Home Capital Group is a Canadian bank/mortgage lending company founded in 1986 and run by the same CEO for 30 years, which came into the spotlight over the past few months. It ran into trouble, almost imploded and then got saved by no one other than Warren Buffett (and Ted Weschler).
There is good coverage following this link. The story in short:
Home Capital wanted to aggressively expand into insured mortgages. However at least one underwriter collaborated with mortgage brokers to get mortgages approved without proper documentation. At some point regulators reigned in but management did not tell shareholders about it. Then the regulator got tough and management had to go. In the meantime, short-term financing was pulled and the company got into real liquidity troubles.
One story which is currently making the rounds is that of Warren Buffett’s huuuuuuuuuuge cash pile or “war chest” at Berkshire.
Bloomberg had an article in May about the 86 bn “war chest” , and then 2 days ago Bloomberg said that his “cash pile” is now close to 100 bn USD.
Speculations are rampant what he could do with it for instance:
Ted Seides, the author of this book came to some fame because of his 2007 bet with W. Buffett where he claimed that he could pick 5 (hedge) fund-of-fund managers which would outperform the S&P 500 over the next 10 years. He already admitted to have lost before the 10 years end.
“A man for all markets” was a book I was eagerly waiting for. Although not as famous as other financial gurus like George Sorros or Warren Buffett, Ed Thorp in my opinion beats most of them when it comes to actual achievements. Among other things he
Everyone who has read Thorndikes book “The Outsiders” clearly knows that capital allocation& capital management is one of the most important factors in creating long term shareholder value. After I watched Thorndike give a briliant talk at Google on this topic, I decided to write down my own thoughts on the topic.
What is CAPITAL ALLOCATION & CAPITAL MANAGEMENT anyway ?
CAPITAL ALLOCATION is simply what you do with your profits/cash inflows once they are in your account. You can do a lot of things with it. Thorndike in the talk above uses 5 uses, I would add another 2 (in bold)
1. Reinvest: Maintain your existing assets/infrastructure/operations
2. Grow organically: Expand your business by buying more machines/outlets/opening stores etc.
3. Expand your business by M&A
4. Pay back liabilities (debt, payables, pension liabilities etc.)
5. pay dividends
6. buy back shares
7. just leave the cash on your account and wait for better opportunities
One general remark upfront: The 2015 annual report wasn’t that exciting in my opinion. Actually, I didn’t plan to write a post on it. However, after reading a couple of posts on the topic, I though maybe some readers are interested because I haven’t seen those points mentioned very often elsewhere.
- Bad year for GEICO
GEICO had a pretty bad year in 2015. The loss ratio (in percent of premium) increased to 82,1% (from 77,7%), the Combined ratio increased to 98% and the underwriting profit fell by -60%. Buffett talks about the cost advantage a lot in the letter, but the only explanation forthe increase in loss ratios are found in the actual report:
After bashing David Einhorn for his Consol Energy WACC assumption last week, by chance I read at the very good 25iq blog an article on how Buffett and Munger publicly speak about those things.
Indirectly, this is clearly a slap in my face because even the headline already says it all:
Why and how do Munger and Buffett “discount the future cash flows” at the 30-year U.S. Treasury Rate?
The post summarizes what Charlie and Warren have said over the years with regard to cost of capital and discounting. I try to summarize it as follows:
- They seem to use the same discount rate for every investment, the 30 year Treasury rate
- in a second step they then require a “margin of safety” against the price at offer
- they estimate cash flows conservatively
- Somehow Buffet seems to have a 10% hurdle nevertheless
- Buffett compares potential new investment for instance with adding more to Wells Fargo
So if Buffett doesn’t use more elaborated methods why should any one else ? Was I wrong to beat up David Einhorn because he used a pretty low rate for Consol Energy ? Add to this Mungers famous quote “I’ve never heard an intelligent cost of capital discussion” and we seem to waste a lot of time here, right ?