Villains Are Made, Not Born.
We should fight, not play victims.
For nearly a decade, AmTrust Financial (Amtrust) was America’s fastest-growing insurer. As it piled up premium revenue and became a leading workers’ compensation carrier, AmTrust shares soared from $4 to a 2015 peak near $36. Chief executive and Chairman Barry Zyskind brushed aside questions about AmTrust’s accounting, until New York insurance regulators pressured the company to hire new auditors in 2016. The next audit discovered $310 million in previously-overstated profits and obliged AmTrust to restate five years of financial reports.
In 2018 Zyskind and his in-laws in the company’s founding Karfunkel family proposed took the company private. The USD3 billion transaction was co-financed by Stone Point Capital (Stone Point), run by ex Goldman Sachs chair Stephen Friedman.
From 2013 to 2015, the company sold eight issues of preferred and subordinated instruments, in underwritings led by Morgan Stanley and UBS. The securities appealed to yield-hungry income investors at a time of low interest rates. Before the transaction closing both AmTrust and Stone Point declared that they would keep the preferred and subordinated instruments listed on NYSE. In particular:
- Before the June 2018 shareholder approval of the buyout, the Zyskind group proxy said that AmTrust preferred shares would remain listed.
- The group’s application to state insurance commissions, saying: “AmTrust will continue to remain subject to certain SEC reporting requirements and requirements governing the independence of its audit committee given that its preferred stock will remain outstanding and listed on the New York Stock Exchange postmerger.”
- After our queries last year, both Amtrust and Stone Point Capital updated its SEC filings to say they intended to pay the dividends and maintain the preferred listings on the NYSE.
- AmTrust’s agreement with its underwriters said that it would make “commercially reasonable efforts” to maintain its listing.
Despite all the above commitments to the contrary, AmTrust on 1/18/2019 announced decision to delist its preferred shares. The instruments lost 50% of value since the announcement one week ago. The only reaction of Stone Point and AmTrust was that I could not find the commitments on their websites any more.
The CEO and Chairman of AmTrust Mr Zyskind has a conflict of interest. The declared reason for the delisting was a cost saving on NYSE listings. Cost savings on listing would increase profits for the equity holders. Assuming the company is profitable to cover preferred dividends, the increased profitability would benefit the equity owners - Mr Zyskind family and Stone Point Capital, who hold 55% and 45% of AmTrust, respectively. Mr Zyskind family and Stone Point Capital as equity owners would benefit from the loss suffered mainly by ordinary retail holders of AmTrust preferred and subordinated instruments. Under our estimate, the loss is 200 times larger than the benefit they will gain. That is very wrong.
Further, any CEO should work for the benefit of all capital owners. Equity is more junior than preferred instruments. It is wrong for Mr Zyskind and his management team to act in favour of the more junior instrument (equity) at the expense of the more senior instrument (preferred and subordinated capital instruments). Doing that for his financial benefit is unjustifiable.
I understand that Morgan Stanley and UBS placed the preferred shares mainly with their retail clients. During the last seven days, their clients lost some 400 million USD. They must be calling their lawyers. Class actions will most likely follow.
Today, AmTrust filed the forms with the SEC, and they believe that the shares will be delisted around 2/7/2019. If this happens, the shares will start trading on pink sheets, which means that there will be no margins on the instruments. It will also mean that some regulated investors might have to divest. Probably they already divested which caused the value to drop.
The shares are at such levels that the downside should be limited. If SEC blocks the delisting as it should then 100% re-rating is quite possible.
I believe that SEC is here to protect minority shareholders that have no means to defend themselves. This is the best example of a situation where SEC should get involved to protect small shareholders. In my filing to the SEC I also encouraged them to start investigation of Mr Zyskind conduct. I would not be surprised if he would be deemed unfit to manage insurance businesses by the regulator.
I understand that there is a rule that prevents deregistration if there are more than 300 shareholders. The question is a definition of the shareholder. If trading platforms like Interactive brokers are viewed by SEC as one shareholder, then it could pass. If the SEC looks through the platforms, then there will be thousands of shareholders. I believe that SEC should request IB and all similar trading platforms to release data on a number of shareholders and evaluate its decision on this basis.
If you do not own the shares, it might be a high-risk activist play with high return potential. The investment horizon is short; everything should be decided by early February.
As I wrote at the beginning, if you own the shares, you should fight. You could do several things:
- File a complaint against this at the SEC. The link is here. It is very simple; it takes just 10 minutes. All the points are above or in an excellent Barron´s article.
- File a complaint against conduct of Mr Zyskind and his team. SEC should review, whether he is fit to run AmTrust or any other insurance business.
- Write to your politicians. It is outrageous case. I believe that reputation of ex Goldman chair Friedman´s, Stone Point Capital and AmTrust management is on the line. People like Bernie or Elisabeth Warren may find this story shocking and might help.
- Make the issue public. Write articles. The more it is public, the more likely the SEC will come and protect individual shareholders as it should.
The fight is not over. If SEC would stop this action, the securities could offer 100% return, if the prices would return to the pre-announcement level. That is a good incentive to fight.
Disclosure: I am/we are long AFSI.PC, AFSI.PF, AFSI.PE, AFSI.PD, AFSI.PA, AFSI.PB. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.