eBay’s Bill Me Later

eBay’s 2013 10-k came out on Fridaylogoebay_x451, and much there is worthy of comment.

For the last few years, I have followed the growth of Bill Me Later within the eBay portfolio, and over that time, my skepticism has increased commensurately (though perhaps ‘exponentially’ would be more accurate).

eBay acquired Bill Me Later in those interesting times of October 2008 for roughly $1 billion USD.

Basically, Bill Me Later offers promotional credit for eBay purchases.  From the 10-k:

“We also provide credit products through our Bill Me Later service. Currently, when a consumer funds a purchase using Bill Me Later, a chartered financial institution extends credit to the consumer, funds the extension of credit at the point of sale and advances funds to the merchant… Although the chartered financial institution continues to own each of the customer accounts, we subsequently purchase and retain most of the consumer receivables related to the consumer loans made by the chartered financial institution and are also responsible for servicing functions related to the customer account…  U.S. consumers may be offered an opportunity to defer payments under some promotional arrangements offered on select merchant sites. Interest on such purchases can be deferred for up to 18 months.”

In 2008, the receivables for Bill Me Later were more or less immaterial to eBay’s balance sheet.  In 2013, eBay purchased $794 million of consumer loan receivables, up modestly from the $727 million purchased in 2012.

In aggregate we find: “as of December 31, 2013, the total outstanding balance of [Bill Me Later’s] pool of consumer loans was $2.9 billion, of which the chartered financial institution owns a participation interest of $65 million, or 2.25% of the total outstanding balance of consumer receivables at that date.”

And apparently, I am not the only observer to have an eye on Bill Me Later, for:

“On August 7, 2013 and January 13, 2014, we received Civil Investigative Demands (CIDs) from the Consumer Financial Protection Bureau (CFPB) requesting that we provide testimony, produce documents and provide information relating primarily to the acquisition, management, and operation of the Bill Me Later business, including online credit products and services, advertising, loan origination, customer acquisition, servicing, debt collection, and complaints handling practices.  We are cooperating with the CFPB in connection with the CIDs.”

Disclosure: No Position

BNCCORP’s 2013 Results

‘Tis the season for polar vortices and community bank earnings.  Following Tuesday’s theme, today we receive BNCCORP’s 2013 financial results. (PR)

BNCCORP has a more colorful recent past than Hingham, having been subject to fraud, insurer litigation, and preposterous capital raising plans.  With all that now behind, we find today’s BNCCORP producing strong returns on assets and equity.

As of 12/31/13, BNCCORP had a book value per common share of $14.45, and it produced a return on average assets and equity of  1.07% and 15.15%, respectively, through the year 2013.  For that performance, today’s buyer is willing to pay $13.14 per share, or roughly, .9x BV.

From my seat, the most impressive aspects of 2013′s performance were BNCCORP’s declining non-interest expense (down 10% in Q4 YoY) and strong non-interest income (despite the headwinds in mortgage banking).  The most obvious negatives were their relatively small loan book (351m in total loans at 12/31/13, vs. 436m in securities), and the fact that they haven’t yet redeemed their preferred stock and/or subordinated debt.

Disclosure: I am long shares of BNCC.

Hingham 2013 Annual Report

Last week the Hingham Institution for Savings (Hingham, MA) released their 2013 financial results. (PR)  Though I have never owned the stock, I have followed it for the better part of seven years, as Hingham consistently produces above average returns on assets and equity, as compared to peer community banks.

Unfortunately, their strong past performance has produced a wide range of admirers, with SNL Financial–for one–naming it the top thrift institution in the East and third overall in the US in 2012. (PR)  With so many admirers, Hingham consistently trades at some significant premium to its book value and tangible book value.

As of 12/31/13, Hingham had a book value per common share of $48.49, and it produced a return on average assets and equity of  1.07% and 13.52%, respectively, through the year 2013.  For that performance, today’s buyer is willing to pay $77.50 per share, or roughly, 1.6x BV.

From my seat, the most impressive aspects of 2013’s performance were Hingham’s large loan portfolio (i.e., as a percent of total assets) and low efficiency ratio (43.26% for 2013, up from 41.54% in 2012).  The most obvious negatives were their relatively high cost of funds (0.93%), low level of demand deposits, and low level of non-interest income.

Disclosure: No position

Secured Note Backed by Dolly

You know, like that dolly…

DollyCall it innovation in finance.  Creativity.  Pluck.  Whatever one calls it, AMERCO (U-Haul) is pleased to offer the following secured notes:

“The notes issued under Series UIC-01B are secured by a first-priority lien on a pool of U-Haul appliance dollies (the “Appliance Dollies”).  For each $100 invested with us in the notes under Series UIC-01B, we will pledge to the trustee, for the benefit of the noteholders, one Appliance Dolly.

The notes issued under Series UIC-02B are secured by a first priority lien on a pool of U-Haul utility dollies (the “Utility Dollies”). For each $45 invested with us in the notes under Series UIC-02B, we will pledge to the trustee, for the benefit of the noteholders, one Utility Dolly.” (Prospectus)

Disclosure: No Position

Yuma Arizona Water Rights

California’s drought puts water on the mind these days, particularly given all the agricultural production there.  There are publicly traded companies with land and water rights in these agricultural areas, but data points are few.

Limoneira discusses some of their water rights in their latest 10-k, noting:

“In connection with our September 6, 2013 acquisition of Associated and its property ownership in Yuma, Arizona and its related membership in the Yuma Mesa Irrigation and Drainage District (“YMIDD”), we have been allocated approximately 11,000 acre feet of water sourced from the Colorado River. During December 2013, Associated entered into an agreement with the YMIDD to participate in a Pilot Fallowing Program in which Associated has agreed to forego its water allocation for approximately 286 acres of land in exchange for $750 per acre through December 31, 2016, unless terminated sooner by YMIDD.”

Disclosure: no position

CBAK Unsecured Loan

Not every day you see a NASDAQ-listed company paying these rates…

“On November 20, 2013, the Company entered into a loan agreement of $11.6 million (RMB 71 million) with Shenzhen Aisibo Trading Company Co., Ltd, an unrelated third party, whereby the loan was unsecured and bearing interest at 0.17% per day. This loan was repaid on December 11, 2013.

On December 17, 2013, the Company entered into a loan agreement with Mr. Jinghui Wang, the sole shareholder of the potential buyer of BAK International whereby Mr. Wang agreed to lend the Company in the aggregate amount of $60.4 million (RMB370 million) which is secured by the Company’s 100% equity interest in BAK International and guaranteed by BAK International and the Company, bearing interest at 20% per annum and repayable by March 31, 2014. Up to the date of these financial statements, the Company has received $60.4 million (RMB370 million) pursuant to this loan agreement and $24.6 million (RMB150 million) from Mr. Wang.” (10-k)

Disclosure: No position

Berkshire Buys Lubrizol

So Berkshire has announced its latest acquisition—Lubrizol (LZ).

In its latest 10-K, Lubrizol describes its primary business—lubricant additives (primarily for engine and driveline lubricants):

“We believe we are the market leader in lubricant additives, and we intend to remain the leader by continuing to invest in this business. Our Lubrizol Additives segment’s growth strategy is to continue to optimize our product mix while closely aligning production capacity with product demand. Challenging market forces and conditions continue to influence the Lubrizol Additives segment. A key factor is the low long-term global growth rate for this market, which we believe is in the range of approximately 1% to 2% per year.”

Pre-tax operating income in 2010 was $1B, on $5.4B in revenues—both records for the company. At an estimated purchase price of $9.7B (which assumes $0.7 net long-term debt), Berkshire is paying 10x pre-tax OI. And almost 4x shareholder equity.

Lubrizol’s gross profit percentage for 2010 was 33.1%, which also appears to be an all-time high. (2008 marked the five year low, at 22.3%; 2006 saw 24.6%.)

Lubrizol has earned very good returns on shareholder capital (excluding special items) in recent years. Its average return on shareholder equity for 2010 was 34.4%, also an all-time high.

I will not extend the theme, but the drift is clear: this purchase price is not a bargain for Berkshire, given Lubrizol’s results over the last five years. Any margin of safety then must lie solely in expected (and highly likely, one would presume) future performance. At minimum, I would think, Berkshire must expect revenues and margins to remain close to their 2010 performance, for at least the majority of the next decade.

Berkshire was not willing to offer LZ shareholders the option of Berkshire stock (as in the Burlington deal), so that should indicate Buffett’s thoughts on each’s relative value.

Longer term, LZ’s future revenues and earnings may face risks—if, e.g., 1) improved engine design increases drain intervals, 2) new vehicle purchases slow and stagnant, or 3) input costs (particularly petroleum) increase faster than expected.

Clearly, I’m missing some important piece of this puzzle.

Disclosure: I hold shares of Berkshire Hathaway.

Why Did Berkshire Stop Selling Moody’s?

[Warren Buffett recently entertained CNBC and its viewers in what now seems to have become an annual three hour session (transcript here).  Amid the inopportune interruptions and political meanderings, some interesting things emerged.  For one, the central reason why Berkshire has stopped selling Moody’s…]

“BECKY:  That’s one of many questions that have come in, but we also have questions that have come in about Moody’s. Achit in Arizona writes in, “In your FCIC interview, you spoke of the inherent advantages of a duopoly that Moody’s and S&P share. Why does Berkshire continue to reduce its interest in Moody’s? Is there too much headline risk” for you?

BUFFETT: Well, I think that duopoly is in somewhat more danger than it was simply because people are mad at the ratings agencies and the ratings agencies totally missed what was going on in the mortgage market and that was a huge, huge miss. I don’t think they were, you know–I think they were just wrong, like a lot of people were wrong about in thinking that housing prices couldn’t go down a lot, but they were rating agencies and they’ve gotten a lot of criticism for it and their business model is sensational when it’s a duopoly. I mean, I have no bargaining power. I’m going to see Moody’s in the week or I think or something about our ratings.

BECKY: Mm-hmm.

BUFFETT: And you know, I dress up and do everything I can to, you know, talk about my balance sheet. But they–they’re God in the ratings field and Standard & Poor’s, and I need their ratings. And if they tell me the bill is X, I pay that, and if they tell me the bill is X plus 10 percent, I pay that. You know, if Coca-Cola charges too much, you know, you may think about drinking Pepsi Cola, but in the rating agency business, you need those two. And if that–either people get so upset with them or whatever it may be, or Congress gets upset, that could disappear. It won’t disappear from natural reasons. I mean, it is a natural duopoly, just like–it’s a little different than Freddie and Fannie were, but they also had some specific advantage. Sometimes you find situations where you get a natural–well, you used to have that in the newspaper business. You had a natural monopoly in big cities. It wasn’t–it wasn’t illegal, it just worked out that way.

BECKY: Mm-hmm.

BUFFETT : And that’s what happened in ratings agencies. But it’s not as bullet-proof as it was. Although, I will say that…

BECKY: Does that explain why you’ve been selling?

BUFFETT: Well, we haven’t sold that aggressively.

BECKY: Mm-hmm.

BUFFETT: I mean, if you look at it during the course of 2010, we sold a very small amount of the–it looked to me that that threat was receding to some degree. But it’s different than it was five years ago…” [Emphasis added.]

[A couple years ago, I suggested that Moody’s Structured Products Group (SPG) would find it difficult to match past peak revenues ($873m in 2007).  In their latest 10-K, 2010 revenues from the Structured Finance Group appear down 5% v. 2009, to $291m.

In the meantime though, revenues from their Corporate Finance Group have held strong, and increased 38% YOY in 2010, to $564m.  Income before tax (for the whole company) was $714m in 2010, compared to $730m in 2008.  Despite a substantial revenue decline in their largest business line from 2008 to 2010, income before tax (for the company as a whole) has held relatively steady, even with a tarnished reputation.  So Berkshire will hold.]

Disclosure: none.

Financial Panics and Commercial Revulsions

Advance apologies for being two years late and perhaps a bit sour for today’s ebullient mood…

But a copy of “A Brief Popular Account of all the Financial Panics and Commercial Revulsions in the United States, From 1690 to 1857: with a More Particular History of the Two Great Revulsions of 1837 and 1857” found my hands in recent days. (Google eBook here)

Written at a time when the United States’ “business system” was laboring under “difficulties” (i.e., 1857), the author endeavors to uncover “the causes of financial revulsions” and distinguish them from financial panics, with the ultimate aim of “prevent[ing] the recurrence of similar periods of panic and disaster.”

Whereas a panic “is a pressure in the money market without adequate cause,” a revulsion “is pressure with adequate cause, and that cause invariably is a previous Destruction of Value” (1).

In other words, “a national Revulsion is a national pay day.  The nation has been drawing on the Future, and the Future dishonors the draft.  The forcing process is then applied, widespread ruin is the result, and long period of paralysis ensues.”

A simple insight and a memorable analogy–business transactions flourish or cease, largely based on the beliefs we hold about the future.  Most of the time, our beliefs imperceptibly wax and wane; of course, when they change in an instant, we write a book about it.

Two Improbable Statements Before Breakfast

I ran across two stunning statements this morning in a press release from Contango Oil & Gas Company. The release announced that Contango had revised its oil and gas reserve estimates down by 48.5 Bcfe, to 300 Bcfe.

Regarding the revised estimates, Ken Peak, Contango’s Chairman and CEO, remarked:

“The downward reserve revision is an enormous personal disappointment. I know full well the complexities and numerous uncertainties of reserve estimation, especially early on in a field’s production history. Moreover, the impact of a downward revision is particularly acute when all the Company’s reserves are in essence concentrated in one reservoir. I have full confidence that our reserve estimates were prepared in a careful, conscientious manner and fully consistent with SEC and SPE guidelines. Nonetheless, it is right that the economic pain of this downward revision be shared, therefore, neither myself nor any Contango employee will receive a bonus or stock options for the fiscal year ending June 30, 2010.” (my emphasis added)

Lest the reader miss the economic impact of that statement, be it known that $2.47m of Peak’s $2.64m 2009 compensation derived from options and bonus pay. That’s an extreme pay cut–one of the largest self-inflicted I’ve ever seen (in terms of percentage).

Peak concluded with some commentary on the Gulf oil spill and its impact on Contango:

“The question on many minds these days is the impact of the Gulf of Mexico oil spill on the industry and in our case, Contango specifically. Obviously no one knows, but I will venture an opinion since it goes to the core of our business model and future. I am certain we will face increased regulatory and permitting costs and scrutiny. I believe we can deal with these challenges. I am certain we will face an increased emphasis on safety, and in particular, redundancy in “fail safes”. I welcome these new standards, but believe everything we are currently doing already meets a very high threshold of safety adherence. Hopefully, it is recognized and understood that no human endeavor is ever, and can never be made to be, absolutely, totally and flawlessly 100% fail safe.

“There are two areas that give me great concern. The first is the concept of unlimited environmental liability for a spill, or a limit so high that a debt-free company with an approximate $1.0 billion market cap like Contango is in essence, asked to “bet the Company” every time we drill a well. The move in recent days by some in Congress to retroactively change the law regarding environmental liability does not give me great confidence in our government. Nor do comments about “boots on throats”. The second area that causes great concern is the thought of going to jail for a judgment error or equipment failure – especially if the MMS approved the procedures that were being followed.

“There is at the moment, an enormous amount of understandable emotion and anger together with political populism spewing forth along with the Gulf of Mexico spill, but I believe, and hope, that once the spill is contained, that serious reflection and thought will be brought to bear on how the nation, coastal states in particular, and the livelihood of tens of thousands who depend on a vibrant offshore exploration industry, can beneficially coexist. Contango’s capital expenditure plans, even before this spill, were to “wait out” the upcoming hurricane season, so no adjustment to our capital expenditure plans is required.”

I’ll restrain any tendency to wax philosophical about contemporary political discourse and its relation to a nation’s moral fiber. Indeed pertinent facts still remain hidden from public view. What stands clear–the tone of our conversation today will shape the arc of an industry’s future.

Disclosure: no position