in: $143m

Holdco interest expense: ~$350m (based on $6.2B of holdco debt)

Holdco operating and admin: ~$100m (need to pay for Prem's corporate jet!)

Preferred and common divvy payment: ~$300m

 

 

Netting out the known sources and uses of cash, the estimated Holdco cash as at June 30, 2022 would be about ~$1,500m.  Unless FFH intends to float more debt over the next 12 months, it doesn't really provide much capacity for share buybacks if Prem is sincere about his desire of maintaining a cash balance of $1-2B...

 

 

SJ

 

[FairFacts]

Atlas announced that it is repaying $300mil to Fairfax on 8/23 (yesterday). I wonder where on the balance sheet this was and if it will filter through to holding co. cash.