|Shares Out. (in M):||539||P/E||0||0|
|Market Cap (in $M):||1,605||P/FCF||0||0|
|Net Debt (in $M):||0||EBIT||0||0|
FULL DISCLOSURE: We obtained the below information independently and not from Protea, nor Riskowitz Capital, nor Midbrook, nor Conduit, nor Snowball, nor any of these entities' affiliates.
When a hedge fund manager that has compounded at 34% net annualized since inception takes over an insurance company to use as his investment vehicle, should one pay attention? What about when, shortly afterwards, another manager that has compounded at 38% annualized decides to join this project by merging his entire hedge fund into this same insurance company—should one pay attention then?
The South African insurance company Conduit Capital was taken over by Sean Riskowitz in 2015. Riskowitz was born in South Africa, but moved to New York where he learned the art of value investing and started a hedge fund to invest in South African equities.
South Africa’s capital markets are well developed, even beating the U.S. on many important metrics:
#2 in the world for Securities Market Regulation (U.S. ranked 24th)
#1 for Auditing Standards (U.S. ranked 23rd)
#8 in Soundness of Banks (U.S. ranked 39th)
#3 for Efficacy of corporate boards (U.S. ranked 15th)
Yet, and with all due respect, the sophistication of investors in South Africa is nowhere on par with that of the U.S. If one should visit and speak with the investment management community in South Africa, one will probably leave with many anecdotes to prove this.
Sean Riskowitz, however, has the benefit of growing up in South Africa which provides him with intimate knowledge of the country, while later moving to New York to pursue his career in investing, which provides him with a sophisticated grounding as an investor. This has allowed Riskowitz to compound capital at 34% net per annum versus negative 7% for the Johannesburg All Share Index (or versus 12% for the S&P 500) over the same time period:
FULL DISCLOSURE: We obtained this information independently and not from Riskowitz Capital nor any of its affiliates.
These results are for Riskowitz’s US-domiciled hedge fund, and are denominated in dollars, making the returns even more impressive considering the significant depreciation of the South African Rand that has occurred over this period. Nor is this the only evidence we have. Riskowitz’s track record goes back to 2007 in a South African vehicle that became known as Midbrook Lane. While that entity’s results are not audited prior to 2011, the IRR (this time in Rand) from inception through the end of 2015 was 34.7% in a period that includes the global financial crisis.
Think Buffett circa the time he took over Berkshire Hathaway, when value investing was not prominent and there was little competition from other trained value investors. A seemingly similar parallel is currently being created with Conduit Capital.
Riskowitz Capital recently closed to new capital after receiving a large investment from a sophisticated institution. Now, investing in the insurance company that Sean Riskowitz recently took over is currently the only way to benefit from his capital compounding abilities.
And developments at Conduit Capital became more interesting recently. Leo Chou is one of the other top investors in South Africa, also schooled in value investing. Chou’s fund, Snowball, has compounded at 38.4% since inception:
FULL DISCLOSURE: We obtained this information independently and not from Snowball nor any of its affiliates.
Last month, Chou also decided to merge his entire hedge fund, Snowball, into Conduit Capital. In August 2016, Conduit announced the acquisition of Snowball Wealth and Midbrook Lane’s stock portfolios in exchange for Conduit share consideration of ~R465 million and ~R168 million, respectively.
Last month, Chou explained his reasoning on why he decided to merge his hedge fund with Sean Riskowitz’s Conduit Capital in a letter to LPs, which clearly illustrates the potential for Conduit Capital. The letter can be found uploaded to this link:
We encourage giving it a read, as it aptly portrays what is possible for Conduit Capital. These top South African stock pickers both thought they could improve their already extraordinary rate of compounding wealth through the use of Conduit Capital.
We are excited that Leo Chou decided to merge his fund (with its startling track record) and the majority of his own net worth over to Conduit Capital. Conduit’s goal is to now utilize these newly acquired equity assets to support the insurance business, given the large amount of opportunities available for growth. Over time, this should prove to be a powerful model—as the insurance business grows, so should underwriting profit and float, which should give Conduit more assets to invest. This should provide a self-financed leveraged investment vehicle managed by two of the top South African investors.
What kind of insurer have Riskowitz and Chou hitched their wagons to? It appears to us to be an attractive one. As Chou points out in his letter, Conduit’s insurance operations have produced an average combined ratio of 96.2% since 2008. Better-than-free float is valuable on its own. But put that in the hands of two investors whose funds have achieved around 40% gross annualized returns going back almost a decade—that’s how you unleash powerful economics.
Conduit’s historically impressive underwriting results have been produced, in the main, by Robert Shaw, who has run Conduit’s insurance division and who has been active in the insurance industry since the 1970s. Given Shaw’s track record and his continued leadership of the insurance division, we are comfortable that Conduit will perform at least as well as the average South African insurer under Shaw’s leadership, but with much more room to grow. Today, Conduit’s share of the South African insurance market stands at less than 1% of gross written premiums. There is plenty of space for Conduit to expand its business at above-average rates for a long time to come.
One should also note that the South African insurance market is consistently a very profitable industry. These are the average ROEs of the top South African insurers and the multiples of tangible book value at which they trade:
Conduit should have a significant competitive advantage over the average South African insurer by focusing on higher return niche insurance businesses. On the investment side, Conduit is the only insurer using a high percentage of its float to invest in equities, and thus Conduit should generate ROE’s above the South African industry average.
Yet if Conduit merely earns the industry average ROE of 20.8% over the next five years, it’s TBV would grow to R4.93/share. If it were to trade at the average TBV multiple of 2.8x, the stock would be worth R13.58/share. That’s a 36% IRR from today’s R2.98 share price.
Or a simpler way of looking at it: if Conduit were to trade at the same 2.8x TBV multiple as its larger peers, it would be worth R5.33/share today, which is 79% upside. The upside potential for Sean Riskowitz to create a South African Berkshire Hathaway is so massive, that should you even halve these results, the returns would still be outstanding.
Though the South African insurance market stands as one of the most well-regulated in the world, much of the country remains unbanked and either uninsured or underinsured. Financial inclusion is still limited, with basic policies like auto or property liability insurance only optional—a rarity in the developing world. This creates a dual opportunity set for Conduit: the potential to grow the size of its insurance book and for two of the best South African investors to allocate its better-than-free float.
|Subject||Management Track Record/comp|
|Entry||09/28/2016 01:01 AM|
Thanks for the interesting idea.
1) Can you discuss how management is being paid (equity ownership vs option grants vs cash)?
2) Do you have any additional color on Sean's historical returns? For example, did he use any leverage/options (what was typical net exposure), how concentrated was he, etc? Just trying to understand how repeatable his process was.
|Subject||Conflict of Interest|
|Entry||09/28/2016 10:46 AM|
Interesting idea. How do you become comfortable with Sean serving as the CEO of Conduit Capital and continuing to run an investment firm on the side? Sean lists his location as NYC on LinkedIn. How will he effectively manage an insurer based in South Africa from NYC?
|Subject||Re: Re: Conflict of Interest|
|Entry||09/28/2016 04:44 PM|
I assume they are planning on no longer limiting their investments to South Africa?
Micro cap South African companies does not sound like it scales very well...
past performance and a cursory review of Riskowitz and Chou suggests that they will still do well with a larger (but still relatively small) pool of capital even outside of SA due to sound processes, but seems extremely unlikely future performance can come close to past performance.
|Subject||Answers to Qs|
|Entry||09/28/2016 05:01 PM|
1) Further details on the comp plan should be discussed in the annual report, due to be released in the next few weeks. I have a high degree of confidence it the comp plan will be very fair.
2) He runs a long-only, concentrated value portfolio. No leverage or options. He has consitently picked the top performing stocks on the JSE.
The portfolios will be run pari-passu with one another, eliminating the conflict of interest. And Buffett ran everything from Omaha, without ever leaving his office.
1) and 2) See above.
3) I'm not sure. Have there been other insurance companies with a <100% combined ratio, in a market where the average insurer does 20%+ ROEs, taken over by investors who have compounded capital in excess of 30% per annum, and have an advantage over their peer investors? If so, let's list some examples here and disect them. I think most failed Berkshire Hathaway clones I've heard about were done in the highly competitive U.S. market, and didn't exhibit these mentioned characteristics. But I could be wrong.
I think they're planning on limiting their investments to South Africa. That's where they have a competitive advantage over less sophisticated South African investors. And an advantage over more sophisticated, but foreign investors.
|Subject||half in cash|
|Entry||09/28/2016 05:51 PM|
the Snowball letter mentions that SA insurers must keep half their investments in cash ... am I reading this right?
also, I think I read somewhere that this is a fairly recent regulation - do you think the ~20% avg returns for the sector would have been much lower had this rule been in place all along?
|Subject||Conduit Annual Report released|
|Entry||09/30/2016 03:00 PM|
It includes a letter from Sean Riskowitz, in addition to details about the comp plan:
|Entry||10/14/2016 08:40 PM|
There should be a moratorium on the proclamation of the 'next Buffett' -- there is no next Buffett. People called Biglari the next Buffett -- look what he did the moment he got power. Then Ackman was on the cover of Forbes as the next Buffett -- he proceeds to lose 20% in '15 and is down 21% in '16. Then Ackman proclaims Valeant as the next Berkshire. Hmm.
I'm sure the folks mentioned in this post are talented investors, but before we proclaim them the next Buffett, can you show me an investment they've made where I could actually put $10 million of capital to work? How many investments have they made in companies with market caps larger than $50 million? This is kind of along the lines of other posters' comments. There are a ton of PA superstars out there -- guys who own five ultra-illiquid stocks in a relatively bullish environment and the stocks go up a lot. Extreme concentration is rewarded extremely when the going is good -- and then you're down 40%. What's so remarkable about Buffett is that he has rarely lost money, and even when he made a ton of money, he was -- for the most part (ex-Sanborn Maps and those sorts of things) -- doing it in stocks like American Express (salad oil scandal), Disney at 5x earnings in the 1960s, Coke at 13x trailing when earnings were growing 30% annually in 1987, etc. In other words, with real money. This is a 17 cent (USD) stock that trades 60K shares a day... not saying it can't be the next Berkshire, but there's probably some significant probability of a reversion to the mean in performance too, especially as the capital base gets larger.
|Subject||Conduit CEO Letter and Results|
|Entry||02/27/2017 07:12 PM|
|Subject||Re: combined ratio|
|Entry||10/11/2017 01:57 PM|
Sorry for the delay in my reply. bafana901, I'm not sure what your exact question is, but if you're asking why do we assume a combined ratio below 100%, it is because that's what the data shows. That's what South African insurance companies earn on average. And that is exactly the opportunity we are discussing.
See the following chart on South Africa's combined ratios versus the U.S., going back to 1999: https://ibb.co/cmHwtw
And here is the data source on South Africa's insurance industry's combined ratios: https://www.fsb.co.za/Departments/insurance/Documents/ST-SPECIALR%20-%2030%20SEPTEMBER%202016.pdf
Here is the data source for the U.S.: https://www.treasury.gov/initiatives/fio/reports-and-notices/Documents/2016_Annual_Report.pdf
|Subject||Will Thorndike, author of The Outsiders, joins Conduit's board|
|Entry||10/11/2017 02:00 PM|