Author Topic: Why does Fairfax India use leverage?  (Read 3122 times)

RichardGibbons

  • Hero Member
  • *****
  • Posts: 655
Re: Why does Fairfax India use leverage?
« Reply #10 on: June 21, 2019, 11:51:29 AM »
Also worth noting that the performance fee isn't 20%, but rather 20% of the amount above a 5% hurdle per annum growth in NAV.  Because the performance fee is based on NAV, I think, in effect, it comes out after the management fee.

So, for your 8% example, I think the return would actually be (8%-1.5%) - (8% - 1.5% - 5% * 0.2), or 6.2%, not 4.9%.




dartmonkey

  • Jr. Member
  • **
  • Posts: 62
Re: Why does Fairfax India use leverage?
« Reply #11 on: June 24, 2019, 08:44:22 PM »
You do not have the correct performance fee terms: FFH takes 20% of the return beyond 5%, not 20% of the total return. In your example of an 8% return, that would be 20% of 3%, plus the 1.5% management fee, so client teturns would be 5.9%, not 4.9%.

dartmonkey

  • Jr. Member
  • **
  • Posts: 62
Re: Why does Fairfax India use leverage?
« Reply #12 on: June 26, 2019, 01:54:34 PM »
RichardGibbons' calculation makes sense: FIH's net asset value (essentially, book value) growth will inevitably be slowed by the 1.5% management fee that is charged, son an investment gain of 8% will not mean that book value goes up by 8%. The exact calculation depends on the timing of that charge. If, for instance, the 1.5% is levied against asset value at the beginning of the year, then instead of 8% growth, we will have 6.5% growth, plus a performance fee which would be 20% of the 1.5% in excess of 5%, giving an additional 0.3%, so that the total return would be 8%-1.5%-0.3%= 6.2%.

If the management fee is charged at the end of a year with 8% growth, then it would be 1.5% of 108%, or 1.62%, leaving 6.36% net asset value growth, minus 20%*1.36%=0.272% as the performance fee, and the investor would keep 8%-1.62%-0.272%=6.108%.

In any case, the important point that both of us were trying to make, is that the performance fee is 20% of whatever return there is in excess of 5% per annum, and not on the whole return.

In fact, it is even slightly more complicated, since there is a highwater mark that also needs to be considered. The last asset value calculation for the sake of determining the performance fee was done for Dec 31, 2017 (it is done every 3 years), and book value was $14.46 at that time. It has dropped since then, and at last count it was $13.61 on March 31st. So book value would have to exceed $16.74 ($14.46*1.05^3) on Dec 31, 2020, for there to be any performance fee at all, and then FFH would get to keep 20% of the excess beyond that $16.74. That means that for you the new FIH shareholder, the first $0.85 in book value gain is on us, the previous shareholders that have already paid the performance fee up to $14.46. After that, there's $2.28 in book value gain that is beneath the 5% p.a. threshold. Only after those 23% in gains (from $13.61) is there any performance fee to be paid to Fairfax.  There's still the 1.5% annual management fee, though.

dtb