LRE.L - Lancashire Holdings Ltd

[original mungerville]

OK, that sounds like a nice situation. 

 

I wonder does this new venture have potential to provide net new growth in book value of 10%, 20%, or 50% over the next 5 years? Do we have any clues or heuristics to use to determine this?

 

eg, 50% would equate to 1.5 multiplied by the current 11.6% dividend yield resulting in over a 16% yield by Year 5.

 

50% is a big number for a net increase in book value - ie half their current business and much more than the price they paid for that new venture.

 

 

[giofranchi]

Hi original mungerville,

Of course you are right!! The fact is simply my goal with LRE is to build earnings power for my firm. So, I hadn't thought carefully enough about my math of reinvesting the dividends in LRE. The dividends my firm receives from LRE are not furtherly taxed, until I decide to distribute them among my partners. So, I get to reinvest an 11.6% yield. How could you give up on such a thing? Especially when your goal is both to achieve good investment results and to build earnings power? I want them both for my firm!

Let's put it this way: if there is another opportunity in the market (I cannot buy whole businesses yet), which is better than LRE to increase my firm earnings power, I will gladly sell LRE and buy that other business! So, I am all ears! :)

 

PS

I am in love with women... Businesses certainly not!! ;)

 

giofranchi

[giofranchi]

If they retain substantial earnings instead of paying all of them out as dividends and reinvest those funds at an average return of 19.4%, that would be a much greater benefit to shareholders than receiving all of the earnings as dividends and using those funds to buy more LRE shares at 1.6 * BV that might produce an owners earnings yield of about 12%.

 

twacowfca,

I know Mr. Watsa keeps repeating that he far prefers “a lumpy 15% to a steady 12%”. But sometimes (not very often, don’t worry!! ;D) I also try to follow my own reasoning.

I think you must have both: FFH for a lumpy 15% and LRE for safe and predictable 12%. The reason I think a safe and predictable 12% is important is that earnings power gives you optionality. If you enjoy a reliable stream of cash, you can take strategic decisions that otherwise would not be possible. There is clear advantage to know when you will enjoy new cash and how much of it. Don’t you agree? And any advantage is surely worth something, right?

 

Think, for instance, at BRK: at year end 2012 manufacturing, service and retailing operations had a tangible BV worth $22.64 billion, with Goodwill and other intangibles that were worth $26.017 billion. BRK equity (in those businesses) was worth $48.657 billion. Net earnings were $3.699 billion, or 16.3% tangible BV, but only 7.6% what BRK had paid for them.

So, how does this compare to a 19.5% ROE and an 11.6% earnings yield offered today by LRE to its owners?

 

If Mr. Buffett has decided to invest almost $50 billion that way, to make sure BRK will always enjoy safe and predictable sources of cash, there might be a lesson to learn here, don’t you agree?

 

So, yes, if we see a 3-4% CAGR in BVPS going forward I would certainly be pleased, but I also hope Mr. Brindle won’t dramatically change LRE dividend policy! :)

 

giofranchi

 

[twacowfca]

If they retain substantial earnings instead of paying all of them out as dividends and reinvest those funds at an average return of 19.4%, that would be a much greater benefit to shareholders than receiving all of the earnings as dividends and using those funds to buy more LRE shares at 1.6 * BV that might produce an owners earnings yield of about 12%.

 

twacowfca,

I know Mr. Watsa keeps repeating that he far prefers “a lumpy 15% to a steady 12%”. But sometimes (not very often, don’t worry!! ;D) I also try to follow my own reasoning.

I think you must have both: FFH for a lumpy 15% and LRE for safe and predictable 12%. The reason I think a safe and predictable 12% is important is that earnings power gives you optionality. If you enjoy a reliable stream of cash, you can take strategic decisions that otherwise would not be possible. There is clear advantage to know when you will enjoy new cash and how much of it. Don’t you agree? And any advantage is surely worth something, right?

 

Think, for instance, at BRK: at year end 2012 manufacturing, service and retailing operations had a tangible BV worth $22.64 billion, with Goodwill and other intangibles that were worth $26.017 billion. BRK equity (in those businesses) was worth $48.657 billion. Net earnings were $3.699 billion, or 16.3% tangible BV, but only 7.6% what BRK had paid for them.

So, how does this compare to a 19.5% ROE and an 11.6% earnings yield offered today by LRE to its owners?

 

If Mr. Buffett has decided to invest almost $50 billion that way, to make sure BRK will always enjoy safe and predictable sources of cash, there might be a lesson to learn here, don’t you agree?

 

So, yes, if we see a 3-4% CAGR in BVPS going forward I would certainly be pleased, but I also hope Mr. Brindle won’t dramatically change LRE dividend policy! :)

 

giofranchi

 

Warren uses the metaphor of a bond's coupon yield as a way to think about owning a stock, a slice of a business where the yield is lumpy and potentially growing.  It's useful to think about what Lancashire's normalized earnings yield has been and may be, but don't forget that it will be lumpy.  There will come a time when they disappoint short term expectations for more than a quarter or so. 

[giofranchi]

It's useful to think about what Lancashire's normalized earnings yield has been and may be, but don't forget that it will be lumpy.  There will come a time when they disappoint short term expectations for more than a quarter or so.

 

Yes, of course… That is the nature of business (and of most human endeavors!). Nothing is certain… Are BRK’s manufacturing, service and retailing operations 100% safe? No! Likewise, LRE might underperform for some time. Sure!

That’s why my question remains valid and I ask it again: does anybody know a better way to generate cash in the marketplace?

If no, I guess we must be content of doing our best in an uncertain world… :)

 

giofranchi

 

[plato1976]

btw,

 

if this one pays out 11%+ div every year, seems its book value won't increase ? (let's don't consider the recent acquisition for simplicity)

 

usually I hope the business will maintain a min 4% nominal growth after div to keep up with

min rate of 2% inflation plus 2% global growth - not a high hurdle...

 

 

 

 

 

It's useful to think about what Lancashire's normalized earnings yield has been and may be, but don't forget that it will be lumpy.  There will come a time when they disappoint short term expectations for more than a quarter or so.

 

Yes, of course… That is the nature of business (and of most human endeavors!). Nothing is certain… Are BRK’s manufacturing, service and retailing operations 100% safe? No! Likewise, LRE might underperform for some time. Sure!

That’s why my question remains valid and I ask it again: does anybody know a better way to generate cash in the marketplace?

If no, I guess we must be content of doing our best in an uncertain world… :)

 

giofranchi

[giofranchi]

Hi Plato1976,

Of course you are right!

The 11.6% I talked about is what we usually refer to as 'owner's earnings' yield. But it surely won't be completely distributed to shareholders.

Look, what could be expected, if LRE keeps performing like it has done historically, is the following: LRE posts ROEs around 19-20%, reinvests what is needed to compound BV at 4-5%, and distributes the rest.

If this comes to pass, and I reinvest shrewdly the dividends I receive, I will compound capital at a very satisfactory rate for many years to come.

And in the end I will have received from LRE alone more cash than from my other investments combined!

At least, this is how I view it! :)

 

giofranchi

[twacowfca]

btw,

 

if this one pays out 11%+ div every year, seems its book value won't increase ? (let's don't consider the recent acquisition for simplicity)

 

usually I hope the business will maintain a min 4% nominal growth after div to keep up with

min rate of 2% inflation plus 2% global growth - not a high hurdle...

 

 

 

 

 

It's useful to think about what Lancashire's normalized earnings yield has been and may be, but don't forget that it will be lumpy.  There will come a time when they disappoint short term expectations for more than a quarter or so.

 

Yes, of course… That is the nature of business (and of most human endeavors!). Nothing is certain… Are BRK’s manufacturing, service and retailing operations 100% safe? No! Likewise, LRE might underperform for some time. Sure!

That’s why my question remains valid and I ask it again: does anybody know a better way to generate cash in the marketplace?

If no, I guess we must be content of doing our best in an uncertain world… :)

 

giofranchi

 

What's happened in the last couple of years is that LRE has taken volatile business that on average should produce 20% annual returns into their accordion sidecar. They have about 20% of the risk of the sidecar, but that portion should perform with a much higher return than normal because of the fees and profit commissions they get.

 

The advantage is that Lancashire is far less exposed to extreme catastrophe risk now than they would be if they had kept all of that risk on their own balance sheet.  This means that they have more capital than they would have needed had they kept all that business. The advantage of their recent Lloyd's acquisition and their access to lots of future opportunities is that they hope to be able to make the same high returns with far less risk.

 

 

[link01]

The advantage of their recent Lloyd's acquisition and their access to lots of future opportunities is that they hope to be able to make the same high returns with far less risk.

 

does the improved return/risk profile that you see from their Lloyds acquisition stem mainly from the anticipated new opportunities, or is there some other factors at work too?

[twacowfca]

The advantage of their recent Lloyd's acquisition and their access to lots of future opportunities is that they hope to be able to make the same high returns with far less risk.

 

does the improved return/risk profile that you see from their Lloyds acquisition stem mainly from the anticipated new opportunities, or is there some other factors at work too?

 

Cathedral has some very nice niches.  It's possible that LRE could pick up some of that instead of other underwriters that currently sign under Cathedral when they are the lead underwriter on a policy. Cathedral manages quite a bit of money for names. That's a nice fee and profit commission business.  It's what Brindle did when he worked for Charman at Lloyd's ind the 80's and 90's, posting the best record of any managing agency there then.  With Lancashire backing Cathedral, perhaps many other names might be interested in doing something with them. :)

[Libs]

I am getting ~1.44 X BV, what am I missing?

 

From press release:

 

"The Acquisition is expected to be accretive to earnings and book value in the first year, with a pro forma book value of U.S.$1,455m as at 30 June 2013"

 

Assuming share count rises 9.9%, I get ~175MM shares.

175MM X 750p (current quote)= 1.3 B pounds market cap

X 1.57 exchange rate = $2.1 B US market cap

$2.1 B market cap / $1.45 B BV = 1.44x

 

If anything that 1.44x is overstated, given we're 7 weeks into Q3. Am I right?

 

Thanks in advance. Great thread.

 

 

 

 

 

[Ian L]

I am getting ~1.44 X BV, what am I missing?

 

From press release:

 

"The Acquisition is expected to be accretive to earnings and book value in the first year, with a pro forma book value of U.S.$1,455m as at 30 June 2013"

 

Assuming share count rises 9.9%, I get ~175MM shares.

175MM X 750p (current quote)= 1.3 B pounds market cap

X 1.57 exchange rate = $2.1 B US market cap

$2.1 B market cap / $1.45 B BV = 1.44x

 

If anything that 1.44x is overstated, given we're 7 weeks into Q3. Am I right?

 

Thanks in advance. Great thread.

 

It says

The Acquisition is expected to be accretive to earnings and book value in the first year, with a pro forma book value of U.S.$1,455m as at 30 June 2013. The pro forma tangible book value of the Lancashire Group as at 30 June 2013 is U.S.$1,298m

.

 

A similar calculation for 1,298 instead of 1,455 gives about a ratio of 1.6.

 

 

Edit to add: They paid ~250 million pounds for Cathedral (150 tangible, 100 goodwill), which has been making about 20 million including the bond holdings. To get 20% return from the total, they would have to make the company 2.5 times more profitable. Maybe 30 million profit could be within grasp - 'only' making it 50% more profitable, which would be 20% of 150 million. On that basis, 1298 might be a better figure to use than 1455.

[twacowfca]

btw,

 

if this one pays out 11%+ div every year, seems its book value won't increase ? (let's don't consider the recent acquisition for simplicity)

 

usually I hope the business will maintain a min 4% nominal growth after div to keep up with

min rate of 2% inflation plus 2% global growth - not a high hurdle...

 

 

 

 

 

It's useful to think about what Lancashire's normalized earnings yield has been and may be, but don't forget that it will be lumpy.  There will come a time when they disappoint short term expectations for more than a quarter or so.

 

Yes, of course… That is the nature of business (and of most human endeavors!). Nothing is certain… Are BRK’s manufacturing, service and retailing operations 100% safe? No! Likewise, LRE might underperform for some time. Sure!

That’s why my question remains valid and I ask it again: does anybody know a better way to generate cash in the marketplace?

If no, I guess we must be content of doing our best in an uncertain world… :)

 

giofranchi

 

What's happened in the last couple of years is that LRE has taken volatile business that on average should produce 20% annual returns into their accordion sidecar. They have about 20% of the risk of the sidecar, but that portion should perform with a much higher return than normal because of the fees and profit commissions they get.

 

The advantage is that Lancashire is far less exposed to extreme catastrophe risk now than they would be if they had kept all of that risk on their own balance sheet.  This means that they have more capital than they would have needed had they kept all that business. The advantage of their recent Lloyd's acquisition and their access to lots of future opportunities is that they hope to be able to make the same high returns with far less risk.

 

Lancashire's risk profile is about half what it was a few years ago for extreme events.

 

In Q2 of this year Lancashire reports that their projected maximum loss (PML) from a modeled 1 in 100 year event was less than 10% of equity for all perils except one, Gulf of Mexico Windstorm that was 17%.  FWIW a 1 in 100 year Gulf of Mexico windstorm would be a storm that caused 2 1/2 times the damage of Hurricane Katrina. 

 

17% of equity is only a little more than the losses they suffered  from  Hurricane Ike in 2008 after all the claims were in, including the bizarre sunken oil rig that was discovered floating under the surface months later. Hurricane Ike had total insured damage of  less than $20B, far from the $100B+ damage of a 100 year Gulf storm.  Knowing the types of rigs they insure, I think their true risk may be somewhat less than what their model shows for G of M exposure.

 

This year the potential for a large storm to develop in the G of M and hit the US  Gulf coast appears to be greatly reduced.  An enormous amount of sea surface temperature energy is being pumped out of the Gulf and onto land as heavy rain from moisture arising in the Gulf has saturated the SE US states.  :)

[giofranchi]

twacowfca,

I have just read both Libs’ post and Ian L’s reply. What figure would you use for BV? $1.298 million or $1.455 million? I have never understood exactly why people fixate so stubbornly on TBV, when it is clear that many businesses are worth much more than BV… Anyway, I also share Ian L’s doubt that LRE could hardly achieve a 20% return on their investment in Cathedral right away…

So, I would like to hear your opinion! :)

Thank you,

 

giofranchi

 

[WhoIsWarren]

twacowfca,

I have just read both Libs’ post and Ian L’s reply. What figure would you use for BV? $1.298 million or $1.455 million? I have never understood exactly why people fixate so stubbornly on TBV, when it is clear that many businesses are worth much more than BV… Anyway, I also share Ian L’s doubt that LRE could hardly achieve a 20% return on their investment in Cathedral right away…

So, I would like to hear your opinion! :)

Thank you,

 

giofranchi

 

What is book value of any company but an approximation of its true worth?  If it was possible, we would put all tangible and intangible assets on the balance sheet -- but it's not.  How can you capture the intangible value of Brindle + team's experience and relationships, the above average returns they will likely generate, the future growth they may find?

 

The calculation of P/B requires a couple of adjustments.

 

The pro-forma $1,455m at Q2:13.  To this should be added the $145m cash that will be received when the outstanding warrants / RSS options are exercised.  This gives a total of $1,600m.

 

Shares o/s at Q2:13 was 163m.  Add to this the 16.8m shares issued to finance Cathedral.  Finally add 29.7m for the outstanding warrants and 3.2m for the RSS shares. This gives 213m fully converted shares o/s, pro forma.  If you want, add a couple of more million extra shares to account for the likelihood that more than 3m of the RSS shares currently granted will be exercised (including a grant for the new Cathedral team).  Let's call it 215m shares all in.

 

So that gives a fully-converted BVPS of $7.44 or £4.74 and therefore LRE is on around 1.55x P/B.

 

You could make some minor adjustments to this.  Cathedral could be mildly over-reserved (as perhaps is LRE) and you could add on profits for the current quarter to date.  Let's call it a round 1.5x.

 

That sound right?

 

(By the way, these numbers are mostly from the Q2:13 supplementary document, second last page.)

 

 

[twacowfca]

twacowfca,

I have just read both Libs’ post and Ian L’s reply. What figure would you use for BV? $1.298 million or $1.455 million? I have never understood exactly why people fixate so stubbornly on TBV, when it is clear that many businesses are worth much more than BV… Anyway, I also share Ian L’s doubt that LRE could hardly achieve a 20% return on their investment in Cathedral right away…

So, I would like to hear your opinion! :)

Thank you,

 

giofranchi

 

What is book value of any company but an approximation of its true worth?  If it was possible, we would put all tangible and intangible assets on the balance sheet -- but it's not.  How can you capture the intangible value of Brindle + team's experience and relationships, the above average returns they will likely generate, the future growth they may find?

 

The calculation of P/B requires a couple of adjustments.

 

The pro-forma $1,455m at Q2:13.  To this should be added the $145m cash that will be received when the outstanding warrants / RSS options are exercised.  This gives a total of $1,600m.

 

Shares o/s at Q2:13 was 163m.  Add to this the 16.8m shares issued to finance Cathedral.  Finally add 29.7m for the outstanding warrants and 3.2m for the RSS shares. This gives 213m fully converted shares o/s, pro forma.  If you want, add a couple of more million extra shares to account for the likelihood that more than 3m of the RSS shares currently granted will be exercised (including a grant for the new Cathedral team).  Let's call it 215m shares all in.

 

So that gives a fully-converted BVPS of $7.44 or £4.74 and therefore LRE is on around 1.55x P/B.

 

You could make some minor adjustments to this.  Cathedral could be mildly over-reserved (as perhaps is LRE) and you could add on profits for the current quarter to date.  Let's call it a round 1.5x.

 

That sound right?

 

(By the way, these numbers are mostly from the Q2:13 supplementary document, second last page.)

 

A quibble.  Warrant and option holders have perhaps without exception chosen the cashless exercise option when exercising their options or warrants. If that holds, there will be fewer shares outstanding and perhaps no injection of cash into their BS at the strike price ($5.00) per share for the great majority of warrants or options currently outstanding upon conversion.

 

I haven't looked closely at the pro forma book value (per share) upon acquisition, but be aware that the headline number that Lancashire publishes quarterly is the conservatively stated FDBV/SH, not BV/SH.  :)

[Ian L]

It says

The Acquisition is expected to be accretive to earnings and book value in the first year, with a pro forma book value of U.S.$1,455m as at 30 June 2013. The pro forma tangible book value of the Lancashire Group as at 30 June 2013 is U.S.$1,298m

.

 

A similar calculation for 1,298 instead of 1,455 gives about a ratio of 1.6.

 

I interpreted this as a comparison between tangible book and total book, whereas instead I should have read it as a comparison between before the acquisition and after. Apologies for this error and please let me know if this is incorrect.

[WhoIsWarren]

A quibble.  Warrant and option holders have perhaps without exception chosen the cashless exercise option when exercising their options or warrants. If that holds, there will be fewer shares outstanding and perhaps no injection of cash into their BS at the strike price ($5.00) per share for the great majority of warrants or options currently outstanding upon conversion.

 

True twacowfca, I agree.  But the upshot of a cashless exercise should be a wash result when compared to the calculation I laid out above, right?

 

It says

The Acquisition is expected to be accretive to earnings and book value in the first year, with a pro forma book value of U.S.$1,455m as at 30 June 2013. The pro forma tangible book value of the Lancashire Group as at 30 June 2013 is U.S.$1,298m

.

 

A similar calculation for 1,298 instead of 1,455 gives about a ratio of 1.6.

 

I interpreted this as a comparison between tangible book and total book, whereas instead I should have read it as a comparison between before the acquisition and after. Apologies for this error and please let me know if this is incorrect.

 

Ian L, you were right first time around.  As I understand it the $1,298 and $1,455 figures are both pro forma, post acquisition -- total shareholders' equity and tangible shareholders' equity respectively.  Lancashire didn't have any intangible assets before the Cathedral deal.  Reported total shareholders' equity in Q2:13 was $1,266.

 

However, as I laid out above, the calculation of P/B is somewhat more involved than just taking shareholders' equity and dividing it by the number of shares outstanding, primarily due to the existence of 29m of warrants.

 

That make sense?

[twacowfca]

There is another moving part to consider before the acquisition closes toward the end of the year. Both companies are on track to having a strong finish to the year.  The dynamics of energy flow in the Gulf of Mexico make it unlikely that a very damaging hurricane will make landfall in that region this year.  It is possible that the Atlantic US States could experience the landfall of a hurricane originating off the coast of Africa, but Lancashire's windstorm exposure there is relatively low.  The only significant loss so far in Q3 for LRE seems to be $18M on the oil rig that collapsed off the coast of Africa.

 

If the second half of 2013 proves to be above average, Lancashire could easily see BV increase by 10% to 12% by the end of the year and Cathedral might be right behind them. :)

[link01]

 

A quibble.  Warrant and option holders have perhaps without exception chosen the cashless exercise option when exercising their options or warrants. If that holds, there will be fewer shares outstanding and perhaps no injection of cash into their BS at the strike price ($5.00) per share for the great majority of warrants or options currently outstanding upon conversion.

 

<<Definition of 'Cashless Exercise'

A transaction that is used when exercising employee stock options (ESO). Essentially, what you do here is borrow enough money from your broker to exercise the options. You then simultaneously sell enough shares to pay for the purchase, taxes, and broker commissions. >>

 

twa, given this definition of a cashless exorcise something doesn't quite seem to compute with your explanation, or rather my understanding of it.

 

if the cash is borrowed by the employee from a broker (the 'cashless' label meaning via a short term loan) arent the options are still otherwise exorcised, with the new stock still becoming outstanding, including the shares immediately sold (where, into the market?) to pay for his initial net basis?

[giofranchi]

What is book value of any company but an approximation of its true worth?  If it was possible, we would put all tangible and intangible assets on the balance sheet -- but it's not.  How can you capture the intangible value of Brindle + team's experience and relationships, the above average returns they will likely generate, the future growth they may find?

 

The calculation of P/B requires a couple of adjustments.

 

The pro-forma $1,455m at Q2:13.  To this should be added the $145m cash that will be received when the outstanding warrants / RSS options are exercised.  This gives a total of $1,600m.

 

Shares o/s at Q2:13 was 163m.  Add to this the 16.8m shares issued to finance Cathedral.  Finally add 29.7m for the outstanding warrants and 3.2m for the RSS shares. This gives 213m fully converted shares o/s, pro forma.  If you want, add a couple of more million extra shares to account for the likelihood that more than 3m of the RSS shares currently granted will be exercised (including a grant for the new Cathedral team).  Let's call it 215m shares all in.

 

So that gives a fully-converted BVPS of $7.44 or £4.74 and therefore LRE is on around 1.55x P/B.

 

You could make some minor adjustments to this.  Cathedral could be mildly over-reserved (as perhaps is LRE) and you could add on profits for the current quarter to date.  Let's call it a round 1.5x.

 

That sound right?

 

(By the way, these numbers are mostly from the Q2:13 supplementary document, second last page.)

 

Thank you, WhoIsWarren! Great post!

And you come to the very well justified conclusion, that I had thought about too: BV somewhere in between Libis' and Ian L's.  :)

 

giofranchi

[Mikenhe]

One other benefit that is tough to quantify is new business that can be send between each structure. There may be business now that either entity is turning down (or taking less of) due to its reinsurance structure. It’s entirely possible that the business could be directed to the other entity if it has a more suitable reinsurance structure to protect the net. This would be an almost immediately , yet invisible, impact to the bottom line for year end.

Also, rolling forward to next year,  it is entirely possible  that some of the reinsurance could be combined resulting in a cheaper price for RI or better terms for the same price.

 

[WhoIsWarren]

One other benefit that is tough to quantify is new business that can be send between each structure. There may be business now that either entity is turning down (or taking less of) due to its reinsurance structure. It’s entirely possible that the business could be directed to the other entity if it has a more suitable reinsurance structure to protect the net. This would be an almost immediately , yet invisible, impact to the bottom line for year end.

Also, rolling forward to next year,  it is entirely possible  that some of the reinsurance could be combined resulting in a cheaper price for RI or better terms for the same price.

 

Interesting Mikenhe, thanks.  When you say "protect the net", are you talking about saving broker fees on business that would otherwise be reinsured externally, or simply that the enlarged group will take on more premiums (for more risk), or something else?

 

Also, would you be able to talk a bit about the capital efficiency of Cathedral / Lloyds versus Lancashire stand alone?  As I understand it, the Lloyds players (take Hiscox as an example) are able to produce similar RoEs to Lancashire, even though their combined ratios are not nearly as good - and the reason they're able to do this is because they don't have to put up as much capital.  If that's right, how easy would it be for management to put more of their business through Cathedral?  What would be the drawbacks of doing this?  Thanks

 

[Mikenhe]

One other benefit that is tough to quantify is new business that can be send between each structure. There may be business now that either entity is turning down (or taking less of) due to its reinsurance structure. It’s entirely possible that the business could be directed to the other entity if it has a more suitable reinsurance structure to protect the net. This would be an almost immediately , yet invisible, impact to the bottom line for year end.

Also, rolling forward to next year,  it is entirely possible  that some of the reinsurance could be combined resulting in a cheaper price for RI or better terms for the same price.

 

Interesting Mikenhe, thanks.  When you say "protect the net", are you talking about saving broker fees on business that would otherwise be reinsured externally, or simply that the enlarged group will take on more premiums (for more risk), or something else?

 

Also, would you be able to talk a bit about the capital efficiency of Cathedral / Lloyds versus Lancashire stand alone?  As I understand it, the Lloyds players (take Hiscox as an example) are able to produce similar RoEs to Lancashire, even though their combined ratios are not nearly as good - and the reason they're able to do this is because they don't have to put up as much capital.  If that's right, how easy would it be for management to put more of their business through Cathedral?  What would be the drawbacks of doing this?  Thanks

 

 

By protecting the net I mean that its possible a piece of business comes along that Lancashire could write but under its available reinsurance would have to retain say 10m on a 50m risk. Instead it could divert that business to Cathedral who could take the same business but have reinsurance to protect above a 5m net. The exposure to the group drops 5m but the premium stays the same. Its theoretically possible but not something you’d see directly in the financials.

 

As for part B – I’ve been out of studying the structure of these type of entities for too long to be any use in trying to explain it. I’d defer to someone with more current expertize. I wouldn’t wish to speculate based on out of date knowledge.

 

[giofranchi]

Just bought more at 735 GBp.

If WhoIsWarren is right (he tends to be right very often! :) ) and Lancashire is selling for 1.5 x BV, I am locking in a ROE=19.5% / 1.5 = 13% owner earnings yield. Which is even better than the 11.6% I had in mind.

In an investment environment that I don’t like at all, I’d rather partner with Mr. Brindle than do almost anything else. If the price keeps going down, I will keep adding until Lancashire gets to be 30% of my firm’s portfolio, with a weight equal to Fairfax.

Then, if their prices go down, I will add to both positions! ;)

 

Ok, now I know you all think I am completely nuts! ;D

 

giofranchi