September 5, 2021•1,813 words
*Note: All quotes and tables in this post are from Prem Watsa. From his 2020 Letter to shareholders. Unless otherwise stated*
Where is everyone?
Not paying attention?
Caught up in the hype of the absurdly overvalued?
Dabbling in Crypto?
Or, the memes?
Looky...Looky....What do we have here?
1. Do you understand the company?
Worldwide Insurance business
"Our insurance companies have been and will be the gift that keeps giving, as they
provide us with a float, currently $22.7 billion, which does not cost us anything – in fact, in 2020 we were paid
$309 million to keep the float– and which is then invested worldwide."
Common Stock Investments
"Over the years, we have made common stock investments pursuant to which we have significant ownership
positions in a number of individual names. Although the returns can be lumpy, these holdings have served us well
over the years – especially on sale. The downside of larger ownership positions is that the accounting rules for these
holdings are somewhat confusing (even for us!). What we find useful in clarifying the accounting positions is to
separate these common stockholdings into three buckets. Generally, for positions where we hold less than a 20%
economic interest and no control, we mark to market; where we have an economic interest of 20% or more but no
control (these holdings are called associates), we equity account; and where we have control or an economic interest
above 50%, we consolidate. I hope that the following detailed commentary will help to break through the difficulties
of understanding the value of our investments resulting from the accounting rules and to provide a better
understanding of the value of our investments."
2. Does the company posses a strong moat?
- Strong barriers to entry
3. Is management doing a good job?
- Business Growth
"Since we began in 1985, our book value per share has compounded at 18.7% (including dividends) annually"
"Here’s how gross premiums per share have compounded since we began in 1985":
|Year||Gross Premiums Written (GPW) $||GPW $ per share|
"Since inception, gross premiums per share have compounded at 17% per year since inception and 14% in the last five"
years. We expect significant growth in the next five years through organic growth."
"2020 was the blackest of black swans. Without any warning, the world’s economies closed. And our insurance
subsidiaries were hit by COVID-19 losses of $669 million! At the same time, stock markets crashed in March 2020. As
I said earlier, it was a real life stress test.
Because of cash and marketable securities in our holding company of about $1 billion, no debt maturities to speak of
in the three years 2020 to 2022, unused credit lines of $2 billion and well capitalized insurance subsidiaries and major
non-insurance subsidiaries, we absorbed the effects of the pandemic and thrived. Our focus has always been to have a
very strong financial position to meet the unexpected problems that the world experiences – often, ones we have not
witnessed before! We will be even stronger in the future as we intend to hold cash (excluding any marketable
securities) in excess of $1 billion in our holding company and to maintain and strengthen the other safeguards
Management does not reach for yield. I.E not taking risky investments
"In spite of not reaching for yield by taking credit risk or term risk,...."
Everyone makes mistakes. Truthful about mistakes.
"Over the last 15 years, our insurance business has had a combined ratio less than 100%, but our investment returns in
the 2011 – 2016 time period were very poor because of a cautious approach to financial markets (hedging our
common stocks) and a stock performance impacted by poor stock selection and ‘‘value investing’’ being out of
favour. I said in our 2019 annual report that we would not short stock market indices (like the S&P500) or common
stocks of individual companies ever again, and our last remaining short position was closed out in 2020 (not soon
enough, as it cost us $529 million in 2020)."
|Ratio||As at 2020 Annual|
|Net debt/total equity||34.3%|
|Net debt/net total capital||25.6%|
|Interest and preferred share dividend coverage||2.7x|
|Total debt/total capital||29.7%|
4. Is the company trading at a cheap price?
"It is important to recognize that, because our common stock investments are shown on our balance sheet at the
carrying values, for common stocks in both the second and third buckets it is only on sale that their market values
will be reflected on our balance sheet. By showing the above tables to you on a regular basis, you can mark to market
the great majority of our common stock positions – up and down! Additionally, remember, it is only in the long term
that stock prices reflect underlying intrinsic values."
"By the way, our insurance companies are
worth much more than the amount at which they are carried on our balance sheet – one reason why I think our stock
is so undervalued."
"Our consolidated non-insurance businesses (and your investment per share in them) are shown separately in the
above table: they are significant, and again, are worth more than the amount at which they are carried on our
balance sheet. As I said last year, we expect each of these non-insurance operations to generate a 15% annual return
or better over the long term."
"So as a shareholder of Fairfax, you benefit from four sources of income – underwriting income, interest and dividend
income, income from our non-insurance businesses and capital gains."
In a June 15, 2020 press release, Prem Watsa said,
“At our AGM and on our first quarter earnings release call, I said that our shares are ‘ridiculously cheap’. That statement reflected my recognition that in the 35 years since Fairfax began, I have never seen Fairfax shares sell at a bigger discount to their intrinsic value than they have recently. I have now backed up my strong words by purchasing close to US$150 million of Fairfax shares in the market over the last few days, as I believe that this will be an excellent long term investment.”
Mentioned again in 2020 annual letter
"As I have said
before, we think our intrinsic value far exceeds our book value. As shown in the table, there have been many years
when our book value has increased significantly and our stock price has gone up more: please note 1993, 1995, 1996,
1998, 2003, 2008 and 2014. As you can see, it has not happened in the last few years, but we expect it will
"Throughout much of last year following the pandemic-induced market plunge, I made public statements to the effect
that our belief was that Fairfax shares were trading in the market at a ridiculously cheap price. In the summer I backed
that up by personally purchasing close to $150 million of shares. Additionally, following our value investing
philosophy, since the latter part of 2020 Fairfax has purchased total return swaps with respect to 1.4 million
subordinate voting shares of Fairfax with a total market value at the time of those agreements of $484.9 million
($344.45 per share). We think this will be a great investment for Fairfax, perhaps our best yet!"
Book Value to Market Cap
- Let's simplify. Let's only take Fairfax's common shareholder book value from Q2 2021, which is -> $15,350.6.
- Let's pretend this is the exact worth of the companies book value (even though its worth much more).
- The Market cap of Fairfax, as at Fri, Sept 3rd, is $15.153B (according to yahoo finance)
- So, we have book value of $15.350B and Market cap of $15.153B
- Book value alone is $197M higher than the price the company is trading for in the market ($567.02/share - Yahoo Finance - 09-03-2021)
- AND, we get the additional value, that should be added to the book value, plus future growth, for FREE! FOR FREE!
Book Value + Growth
The example above doesn't factor in any growth in book value, over the next x amount of years. It's just current equity - Market cap. Surely, the company is going to grow at some rate going forward. We know book value per share has compounded at 18.7% (including dividends) since 1985.
- Let's be a little safe. Let's say BV will only grow at 10%, compounded annually, over the next 10 years.
- In 10 years, BV of $15.3B would grow to $39.8B
- Compare that to today's book value.
- Patience + Long-Term = REWARDS!
I want a 15% ROI
- Can I get a 15% ROI?
- On a future book value of $39.8B (10yrs), I would have to buy the stock for $9.8B today.
- However, every company has a PE ratio, we're just using book as is.
- Add a PE, even the smallest, and the company is CHEAP!
Price to Book Compare
As at Fri, Sept 3rd
BRK.B = 1.37x
MKL = 1.31x
Now go look at FFH.TO and compare.
Personally, I believe the company is really cheap. So much so, that it renders a margin of safety calculation pointless. Prem, looks to be right, when he says,
"Investment returns are very sensitive to end date values, so with a stock price of only $341 per share at the end of
December 2020, our five and ten year and longer returns have been affected. We expect this to change as Fairfax
begins to reflect intrinsic values again. Nothing that a $1,000 share price won’t solve!"
I think we have a one foot bar here.
“We know how to step over one-foot bars. We don’t know how to jump over seven-foot bars. But we do know how to recognize, occasionally, what is a one-foot bar. And we know enough to stay away from the seven-foot bars, too.”
-- Warren Buffett
This is not investment advice. I may, or may not, own shares in this company at the time you read this.