Fairfax 2021

[petec]

Does anyone know if they wrote down the carrying value of Toys R Us Canada at any point since they bought it? 

 

If not then hats off to them - great investment given they still own the RE.

[Spekulatius]

Good quarter, but Brit insurance remains a dog it has been since 2015. In Europe, the continent of negative interest rates, the float will not bail you out either, if the CR is about 100%.

 

Other than that, the results look pretty good to me, but I am not sure they are good enough to get the stock moving. At least hurricane season is over, so there is that.

[Daphne]

Turns out BRIT lost some points due to KI startup costs.

[StubbleJumper]

4 hours ago, petec said:

Does anyone know if they wrote down the carrying value of Toys R Us Canada at any point since they bought it? 

 

If not then hats off to them - great investment given they still own the RE.

 

 

I would say that the evaluation of the Toys purchase remains ambiguous.  They sold the operations and retained the real estate, which IMO was an excellent move.  But, just to be clear, they did not get any cash from selling the operations.  They instead created an intangible asset to plunk onto the balance sheet and booked a healthy paper gain on the sale! 

 

If you are a believer in Toys' future success in the Canadian market place, you will hold the view that the intangible asset will yield annual sales royalties (cash) for a great many years and all is well.  On the other hand, if you are like me and suspect that Toys' days are numbered and that the competition will eat its lunch in short order, then you fully expect that Putnam will close shop in a couple of years and FFH will end up writing off that intangible asset.

 

That is neither here nor there when it comes to evaluating the success or failure of the Toys purchase.  If Putnam closes up shop it is quite likely that FFH will sell the real estate, and that will be the time when we can assess whether it was a good cigar butt or just a soggy mess.  But, my guess is that the booking of a gain in 2021 will end up being just smoke and mirrors because I don't expect a couple of decades of cash royalties to follow.

 

Setting aside my cynicism, dumping the Toys operation on Putnam was masterful.  If I am correct and Toys gets squeezed out of the market in a few years, at least it will be Putnam making the decision about whether to pull the plug and fire thousands of people rather than FFH.  All FFH need to do is sit back and collect a rent cheque for the buildings, and any royalty cheque that comes in will be just gravy.  After the business folds, we'll see whether the real estate has risen in value sufficiently to declare the original purchase to be a success.  

 

 

SJ

 

 

[petec]

1 hour ago, StubbleJumper said:

 

 

I would say that the evaluation of the Toys purchase remains ambiguous.  They sold the operations and retained the real estate, which IMO was an excellent move.  But, just to be clear, they did not get any cash from selling the operations.  They instead created an intangible asset to plunk onto the balance sheet and booked a healthy paper gain on the sale! 

 

If you are a believer in Toys' future success in the Canadian market place, you will hold the view that the intangible asset will yield annual sales royalties (cash) for a great many years and all is well.  On the other hand, if you are like me and suspect that Toys' days are numbered and that the competition will eat its lunch in short order, then you fully expect that Putnam will close shop in a couple of years and FFH will end up writing off that intangible asset.

 

That is neither here nor there when it comes to evaluating the success or failure of the Toys purchase.  If Putnam closes up shop it is quite likely that FFH will sell the real estate, and that will be the time when we can assess whether it was a good cigar butt or just a soggy mess.  But, my guess is that the booking of a gain in 2021 will end up being just smoke and mirrors because I don't expect a couple of decades of cash royalties to follow.

 

Setting aside my cynicism, dumping the Toys operation on Putnam was masterful.  If I am correct and Toys gets squeezed out of the market in a few years, at least it will be Putnam making the decision about whether to pull the plug and fire thousands of people rather than FFH.  All FFH need to do is sit back and collect a rent cheque for the buildings, and any royalty cheque that comes in will be just gravy.  After the business folds, we'll see whether the real estate has risen in value sufficiently to declare the original purchase to be a success.  

 

 

SJ

 

 

 

Thanks. I didn't follow the Putnam deal that closely but this makes sense.

[modiva]

I would be thankful if someone can help me understand how the "Non-controlling interests" benefit the equity holders if they are not included in the shareholder equity.  Below is the table from the Q3 results in question.  

 

 

Edited November 5, 2021 by modiva

[modiva]

Good news: the debt levels are now reasonable and continue to get better.  The debt/equity ratio is ~34% (compared to Berkshire's debt/equity ratio at 25% -- historical high of ~40%).  Note that the results mention debt to capital ratio but I used debt/equity ratio for comparison purposes. 

 

"The company's total debt to total capital ratio, excluding non-insurance companies, decreased to 25.7% at September 30, 2021 from 29.7% at December 31, 2020, primarily reflecting lower total debt, due principally to lower borrowings at the insurance and reinsurance companies and the company having paid off its credit facility completely upon closing of the RiverStone Barbados transaction, and increased total capital, due principally to net earnings generated year to date. Subsequent to September 30, 2021, on October 29, 2021 the company redeemed its $85.0 million principal amount of 4.142% unsecured senior notes due February 7, 2024 at par."

Edited November 5, 2021 by modiva

[petec]

44 minutes ago, modiva said:

I would be thankful if someone can help me understand how the "Non-controlling interests" benefit the equity holders if they are not included in the shareholder equity.  Below is the table from the Q3 results in question.  

 

 

 

Imagine Fairfax owns 51% of a company.

 

They will consolidate this company, since they control it. 100% of its assets and liabilities therefore go on the FFH balance sheet.

 

However, they only own 51% of the equity. 49% is owned by other investors who do not have control.

 

These noncontrolling interests need to be subtracted from FFH's equity, or FFH's equity would be overstated.

[Santayana]

Shares responding nicely, without the the usual 2 day delay.  I think the market had fears of bigger cat losses, really the only explanation of the big price drop in September.

[Viking]

Here are my notes from the Q3 conference call. It was short; not many analysts following the company? 

- expect gross premiums to be up 23% for the year, with strong growth expected to continuing into 2022.
- 9 month investment returns $3.3 billion or 7% on total portfolio

- 9 month BV is up about 20%; does not include $19/share of

consolidated equity gains or $37 gain coming from Digit

- adding it all together BV is over $600.

- Ki: they only have a 20% economic interest but consolidate 100%

- actuarial review at insurance subs will be completed in Q4: not concerned (expect releases?)

- purchased $1.1 billion in Indian Gov bonds (4 year duration?) Not sure when.

- when asked about buybacks gave plain vanilla answer: focussed on LT performance; wants to be financially sound first; support growth in subs in hard market; then buy back shares

- cat exposure at Fairfax has been flat. So as premiums increase the cat business is becoming a smaller part of the total company.

- 50% of Odyssey is reinsurance; mega cats hit them harder

- 20% of Brit is reinsurance. They received no benefit from the recently purchased cover in Q3; however, it kicks in Q4 so they do not anticipate Brit needing to add to reserves for cat hit.

- the Digit revaluation may get pushed to Q4; sounded likely. But it will happen. Only issue is timing.

- will the dividend be increased to $20? Not likely (i think stock buybacks were mentioned)

[StubbleJumper]

Q3 conference call transcript can be found here: https://seekingalpha.com/article/4466036-fairfax-financial-holdings-limited-frfhf-ceo-prem-watsa-on-q3-2021-results-earnings-call

[lessthaniv]

1 hour ago, Santayana said:

Shares responding nicely, without the the usual 2 day delay.  I think the market had fears of bigger cat losses, really the only explanation of the big price drop in September.

I suspect a bit of fear around inflation and rising interest rates too. FFH looks like they are positioned well in this regard but I think they've been wrapped up in the broader markets worry. I can't wait until the earnings power of those dollar bills become evident at some point in the future when they are able to reinvest at better rates. 

Edited November 5, 2021 by lessthaniv

[Mick92]

1 hour ago, Viking said:

Here are my notes from the Q3 conference call. It was short; not many analysts following the company? 

- expect gross premiums to be up 23% for the year, with strong growth expected to continuing into 2022.
- 9 month investment returns $3.3 billion or 7% on total portfolio

- 9 month BV is up about 20%; does not include $19/share of

consolidated equity gains or $37 gain coming from Digit

- adding it all together BV is over $600.

- Ki: they only have a 20% economic interest but consolidate 100%

- actuarial review at insurance subs will be completed in Q4: not concerned (expect releases?)

- purchased $1.1 billion in Indian Gov bonds (4 year duration?) Not sure when.

- when asked about buybacks gave plain vanilla answer: focussed on LT performance; wants to be financially sound first; support growth in subs in hard market; then buy back shares

- cat exposure at Fairfax has been flat. So as premiums increase the cat business is becoming a smaller part of the total company.

- 50% of Odyssey is reinsurance; mega cats hit them harder

- 20% of Brit is reinsurance. They received no benefit from the recently purchased cover in Q3; however, it kicks in Q4 so they do not anticipate Brit needing to add to reserves for cat hit.

- the Digit revaluation may get pushed to Q4; sounded likely. But it will happen. Only issue is timing.

- will the dividend be increased to $20? Not likely (i think stock buybacks were mentioned)

 

Great summary as always Viking.

 

I think on Brit, he meant that their CAT reinsurance is just about hitting the retention for the year, so any further significant CAT events in Q4 will likely be covered by it.

 

On the capital allocation questions, I really wish Prem would be a bit more clear about what the absolute plan is. His answers are often rambling, including talking about Peleton and Bitcoin lol. I don't think he even answered the guy about increasing the dividend but I guess we have to assume the answer to that is no. It would have been nice for him to come out and state clearly that they intend to aggressively retire shares now that the debt is down, or at least give some kind of roadmap. I'm thinking maybe the continued increase in premiums has surprised them and is going to soak up more capital than previously thought, so maybe not so much available for share reduction. But clarity would be nice!

[StubbleJumper]

44 minutes ago, Mick92 said:

 

Great summary as always Viking.

 

I think on Brit, he meant that their CAT reinsurance is just about hitting the retention for the year, so any further significant CAT events in Q4 will likely be covered by it.

 

On the capital allocation questions, I really wish Prem would be a bit more clear about what the absolute plan is. His answers are often rambling, including talking about Peleton and Bitcoin lol. I don't think he even answered the guy about increasing the dividend but I guess we have to assume the answer to that is no. It would have been nice for him to come out and state clearly that they intend to aggressively retire shares now that the debt is down, or at least give some kind of roadmap. I'm thinking maybe the continued increase in premiums has surprised them and is going to soak up more capital than previously thought, so maybe not so much available for share reduction. But clarity would be nice!

 

 

Yes, Prem could have passed that dividend question to Jen Allen instead.  Capital allocation and distribution is right in the CFO's wheelhouse, and she seems to be a solid communicator.  He should have let her explain the capital allocation strategy and the resulting dividend policy, then Prem could have added his two-bits at the end.

 

 

SJ

[Spekulatius]

26 minutes ago, StubbleJumper said:

 

 

Yes, Prem could have passed that dividend question to Jen Allen instead.  Capital allocation and distribution is right in the CFO's wheelhouse, and she seems to be a solid communicator.  He should have let her explain the capital allocation strategy and the resulting dividend policy, then Prem could have added his two-bits at the end.

 

 

SJ

I agree that passing a question to his CFO would have been a good idea. His rambling doesn't really do much good and he does keep pretty coy about further buybacks.

 

Good quarter guys!.

[Parsad]

I don't see the dividend going up...not until the stock is at full value and they have excess cash flow still coming. 

 

The whole point behind it was simply because Fairfax didn't want managers, including Prem, to have to sell shares to top off their income or do things outside of what their normal salary could afford them...long-term partners, long-term gain, long-term control, long-term focus.  So they instituted the dividend.

 

But with the stock so low, they will run things normal, be financially secure, buyback stock...and then when the stock is fully valued, possibly increase the dividend then, as buybacks wouldn't make as much sense.  Cheers!

[drzola]

39 minutes ago, Parsad said:

I don't see the dividend going up...not until the stock is at full value and they have excess cash flow still coming. 

 

The whole point behind it was simply because Fairfax didn't want managers, including Prem, to have to sell shares to top off their income or do things outside of what their normal salary could afford them...long-term partners, long-term gain, long-term control, long-term focus.  So they instituted the dividend.

 

But with the stock so low, they will run things normal, be financially secure, buyback stock...and then when the stock is fully valued, possibly increase the dividend then, as buybacks wouldn't make as much sense.  Cheers!

 

[drzola]

+1

[maxthetrade]

Increasing the dividend at this point would be crazy. While I understand the reason for the dividend I wish they would at least suspend it for a year considering how cheap the stock is. They could even pay a special dividend later when the stock price isn't that attractive.

[Spekulatius]

2 hours ago, Parsad said:

I don't see the dividend going up...not until the stock is at full value and they have excess cash flow still coming. 

 

The whole point behind it was simply because Fairfax didn't want managers, including Prem, to have to sell shares to top off their income or do things outside of what their normal salary could afford them...long-term partners, long-term gain, long-term control, long-term focus.  So they instituted the dividend.

 

But with the stock so low, they will run things normal, be financially secure, buyback stock...and then when the stock is fully valued, possibly increase the dividend then, as buybacks wouldn't make as much sense.  Cheers!

The dividend is just supplemental income for Prem and Management. It won’t be cut unless they are really in dire straights and it they cut, one should probably sell the stock.

I don’t get how people get so hung up on a ~2% dividend. If you want to you can use it to buy more shares yourself and in any case would a 2% buyback instead of a dividend really move the needle so much?

The same people would complain if management would sell shares at random times and probably causes the stock to drop.

[petec]

6 hours ago, Spekulatius said:

The dividend is just supplemental income for Prem and Management. It won’t be cut unless they are really in dire straights and it they cut, one should probably sell the stock.

I don’t get how people get so hung up on a ~2% dividend. If you want to you can use it to buy more shares yourself and in any case would a 2% buyback instead of a dividend really move the needle so much?

The same people would complain if management would sell shares at random times and probably causes the stock to drop.

Exactly. And for the reasons Sanjeev gave, I think the dividend speaks powerfully to the culture they’ve built and to how they look after their people. I know the culture isn’t perfect but I think their thinking around the dividend is logical, rational, clear, and I think the long term impact on the culture and people is more important than the long term impact of the tax lost compared to a buyback (which is really the only reason a rational outside shareholder would rather a buyback than a dividend).

[maxthetrade]

3 hours ago, petec said:

(which is really the only reason a rational outside shareholder would rather a buyback than a dividend).

 

Yep I pay 28% tax on dividends and would prefer not to. I like Berkley's approach with special dividends better. But you're right it's a minor thing.

[modiva]

 

On 11/5/2021 at 8:03 AM, modiva said:

Good news: the debt levels are now reasonable and continue to get better.  The debt/equity ratio is ~34% (compared to Berkshire's debt/equity ratio at 25% -- historical high of ~40%).  Note that the results mention debt to capital ratio but I used debt/equity ratio for comparison purposes. 

 

"The company's total debt to total capital ratio, excluding non-insurance companies, decreased to 25.7% at September 30, 2021 from 29.7% at December 31, 2020, primarily reflecting lower total debt, due principally to lower borrowings at the insurance and reinsurance companies and the company having paid off its credit facility completely upon closing of the RiverStone Barbados transaction, and increased total capital, due principally to net earnings generated year to date. Subsequent to September 30, 2021, on October 29, 2021 the company redeemed its $85.0 million principal amount of 4.142% unsecured senior notes due February 7, 2024 at par."

 

I realized that the above debt/equity comparisons with Berkshire aren't right.  

 

Berkshire breaks out results in 2 buckets:  Insurance and other; Railroad, Utilities and Energy.  

 

If we look at the debt/equity of Insurance and other only, the debt/equity ratio is more like 8%.   It also means it's almost nothing that can be paid back anytime if needed.  For context, they retired about 10% equity in the last 2 years.  Fairfax's debt/equity ratio is ~34%.  While it has come down and it seems at reasonable levels, it is 4x higher compared to Berkshire's insurance operations. 

 

However, debt/cash ratio of Berkshire is around 27%.   The debt/cash ratio of Fairfax is 22%.   These ratios are comparable.  I wonder why Fairfax needs to keep such high levels of cash relative to Berkshire's insurance operations.  Why can't they use some of the cash to retire debt even more?  

Edited November 6, 2021 by modiva

[modiva]

Operating Income comparisons between Berkshire and Fairfax in the first 9 months of 2021:

 

This comparison is between Berkshire Insurance and other, and all Fairfax operations.  In other words, Railroad, Utilities and Energy operations are excluded from Berkshire. 

 

This is just an approximate view before accounting for income taxes and non-controlling interests.  

 

Berkshire: ~$14B 

Fairfax: ~$0.95B

 

Normalizing the numbers, I would argue that Fairfax's operating income performance is much better than Berkshire's.  In other words, the market is significantly undervaluing Fairfax's performance, and the share price is significantly cheaper based on the operating performance. 

[Spekulatius]

42 minutes ago, kab60 said:

Buybacks below intrinsic value can increase value per share. With dividends you can buy more of the business, but the business' per share value doesn't change.

 

It's very simple yet I missed that point for a long time, and alot of others seem to do so too. 

I don’t  get it. If taxes are not an issue (which is the case for me, if I hold shares in an IRA) I can use the dividend to buy more shares when I think it makes sense. If the company buys back shares, I have no control over when the shares are bought back.
 

When the company buy back shares, there are less shares outstanding and each share should be worth more. If this is done via dividends, the number of outstanding shares does not change, but I will own more shares (those bought from dividends) and it ends up having the same result for me.

Edited November 6, 2021 by Spekulatius