25% of book value gains above 5% for Biglari?

[Myth465]

 

thoughts?

 

Every CEO I have met or read about wants to be rich. Thats simply not a good justification. My CEO runs a 10 billion dollar company and gets plenty of stock options, but no where near 25% of future growth in BV above 5%.

 

I have never seen a Management team take such a high fixed position of future growth. Its nice that he wants to be rich, but he should earn it in another way.

[twacowfca]

Holy Toledo, Batman!  The Joker's taken possession of Biglari's body, and now he's making out like a bandit instead of a Buffett!

[maxprogram]

Zorro, from what I can tell shareholders will have a chance to vote on this specific measure. If it doesn't get voted through or something happens within three years, Biglari has the option to buy TLF back for the purchase price plus accrued compensation.

 

Bargainman, my problem with it (other than the ego issues) is that he'll be making a lot of money off of assets he didn't create/build. When you launch a hedge fund, it generally starts with all cash and investors who know and expect the manager to be compensated a certain way. He is essentially getting compensated for the "work" that the SNS brand has done over the last 70 years. Those SNS assets/equity were built up over time. A more fair base would be the equity that Sardar has added since he became CEO -- but even most of that comes from the business SNS already had. If Biglari was raising a new fund to buy out SNS that would be one thing -- there would be new partners and new capital that went into it with the understanding that Biglari receive a % of growth. at least this new measure will be put up to a vote.

 

Even if the book value calc is adjusted for share issuance, let's say BH takes over another $500m market cap company in a share swap. The year after book value grows by 15%. He is making an additional $12.5m in compensation for the new company, which may be already growing BV organically by 15% or more. If Sardar wasn't so smart, I might have chalked this up to him not thinking this through all the way.

[ERICOPOLY]

Some of you guys run partnerships and are already paid on something like 25% of profits over 6% hurdle.  (similar to Buffett partnership)

 

If this goes through and you continue to hold it, then imagine what your partners are left with after Sardar's 25% tax and your 25% fee.  Holy smokes!

 

It's like a fund of funds at that point. 

 

An underlying 15% rate of book value growth will translate to only 10.85% realized by your partners.

[collegeinvestor]

Haha I wonder what longtime Berkshire shareholder's IRR would be if he followed this same payout scheme with BRK. Probably not as good if I had to take a guess :) Imagine discounting all future cash flows by .25.

[elltel]

If what I am reading is right, a lot of people are going to be selling this week. Shares are only going one way.

Didn't SB say at the shareholder meeting something about "you guys" pushing up the share price. Perhaps he just wants this to force shares down.

 

Another thing. I cant see Gabelli agreeing to this if there is a vote. He owns around 8%.

 

[link01]

That being said, immediately you can see that it has its problems.  5% is an easy mark to beat.  Like Vinod said, the average company returns 10%.

 

 

is it? i'm not so sure. i thought the long run avg return on business & the sp500 was more like 6% if you only look at earnings & dividends & strip out the P/E multiple expansion during the bull run that started some time around the 80's. isnt that the rationale behind buffett using 6% as his hurdle during his partnership days & also as his discount rate for brk's 401k/pension plans?

 

in any event this week has been a real eye opener for us sns (bh) shareholders who thought there was a good chance that sardar was buffett-like in many ways, not just in the way he views & values business.

 

i'm not going to be rushing to sell my shares, but my finger has definately moved closer to that button. sheesh!

[link01]

I dont expect Biglari to work for free and would like him to measure his compensation by per share increase in value - as is the case with others such as MPIC funds, Pabrai funds etc.

 

actually, i think he is measuring his incentive pay bonus comp by per share increase in value. according to the sec release book value is adjusted for share issuances & dividends. but i wish he has chosen a higher hurdle rate.

[farnamstreet]

I dug this out and thought it was interesting in light of how Biglari wants to be compensated. The employment agreement for Robert Moore at Western Sizzlin when Biglari was Chairman.

 

Bonus Compensation.  While Employee is actively employed under this Agreement, and in addition to Employee’s Base Salary as set forth above, Employee is eligible to receive an annual performance-based bonus.  Such bonus shall be equal to twenty percent (20%) of Cash Flows in excess of $ 2.3 million annually as adjusted by a charge of 20% of any incremental reinvestment of capital during each year (“Bonus Compensation”).  The charge for reinvestment of capital shall be applied annually year over year but pro rated based upon the month in which the invested capital is contributed by the Company.  For purposes hereof, “Cash Flows” shall mean the Company’s earnings before interest, taxes, depreciation and amortization (“EBITDA”), less capital expenditures and excluding any payments to or obligations to make severance payments to James C. Verney.  The Bonus Compensation shall be due and payable to Employee within thirty (30) days after it is determined by the Company.  The following example illustrates the computation of Bonus Compensation:

 

http://www.sec.gov/Archives/edgar/data/930686/000110465909030087/a09-11139_1ex10d1d4.htm

 

[link01]

I think Biglari said in the annual meeting that those who expect BH to be like BRK will be disappointed. He admires Lampert in addition to Buffett and mentioned that BH will be run like a hedge fund.

 

 

yes, & we can also add the late/great henry singleton to the roster of investors he admires. and i think we'll be seeing sb use the playbook singleton used better than any one else: oportunistically issuing richly valued shares to purchase co's less richly valued, & thus creating shareholder value thru that embeded differential. and when his co's stock market value becomes intrinsically under valued in the market place i think you'll see sb use another of singleton's favorite playbook strategies in the diametrically opposite directions: purchasing his co's shares on the open market.

[link01]

You've got the math wrong!  Book goes up 10%...$40M.  His hurdle is 5%...$20M.  He gets 25% of the difference...$5M!

 

bh's book val was 297m as of last report. rounding up slightly, let's call it 300 mil. a 10% increase is 30m. less the 5% hurdle of 15m, his 25% of the difference would be 3.75m. which lease 26.25m of the original 30m increase accruing to the rest of bh's shareholders.

[link01]

Now if it were an increase in book value per share, then I would have less of a problem.  But as far as I can see from the SEC filing, the incentive allocation is based on 25% of company book, not book value per share.

 

sanjeev, i believe the sec filing did say something about book val adjustments being made for share issuances & the like. all tho they could certainly have worded things more clearly by using "book value per share"!

[link01]

 

I was mistaken about the SEC filing, the book value is adjusted for share issuance. This is stated in exhibit 2 in the SEC filings.

 

(ii)    “Book Value” equals the amount of Total Shareholders’ Equity as set forth in the Consolidated Statement of Financial Position of the Company, prepared in accordance with the accounting principles adopted by Company (as set forth in the Company’s Annual Report on Form 10-K for the applicable fiscal year), as of the applicable Incentive Compensation Calculation Date.  Book Value as of the applicable Incentive Compensation Calculation Date shall be determined by reference to the consolidated net income and other comprehensive income of the Company, and appropriate adjustments to such Book Value shall be made for any dividends, shares issuances or buybacks and other factors in accordance with Exhibit A hereto (but Book Value for the next succeeding Incentive Compensation Calculation Date shall not reflect such prior adjustments).  The computations and procedures required to calculate Book Value, including without limitation, any accounting procedures used to implement any adjustments, allocations and other matters, shall be made in such reasonable manner as the Company in good faith shall determine to be appropriate and in accordance with Exhibit A hereto, and shall be subject to the approval of the Governance, Compensation and Nominating Committee (the “Committee”) of the Board of Directors of the Company (the “Board”).

 

thnx, shalab. that's the section of the filing i was just referring to. i'm reading comments so quickly right now to catch up on things & adding my own 2 cents that i didnt see your own response to sanjeev in time  :(

[link01]

My impression is that Biglari loves the money, not the business.

 

 

i disagree. i dont think its necessarily an either/or proposition. my impression is that Biglari loves the money, AND he loves the business. but i certainly wish he loved the money alot less that he seems to. a higher hurdle & lower bonus % would make me feel alot less twitchy

[link01]

This development is both disappointing and fascinating at the same time. 

 

It's disappointing because the intrinsic value of BH is now less than when Biglari was only taking a 900K salary for running it.  However, it's fascinating because he has essentially gone from running an open-ended hedge fund (the Lion Fund) to a closed end fund (BH) and has increased his AUM ten-fold at the same time.  Furthermore, this publicly traded hedge fund is named after himself and has a compensation structure seemingly modeled after the Buffet Partnership. 

 

There are, however, some big differences between BH and a typical hedge fund.  First, Biglari has permanently locked up investor capital and no longer has to worry about the downside risk of having investors pull out money from his fund.  Second, Biglari now has the ability to increase AUM by a substantial amount over time through M&A, which will substantially increase his compensation if he can meet the hurdle rate specified (safe to say that he will be able to do this).  Third, Biglari is required to shovel 30% of his "bonus" back into the fund -- not sure if that's the case at other hedge funds.

 

 

very interesting take, txlaw.

 

what i'm wondering at the moment is: will this turn out to be some kind of seminal event if it its approved by shareholders? i mean, think about all the envy this might inspire among not only other ceo's, but among ambitious hedge fund & private equity types!

[link01]

To criticize the compensation structure as proposed is to criticize pretty much all hedge fund compensation structures, including the Buffett Partnership and any funds modeled after that partnership.  Not an unreasonable criticism if we're talking about matching up compensation with societal value.  But is this really any different than the way that the Pabrai Funds or other hedge funds are structured?

 

Yes. 

 

- He didn't raise the capital. 

- He can use the shares to raise unlimited amounts of capital going forward. 

- The corporation covers all of his expenses including office, travel, food & entertainment, etc.

- He will never have redemptions. 

 

 

forgive me all these quick knee-jerk comments & counter comments. i'm reading this fascinating thread in chronilogical order.

 

[- He didn't raise the capital.] no, but he did rescue the co from the dead

 

[- He can use the shares to raise unlimited amounts of capital going forward.] if he does it in a way that decreases intrinsic value then he will be hurting his long term potentail gains as well

 

[- The corporation covers all of his expenses including office, travel, food & entertainment, etc.] there's little doubt at this point that his 'grasp' for monetary gain knows few bounds

 

[- He will never have redemptions.] well, no, but if bh loses value or even gets stuck with a perpetual discounted market multiple to intrinsic value it will impact his ambitions in a similar way 

 

[link01]

 

He wants the best of both worlds, At least with Greenlight Capital Insurance this was the goal all along and owners werent mislead.

 

 

 

that does seem to be the case, unfortunately. btw, what is the compensation structure like at greenlight?

[link01]

Feb. 11, 2008,

 

"I have made a personal commitment to you that I will spend all the time necessary to rehabilitate The Steak n Shake Company. Not only will I refuse extra remuneration for the time I intend to commit, but I also will not accept any stock options. The reason is simple: We are one of the largest shareholders; thus, we plan to make money with you, not off you. Our conviction is that now is the time to make Steak n Shake’s culture one of ownership — all the way from the board level to the store level.

 

 

yup. the manifest unintentional irony displayed here is one of my biggest disappointments 

[link01]

To me it seems like Biglari is very young and he wants to be a billionaire. He only owns a puny portion of the company, so how will he increase it?  Either he gives himself a ton of options, or he comes up with this interesting scheme that will still allow him to get rich...  I don't know. I always knew that Biglari had it in for himself, and a giant ego.  He wants to get rich, and do it with shareholders, and sound like Buffet. I think this scheme is sure better than doing it through options and RSUs.  The problem is he got too far too fast.  He got control of a 300-500 million$ company without owning it..  That leaves him in a bit of a quandry because control without large ownership is kind of a hollow victory for a capitalist.  Biglari wants the money, it's in his blood.  I remember an old article pointing out how CEOs like Jack Welch made millions, even 10s/100s of millions.  But if you wanted to be a billionaire, you had to start the company, like Dell and Bill Gates.  Problem is Biglari wants to be a billionaire, but he's just a CEO.. This is his path to the B club...

 

thoughts?

 

 

good points, imo. but unlike you i didnt see his over-arching desire to get rich as quickly as possible. its almost as if, as much as he likes to find & buy under valued business/securities, he's equally loath to let himself & his ablities be similarly UNDER valued in the market place! this is where his lack of humility is both unfortunate & injudicious compared to a buffett or watsa. they both pay themselves ultra modestly vs their talents & the value they bring to the table of ther respective co's. the good will generated is an incalcuable long term factor in their success, i believe. all their star subsidiary managers get paid on much better terms than they while still earning attractive but less than egregious, glutinously outrageous  incomes. thus there's little reason for their managers to feel justifiable income envy compared to their bosses. sb is setting himself up for the opposite problem.

[shalab]

[- He didn't raise the capital.] no, but he did rescue the co from the dead

 

Yes, otherwise the company would have gone bankrupt and would have emerged from bankruptcy with different management. It doesnt give lifetime guarantees to one employee to corner the organic profits generated by that business by repeatign some of the same mistakes made by Friendly's management.

 

[- He can use the shares to raise unlimited amounts of capital going forward.] if he does it in a way that decreases intrinsic value then he will be hurting his long term potentail gains as well

Increasing book value doesnt need to increase long term gain. He is looking to increase it by 5% to meet his hurdle. Buffett has increased book value by more than 20% for the last forty years. The business itself organically increases value by more than 5%. When you franchise the operations, it should become even more easier to increase the book value without decreasing the book value.

 

[- The corporation covers all of his expenses including office, travel, food & entertainment, etc.] there's little doubt at this point that his 'grasp' for monetary gain knows few bounds

Agree.

 

[- He will never have redemptions.] well, no, but if bh loses value or even gets stuck with a perpetual discounted market multiple to intrinsic value it will impact his ambitions in a similar way 

No, since the metric is book value, he will still make money irrespective of the stock price. I dont see any downside to book value in the business he is in.

 

[link01]

[- He didn't raise the capital.] no, but he did rescue the co from the dead

 

Yes, otherwise the company would have gone bankrupt and would have emerged from bankruptcy with different management. It doesnt give lifetime guarantees to one employee to corner the organic profits generated by that business by repeatign some of the same mistakes made by Friendly's management.

 

[- He can use the shares to raise unlimited amounts of capital going forward.] if he does it in a way that decreases intrinsic value then he will be hurting his long term potentail gains as well

Increasing book value doesnt need to increase long term gain.

 

agreed, shalab. for instance, i believe buffett has increased the intrinsic value over the last 10 years or so by a much greater extent than brk's book value. how ever, buffett himeslf uses the increase in book value per share as his 'bogey' metric, because intrinsic value is a much more subjective thing.

 

"When you franchise the operations, it should become even more easier to increase the book value without decreasing the book value."

 

kinda disagree. growth thru franchising done well will increase intrinsic value a a faster rate than book value, which will lag till the incremental earnings from the minimal capital required from franchising impacts book value over time.

 

 

[- He will never have redemptions.] well, no, but if bh loses value or even gets stuck with a perpetual discounted market multiple to intrinsic value it will impact his ambitions in a similar way  

No, since the metric is book value, he will still make money irrespective of the stock price. I dont see any downside to book value in the business he is in.

 

the downside would be to his reduced potential ability to increase future book value issuing shares at 2 or 3 times book value for for a co or stock much less richly valued in the market. i'm sure he's studied his h. singleton of past teledyne fame well in this regard. a perpetual DISCOUNTED market price for your co's stock in the market place is a very real downside.

 

and before any one yells "DILUTION", think again. if your percentage stock ownership in a co is reduced or "diluted" by say 5% or whatever but the per share value has increased by 10% have you really suffered dilution?  

 

[valuecfa]

 

 

and before any one yells "DILUTION", think again. if your percentage stock ownership in a co is reduced or "diluted" by say 5% or whatever but the per share value has increased by 10% have you really suffered dilution?  

 

 

err, Yeah.

 

I'm quite surprised to see few here defend his actions, or to give him the benefit of the doubt. There is no positive rationale for shareholders in this circumstance, period. He is attempting to rob shareholders of their wealth over time. It is one of the more ludicrous actions of greed by a CEO ever.  And to even compare him to Buffett, or even Lampert, well... :-X .  The constant comparisons to other well respected gurus, from the media, blogs, and elsewhere, have always seemed incredibly off base to me.

[bargainman]

good points, imo. but unlike you i didnt see his over-arching desire to get rich as quickly as possible. its almost as if, as much as he likes to find & buy under valued business/securities, he's equally loath to let himself & his ablities be similarly UNDER valued in the market place! this is where his lack of humility is both unfortunate & injudicious compared to a buffett or watsa. they both pay themselves ultra modestly vs their talents & the value they bring to the table of ther respective co's. the good will generated is an incalcuable long term factor in their success, i believe. all their star subsidiary managers get paid on much better terms than they while still earning attractive but less than egregious, glutinously outrageous  incomes. thus there's little reason for their managers to feel justifiable income envy compared to their bosses. sb is setting himself up for the opposite problem.

 

The problem with the comparison to Buffet and Watsa is that he's no where near as rich as Buffet and Watsa!  It's like saying "Steve Jobs only takes a $1 salary, so every other CEO should too"  It's just not a valid comparison in my opinion.  They only pay themselves modestly because they don't need the money!!!  When Sardar is a billionaire, I expect he will reduce his incentive, but he's not!  he's probably a low multi millionaire, so he's going to do whatever he can to get rich.  It's similar to the basic economics (or at least they talked about it in the only econ class I took).. it's the incremental value of something.  You're willing to pay $100 for the first widget.. for the second.. well, $98..  on and on.. by the time we get to the 1000th widget.. well you already have 999 widgets, you really don't need another widget, so you really probably are willing to pay $1 for it.  So basically Watsa and Buffet are billionaires, why would they need more money?  They pay themselves so low cause they don't need another dollar.  The value of BRK or FFH stock's fluctuation in a single hour is probably more than their salary for the whole year!  For Sardar I highly doubt that's the case.  It's just not a valid comparison.  You can't compare a 32 year old to a 60/80 year old!  It's just a totally different thing.

 

The thing that's really really interesting to me is that it's obvious that Sardar knows one thing very very well:  leverage.  He took small positions as an activist, and increased them, and took control of 2 companies.  He's rolling the Lion fund, into BH (asset management is highly highly scalable).  He's going after insurance float, once again a highly leveraged game.  Almost everything he does has to do with leverage.  He controls a company by only owning 1.5%(?) of it.  Very very interesting.  Plus the comments about Singleton and him willing to issue highly valued shares.  Again, this is the odd dichotomy.  Because he understands leverage so well he was able to have this huge effect very very soon in his life.  But now he's got to figure out a way to get the real wealth (again, control without ownership is a hollow victory for a capitalist).  So again.. he's using leverage!  Taking the AUM of BH and taking a percentage of it even though he owns only 1.5% of the company! it's really quite brilliant actually.. :-)

 

 

[link01]

i have been curious to see how bh's growth profile might look like AFTER sb incentive bonus pay outs under various scenarios based on the current scheme contemplated. i'm looking at it from todays current book value, & also looking ahead to the day (if it ever comes) when BH has increased 25 times in net worth so its of comparable size to fairfax & luk.

 

attached is a slapdash xl sheet looking at certain what-if possibilities. the next step might be to look at scenarios based on avg annual rates of book value per share increases over 5, 10, 15, 20 years. i'm laying it out in a long hand format that makes it easier to follow.

 

if there are any mistakes i'm sure someone will point them out pronto. 

[link01]

 

 

and before any one yells "DILUTION", think again. if your percentage stock ownership in a co is reduced or "diluted" by say 5% or whatever but the per share value has increased by 10% have you really suffered dilution?  

 

 

err, Yeah.

 

you see it differently? why?