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Prem Watsa's Annual Letter Is Out, Tells of 'An Excellent Year'

March 11, 2013 | About:
Holly LaFon

Holly LaFon

211 followers
The "Warren Buffett of Canada" discusses the year in his company's operations and investing:

To Our Shareholders: We had an excellent year in 2012, even though it was not that obvious in the numbers, as our book value per share increased by only 6 1⁄2 % (including the $10 1 per share dividend paid in 2012) because of our very cautious view of financial markets. Even though book value per share ended the year at only $378 per share, up from $365 per share at the end of 2011, and common shareholders' equity ended the year at only about the $7.7 billion level it first reached two years ago, intrinsic value increased significantly.

Our results have always been lumpy. In the three years 2007 – 2009, we earned $3.4 billion after taxes and book value per share increased by 146%. Since then, book value per share has increased by only approximately 10% (including dividends) because of our very cautious view of the financial markets (which has led us to be 100% hedged in our common stock portfolios) and, of course, the unprecedented catastrophes in 2011. We ended the year with cash and marketable securities at the holding company in excess of $1 billion.

In the 27 years since we began in 1985, our compound annual growth in book value per share has been 23%, while our common stock price has compounded at 19% annually.

While until late last year, 2012 looked like a light year for catastrophes, Hurricane Sandy then came, causing devastation on the northeast coast of the U.S. Total economic damages could well be in excess of $50 billion while insured damage is expected to be in the range of $25 – $30 billion. And Hurricane Sandy was really only a tropical storm when it made landfall! A category 3 or above hurricane which follows the path of Sandy and slams into New York City is the U.S. industry's big nightmare. Sandy is expected to cost us about $261 million – mostly from OdysseyRe.

Speaking of OdysseyRe, in spite of Hurricane Sandy, it had the best combined ratio in its history. OdysseyRe had a record 88.5% combined ratio for 2012, generating $267 million in underwriting profit with conservative reserv- ing. And premiums grew 15% in 2012! OdysseyRe almost made up in one year for 2011, when unprecedented catastrophe losses led to a combined ratio of 116.7% and an underwriting loss of $336 million. In fact, if not for Sandy, OdysseyRe would have recouped all of its 2011 losses. The key in the catastrophe business is to view it over the long term rather than pulling away after catastrophes have occurred. Brian Young, who runs OdysseyRe, ably maintained OdysseyRe's catastrophe writings and increased them where he could, always maintaining total exposure within our worst case limits. With catastrophe pricing going up very significantly in 2012 for exposures in Japan, Thailand and other parts of Asia while remaining steady in the U.S., OdysseyRe wrote $1.1 billion of property premiums in underwriting year 2012 at a combined ratio of 86.2%.

For Fairfax, OdysseyRe is the jewel in the crown, accounting for almost half our business and producing an aver- age accident year combined ratio in the last ten years (since 2003) of 92.8%. Of the $2.8 billion in premiums writ- ten by OdysseyRe in 2012, $1.9 billion was in reinsurance worldwide and $916 million in insurance, mainly through Hudson in the U.S. and Newline in London, England. OdysseyRe is headquartered in New York and Stamford and operates in over 100 countries with 24 offices worldwide. Almost 33% of its business emanates from outside North America, generated through its offices in London, England and Paris, France (which writes business in Europe and Asia, with an office in Singapore since 1990). It has over 30 profit centres worldwide, allowing it to very quickly "dial up" or "dial down" any of its product lines depending on market conditions. This agility is a major strength of its organizational structure. Please review OdysseyRe's website www.odysseyre.com for more information. Brian Young has worked with Andy Barnard at OdysseyRe since 1996 and we are very excited about the prospects of the company under his leadership. As I have mentioned to you many times, in the reinsurance business, a few good men and women can have a dramatic impact!

We had many smooth management transitions in 2012. Stanley Zax, after 36 years building Zenith, decided at 76 it was time to retire. Stanley took Zenith from $63 million in premiums in 1977 to $619 million in 2012 with an average combined ratio of approximately 98.5% while book value per share (including dividends) compounded at 12% over the same period. More importantly, he built an outstanding customer-focused organization – second to none in the workers compensation business in the U.S. All our companies benefit, through osmosis, from the huge strengths of Zenith. We wish Stanley and his wife Barbara good health and a very happy retirement with their family. Jack Miller, who had worked with Stanley at Zenith for over 15 years, took over without a hitch and has been ably running Zenith for a year now.

There were a number of management transitions at head office during the year. John Varnell passed the CFO title at Fairfax over to Dave Bonham and continued with us as Vice President, Corporate Development. John has been with us for over 25 years and has been intimately involved in all our activities at head office. Some of you will remember, he was the architect of our successful investment in Hub many years ago. Dave Bonham has been trained by John and has been with us for nine years. Also, Brad Martin moved into the new role of Vice President, Strategic Investments, where he will provide support and insight as a member of the Boards of Directors of Fair- fax's significant investees, such as Ridley, Resolute and Prime Restaurants. Brad was instrumental in supporting management in the sale of Hub in 2007 and the sale of Cunningham Lindsey in 2012 (more on that later). Paul Rivett, who is currently Chief Operating Officer of Hamblin Watsa Investment Counsel and a member of the Investment Committee at Fairfax, will now also oversee internal operations at Fairfax, which is what Brad used to do. Wade Burton, after nine years at Cundill Value Funds and three years with Hamblin Watsa Investment Coun- sel, has joined our Investment Committee.

At Advent, Jim Migliorini recruited Nigel Fitzgerald, who headed up the marine division at Crum & Forster, to be the Chief Operating Officer. Advent's future is bright under Jim and Nigel's leadership.

At the request of Alltrust in China, Sam Chan, President of Fairfax Asia, became President of Alltrust. Sam works closely with Henry Du, the CEO of Alltrust. Sam has been an outstanding Fairfax officer for 24 years, starting early on as our Chief Actuary, and then being instrumental in building our Asian operations. At Fairfax Asia, Gobi Athappan, who has been with us for 12 years, has been promoted to Chief Operating Officer – a father and son team that will be hard to beat! Gobi also runs Falcon Hong Kong. We continue to be very excited about our Asian operations under the Athappans!

All of these transitions were done in the Fairfax way, fair and friendly, with no egos getting in the way. I am really excited when I think of the outstanding talent we have at Fairfax – all of whom are, most importantly, team ori- ented and hardworking with no egos! I have seen over the years how destructive an outsized ego can be to a company – in the short term and in the long term! As President Ronald Reagan said, anything in the world is possible if you don't care who gets the credit. Fairfax is a living demonstration of this principle – and it is very much ingrained in our culture!

Andy Barnard, as President and Chief Operating Officer of Fairfax Insurance Group, oversees all of our insurance and reinsurance operations worldwide and continues to do an outstanding job. Working with the Presidents of our companies, and with Peter Clarke, Jean Cloutier and Paul Rivett, Andy is primarily focused on helping Fairfax maximize our underwriting performance. Under his chairmanship, the Fairfax Leadership Council has provided a forum to enhance our group coordination. We have established working groups across our companies to explore and take advantage of best practices. Of special interest this year, Andy and Paul Rivett have established a Talent and Culture Development working group, charged with fostering our "fair and friendly" culture, with special focus on outstanding customer service. Among the hallmarks of a successful company over the long term is an enduring culture that differentiates itself from the field.

Also of interest in 2012, we held our first Fairfax Leadership Workshop, which brought together 18 of our most promising managers for a week of training and networking in Toronto. It was a resounding success, and will be an annual event. If you were to meet these rising stars, you would know the future of Fairfax is in good hands.

In 2012, gross premiums written were $7.2 billion across our group – a far cry from the $17 million we began with in 1985. Of that $7.2 billion, 57% was derived from North American insurance, 31% from global reinsurance and 12% from international insurance. Over the years, we expect our international insurance segment to increase significantly. The $7.2 billion does not include our non-consolidated international operations like India, China and the Middle East which produced $2.5 billion in gross premiums written in 2012, of which our share was $650 million. Including our non-consolidated businesses, international operations accounted for approximately 19% of our $7.8 billion total gross premiums written in 2012. Our international operations are mainly in the emerging markets of Asia, Latin America and the Middle East. All of these markets are growing rapidly because of the low penetration of insurance.

Continue reading Watsa's letter here.


Rating: 4.0/5 (9 votes)

Comments

ecotycoon
Ecotycoon premium member - 1 year ago
A great letter, the best i've read from Prem Watsa so far, quite an inspiring person who lead an outstanding business.
vgm
Vgm - 1 year ago
Well said, Ecotycoon! Fully agree.

It's sobering to read that Watsa still has his hedging strategy in place for equities, on the belief that the major threats he discussed in his 2010 and 2011 letters continue to loom large.

His viewpoint stands in contrast to Buffett who remains bullish in his recent letter and CNBC appearance last week.

I'd love to hear a debate between the two!

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