Biglari Holdings 2010 Letter

[Matson125]

http://www.biglariholdings.com/letters/2010.pdf

 

Cheers

 

Michael

[shalab]

Funny, the management philosophy changed after the fact, he got he was going to get with the current capital base, I bet he is going to amend the upper limit if/when the capital under management increases.

 

Moreover, because I have full capital allocation

responsibility with maximum latitude, we resemble a capital allocating vehicle (akin to a hedge

fund with a similar incentive system) except that most of our assets will continue to amalgamate

in companies we control.

[shalab]

Good performance at SNS and the plans look good. I think his plans at SNS are sound if they can be executed.

 

However, it is not clear this will scale. The whole thing - BH, BCC and operating subs look convoluted even with Biglari stating otherwise.

[Ballinvarosig Investors]

Incredible results, look at the free cash flow, astounding. Company still looks undervalued even at these prices because there's nothing to suggest that Biglari is slowing down.

[shalab]

Bailling - what is your IV estimate for BH?

 

[Ballinvarosig Investors]

Shalab: BH is trading at about 10x FCF. That to me says that the market attaches no premium to the abilities of Biglari, his capital allocation skills, or his ability to grow the Steak n' Shake business.

[bargainman]

This was interesting nugget..

 

"In addition to realizing gains in equities, I also transacted a number of exchange-traded derivative contracts that paid off consistently throughout the year. The higher the volatility of the market, the more attractive we deem this category. We find that these opportunities, inter alia, surface in times of adversity."

 

Perhaps Big is selling options premium on volatile value stocks?  I remember Mohnish recently talked about doing this, saying he attained 50% returns in his personal account...

[Parsad]

The whole thing - BH, BCC and operating subs look convoluted even with Biglari stating otherwise.

 

I agree.  I also think that there is an inherent conflict of interest in the Lion Fund holding BH, while the parent is a limited partner.  Combine that with the distorted view it gives under US GAAP.  Also, is the investment as a limited partnership an ACTUAL investment, or is it simply to retain control of a large amount of shares?  Will more cash be funnelled into the Lion Fund by BH over time as a limited partner?  Will the Lion Fund continue to buy more shares of BH in the open market as an "investment"?   

 

Incredible results, look at the free cash flow, astounding. Company still looks undervalued even at these prices because there's nothing to suggest that Biglari is slowing down.

 

Not cheap by any means.  It's fairly valued, even with Sardar at the helm.  You are paying over 20 times earnings, 10 times free cash and nearly two times book.  Add in the fact that intrinsic value per share has now decreased going forward, based on the new compensation package that will kick in.  With that package, fair value drops significantly...especially the longer you hold the stock and the better he does!  

 

He continues to write very well, and the continued ideas at SNS will help, especially the lower build out costs for franchisees and operating cost containment.  No comments on Fremont tender.  

 

The compensation discussion was a real cop-out! 

 

- He comments that there is no need to change your attitude on compensation simply because you've changed the structure of the entity...but unfortunately there is a real difference...the capital is permanently locked in. 

- On top of that, you can issue as many shares as the market will bear, so that you have access to more capital. 

- Fundamentally, he now has a very accessible form of capital to utilize and receive his hedge fund compensation, compared to what would have been achievable at the Lion Fund.  At best, he has significantly compressed the time frame needed to achieve the same compensation, since he would not have been able to raise $300-$400M in the Lion Fund so quickly. 

- Also, no comment that the 82% vote had no bearing on the compensation package, but only on the tax treatment. 

 

Cheers!  

[Dorsia1]

Classic Biglari.

Wear your hip waders.

[Ballinvarosig Investors]

Not cheap by any means.  It's fairly valued, even with Sardar at the helm.  You are paying over 20 times earnings, 10 times free cash and nearly two times book.  Add in the fact that intrinsic value per share has now decreased going forward, based on the new compensation package that will kick in.  With that package, fair value drops significantly...especially the longer you hold the stock and the better he does!  

 

He continues to write very well, and the continued ideas at SNS will help, especially the lower build out costs for franchisees and operating cost containment.  No comments on Fremont tender.  

 

The compensation discussion was a real cop-out! 

 

- He comments that there is no need to change your attitude on compensation simply because you've changed the structure of the entity...but unfortunately there is a real difference...the capital is permanently locked in. 

- On top of that, you can issue as many shares as the market will bear, so that you have access to more capital. 

- Fundamentally, he now has a very accessible form of capital to utilize and receive his hedge fund compensation, compared to what would have been achievable at the Lion Fund.  At best, he has significantly compressed the time frame needed to achieve the same compensation, since he would not have been able to raise $300-$400M in the Lion Fund so quickly. 

- Also, no comment that the 82% vote had no bearing on the compensation package, but only on the tax treatment. 

 

Cheers!  

I sat on my hands for a long time with Steak n' Shake while it steadily produced knockout earnings, quarter on quarter. At one stage, I was ready to give up on ever getting Steak n' Shake at a fair price. However, we got the furore surrounding the compensation package, which subsequently annihilated the share price. I bought then, and I have promised myself that I will just leave part of my portfolio on this thing until something says otherwise. The compensation package will of course act as a dampener on future earnings, however the big picture is that you have a ridiculously talented guy at the helm of this operation who will make you money.

 

The question you have to ask yourself is, would you bet against Steak n' Shake and Biglari? Assuming the answer is no, you then need to ask yourself why you're not investing with him. Sometimes you have to just take a step back and look at the big picture. Will Steak n' Shake make more money then what is it today? Absolutely. Will Biglari be able to invest the excess capital generated from the operation at a decent return? Almost certainly.

[Junto]

My thoughts as well. I got in when Biglari moved to take control. Took profits along the way, but now have a portion of long-term watch and see money. Valuations are tighter, but shareholder performance is undeniable at this point. Not a big allocation.

 

It also looks like the debentures will be redeemed next June at call.

[shalab]

Let the race begin - Biglari vs ?

 

If you want publicly traded companies, there is BRK, FFH, LUK, MKL, WSC, DJCO. The entry price is important as is the case with BH.

 

Now, if you want to work with folks who won't put their hands in your cookie jar and have high a degree of integrity, there are many options as well. We can start with MPIC Funds for instance.

 

Then there is a third option where you can be your own money manager which may or maynot work.

 

 

[ragnarisapirate]

Does anyone else have any trouble attaching any kind of expected multiple of earnings to the AUM of BH?

 

My reasoning: When you invest in the Lion Fund, you are investing in Sardar. If something happens to him, and the funds leave (which, they probably would; how many people would be in Fairholme w/o Berkowitz?) a HUGE chunk of potential earning power is gone. Other companies only invest their own money, hence, the principle will still be there, even if it isn't allocated efficiently.

 

Additionally, it seems (all things equal) that the intrinsic value of BH would generally be less when the market is up, and more, when the market is down- there are a lot more candidates for them to take over in a bear market, generally, at better prices!

 

No?

 

[Parsad]

Where?

 

Let the race begin - Biglari vs ?

 

Both Fairfax and Markel are cheaper than BH.  They also have the leverage of float and Markel owns entire non-insurance companies.  There are companies still trading at less than 4 times free cash with no debt...we bought a bunch of one two weeks ago.  BH will go up in price...that is a given simply based on the Steak'n Shake engine that is now humming really, really nicely.  But it isn't cheap...it's fair value.  Cheers! 

[Rabbitisrich]

SNS alone might be somewhat undervalued at current prices. Biglari surprised me with his operating skills (I sold SNS at $10), and he seems to have rationalized the upfront costs of expansion. Customer are paying less per ticket, but NRA surveys and customer traffic figures from major chains seem to show that we are approaching a bottom in the casual dining space.

 

On the other hand, there are plenty of cheap companies in this space if you think that the macro picture is improving.

 

 

Regarding Biglari's potential returns, think about all the tax drags before shareholder returns. You get the operating income tax, followed by realized taxes from investment activities, and then the dividend tax on accumulated passed through funds. Meanwhile Biglari gets his 25% cut on returns above 6% even though that 6% represents a return before management fees and dividend tax. The tax inefficiencies pretty much force Biglari to find a leveraged business like insurance to achieve required returns.

 

[Guest Bronco]

Biglari is an ahole but I my gut tells me $400 in BH will be worth more than $400 in FFH if you invest today (where the share prices are similar).

 

I say this based on the following - Biglari has an advantage in that he can buy entire businesses (free to invest capital).  This is no small factor - in fact, IMO - a large part of Buffett's success was based on this freedom.  Yet Biglari is one of the few managers I have seen adopt the conglomerate/capital allocation model from the get-go. 

 

I have been in and out of this stock but looking to get back in. 

[premfan]

Finished reading Charlie Munger's USC law commencement speech over the weekend. I got some interesting tidbits from the speech that i relate to Biglari Holdings.

 

"In this world we have two kinds of knowledge. One is Planck knoweledge, people who really know. They've paid the dues, they have the aptitude. And then we've got the chauffeur knowledge. They have learned the talk. They may have a big head of hair, they may have fine temper in the voice, they'll make a hell of an impression. But in the end, all they have is chauffeur knowledge. I think i've just described practically every politician in the US."

 

"  Another thing, perverse incentives. You do not want to be in a perverse incentive system thats causing you to behave more and more foolishly or worse and worse- incentives are too powerful a control over human cognition or human behavior. If you're in one. I dont have a solution for you. You'll have to figure it out for yourself, but its significant problem."

 

Munger also talks about deserved trust as the pinnacle in human achievement. When i invested in The steak and shake company and then biglari holdings i trusted biglari. Mr. Biglari had my deserved trust. Mr. Biglari broke my investing heart with the compensation package which to me showed his true intentions. He lost my deserved trust and me personally once i lose trust i'm out i wont ever trust you again. Like parsad mentioned he will find his loyal shareholder base. So if you were  a shareholder before the comp package  and stayed a shareholder. You are essentially saying it doesnt matter how you treat shareholders because you are a talented capital allocator. You can walk all over me and take a huge piece of the pie. I'm so lucky to find a capital allocator like you as long as you make me money you can act any way you please.

 

Similar to being in a relationship with a extremely attractive girl( aka great capital allocator) everything is going great. Then randomly she starts acting shady and cheats on you. But, shes super hot and i will never find a girl like this again( capital allocator). You make a choice do i choose to stay with his hot girl that i dont trust or do i part ways and find a hot girl that treats me right? Definitely a personal choice but i deserve a hot girl ( capital allocator) that doesnt cheat and has my deserved trust.

[Guest Bronco]

Parsad - interesting comments about leveraging float (you cited FFH and MKL).

 

I know it is old and cold, but does anyone here remember discussion about Buffett having an "unfair" or at least an advantage with having an insurance company in Nebraska.  In other words, was Buffett allowed to invest float differently than others b/c of state regulations?  It is a moot point now, but I find that interesting.

 

I seem to visit MKL every 6 months or so but have never pulled the trigger.

 

[Guest Bronco]

Premfan - the answer to your question is simple.  Find the hot girl, than find another.  And after that, find another.

 

Repeat until 60 - than you may want to settle down.

 

 

[link01]

When i invested in The steak and shake company and then biglari holdings i trusted biglari. Mr. Biglari had my deserved trust. Mr. Biglari broke my investing heart with the compensation package which to me showed his true intentions. He lost my deserved trust and me personally once i lose trust i'm out i wont ever trust you again. 

 

premfan, those are my setiments too. it was real let down. not all bad tho. if i hadnt sold my shares i wouldnt have had cash enough to add to ffh, or make mkl, lre & a few others into meaningful positions.

[Myth465]

I think you guys see what you want to see. Parsad has laid it out very nicely. BH is fairly valued and run by a greedy guy who doesn't view you as a partner (regardless of what he says). I may invest one day but this is not an Owner Manager stock and I will need a margin of safety.

 

I guess that's what makes a market. I wouldnt invest in a hedge fund at book value, and wouldnt invest in restaurants trading at 10x CF. Thats really all I see here.

[premfan]

Biglari writes well but, actions speak louder than words. I agree with Myth the only way i'll ever invest is if it  becomes a Graham type of stock. Or after valuing the business i'm getting Mr. Biglari for free. No way i'll  ever pay a premium for Mr. Biglari's services.

[ragnarisapirate]

....my gut tells me $400 in BH will be worth more than $400 in FFH if you invest today (where the share prices are similar)....

 

I have a similar view. Let the race begin -

 

[email protected] vs [email protected]  as on Dec 10, 2010.

[email protected] vs [email protected]     as on Dec 10, 2010.

 

Compare after 5 years.

 

 

I agree as well...

 

A great idea for the board to keep track of this! mightent we want to add in some others that people on the board like? MVC? Loews? BRK? What about taking some side bets? ;P

[ragnarisapirate]

....if you were  a shareholder before the comp package  and stayed a shareholder. You are essentially saying it doesnt matter how you treat shareholders....

 

No, it matters.

 

If you were disappointed with Sardar, it was because your expectations were very high, comparing him to Buffett in all respects.

 

When Warren took over BRK, he was already a very rich young man just happy to be in the investing game - salary and incentives did not matter. Since he was firmly in control of BRK and was free to do whatever he wanted without looking over his shoulders.

 

That is not the case with Sardar. His stake in BH is very small, not rich, eager to be super-rich ASAP, talented and aggressive. An X-hedge fund mangaer now a CEO of a corporation can not get rich earning $100k per year. If you had understood those limitations, you would not have been disappointed - you would have remained a happy BH shareholder and an admirer of Sardar.

 

well put.

[Junto]

Where?

 

Let the race begin - Biglari vs ?

 

Both Fairfax and Markel are cheaper than BH.  They also have the leverage of float and Markel owns entire non-insurance companies.  There are companies still trading at less than 4 times free cash with no debt...we bought a bunch of one two weeks ago.  BH will go up in price...that is a given simply based on the Steak'n Shake engine that is now humming really, really nicely.  But it isn't cheap...it's fair value.  Cheers! 

 

Fairfax and Markel seemed too mainstream and "follow the value investor masses" for me.

 

When is the most shareholder return realized in a business? After it is a proven commodity or when it is becoming one?

 

BH is not the only investment option, but I do think you are getting in at the beginning part of a growing business. Over the next few years there will be plenty of opportunities to put the money to work buying the 4 or 5 times cash flow companies with cut rate debt and experience some significant gains. I look forward to being a part of this company as Biglari puts the money to work.

 

I also don't blame the guy for building an incentive system to consolidate his interests and compensate himself for losing the value of his hedge fund. This doesn't mean I like it. I am prepared to pay for his services as long as he performs.

 

I am in with a cost basis of $162.14 and have paired from an over-sized position to a typical position over the past year as I do with most my investments when they have significant returns. This guy will perform, and if I am wrong, I will eat my words in terms of investment losses.

 

My vote is that BH will outperform FFH and Markel over the next five years. Let the clock begin.