Fairfax investors are losing patience with Prem Watsa's commitment to BlackBerry Ltd.
As the bid to privatize the fading smartphone company fell apart on Monday, Mr. Watsa sunk more Fairfax Financial Holdings Ltd. money into Plan B.
"I don't think many people wanted to see Fairfax put any additional capital into BlackBerry," said Paul Holden, an analyst at CIBC World Markets.
Upon announcing it would raise its stake in the BlackBerry salvage operation, Fairfax saw its share price fall by 2.5 per cent. The reaction might be considered excessive given the company's limited exposure to BlackBerry, but that doesn't necessarily make Fairfax a good immediate buying opportunity. Rather, the dip may have moved the equity closer to fair value.
While Mr. Watsa didn't exactly have a mandate from shareholders to engineer BlackBerry's turnaround, he at least had the benefit of the doubt.
"We have to give credit to Prem Watsa for creating a lot of wealth over many years by taking asymmetric risks," Mr. Holden said in a note to investors in October. "We have to believe that he sees the potential for outsized gains from privatizing BlackBerry."
Investors were willing to suspend their skepticism of BlackBerry's value given Mr. Watsa's record of making shrewd contrarian calls, most notably his anticipation of the U.S. financial crisis.
Fairfax was not expected to contribute more than its existing stake in BlackBerry to the takeover and Mr. Watsa assured investors he could summon enough interest to bankroll the $4.7-billion offer. He couldn't.
Instead, he pledged $250-million toward BlackBerry's $1-billion issuance of convertible debentures, which pay a 6 per cent coupon.
The investment still represents a bet on BlackBerry's recovery, as the seven-year debentures can convert to equity if share price rises above $10.
If the entire issuance is converted, Mr. Holden estimates that Fairfax's stake in BlackBerry would increase by 50 per cent to about 77 million shares – still not enough exposure to change the outlook on Fairfax. And yet the company lost about $200-million off its market capitalization on Monday.
"I think it has more to do with the sentiment," said Jeff Fenwick, an analyst at Cormark Securities. "Because this is more material to BlackBerry than it is to Fairfax."
Mr. Watsa, however, has staked a portion of his reputation on BlackBerry, while his reappointment to the company's board of directors signals his long-term engagement.
"Arguably, the management of Fairfax could be better off devoting its time elsewhere and so we are not overly enthusiastic about this additional commitment," Mr. Holden said. He lowered his target price on Fairfax to $419, having downgraded the stock after last week's earnings announcement.
In the third quarter, Fairfax posted a loss on its investment portfolio of $829-million largely resulting from the company's extensive equity hedges – a reflection of Mr. Watsa's pessimistic market outlook.
The loss drew the company's book value down to about $335, which has declined by 11.5 per cent year to date. As a result, the stock is now trading at a multiple of about 1.3 times book value, well above the 1.0 to 1.1 range seen over the last five years, Mr. Holden said.
If Fairfax is returning to a valuation closer to historical average, then the 11-per-cent stock slide seen over the last week could be considered an appropriate correction to Fairfax stock, triggered by the latest news in the BlackBerry saga.
But long-term investors in Fairfax shouldn't overreact, Mr. Fenwick said. "Fairfax is always very upfront about the fact that some of their investments are not going to work out the way they want. But over the long-term, if you can get two out of three, you're going to be successful."