ELF Annual Report

[returnonmycapital]

ELF has come out with their annual report, available at http://www.sedar.com/search/search_form_pc_en.htm

 

I found it interesting that they have started reporting the "Net equity value" of the company. In previous discussions, we have debated what the real book value is. ELF states it is $681.51 per share, as at December 31, having risen 25% during 2009. At a present price of $440, it looks a steal.

[scorpioncapital]

I hate to break the news to you but ELF has been at discount to book value for maybe 20+ years now. Do you really think the gap is going to close now??

[beerbaron]

I agree with you Scorpion, ELF has been trading between around 0.55 BV to 1.3 BV over the last 10 year. You still benefit from the leverage you get from buying 75 cents on the dollar, not a bad deal... I would be a buyer at 65 cents on the dollar.

 

BeerBaron

[Myth465]

My biggest problem is management likes the discount. They could liquidate the closed end funds, cancel excess shares, and by and large make the company much easier to understand but they choose not to.

 

Fairfax has done an amazing job of simplifying the company and eliminate the cross holdings. ELF should follow suit.

[returnonmycapital]

The discount & management reporting are issues of note, but they have little to do with the actual business and its returns to shareholders. I am looking for a return on my capital, which means I am looking for a business like ELF to generate comprehensive earnings that I can acquire at an attractive yield to me.

 

ELF has grown its "Retained earnings" and "Accumulated other comprehensive income" per share at about 11% per annum since 1998. I argue that this is the most important figure to focus on as it eliminates share issuance at premiums to book, etc. which do not really show how management runs the underlying business. I add back dividends paid to this figure when calculating total Retained earnings and Accumulated other comprehensive income per share (but I do not compound the dividends). I arrive at a ballpark figure of $$688/sh as at Dec. 31. At a price of $440, or 0.64X, and if the future is somewhat like the past, I may earn 17% return on my capital per annum over time.  That's better than a kick in the teeth.

 

I don't speculate as to whether the discount will widen or narrow, I just know that with present management and with such a market price, I should do pretty well.

 

I would also argue that management's recent and expected continuing disclosure of its Net equity value goes quite a ways in improving its reporting and simplifying of its business to shareholders. It doesn't even incorporate the discounts of price/book value of its equity method investments - which I last suggested were worth about $35/share extra.

 

And just as an aside, they had a combined ratio of 114.5% in their P&C division last year. That equates to a 3% cost of total float. Their Net equity value per share increased 25% despite this 'calamity'. They are calling for a hardening market in Canada in 2010. They are not Kingsway, I think they prefer to tell shareholders negative news.

 

All in, I think I'll do ok.

[ubuy2wron]

Return I am with you on this one. My position in ELF is larger than FFH I believe the margin of saftey is as large as any inurance company I can invest in today. Management/owners ARE comfortable with the disconnect with valuation as they have been acquiring shares consistently. It is entirely reasonable to expect that at some point in the next 5 years this will trade @ BV and that BV will continue to grow at a number that is around its long term growth rate. It is also entirely reasonable to expect that  the controlling family may decide to sell their interest in the insurance subs at some point in the future at a premium to BV which I also think is a possibility that is greater than zero. Any of the above scenarios will generate a return which will be more than satisfactory and takes very little brilliance just a lot of patience. The price you pay is this is not a very liquid name and about as exciting as watching paint dry, but then I have had about enough excitement to last me a while in the last 2 years.

[glider3834]

hi all,

 

Thanks for all the great posts on ELF . I think its a good value at current prices.

 

Here is my take on the earnings power of ELF . They have $1 bil in equities at the corporate level and 1 billion thru their insurance subs - making around $2 bil

 

Assuming they can average over time 7% capital appreciation annually that would equal around $140 mil

 

If you change that 10%, 20% etc you can get all kinds of great potential scenarios but I'm being conservative.

 

Empire Life has earnings power of around 63 mil . Lets assume Dominion can break even & Corporate does 32 mil net (including equity investees). I've worked these figures from the last few years of financials.

 

So that would put the net operating income at around 90-100 mil

 

If we see a genuine hard market as ELF are predicting then the results for Dominion could improve substantially back to where they were some years back (ie from break even to 50 to 100 mil plus). Alternatively substantial apopreciation in their equity investments OR the consolidation of their "United" investment(which trades at a big discount to book value) could also provide a big potential boost.

 

Going back to comprehensive earnings power - assuming 7% capital appreciation on equity investments - I would guess around $200-$250mil . At current market cap of 1.7 bil (using their diluited shares of 3.8 mil factoring in preference shares) thats a good price- now if Dominions results substantially imrpove or we get a 30% appreciation in their equity investments then book value and comprehensive income could be substantially higher. So there is a good downside with a potentially a realkicker on the upside.

 

The shares are trading at around 2/3 of book value so they are definitely being priced with downside protection

 

I am flying from Sydney to Toronto for the Fairfax dinner & meet up - really looking forward too - so if anyone else is going & wants to have a coffee & talk about ELF & other ideas let me know my email is tarn.crowe@cci-recruit.com

 

cheers

 

 

 

 

[returnonmycapital]

glider,

 

Your estimates and mine are the same (and I think they are conservative too). With those estimates, we are suggesting a 12-13% economic return on today's market price. Their historical average experience is 3%+ better than our estimates which translates to 17% return on today's market price.

 

Positives (IMO):

Common equity investments account for almost 90% of book value.

Float has increased about 9%/yr over the last 5 years (FFH = 7%/yr and BRK = 6%/yr).

Cost of float at ELF has averaged less than 1%/yr over the last 5 years (FFH = approx 5%yr [sorry] and BRK = -1%/yr)

As a result, operating margins have averaged 11%/yr over the last 5 years, despite a rubbish -1% in 2009 (FFH = 2.5% and BRK = 12.6%) 

Management/majority shareholder keeps buying shares, albeit through indirect means (because it's much cheaper to do so - I mean, wouldn't you? And these indirect vehicles are available to us as well Tickers: UNC/EVT).

P/BV is .6X my 2010 estimate (FFH = .9X and BRK = 1.4X)

 

Negatives (IMO):

Their annual report is unapproachable for all but the most insomniac.

They aren't up to the same quality as FFH/BRK in investment management and will probably do only a little better than the market given their stable of fund managers.

 

Steps they are taking to improve:

They have started reporting book value more the way we would like to see it. They acknowledge that the lawyers/accountants write the annual letter and have taken it under advisement that it would help to 'humanize' it. They read BRK/FFH annual letters and do understand there is a difference.

They have moved almost all of their investment management to value-based rather than growth.

[Myth465]

On that basis an investment in ELF makes sense. My problem is today you could close your eyes and hit a cheap insurer. I own 3 and am watching 2 - 3 others.

 

CNA - Nice discount to hard book and is turning around  by a Chubb CEO. Not to good on the investing side but with a $40 billion portfolio you dont have to be.

 

FFH - Excellent investor, buying cheap insurers now. Should grow BV at 15%.

 

LRE - Best underwriter I have seen. Can buy below book. Combined ratio below 60%. Hit a bit by Chile though.

 

HALL - Similar to FFH but at 70% BV. A bit higher if you net out the goodwill.

 

ELF seems interesting but unnecessarily complex. Its nice to see 100% BV in equities though.

[omagh]

Buffett agrees and buys more Munich Re, now 8%

http://www.reuters.com/article/idCNLDE62O1JY20100325?rpc=44

 

Allianz believe catastrophe reinsurance rates will rise

http://www.bloomberg.com/apps/news?pid=newsarchive&sid=aSvL5JjBaYgc

2]

My problem is today you could close your eyes and hit a cheap insurer.

[returnonmycapital]

My problem is today you could close your eyes and hit a cheap insurer.

 

Not in CAD you can't. And for anyone like me, whose base currency is CAD and has watched as their defensible US holdings' returns have been severely hampered by an 8yr crumbling of the USD/CAD exchange rate, decent CAD investments are few and welcome.

[Myth465]

Thats a good point. Luckily or unluckily im in the US. I would hate though to have my gains eaten by currency changes if I was else where.

[drog]

The underlying portfolios (in UNC & EVT) are very international so there is actually considerable foriegn currency exposure.

[omagh]

ABC Funds sold out their ELF position and posted a writeup on their reasons for selling:

http://valueinvestigator.com/en/valuefavourites/elf.php#update

 

-O

ELF has come out with their annual report, available at http://www.sedar.com/search/search_form_pc_en.htm

 

I found it interesting that they have started reporting the "Net equity value" of the company. In previous discussions, we have debated what the real book value is. ELF states it is $681.51 per share, as at December 31, having risen 25% during 2009. At a present price of $440, it looks a steal.

[glider3834]

ABC funds wrote - "In today’s market, we are looking for greater liquidity, something E-L Financial lacks.  Because we are seeing more attractively valued opportunities with greater liquidity elsewhere, we divested our position."

 

for smaller private investors rather than funds , liquidity- while a factor- is less of an issue - ultimately if a company is undervalued as ELF - the shares will eventually tend towards its fair value

 

 

[returnonmycapital]

Out with ABC Funds and in with Chou Funds.

 

Chou RRSP Fund has established a position in E-L Financial with an approx. cost of $470/sh.