Author Topic: BUR.L - Burford Capital  (Read 14450 times)

Gregmal

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Re: BUR.L - Burford Capital
« Reply #20 on: July 05, 2019, 10:49:06 AM »
One look at the man, and Gregmal declares “he is fat”!

This is a great business, at the very least, as a short term investment. Potentially, it’s a long term compounder. No need to get caught up on obscure nuances. I was once told something by a mentor that has resonated ever since. The ideal combination for an investor is to be smart enough to see what’s relevant, while being dumb enough not to see or get hung up on every little arcane detail.


peterHK

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Re: BUR.L - Burford Capital
« Reply #21 on: July 05, 2019, 11:27:46 AM »
At this valuation you can safely put the onneous of TAM size on the bear not the bull.

It's at least as large as the current year plus a good chunk larger than GDP given its really only operating in a few countries for the last few years... It's safe to say that it is highly likely to be significantly larger.

Why do some asset managers earn good returns while others don't?

Infinite money can flood into equities and there will always be someone that generates alpha. If that's BUR you make tremendous gains. If they just get their share of fund flows at market ROIs but the market is structurally attractive for 10 to 15 years you make tremendous gainz with little downside.

Not enough of the bears can paint a scenario with more than 20 to 30 downside... CG did a good job painting it down to 12 ish...

And CG was full of crap.

On returns and valuation, I think people miss the interplay.

Today, Burford earns ~40% ROE's, conservatively. Book value as of the last statement is 4.89GBP. It's worth noting that last year's 30% ROE was an abnormality:

"the FTSE 250 average) needs a word of explanation. Our ROE is of course affected not only by earnings, which increased materially, but also by the rate of growth in our net assets. Thus, because we deployed a record-breaking amount of new investment capital in 2018, we pushed down our ROE for the year".

If we get 40% ROE, then BV/Share at the end fo the year will be 6.85.

If next year returns compress to 25% ROE's (almost a 50% decline!), book value will  be 8.56.

If the year after that returns compress to 20% ROE's (which equates to ~15% ROIC's on their portfolio, down from 30% ROIC's today), then ending book value is 10.27.

Let's say BUR stops there and decides to pay out 100% of its earnings, reinvest nothing in the business, and has no asset management business generating any earnings. At 20% ROE's, and 10% WACC the justified P/B of this company is, with 0 growth (because they pay out 100% of earnings): (ROE - g)/(r - g). 20%/10% = 2x.

This gives us on 10.27 of book value x 2 = 20.54/share. This is with 0 value given to the fee stream from an asset management business, it assumes BUR pays out 100% of earnings in a dividend and does not grow. Were BUR to reinvest 10% of its earnings @ 20% ROE's, that gives you 2% growth, which means the justified P/B would be 2.25x (18%/8%). Even a little growth gets you to over 23GBP even if returns compress almost 50% from today over a mere 3 year period. Good for mid teens returns.

Now, what happens if returns DON'T compress?

If BUR compounds at 40% for 3 years, BV/S will be 13.41 share. What's the valuation of a business that can earn 40% ROE's, reinvest significant parts of their earnings and grow? Well, lets say you assume 30% ROE's is more normal, and they reinvest only 10% of earnings (growth is 3%): justified P/BV @ 10% WACC = 2.7x. That gives you 36 GBP price target on just book value, leaving alone any asset management business they have.

For the AM business, if you manage $3bn @ 1.5%/20% carry with an 8% hurdle and returns are 20%/year, you get a fee stream of $60mn in mgmt fees @ a ~50% operating margin, maybe 40% after tax (note that margins are high because BUR bears much of the costs of investing already, so there are a lot of synergies to doing your own BS investing and having a fund management business). At a 12x multiple, that's worth $288mn.

Your carry is another ~$70mn a year, say at another 50% margin. Capitalize that at 5x, another $180mn in value. So the AM business gives you another ~$470mn or so in value (~1.70GBP per share).

So if this goes poorly, you're looking at maybe 37GBP, 32% annualized.

For you to be a bear at today's prices, you need to prove that returns will compress immediately, and that Burford will be able to reinvest very little back into the business and that the asset management business will not do well.

I think you will do well in Burford.  But I think you are missing the point.  People aren't saying that ROIs aren't high, our argument is you can't look backwards in terms of ROI as they compounded capital in enviroments with less competition.  If they maintain 40% ROIs no way you can lose money.  The question is with so much money flowing in, everyone is IPOing, everyone is starting funds, and everyone is evaluating if paying an external fund to finance your litigation at 40% ROIs for them is worth it when you have the money yourself.  Just on the back of how much assets they are raising by themselves, at some point they are going to run out of things to finance. 

If you invest 3 billion in your fund and 3 billion of your own capital, maybe the market is 60 billion dollars and 50% of that you can't invest in because its 1 million dollar cases, then you are already 20% of your TAM.  Being such a large percentage of TAM unless you have some really compelling value add, which litigation finance sort of does even at that scale due to public company accounting advantages for example, maybe you can make money.  But most of the companies you finance aren't going to have liquidity issues.  At some point many are going to get better deals for themselves and ROI will go down (and it has again compared to companies that are much smaller). 

To @deserelts, I think the bigger size more diversification argument is more marketing than actual substance for the company.  In the public markets there is little return to diversification after the 20th asset.  This is with assets that are correlated.  With legal financing, the assets are not only uncorrelated, but IRRs are in the 50+% range.  If you have a portfolio of 10 to 20 million dollars, no one is even close to a permanent loss of capital even at that size.   Cream of corp may be more valid, but this is asset management.  If I have a lawsuit, I don't care that a big name is financing me or not (as long as they aren't going insolvent), I just want the best deal I can get. 

To @peterHK Again nothing suggests Burford is unnaturally good at underwriting.  Everyone earns IRRs in 30% of higher.  They just perfected the financial engineering side before anyone else. 

my edit: @spartan to address one of your points, although Burford has a large North American presence, many other firms (which were all started in Australia and often listed in London) focus on markets with less regulatory risk and so you can always avoid that risk by picking firms.

Look at IMF Bentham. I feel like Burford has shown its underwriting is better.

My argument is not that returns won't decline, it's that the rate of decline priced in by the market today is, in my opinion, far too fast. I don't believe the argument that just because there's more competition, returns must decline immediately. As I said before, there are trillions of dollars chasing various private assets, yet some firms are continually able to eke out good returns from a combination of factors. Similarly, there are mutual fund firms who's only advantage is they interpret filings better than other people, yet that is enough to keep them compounding in the teens for many years. Increased competition is a necessary, but insufficient condition for a very rapid decline in returns.

It's also worth noting that as BUR takes on different types of investments, their returns will fall naturally, as they indicated at a number of investor days. For example, if you have an investment in a mediated case that settles quickly with lower IRR's, but you can increase asset turns, then your "returns" fall, but you can compound capital at comparable rates because of increased asset turns.

As for risk, lets say you have a random 50/50 flip of heads and tails. Heads you win 200%, tails you lose 100%. Yes, your expected value is positive, but there is still a non-zero chance that you lose absolutely everything because of the binary outcome. 2 points to this. First, a firm with a greater number of cases, more capital, and therefore more coin flips, is going to have a lower level of risk. So diversifying beyond your 20th asset DOES matter.

Second, in order for the expected value to make sense in the above, you have to have 101% win, 100% losses and over time with enough coin flips you can make money. Now, let's say you were very skilled in evaluating opportunities so you could tilt the odds instead of 50/50 to 60/40. Expected returns there would be 20%, up from 0.5% with 50/50 odds. Thus, even very tiny shifts in the ability to judge outcomes skews expected returns massively because of the binary and large win/loss nature of these sorts of investments. Skill here matters exponentially more than in other alternative investment classes.

This is why I think returns will be sustainably fairly high here. The equilibrium point at which this is no longer profitable yields massive returns with tiny adjustments in probability of success, meaning that those firms that can gain even tiny edges due to culture/data etc. will reap far higher returns than firms that can't.

Jerry Capital

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Re: BUR.L - Burford Capital
« Reply #22 on: July 05, 2019, 11:38:26 AM »
The diversification point re 20 companies is not relevant to the outcomes in binary litigation finance.
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cameronfen

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Re: BUR.L - Burford Capital
« Reply #23 on: July 05, 2019, 12:53:59 PM »
At this valuation you can safely put the onneous of TAM size on the bear not the bull.

It's at least as large as the current year plus a good chunk larger than GDP given its really only operating in a few countries for the last few years... It's safe to say that it is highly likely to be significantly larger.

Why do some asset managers earn good returns while others don't?

Infinite money can flood into equities and there will always be someone that generates alpha. If that's BUR you make tremendous gains. If they just get their share of fund flows at market ROIs but the market is structurally attractive for 10 to 15 years you make tremendous gainz with little downside.

Not enough of the bears can paint a scenario with more than 20 to 30 downside... CG did a good job painting it down to 12 ish...

And CG was full of crap.

On returns and valuation, I think people miss the interplay.

Today, Burford earns ~40% ROE's, conservatively. Book value as of the last statement is 4.89GBP. It's worth noting that last year's 30% ROE was an abnormality:

"the FTSE 250 average) needs a word of explanation. Our ROE is of course affected not only by earnings, which increased materially, but also by the rate of growth in our net assets. Thus, because we deployed a record-breaking amount of new investment capital in 2018, we pushed down our ROE for the year".

If we get 40% ROE, then BV/Share at the end fo the year will be 6.85.

If next year returns compress to 25% ROE's (almost a 50% decline!), book value will  be 8.56.

If the year after that returns compress to 20% ROE's (which equates to ~15% ROIC's on their portfolio, down from 30% ROIC's today), then ending book value is 10.27.

Let's say BUR stops there and decides to pay out 100% of its earnings, reinvest nothing in the business, and has no asset management business generating any earnings. At 20% ROE's, and 10% WACC the justified P/B of this company is, with 0 growth (because they pay out 100% of earnings): (ROE - g)/(r - g). 20%/10% = 2x.

This gives us on 10.27 of book value x 2 = 20.54/share. This is with 0 value given to the fee stream from an asset management business, it assumes BUR pays out 100% of earnings in a dividend and does not grow. Were BUR to reinvest 10% of its earnings @ 20% ROE's, that gives you 2% growth, which means the justified P/B would be 2.25x (18%/8%). Even a little growth gets you to over 23GBP even if returns compress almost 50% from today over a mere 3 year period. Good for mid teens returns.

Now, what happens if returns DON'T compress?

If BUR compounds at 40% for 3 years, BV/S will be 13.41 share. What's the valuation of a business that can earn 40% ROE's, reinvest significant parts of their earnings and grow? Well, lets say you assume 30% ROE's is more normal, and they reinvest only 10% of earnings (growth is 3%): justified P/BV @ 10% WACC = 2.7x. That gives you 36 GBP price target on just book value, leaving alone any asset management business they have.

For the AM business, if you manage $3bn @ 1.5%/20% carry with an 8% hurdle and returns are 20%/year, you get a fee stream of $60mn in mgmt fees @ a ~50% operating margin, maybe 40% after tax (note that margins are high because BUR bears much of the costs of investing already, so there are a lot of synergies to doing your own BS investing and having a fund management business). At a 12x multiple, that's worth $288mn.

Your carry is another ~$70mn a year, say at another 50% margin. Capitalize that at 5x, another $180mn in value. So the AM business gives you another ~$470mn or so in value (~1.70GBP per share).

So if this goes poorly, you're looking at maybe 37GBP, 32% annualized.

For you to be a bear at today's prices, you need to prove that returns will compress immediately, and that Burford will be able to reinvest very little back into the business and that the asset management business will not do well.

I think you will do well in Burford.  But I think you are missing the point.  People aren't saying that ROIs aren't high, our argument is you can't look backwards in terms of ROI as they compounded capital in enviroments with less competition.  If they maintain 40% ROIs no way you can lose money.  The question is with so much money flowing in, everyone is IPOing, everyone is starting funds, and everyone is evaluating if paying an external fund to finance your litigation at 40% ROIs for them is worth it when you have the money yourself.  Just on the back of how much assets they are raising by themselves, at some point they are going to run out of things to finance. 

If you invest 3 billion in your fund and 3 billion of your own capital, maybe the market is 60 billion dollars and 50% of that you can't invest in because its 1 million dollar cases, then you are already 20% of your TAM.  Being such a large percentage of TAM unless you have some really compelling value add, which litigation finance sort of does even at that scale due to public company accounting advantages for example, maybe you can make money.  But most of the companies you finance aren't going to have liquidity issues.  At some point many are going to get better deals for themselves and ROI will go down (and it has again compared to companies that are much smaller). 

To @deserelts, I think the bigger size more diversification argument is more marketing than actual substance for the company.  In the public markets there is little return to diversification after the 20th asset.  This is with assets that are correlated.  With legal financing, the assets are not only uncorrelated, but IRRs are in the 50+% range.  If you have a portfolio of 10 to 20 million dollars, no one is even close to a permanent loss of capital even at that size.   Cream of corp may be more valid, but this is asset management.  If I have a lawsuit, I don't care that a big name is financing me or not (as long as they aren't going insolvent), I just want the best deal I can get. 

To @peterHK Again nothing suggests Burford is unnaturally good at underwriting.  Everyone earns IRRs in 30% of higher.  They just perfected the financial engineering side before anyone else. 

my edit: @spartan to address one of your points, although Burford has a large North American presence, many other firms (which were all started in Australia and often listed in London) focus on markets with less regulatory risk and so you can always avoid that risk by picking firms.

Look at IMF Bentham. I feel like Burford has shown its underwriting is better.

My argument is not that returns won't decline, it's that the rate of decline priced in by the market today is, in my opinion, far too fast. I don't believe the argument that just because there's more competition, returns must decline immediately. As I said before, there are trillions of dollars chasing various private assets, yet some firms are continually able to eke out good returns from a combination of factors. Similarly, there are mutual fund firms who's only advantage is they interpret filings better than other people, yet that is enough to keep them compounding in the teens for many years. Increased competition is a necessary, but insufficient condition for a very rapid decline in returns.

It's also worth noting that as BUR takes on different types of investments, their returns will fall naturally, as they indicated at a number of investor days. For example, if you have an investment in a mediated case that settles quickly with lower IRR's, but you can increase asset turns, then your "returns" fall, but you can compound capital at comparable rates because of increased asset turns.

As for risk, lets say you have a random 50/50 flip of heads and tails. Heads you win 200%, tails you lose 100%. Yes, your expected value is positive, but there is still a non-zero chance that you lose absolutely everything because of the binary outcome. 2 points to this. First, a firm with a greater number of cases, more capital, and therefore more coin flips, is going to have a lower level of risk. So diversifying beyond your 20th asset DOES matter.

Second, in order for the expected value to make sense in the above, you have to have 101% win, 100% losses and over time with enough coin flips you can make money. Now, let's say you were very skilled in evaluating opportunities so you could tilt the odds instead of 50/50 to 60/40. Expected returns there would be 20%, up from 0.5% with 50/50 odds. Thus, even very tiny shifts in the ability to judge outcomes skews expected returns massively because of the binary and large win/loss nature of these sorts of investments. Skill here matters exponentially more than in other alternative investment classes.

This is why I think returns will be sustainably fairly high here. The equilibrium point at which this is no longer profitable yields massive returns with tiny adjustments in probability of success, meaning that those firms that can gain even tiny edges due to culture/data etc. will reap far higher returns than firms that can't.

So yes.  I may invest in Burford to diversfy my portfolio in this space, but lets discuss this point.  This is a result of a misunderstanding of how financial litigation firms report IRRs.  The problem with IMF Bentham is not that they cannot generate IRRs, their IRRs are great, but when companies report IRRs they report it gross of DD costs.  So the only costs that go into IRRs is calculated only by the amount of money put in as direct investment (and money returned) and not overhead.  With IMF Bentham, historical returns are even negative because they have such a small asset base even though they generate IRRs of 75%, overhead turns these IRRs into negative earnings.  The way to make more money is to have a larger asset base. 

You can calculate this. LIT.L has overhead costs of 4 million pounds this year.  The eaked out maybe 2-3 million in profit (I'm not sure).  However, their equity jumped from something like 12 million to 40 million.  If you assume a return of 75% IRR on the capital, the return is 30 million pounds.  Assume overhead increase by 50% to 6 million pounds and now you have an ROE of 50-60% (net of taxes).  Again this is very conservative, as Burford has what 100 or 200 odd people at a 3 billion market cap, and LIT has 20 at a 100 million MC and so to manage more capital you don't need many more people.  The problem with IMF Bentham, is that historically they were too small.  Even though their IRRs are at the same level as Burford, because they are small, they cannot earn much money.  When a company raises money in the public markets, it can scale up so overhead is moderately spread out. 

To address your diversification questions you don't invest your entire portfolio in one case.  With a portfolio of 20 cases, you invest in 20 cases evenly distributed so each case gets 5% of your assets.  Just doing math.  You have a random variable which has prob 2/3 of being 3 and 1/3 being zero.  You invest 1 and the expected return is 100% (as 2/3*3 +1/3*0 = 2) for simple math.  This is 3 times a Bernoulli random variable with p=2/3.  The standard deviation of Bernoulli rv is sqrt(p*(1-p)) = \sqrt(2)/3, multiply by 3 to get \sqrt(2).  Thus your standard deviation of the mean of 20 3*Bernoulli RV is 1/\sqrt(10) = approx 1/3.  Thus it would require a 3 standard deviation event just to lose money which using the normal approximation has a .13% chance of happening.  So mathematically speaking, with a portfolio of 20 cases, has only a .13% chance of losing money, not to mention the astronomically small chance of going bankrupt.  I understand that more diversification = better.  But my point is after 20 or so cases, the benefits are astronomically small. 

edit: The other thing to think about especially in the case of IMF Bentham, is when you are expanding your portfolio, you tend to show losses as your overhead has to increase first in the DD phase, and then 1 or 2 years later the return rolls forward.  So all the little players who look like they are losing money and terrible businesses, are just being masked by the fact that a.) they have small overhead, and b.) they are rapidly expanding. 
« Last Edit: July 05, 2019, 01:17:03 PM by cameronfen »

SHDL

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Re: BUR.L - Burford Capital
« Reply #24 on: July 05, 2019, 01:10:07 PM »
Regarding diversification, don’t forget about the role of leverage.  One key benefit of greater diversification in businesses like this is that it enables you to earn greater returns on equity via leverage without taking on excessive risk.

Thanks for the idea by the way.  This certainly merits investigation. 
« Last Edit: July 05, 2019, 01:16:37 PM by SHDL »

Liberty

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no_free_lunch

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Re: BUR.L - Burford Capital
« Reply #27 on: July 06, 2019, 07:29:53 AM »
Burford has a link on their site with detailed investment returns.  I recommend that anyone planning to invest take the time to have them send you the results and have a look.  The link is here:

https://www.burfordcapital.com/investors/investor-information/burford-capital-investment-data/

Based on that document, it becomes clear that calculating their investment returns is quite complicated.  There are essentially 3 categories of returns: completed / partially realized / ongoing.   In order to calculate the returns you need to consider the amount in each bucket and use some type of multiplier for the ongoing and part realized.  It will make more sense if I just give some examples.

2011

$123.5m committed capital, $95.4m deployed, $86.7m recovered. 

Based on this information alone, 2011 is a loss.  However, they still have $15m partially realized and $20m ongoing cases.  How much value do you assign to these on-going investments?  It is still possible that they hit it out of the park with some of these but for now they are actually running a loss for the year and perhaps these cases will require additional capital deployed to complete them.  It is interesting that they are 8 years in and they still have almost 40% in progress.

2012

$63.5m committed, $57m deployed, $119.3m recovered.

This was a straight-forward year and it shows what they are capable of.  There is only $0.5m deployed to ongoing cases so this might be it.   Roughly double their total investments, I don't have a summary ROIC but the results seem robust.


2015

$326.1m committed, $243.9m deployed, $274.1m recovered.

They have $95m partially realized and $74m ongoing.   They are already in the black and 2/3 of their cases aren't concluded.  This year looks ok.  It starts to give you a sense of the length of investments, 4 years in and only 1/3 of the way through.


2017

$776.2m committed, $410.6m deployed, $77.4 recovered.

The document only lists $32m of cases as concluded.
« Last Edit: July 06, 2019, 07:36:03 AM by no_free_lunch »

Jerry Capital

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Re: BUR.L - Burford Capital
« Reply #28 on: July 06, 2019, 08:06:22 AM »
The longer a case goes on the higher the probability that it becomes a win, so factor that into your calculation.
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Jerry Capital

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Re: BUR.L - Burford Capital
« Reply #29 on: July 06, 2019, 09:17:28 AM »
Also:

"When matters settle, they typically conclude more rapidly, and for less than total damages – so IRRs are higher
than the portfolio overall and ROIC is lower. Matters that proceed to adjudication are more profitable but take
longer and thus generate somewhat lower IRRs"
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