Francis Chou takes inspiration from Warren Buffett and his Berkshire Hathaway and aims to make Wintaai Holdings a massive conglomerate similar to Berkshire. Chou has a long and successful investing track record, most recently with Stonetrust Commercial Insurance Company, which Wintaai owns.
In Wintaai’s 2020 letter to investors, Chou said the two firms had an excellent year despite the pandemic. He added that they were able to take advantage of the situation because of the market’s volatility. His team expects to come out stronger than ever financially after the pandemic, positioning the firm for future growth and a rating increase by AM Best.
In fiscal 2020, Stonetrust’s GAAP book value rose from C$110.06 million (US$84.74 million) to C$129.03 million (US$101.34 million). Meanwhile, Wintaai’s adjusted book value rose from C$19.41 (US$14.94) per share to C$24.20 (US$19.01) per share. The firm’s returns are higher because it accounted for a US$ 3 million dividend received from Stonetrust during the second quarter of last year.
One thing that makes Chou Associates Management different from other hedge funds is Chou’s plan for acquisitions. Stonetrust benefits from his expertise in investing, making it unusual among insurance companies as well. Most insurance companies only earn income, but Stonetrust is earning capital gains in addition to income.
Wintaai and Stonetrust
Wintaai bought Stonetrust three years ago, and it has seen excellent operating results during that time. The insurance company’s investment portfolio has greatly added to its earnings numbers. For example, the firm owned several fixed-income instruments with maturities ranging from 2022 to 2049.
Stonetrust sold its investments in Antero Resources Corp, Continental Resources
The insurance company continues to invest in Athabasca Oil Corp, SRC Energy, PDC Energy, Range Resources
Stonetrust also owned quite a few stocks in 2020, including Lumen Technologies
Some of the positions did exceptionally well, while others did not. The Fiat Chrysler position more than doubled in value last year, while Exor increased by $1.5 million in market value. Alphabet surged to $6.7 million, while Apple jumped to $5.8 million. The firm’s holdings in Resolute Forest Products more than doubled, as did Pool Corporation, Allegiant Travel, Lear Corporation and Moody’s Investors Service.
Stonetrust also started buying options last year, snapping up hundreds of contracts in Assured Guaranty, Bausch Health Companies, Bank of America
Chou said they have a good problem at Stonetrust, which is excess capital. He estimated that the company’s GAAP book value stands at about US$110 million. Last year, the firm’s net earned premium was approximately US$45 million. Using a ratio of capital to net earned premiums of 1:1, Stonetrust has US$65 million in extra capital. Chou discussed three possible ways to deploy that excess capital.
He said the best option is to grow internally. If the insurance market hardens and they can double their net earned premium to $90 million over three years, then investable assets would climb to about $300 million. With a purchase price of one times book value to acquire another insurance company, the acquisition cost is less than 20 cents on the dollar.
If growing internally isn’t an option, the next best choice is to purchase an insurance company that’s disciplined in its underwriting approach. The minimum price is one times book value, which is 100 cents on the dollar, although Chou thinks that’s conservative.
The third option is to buy the marketable securities of undervalued companies. Most of the purchases are in “companies that have solid long-term economics,” earned their income in cash and are “run by highly competent managers.” Sometimes they might buy distressed companies, but they have to be “extremely cheap” with a decent chance of restructuring or selling. Chou wants to avoid such companies as much as possible because he sees them as “CRAP,” or “cannot realize a profit.”
Chou is going above and beyond to make the companies he is involved in a success. For example, his tax accountant told him that they could save Wintaai about C$370,000 in income taxes if they used some of the tax losses at Chou Associates Management. Although CAM owns just 72.1% of Wintaai, the benefit also accrued to Wintaai’s minority shareholders. Chou immediately agreed to do it without charging Wintaai for the benefit.
He also serves as Wintaai’s CEO, but he doesn’t take a salary in that position. As a result, the firm’s legal, auditing, office and general expenses for 2020 amounted to only $35,465.
Chou’s humble beginning
Chou also inspired Prem Watsa of Fairfax, introducing the idea of float to him. He reminded Watsa of how Buffett’s Berkshire and other significant firms had made money. They bought up insurance companies or other firms that generated a lot of cash and then used the float to invest and earn even more capital. Without Chou’s influence, Watsa would have remained a pension fund manager.
Chou seems well on his way toward building the next Berkshire Hathaway, although it’s clear from Buffett’s many letters over the years that it takes time and work to do it.