Muddy Waters Shorts Fairfax Financial Holdings: 'Not The Berkshire Hathaway Of Canada'

Carson Block, the founder of Muddy Waters Research, made headlines by announcing a new short position on Fairfax Financial Holdings Limited FRFHF, targeting the company for what he described as financial manipulation akin to alchemy.

Following the publication of the short report, Fairfax Financial Holdings issued a press release that firmly disagreed with the allegations made by Block regarding its financial practices and book value.

Interviewed on CNBC’s ‘Squawk Box’ on Thursday, Block explained Fairfax overvalued its assets and income through questionable transactions, suggesting a “conservative adjustment” to the book value by approximately $4.5 billion or 18% lower than reported.

Shares of Fairfax Financial Holdings have fallen nearly 9% in response to Muddy Water’s short report, on track for the worst-performing session since March 16, 2020, when strict COVID-19 lockdowns were announced across the world.

A Dive into Fairfax’s Financial Practices

Fairfax Financial, often dubbed the “Berkshire Hathaway Inc. BRK of Canada,” was under scrutiny by Block for its financial practices.

According to Block, the company, led by Indian-Canadian billionaire Prem Watsa, known as the “Canadian Warren Buffett,” failed to meet its long-term goal of a 15% compound annual growth rate (CAGR) in book value per share since the financial crisis.

“The reason why is that since its inception, it’s tried to create this mythos about it that the chairman controlling shareholder is [like a] Warren Buffett… But the reality is they haven’t been able to get anywhere near that,” Block stated.

Instead, the company resorted to value-destructive transactions and the use of off-balance sheet debt to inflate its book value falsely.

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One of the examples highlighted by Block is Fairfax’s investment in Recipe, a chain of restaurants.

He accused Fairfax of carrying this investment at a value significantly above market price before eventually taking the company private, yet continuing to overvalue it despite deteriorating financial performance.

Block didn’t shy away from criticizing the governance and auditing processes at Fairfax, especially the involvement of the CEO’s family on the board and the long-standing relationship with PwC (PricewaterhouseCoopers International Ltd.).

“You’ve got two children of the CEO or controlling shareholder who are on the board of directors,” Block pointed out, drawing parallels with past financial misdeeds in other companies.

Reflecting on Fairfax’s resilience against previous short attacks and its navigation through the GFC, Block said, “The GFC probably actually helped Fairfax,” as the company was shorting subprime assets at that time. Block distinguishes his new focus on “consolidated level accounting” from earlier critiques centered on insurance reserves.

While Block remained discreet about the size of his short position, he clarified his motivations by highlighting the lack of scrutiny from sell-side analysts and positioned his actions as a quest for accountability: “So yes, we have a significant incentive to talk about this, but I also have the incentive to ask questions that evidently nobody else is doing.”

Fairfax’s Official Response

In a press release, Fairfax emphasized its commitment to transparency and integrity, stating, “Fairfax disagrees with the allegations and insinuations contained in the report, and would like to assure all shareholders that Fairfax has prepared its financial statements and reporting in accordance with all applicable accounting principles.”

Fairfax highlighted its strong financial performance in recent months, “through the first nine months of 2023, Fairfax has achieved record earnings driven by record operating income.”

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