Markel Corp : A Company Similar To Berkshire Hathaway’s track record?

SUMMARY

  1. Markel is a diverse financial holding company serving a variety of niche markets with their principal business in the underwriting of specialty insurance products.
  2. The company has a structure which is fairly similar to Berkshire Hathaway and has a stunning track record of compounding its business over time.
  3. While it is similar to Berkshire in some ways, it does not have the same accomplishments. Hence, this could mean that patient investors stand a chance to enjoy similar returns that Berkshire has delivered back in the 1980s.

 

  • Introduction

As the market grows to be more volatile by the week, many investors that I have spoken to expressed their concern about what kind of stocks should be in their portfolios. Should we be amassing a portfolio of undervalued stocks or should be continue to purchase companies with robust growth? While businesses that fall into each of the above categories do have their place in our holdings, we should also invest in companies that we would be comfortable holding in times of turmoil.

Markel Corp

Markel Corp (NYSE: MKL) is just that type of company that I would like to hold in an event of a downturn. Over the years, it has gained a reputation of operating in a niche insurance market with other operating companies under its holding. Are you able to think of another insurance company that has other operating companies under its umbrella? If you’re thinking of Berkshire Hathaway (NYSE: BRK.B), you’ve hit the nail on the head. In fact, many analysts and investors refer to Markel as “Baby Berkshire”. For investors and readers who are on the hunt of high-quality, steady-as-she-goes kind of company, Markel may just be the one you’re looking for.

 

  • Business Overview
  1. Specialty Insurance

While Markel did not invent the specialty insurance industry, it has been very successful at carving out a niche for itself over the last 80 years of operation. There are plenty of insurers to choose from if you would like to purchase a policy for your house or your car. But can you find one that would insure you in an event of an accident during a sporting event? This is where Markel brings in its expertise to price out unusual risks and sell policy plans at a competitive price to its customers while remaining disciplined on the amount of risk that it should take.

Revenue in 2016 from its insurance business came in at $4.8 billion as compared to $4.6 billion in the prior year. While the improvement may not be significant, Markel continues to assure investors that discipline is the key to sustainable, long-term profits. Combined ratio is a measurement that reflects the profitability of an insurance business. It can be calculated using the formula below:

Markel value investing

If the ratio is below 100%, it means that the business has been profitable. The company has demonstrated sheer discipline by showing its willingness to take on underwriting contracts that are less risky as compared to its competitors that may chase premiums at any cost.

As you would now know, this is not all that Markel does.

  1. Investments

Similarly to Berkshire, Markel is also in the business of investing for the long term. Profits from its day-to-day operations and policy premiums collected from writing insurance, or floats, form a large pool of cash that can be deployed for other purposes.

Firstly, the company would use its float to purchase bond investments as they form the base of its portfolio. Generating a fixed and recurring stream of revenue from bond investments is crucial for Markel as basic regulations are set in place to protect policyholders.

Of course, Markel also invest a large amount of cash into equities with the intention of buying and holding them for a long time. Companies such as Marriott International, Walt Disney and even Berkshire Hathaway is part of Markel’s long-term investments. Needless to say, it has delivered returns which have enriched its shareholders over the last few decades with co-CEO Thomas Gayner as the chief capital allocator.

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  1. Markel Ventures

Apart from purchasing publicly listed companies, Gayner has also deployed capital to acquire smaller companies that are profitable and growing steadily – a strategy that has also been used by Warren Buffett.

In 2016, revenues stemming from Markel Ventures grew to $1.2 billion from $1 billion, an increase of 16% and earnings before interest, tax, depreciation and amortisation (EBITDA), increased to $165.1 million compared to $91.3 million, an increase of a whopping 81%. Over time, Markel Ventures will continue to grow as a positive factor within the company as it provides an additional diversified stream of cash flow to Markel. Since some of its businesses do not operate in the same industry as Markel, they are not completely subjected to economic conditions or regulatory forces affecting its insurance operations.

  1. Potential Risks

As with any other investment, investors are not granted immunity when it comes to risk involved.

Wall Street Journal published an article in 2015 about Thomas Gayner which dubbed him as a role model one can emulate. Rather than try to mimic Buffett, more investors might be better off following the patient and common sense approach that Gayner advocates for. If one were to take a look at the stocks that Markel has invested in, one would immediately be able to spot the similarities that Markel has to Berkshire. As a shareholder myself, I would like to see this trend continue.

Another risk factor that investors should look out for would arise from the company’s insurance portfolio. The current operations has shown that the company has been disciplined with its risk management policies. Still, despite its best efforts, unexpected events would take a bite out of its profits from time to time. If Markel change its strategy or become less prudent while it searches for profit, it would change the entire investment thesis.

Lastly, just like any other financial institution, Markel has exposures to interest rate risk. This risk is beyond our control and hence, not a huge cause for concern.

  1. Pricing and Valuation

Markel Stock Growth

[Source: Author]

The management team behind Markel’s success has been extremely focused on delivering shareholder value and this has been reflected in the company’s book value per share. If the company was to be liquidated today, this is the amount of money that each share would be sold for and hence, the amount of money shareholders would receive.

Over the past four years, the average book value per share growth rate was 11.60% per year. I believe that the company will continue to grow at a healthy clip despite an increase in pricing competition within the insurance space.

The company’s current price-to-book value stands at approximately 1.6 times. That means that for every $1.60 an investor pays for the stock, they are only getting $1 worth of the company. Theoretically, many investors will take this as a sign that the company is overvalued and hence, should be avoided. In the real markets, however, companies are rarely selling for below its book value. And as for a company like Markel? Go ahead and splurge a little bit. While it is wise that investors should never overpay for a stock, I believe what Warren Buffett say to be absolutely true – that it is better to pay up for a quality business than to get a discount on trash.

  1. Conclusion

Overall, Markel offers bright prospects for investors who can be patient and wait. Sure, the ride will never be always smooth, but I’m betting that over the long term, this “Baby Berkshire” will deliver steady growth with a compelling value to boot.

Link to WSJ article: https://blogs.wsj.com/moneybeat/2015/05/22/like-buffett-another-folksy-investor-turns-patience-into-profit/

 

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Marcus Ho
Research Analyst, Mind Kinesis Value Investing Academy

Disclaimer: Please note that all information stated in this article is just for education purpose only and should not be used as any form of recommendation or advice.

 

 

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