Fairfax Financial Q4 2023 Earnings Call Transcript

Quartr
Provided by Quartr
February 16, 2024

There are 10 speakers on the call.

Operator

Good morning and welcome to Fairfax's 2023 Year End Results Conference Call. Your lines have been placed in a listen only mode. After the presentation, we will conduct a question and answer session. Today's conference is being recorded. If you have any objections, you may disconnect at this time.

Operator

Your host for today's call is Prem Watsa with opening remarks from Mr. Derek Boulos. Mr. Boulos, please begin.

Speaker 1

Good morning, and welcome to our call to discuss Fairfax's 2023 year end results. This call may include forward looking statements. Actual results may differ, perhaps materially, from those contained in such forward looking statements as a result of a variety of uncertainties and risk factors, the most foreseeable of which are set out under Risk Factors in our base shelf prospectus, which has been filed with Canadian securities regulators and is available on SEDAR. Fairfax disclaims any intention or obligation to update or revise any forward looking statements, except as required by applicable securities law. I'll now turn the call over to our Chairman and CEO, Prem Watsa.

Speaker 2

Thank you, Derek. Good morning, ladies and gentlemen. Welcome to Fairfax's 2023 Q4 and year end conference call. I plan to give you a couple of highlights and then pass the call to Peter Clark, our President and Chief Operating Officer to comment on the quarter and 2023 and Jen Allen, our Chief Financial Officer to provide some additional financial details. 2023 was the best year in our history by far.

Speaker 2

We earned $4,400,000,000 after taxes with a record underwriting income of 1,500,000,000 dollars record interest and dividend income of $1,900,000,000 and record income from associates of 1,000,000,000 dollars Operating income from our insurance and reinsurance operations on an undiscounted basis was 3,900,000,000 dollars a record. Our consolidated combined ratio was 93.2% as we benefited greatly from our diversification and global presence. Our book value per share increased by 25%, adjusted for our dividend to $9.40 In the last 3 years, our book value has grown by 25%, 22% and 34%, including dividends. As I said last year, Fairfax has been transformed in the last few years as we doubled our premium. Let me show you how the intrinsic value of Fairfax has increased significantly since 2017.

Speaker 2

Gross premiums, 20.17, dollars 13,800,000,000 dollars 2023, 28.9 percent, up 109% at a combined average combined ratio of 95% with very strong reserving. Almost all of that growth was organic. Float, $20,400,000,000 now at $33,400,000,000 up 64%. Investment portfolio $39,300,000,000 is now at $64,800,000,000 up 65 percent common shareholders' equity $12,500,000,000 to $21,600,000,000 up 73 percent underwriting profit from a loss in 2017 to $1,500,000,000 profit share of profits and associates $200,000,000 to $1,000,000,000 up 4 10 percent and operating income from a loss to $3,900,000,000 Now this growth is magnified on a per share basis. Shares outstanding during that time period, 2017 to 'twenty three, has dropped by 17% from 2017 to 2023.

Speaker 2

So for example, gross premiums per share were up 152% versus 109% on an absolute dollar basis for gross premium. Investment portfolio per share is up almost 100% versus 65% on an absolute basis. Operating income was $174 per share in 20.23 versus a loss of $8 in 2017. Now as I've said for the last number of quarters, the most important point I can make for you is to repeat what I've said in the past. For the 2nd time in our 38 year history, I can say to you, we expect with of course no guarantees, sustainable operating income of $4,000,000,000 operating income consisting of $2,000,000,000 plus from interest and dividend income, dollars 1,200,000,000 from underwriting profit with normalized catastrophe losses and $750,000,000 from associates and non insurance companies.

Speaker 2

This works out to over $125 per share after interest expenses, overhead and taxes. Of course, fluctuations in stock and bond prices will be on top of that, and these fluctuations only really matter over the long term. We will have a lot more for you in our annual report. I will now pass this call to Peter Clark, our President and Chief Operating Officer for further updates. Peter?

Speaker 3

Thank you, Prem. We had an outstanding year with net earnings of $4,400,000,000 and our book value increased to $9.40 per share, an increase of 25% from year end adjusted for the $10 dividend paid in 2023. This performance was driven by record adjusted operating income of $3,900,000,000 from our insurance and reinsurance operations. Our investment return for 2023 was 8.4%, just a little above our long term average. Driven by increased interest and dividend income, strong share of profits of associates and net gains on equities and bonds.

Speaker 3

Consolidated interest and dividend income of $1,900,000,000 nearly doubled from 2022, benefiting from reinvesting at higher interest rates in 2023, primarily in government bonds. Net gains on investments of approximately $2,000,000,000 included $1,500,000,000 in the 4th quarter and were driven by gains on our equity exposures of $1,200,000,000 and unrealized gains on our bond portfolio of $714,000,000 dollars primarily from U. S. Treasuries due to the decrease in interest rates late in the year. The net gains of $1,200,000,000 on our equity and equity related holdings were driven by unrealized mark to market gains on our Fairfax TRS, Commercial International Bank, Micron and Mitelinos, offset by unrealized losses on Waterless Energy and Kennedy Wilson.

Speaker 3

As mentioned in previous quarters, our book value per share of $9.40 does not include unrealized gains or losses in our equity accounted investments and our consolidated investments, which are not mark to market. At the end of the year, the fair value of these securities is in excess of carrying value by 1,000,000,000 and unrealized gain position or $44 per share on a pre tax basis. Under IFRS 17, our net earnings are affected by the discounting of our insurance liabilities and the application of a risk adjustment. In 2023, our net earnings benefited by $210,000,000 pre tax from the effects of discounting losses occurring in the year. As interest rates move up and down, we will see positive or negative effects on net earnings from discounting.

Speaker 3

Our insurance and reinsurance businesses wrote a record $28,900,000,000 of gross premium in 2023, up 4.8% versus 2022. The growth was driven by increased pricing in our reinsurance, business and international markets, offset by decreased premium volume in cyber and professional liability lines as market competition and capacity impacted pricing and terms in those lines. The premium growth for the year was tempered by a 3% decline in the 4th quarter compared to 5% growth in the Q4 of 2022 due to declines at Odyssey and Brit, more on that in a moment. Our North American Insurance segment increased gross premiums by $797,000,000 in 2023 or 10.5 percent. Krum Forster had double digit growth at 14%, driven by its surplus and specialty lines, accident and health business and Seneca Insurance.

Speaker 3

Northbridge was up 10% in Canadian dollars, reflecting excellent customer retention and rate increases, while Zenith's premiums were relatively flat year over year due to the competitive workers' compensation market. Our global insurer and reinsurer segment was down slightly with gross premiums of $16,900,000,000 in 2023 or 0.5% decline versus 2022. Allied was up 5.4% in the year, led by its Reinsurance segment, which had 24% growth, while its Insurance segment was flat. Odyssey's premiums were down 3.5% in 2023, with its insurance business down 8%, principally at Hudson in its crop and financial lines of business, while reinsurance was flat, impacted by the non renewal of a large quarter share in the 4th quarter. Excluding the quarter share contract, Odyssey's reinsurance business was up 10% in 2023.

Speaker 3

Brit's premium was down 5% in the year, largely due to reductions in DNO and softness and the actions taken during 2023 to reduce its catastrophe exposure. Our international operations grew significantly in the year with gross premiums written up $3,600,000,000 up 21% versus 2022 or almost 620,000,000 dollars Growth was strong across all companies in the segment, led by Polish Re, up 50%, Colonnade 27%, Fairfax Asia 22% and Fairfax Latin America was up 18%. The closing in the Q4 of our acquisition of additional 46% interest in golf insurance will add approximately $2,700,000,000 in gross premium annually to our international business beginning in 2024. The long term prospects of our international operations are excellent and will be a significant source of growth over time, driven by excellent management teams, underpenetrated insurance markets and strong local economies. Our combined ratio was 93.2 in 2023, producing record underwriting profit of $1,500,000,000 Combined ratio included catastrophe losses of almost $900,000,000 adding 4 combined ratio points, primarily from the Hawaii wildfires, Turkey earthquake and attritional catastrophe losses.

Speaker 3

This compares to a combined ratio of 94.7% and catastrophe losses of 6.1 points in 2022. Our combined ratio for the 4th quarter was 89.9%, producing an underwriting profit of 579,000,000 a combined ratio of 91.7 in 2023, led again by Allied World with a combined ratio of 89.5, with strong results in both its global insurance segment and reinsurance segment. Brit had a great year with a combined ratio of $91,900,000 with $240,000,000 of underwriting profit, by far the most since we acquired them, and Odyssey Group produced a combined ratio of 93.4, including an 89.6 combined ratio in its reinsurance business. Our North American insurers had a combined ratio of 95.2% in 2023, led by Northbridge with another strong year at 91 combined ratio. Crum Forster had an elevated combined ratio of 97 point 7 with 2 points from the fires in Hawaii.

Speaker 3

Our international operations delivered a combined ratio of 95.9 for the year. Fairfax Asia had a combined ratio of 93.9. Our Latin American operations came in at 94.9, and our Central and Eastern operations produced a 95.9. Euros Euro Life's non life operations had a difficult year with an underwriting loss of 15,000,000 due to the impact of wildfires in Greece and Storm Daniel. For the year, insurance and reinsurance companies recorded favorable reserve development of $310,000,000 or a benefit of 1.4 points on our combined ratio.

Speaker 3

This is compared to $196,000,000 or the benefit of 0.9 points in 2022. Our runoff operations strengthened reserves of $260,000,000 as part of their annual actuarial reserve process. The strengthening related primarily to asbestos liabilities on both direct and assumed portfolios, talc, ULAE and uncollectible reinsurance. Our net runoff reserves of approximately $1,500,000,000 dollars which contain almost all our asbestos and latent exposures are managed by Riverstone, led by Nick Bentley and Bob Sampson. Nick, Bob and the rest of the team do an outstanding job dealing with some of our most difficult claims in a very challenging U.

Speaker 3

S. Legal system, while continuing to deal with emerging claims. Through our decentralized operations, our insurance and reinsurance companies continue to thrive, writing close to $33,000,000,000 in gross premium, including golf insurance, producing record underwriting profit and led by an exceptional management team, our companies are positioned very well to continue capitalizing on their opportunities in their respective markets in 2024. I will now pass the call to Jen Allen, our Chief Financial Officer, to comment on our non insurance company's performance, overall financial position and recent transactions.

Speaker 4

Thank you, Peter. Consistent with our prior quarter's 2023 interim reports, the comparative periods in the company's press release on the financial results for our year ended December 31, 2023, have been restated and presented under IFRS 17. So all comparative periods presented are on the same measurement basis. In the company's press release on Page 3, we disclosed tables that reconcile insurance service results under IFRS 17 for our property and casualty insurance and reinsurance operations to underwriting profit, a key performance measure used by the company and the property and casualty insurance industry in which we operate to evaluate and manage the business. As a reminder, the primary reconciling adjustments presented in these tables are: 1st, we adjust to include insurance operating expenses, which are presented in our consolidated statement of earnings outside of the insurance service results.

Speaker 4

And second, we adjust for the effects of discounting on net losses on claims and change in risk adjustment that are included in insurance service results in the consolidated statement of earnings. Our traditional performance measures of underwriting profit and combined ratios were on an undiscounted basis, as discussed by Peter. So I'll begin my comments in the Q4 and full year of 2023 on the impact IFRS 17 had within our financial results. In the Q4 of 'twenty three, the net earnings of $1,300,000,000 included pretax net expense of $781,000,000 and the net earnings in the full year of 2023 of 4,400,000,000 included a pre tax net benefit of $210,000,000 related to IFRS 17. The pre tax amounts are reported within 2 financial statement lines in the consolidated statement of earnings.

Speaker 4

1st, included in the insurance service result line is the benefit of discounting losses and ceded loss on claim, net of the change in the risk adjustment recorded in the 4th quarter of $230,000,000 $1,800,000,000 for the year, respectively. It was partially offset by the second component that's presented in a separate financial line in our financial statements, which is the net finance expense from insurance and reinsurance contracts of $1,000,000,000 in the quarter $1,600,000,000 in the full year. Those are comprised of interest accretion or an expense of $340,000,000 in the quarter and approximately $1,400,000,000 for the 1st year full year, resulting from unwinding the effects from discounting associated with net claims paid made during the year and effective decrease in discount rates during the Q4 full year of 2023, which was a net expense of $670,000,000 $218,000,000 respectively. This compared to a pretax net benefit in the Q4 of 'twenty two of $536,000,000 $3,000,000,000 in the full year of 2022 that was comprised of the same components I just commented on for 'twenty three, which was namely included in the insurance service result, the benefit of discounting losses and ceded loss on claims of $491,000,000 in the quarter, dollars 1,400,000,000 for the full year.

Speaker 4

But unlike 2023, due to the increase in the interest rates in 2022, 'twenty two's results also benefited from net finance income versus an expense in 'twenty three from our insurance and reinsurance contracts of $45,000,000 $1,600,000,000 for the full year. And that reflected the benefit in the increased discount rates in those respective periods of $125,000,000 dollars $1,900,000,000 as a result of the change in the interest rate environment being more pronounced in the full year of 'twenty two compared to 'twenty three. It was partially offset by the interest accretion or an expense of $80,000,000 in the 4th quarter and $311,000,000 in the full year of 'twenty two that relates to the unwinding of the effects of the discount associated with our net claims payments made during the period. Turning to a few comments on our non insurance company results in the quarter full year of 2023. Our non insurance companies reported an operating loss in the Q4 of 'twenty three of $40,000,000 compared to operating income of 61,000,000 dollars in the Q4 of 'twenty 2.

Speaker 4

We exclude the impact of Fairfax India's performance fees to Fairfax, which was an accrual of $28,000,000 $9,000,000 in the Q4 of 'twenty three and 'twenty two, respectively, which are offset upon consolidation and non cash goodwill impairment charges of $64,000,000 $24,000,000 recorded in the 4th quarters of 'twenty three and 'twenty two related to our non insurance companies. The operating income for the non insurance company reporting segment was $52,000,000 in the 4th quarter of 'twenty 3 and that compared to operating income of $94,000,000 in the Q4 of 'twenty 2. Our operating income in the non insurance reporting segment decreased to $122,000,000 in the full year of 'twenty three from 2.20 $2,000,000 in the full quarter of 'twenty two. Excluding the impact of Fairfax India's performance fee, which are offset again on consolidation and the impact of the noncash impairment charges of $108,000,000 recorded throughout the year related to non insurance companies, including Farmers Edge, operating income decreased modestly to $299,000,000 for the full year of 'twenty 3 $318,000,000 for the full year of 'twenty two. The decrease of $19,000,000 reflected operating loss from our other reporting subsegments of $1,000,000 in 2023 compared to an operating income of $44,000,000 in 'twenty 2, dollars reflecting higher operating expenses at AGT, primarily related to foreign exchange and Grivalia Hospitality.

Speaker 4

Lower operating income in restaurant and retail of $20,000,000 primarily due to higher operating expenses. It was partially offset by higher operating income at Fairfax India of $21,000,000 related to their increase in share from their profits of associates and higher operating income at Thomas Cook India of $25,000,000 related to higher business volumes in all segments resulted from increased domestic and international travel as the hospitality industry has continued to show significant recovery throughout 2023. At December 31, 'twenty three, the holding company had a performance fee receivable of $110,000,000 pursuant to its investment advisory agreement with Fairfax India for the period January 1, 2021 to December 31, 2023. Fairfax has elected to receive the performance fee payable in cash and expects receipt of payment within the 1st 6 months of 2024. Looking at our share profits from our investments in associates for the Q4 and full year, share profit of associates decreased in the 4th quarter to $128,000,000 compared to $258,000,000 in the prior quarter 'twenty two.

Speaker 4

Profits, this is related to our Q4 2023 compared to 2022. We had increased share profits from Eurobank of $94,000,000 compared to $33,000,000 in the prior year and Stelco at $12,000,000 compared to no share in profit in the prior year due to commencement of equity method of accounting on Stelco on August 31, 'twenty two. Share profit of our investments in associates remained steady for the full year of 'twenty three compared to the full year of 'twenty two with share profit of associates of approximately $1,000,000,000 in each respective period. And it related to no share profit from Resolute in 2023 as a result of our disposition of the investment compared to $22,000,000 that included $159,000,000 reduced share profits from Atlas of $150,000,000 compared to $258,000,000 in the prior period, reflecting higher interest expense and transaction costs related to the Q1 'twenty three privatization of Atlas or Poseidon. The company expects Poseidon's earnings will normalize over time.

Speaker 4

This was offset by increased share of profits from the following: Eurobank, 4 $38,000,000 compared to $263,000,000 in the prior year Exco Resources, dollars 129,000,000 compared to $82,000,000 in the prior year and Digit share profit of $43,000,000 compared to share of losses of $11,000,000 in the prior year. Turning to a few comments on transactions. On December 26, 'twenty three, we acquired an additional 46.3 percent interest in Gulf Insurance for $756,000,000 which increased the company's interest to a controlling equity interest of 90%. On closing the transaction, the company, in accordance with IFRS, remeasured its previously held accounted investment in Gulf Insurance and recognized a pretax gain of $280,000,000 and commenced consolidating the assets and liabilities of Golf Insurance within the property and casualty operations that are being consolidated in the International insurer and reinsurance reporting segment. And the life insurance operations will be consolidated within the life insurance and runoff reporting segment.

Speaker 4

The remaining 10% equity interest in golf insurance not held by Fairfax is subject to a mandatory tender offer. Fairfax intends, in accordance with the regulations of the Capital Market Authority in Kuwait, to initiate the mandatory tender offer to all other holders of Gulf Insurance shares and expects the transaction will close in the Q2 of 2024. I will close with a few comments on our financial condition. On December 7, 2020 3, we completed an offering of $400,000,000 principal amount of 6% unsecured senior notes due in 2,033 for net proceeds of $394,000,000 and then subsequent to December 31, 'twenty 3, on January 12, 'twenty 4, the company completed the reopening of those same notes for $200,000,000 principal amount on January 29, 2024. We're using a portion of those aggregate net proceeds from the issuances to redeem our remaining $279,000,000 principal amount senior notes that are due in 2024 for cash consideration of $286,000,000 And then on February 14, 2024, we announced that on March 15, 2024, we will use the remainder of the net proceeds to redeem our CAD348,600,000 principal amount of our senior notes that are due in 2025.

Speaker 4

The liquidity position of the company remains strong with our cash and investments at holding company at $1,800,000,000 at December 31, 2023, principally held in cash and short dated investments and access to our facility of $2,000,000,000 fully undrawn. At December 31, 2023, the excess of fair carrying value of our investments in non insurance associates and market traded consolidated non insurance subsidiary was $1,000,000,000 compared to $310,000,000 at December 31, 'twenty 2, with $315,000,000 of that increase related to publicly traded Eurobank. The pretax excess of $1,000,000,000 is not reflected in the company's book value per share, but is regularly reviewed by management as an indicator of investment performance. The company's debt to cap ratio, excluding our non insurance companies, improved to 23.1 percent at December 31, 'twenty three, compared to 23.7% at December 31, 'twenty two, reflecting increased common shareholders' equity as a result of the record net earnings that we reported in 'twenty three, and this was partially offset by the issuance of our $400,000,000 principal amount of the 6% unsecured notes and the recognition of a note payable of $579,000,000 relating to the Gulf acquisition. And lastly, our common shareholders' equity increased by $3,800,000,000 to $21,600,000,000 at December 31, 'twenty 3, from $17,800,000,000 at December 31, 'twenty two, principally as a result of the company's record net earnings attributable to shareholders of Fairfax for the full year of 'twenty three of $4,400,000,000 That was partially offset by the payments of common share and preferred dividends of $291,000,000 and the purchase of approximately 111,000 of subordinate voting shares for treasury and 365,000 for cancellation for aggregate cash consideration of 363,000,000 or approximately at $7.64 per share.

Speaker 4

That concludes my remarks for the Q4 and full year 2023. I'll now turn the call back over to Prem. Thank you.

Speaker 2

Thank you, Jan. Now a few comments on the Muddy Waters report before we open it up for questions. The management team and the Board of Fairfax has now reviewed all the 72 pages of the Muddy Waters report and reviewed its allegations and insinuations. We categorically deny and refute all of them without exception as false and misleading. To the best of our knowledge, Muddy Waters had never attended our conference calls, never asked a question, called us or written to us, but instead went to CNBC during our quiet period.

Speaker 2

With these one-sided ill informed allegations and insinuations in a transparent attempt to profit by short selling our stock. They may have successfully done this with other companies, but they have willfully misjudged the strength of Fairfax Financial and prospects. We are confident the marketplace will reflect our strong fundamentals. As you can see, the market has already spoken. Our stock price by 12% last Thursday after the Muddy Waters report came out.

Speaker 2

A week later, we are back at the price we were trading before their report. A couple of points on their report before I pass it on to Jen Allen, our Chief Financial Officer. The short seller says Fairfax has not made a 15% return since 2008. We have discussed this repeatedly in our annual reports. This is not news.

Speaker 2

Also, over 38 years, our book value has compounded at a rate of 18.9% annually and our stock price by 18%. More recently, in the last 3 years, our book value has increased by 25%, 22% and 34%, and our stock price has doubled. Muddy Waters says Allied World was a poor investment. We know they are short, but Allied World's gross premium is up 2.2x since 2017, cumulative underwriting profit of $740,000,000 and net income of $2,500,000,000 despite catastrophe losses of $2,000,000,000 In our minds, Allied World is a star performer. Lastly, in the report, Muddy Waters questioned the valuation of some of our investments.

Speaker 2

As many of you are aware, for companies we have between 20% 50% ownership via equity account for these investments. At any point in time, the carrying value can be below market value or above market value. And quarterly, we reviewed these investments. For impairments, at December 31, 2023, as Jen Allen just pointed out, our equity accounted investments and consolidated non insurance investments in aggregate exceed carrying values on our balance sheet by $1,000,000,000 My Waters highlights a number of these investments in its report, all with carrying value above market value, never mentioning one that is carried below, clearly a one-sided argument. Let me now pass it on to Jed Allen.

Speaker 4

Thank you, Prem. The Muddy Waters 72 page short investment position report is principally focused on allegations involving inappropriate accounting and unsupported view on valuations of select investments within Fairfax's portfolio. 1st, to set the stage, we remind everyone that Fairfax's financial reporting framework is IFRS and not U. S. GAAP.

Speaker 4

As a Canadian public company, Fairfax adopted IFRS in 2010. I want to emphasize that to ensure the accuracy and integrity over our consolidated financial statements and related disclosures, Fairfax has robust processes for complex transactions and valuations that document our accounting positions, valuation methodology and underlying support, which are then incorporated into the financial results of the company's interim reports and audited annual reports. As a public company for over 38 years, Fairfax has always taken this responsibility very seriously. I will comment on the allegations contained in the Muddy Waters report by grouping them into 4 categories and will provide further comments on some of the allegations. First is the fair value of Fairfax's investment in Digit Insurance.

Speaker 4

As disclosed in our prior period reports, the company holds convertible preferred shares that are carried at fair value as well as common shares that are equity accounted for at our 49% investment in associates. The mark to market gain recorded on Fairfax's investment in Digit convertible preferred shares back in 2021 was based off of 3rd party capital raises valuing Digit at $3,500,000,000 with the capital raise led by Sequoia Capital, a large venture capital firm in the U. S. Fairfax's fair value of the investment in the Digit convertible preferred shares supported by a very robust quarterly review process that includes the company's discounted cash flow model that incorporates the cash flows received directly from Digit's management. We then collaborate the results of the DCF model by factoring in market specifics, such as the current growth in India where Digit has increased its market share and as well as compared to applicable market transactions.

Speaker 4

Contrary to the Muddy Waters report, Digit was profitable in 2021 under IFRS. As disclosed on Digit's website where they provide a reconciliation to Indian GAAP, Digit also was profitable, reporting net income of $30,600,000 for the 12 months ended March 31, 2023, and for the 9 months ended December 31, 'twenty three, of $38,200,000 2nd, valuations. I commented on our robust process for Level 3 private investments as demonstrated with Digit, and similar processes are followed to support carrying values of our investments in associates and goodwill and intangibles recorded on our consolidated subsidiaries. Fairfax prepares value in use or discounted cash flow models that include cash flow projections obtained directly from management of the operating companies. We then collaborate the results with models by factoring in market metrics and compare where applicable to market transactions and peer comparables.

Speaker 4

As an example, for the recipe take private transaction, Fairfax prepared an accounting memo that was reviewed by our auditors where it's noted the arrangement agreement followed the recommendation of an independent Special Committee of Recipes Board of Directors. The Special Committee had obtained an independent valuation prepared by Greenhill and Company Canada Limited and fairness opinion which opined that the purchase price was fair and had unanimously recommended the transaction. Recipe's Board of Directors then determined that pursuing that transaction was best interest of Recipe and recommended Recipe shareholders to vote in favor of it. Finally, on Recipe is to state that the difference between Recipe's local goodwill and intangibles as audited by KPMG and the goodwill and intangibles at the Fairfax level audited by PwC primarily relates to Fairfax's original 2015 acquisition of Recipe or back then known as Cara before the rebranding. Under IFRS 3, on acquisition of Recipe or Cara at the time, Fairfax was required to record the assets and liabilities of Recipe at fair value, including any recognized and unrecognized intangible assets.

Speaker 4

Recipe had created a number of very successful restaurant brands for which the brand names had not been ascribed any value on Recipe's local balance sheet, given they had been internally created and therefore not permitted to be recognized under IFRS. These well known brands included Swiss Chalet, Arvies and Montana's, 3 of Recipe's largest operations that represented 62% of Recipe's system sales at that time. Fairfax's carrying value of recipe is approximately 6x EBITDA based on an enterprise value of 8x EBITDA with system sales in 2023 of CAD3.6 billion. A few comments on Exco. Since its emergence from bankruptcy protection in 2019, the common shares of Exco only trade in the pink open market or OTC Pink.

Speaker 4

The OTC Pink market is recognized as one of the lowest tier of the available marketplaces for trading over the counter stocks. The OTC traded value is not representative of fair value as the stock is very thinly traded in an illiquid market. This is on the basis that executed transactions are limited and lack sufficient frequency, bid ask spreads for trades are not readily available and price quotations are not developed using current information as EXCO's financial information is not publicly available and only accessible by shareholders. Share profit of associates earned from Mexico in 2023 was $129,100,000 or $5.64 per share and $81,900,000 or $3.58 per share in 2022. At December 31, '23, the fair value of ESCO was approximately $19 per share compared to Fairfax's carrying value of 4 $18,000,000 or approximately $18 per share, reflecting growth in Exco when you look at Fairfax's carrying value at December 31, 'twenty 2, of about $12.50 per share.

Speaker 4

Carrying value in 2023 net earnings is just over 3x. Looking at Quest. In accordance with IFRS, in the Q4 of 'twenty three, the company followed the quarterly value in use, which resulted in a calculated value in use below equity method carrying value. And as a result, an impairment of approximately $53,000,000 was recorded on Fairfax's investment in Quest. Additional impairments have been recorded on the company's invest when back in 2019, a $190,600,000 impairment was recorded related to Thomas Cook's India spin off, non cash spin off of Quest with a further 98.3 impairment recorded in 2020.

Speaker 4

In 2020 one, Fairfax sold 3,000,000 shares of Quest at INR900 per share, above our carrying value. And then in 'twenty three, when the share price dropped, we bought 6,600,000 shares at INR 3.84 per share. Quest's carrying value to EBITDA is approximately 15.8x. The 3rd category is accounting for transactions with 3rd parties. The Odyssey, Brit, Allied World transactions were done with large, sophisticated third party investors with their own rigorous due diligence in government processes.

Speaker 4

I will provide some remarks on the Odyssey transaction, where Fairfax sold 10% ownership in Odyssey, and the shares are classified as equity under IFRS. Fairfax has no obligation to redeem those shares. The investors do not have the right to put the shares back to Fairfax, and Fairfax is under no obligation to exercise its call options. After failing that, will collect sale of the operating company with a priority on the proceeds. In 2021, Fairfax was balancing buying back our own shares, which the company viewed as being undervalued and providing capital to our insurance operations to take advantage of the significant growth from the hard market.

Speaker 4

In December 'twenty one, Fairfax decided to sell a 10% stake in Odyssey Group at approximately 1.7x book value to third party participants, where the $900,000,000 proceeds were used for a tender offer to buy back 2,000,000 shares of Fairfax at 0.9 percent price to book or US500 dollars per share. When a minority stake in the subsidiary is sold to a 3rd party, IFRS requires any difference between the sale price and the carrying value of only the shares sold. So as an example, only the 10% sold in Odyssey to be recorded directly in equity. This applies whether it's a gain or a loss. There's no accounting policy choice to defer that gain or loss.

Speaker 4

And my final remarks will be on the new accounting standard for insurance contracts, IFRS 17. Fairfax's transition impact for IFRS 17 as of January 1, 2022, the transition date amounted to $150,200,000 or 1% of the common shareholders' equity. When compared to the correct peer group data points referenced in the E and Y report, Fairfax is well within the range of the peer group, which had transition impacts within the range of negative 2% to positive 3% of common shareholders' equity. Fiscal 2023 included a pretax benefit of only $210,000,000 related to IFRS 17. Irrespective of the incorrect data points used in the allegations, it's also not appropriate to compare Fairfax's transition impact to other Canadian peers as many of those peers had elected to discount claims liabilities prior to the adoption of IFRS 17 to align with reporting requirements of OSFI.

Speaker 4

In contrast, free adoption of IFRS 17, Fairfax was not required to discount its claims liabilities as the holding company is not regulated by OSFI. Under IFRS 4, pre adoption of IFRS 17, reporting on an undiscounted basis allowed us to remain comparable to our peers in the U. S, our largest market. A straight comparison is also not a true reflection of the underlying drivers as Fairfax's business and claims maturity profiles are materially different than the comparables. Given more than 70% of the company's net reserves are from longer tail casualty classes, predominantly from risks written in the U.

Speaker 4

S. During 2022, interest rates moved significantly, therefore impacting Fairfax's net reserves to a greater degree due to the reserves having a longer duration of 3.8 years compared to Fairfax's very short duration on the fixed income portfolio at 1.6 years, which had resulted in the company recording unrealized losses on our bonds in 'twenty two of $1,100,000,000 Under IFRS 17, discounting net reserves now more closely matches the fair value accounting required on the fixed income portfolio. That concludes my remarks, and I'll pass the call back over to Prem.

Speaker 2

Thank you very much, Jed, for your very comprehensive comments. As you can see, Muddy Waters, a short seller, is using 1-sided, in informed allegations and insinuation to profit by short selling our stock. We have built our company over 38 years on honesty and integrity, full and complete disclosure in our reports to our shareholders. Our Board and management will protect our shareholders from false and misleading information. We continue to focus on building our company over the long term.

Speaker 2

We now look forward to answering your questions. Please give us your name, your company name and try to limit your questions to only one so that it's fair to all on the call. Cedric, we're ready for the questions.

Operator

Okay. And our first question comes from Tom MacKinnon with GMO Capital. Your line is

Speaker 5

open. Thanks very much. Good morning. I want to talk a little bit about the top line and what's happening at Odyssey and Brit. We had a non renewal of a quota share agreement at Odyssey.

Speaker 5

If you can talk about what drove the decision to not renew that? What are you seeing with respect to property cat businesses with BRIT where you seem to be taking a bit more of a cautious stand kind of outlook with respect to D and O and cyber? And any other areas of concern. The market seemed to remain pretty firm, but there's always you can always exercise some caution in some lines. So where do you see the best opportunities and kind of where do you see other areas where you should be cautious?

Speaker 5

Thanks.

Speaker 3

Yes. Thank you, Tom.

Speaker 2

Peter, you want to take that question?

Speaker 3

Sure. Thanks, Tom. Just I guess to address the Odyssey question first. Yes, in the 4th quarter Odyssey non renewed, a large residential property quota share around $340,000,000 of unearned premium they returned to the client and that reduced their premium in the Q4. But for us, it's it just shows the discipline Odyssey has and the focus on underwriting profit.

Speaker 3

And that's for us, that's a great thing. And they wrote that quota share for about 2 years. In their mind, the margins weren't there going forward, and they took the action necessary. So, that was very good. On the Brit side, we mentioned in prior quarters that they were reducing their cap their catastrophe exposure, rebalancing it, and you continue to see that coming through the top line in the premium.

Speaker 3

And a lot of the exposure they're dropping is in the binder business, which takes a little longer to run off and that's why you've seen it come through a number of quarters. On the pricing side, on the reinsurance side, we're still seeing for most of our companies double digit pricing, mainly on the property side. And then in insurance, mid single digit price increases. With the exception, as you highlighted, D and O and cyber, which had a lot of price increases over the last number of years, has been slowing down and actually reducing. So, we haven't been growing in those lines as much.

Speaker 2

Next question, Cedric. Thank you.

Operator

Our next question comes from Nik Prie with CIBC Capital Markets. Your line is open.

Speaker 3

Okay. Thanks for the question.

Speaker 6

Maybe just staying in the same vein as Tom's question, sounds like the Odyssey Group non renewal was a bit of a one off in the quarter. With respect to Brit, it sounds like the action taken to reduce property cat exposure was the culprit of lower top line there. Do you see that having a dampening effect on top line growth into 2024 or was that more of a Q4 phenomenon?

Speaker 3

Yes. No, I think it was more of a 2023 effect. You'll see most of that have gone through their numbers already. And you can see the benefits in their catastrophes were lower this year than in past years. But we're very happy to see the actions that they've taken are affected on the bottom line and on the underwriting profit.

Speaker 3

But yes, I think you'll see you won't see a significant effect or see that effect coming through in 2024. Understood. Okay. Thank you.

Speaker 2

Thanks, Stefan.

Operator

Thank you. Our next question comes from Carson Block with Muddy Waters. Your line is open.

Speaker 7

Hi. I appreciate you calling on me. I guess with only one question, we published 5 questions yesterday at any time since Jan 1, 2020. To summarize, what we're looking for is basically disclosure by associates of cash that's been invested versus cash that's come back and also profits that have been booked as well as contingent liabilities arising say with the disposals. Will you be disclosing these associated transactions?

Speaker 2

Thank you very much, Mr. Bloch for your question. Jen, would you answer that?

Speaker 4

Sure. Our disclosure with respect to the associates is disclosed in respect of those transactions as applicable in our annual reports and in accordance with the IFRS framework that Fairfax follows.

Speaker 7

Well, I mean, rather than going for the bare minimum that IFRS requires, I mean, why not provide transparent enhanced disclosure to be very investor friendly? I mean, that's obviously you could do the bare minimum, but why leave it there?

Speaker 2

So Mr. Bloch, just for your information, we've taken a lot of time to go through the allegations you've made. We've made the point very clearly that we will not tolerate false and misleading information. That's the reason we've taken time to explain all that to our shareholders. And so we appreciate your question.

Speaker 2

Next question please.

Operator

Thank you. Our next question comes from Jaeme Goin with National Bank Financial. Your line is open.

Speaker 8

Yes, thanks. Just on the interest income

Speaker 5

forward. Yes. Good morning. Can you hear me?

Speaker 2

Yes. No problem.

Speaker 8

Okay. On the interest income outlook, run rate is just over $2,000,000,000 today. How should we think about upside on that outlook for interest and dividend income on a consolidated basis? Is there more juice to squeeze, let's say, from extending duration, from expanding more into the corporate bonds asset allocation? Where can we see some upside?

Speaker 2

So Jamie, that's a very good question. That's a big change for us, as I mentioned. That's where intrinsic value comes from. That's the fact that we've got such a big bond portfolio now. We've got an investment portfolio almost 65,000,000,000 dollars Interest and dividend income, we basically locked with treasuries, government bonds all over the place at $2,000,000,000 a year for the next 4 years approximately.

Speaker 2

What can happen is if we get a soft landing as people expect, then we'll be able to continue to renew these rates. But if you have a hard landing, interest rates government bond rates could come down, but the spread on corporates, as I've said previously, could increase. And our interest in dividend income can actually decrease. We don't know that, but we've got $2,000,000,000 pretty well locked up. There's lots of possibilities for us.

Speaker 2

And then you add the interest then you add the underwriting profit and the associate income. By the way, on associate income, Atlas has provided the disclosure because of the new build program before they were taken private. They gave you a forecast 300,000,000 dollars going to $600,000,000 by 2025. And as of today, we still think that forecast is appropriate. So when you put all of that together, we look at that operating income of $4,000,000,000 as pretty conservative number.

Speaker 2

So, Jamie, perhaps we could take one last question. Cedric, is there one more question?

Operator

Tim, your line is still open. If not, we'll move on. Our next question comes from Scott Heleniak with RBC Capital Markets. Your line is open.

Speaker 9

Yes. Good morning, Scott. Yes. Just a quick question on the reserve releases, they were pretty meaningful quarter. You kind of compare that to some of the peers that are reporting weaker reserving.

Speaker 9

I was just wondering if you give detail on that. I'm sure you did a year end reserve review, but just wondering if you can give some detail on the either segment or line or accident year or anything that kind of drove that in the quarter, it was widespread or there was specific areas that we got the benefit from?

Speaker 2

Yes, Scott, that's a good question. And before Peter answer, let me just say that we've had a long history of reserve redundancies. And in the we're very conservative in our reserving as we should be. And we think over time that our reserve releases could well be significant. But with that, Peter, you want to address that question?

Speaker 3

Sure. Yes, Noel, as we've mentioned before, during the Q4, all our insurance and reinsurance operations go through thorough actuarial reviews. That's some do it more often, but in the Q4 is when we do our full reviews. And yes, we continue to see in aggregate favorable development like we've seen in the past. And similar to the industry, there has been some development in Allied and Krumm Forster on the 2016 2018 years, but more than offset or offset by favorable development on other lines of business and the more recent years.

Speaker 3

I think our companies are still being very prudent on the hard market years, the 2020, 2021, 2020 holding back from a lot of the favorable development that they're seeing in those lines and just waiting that through for the to see how it ultimately plays out. We're very focused on the effects of inflation and claims inflation in particular. So but generally speaking, we think our reserves in a very good position and we're hoping going forward will benefit us.

Speaker 2

Thank you, Peter. It's just past 9:30 now. So, we thank you all for joining us on this call. We particularly thank our loyal long term shareholders who supported us for so many years. We are looking forward to our annual report coming out and then to see you all at our Annual General Meeting in Toronto on April 11.

Speaker 2

So thank you very much, Cedric, and this will end the call. Thank you.

Speaker 3

Thank you.

Operator

And that concludes today's conference. You may all disconnect at this time.

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Earnings Conference Call
Fairfax Financial Q4 2023
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