Last Updated on March 6, 2021 by Oddmund Groette
Boston Omaha has many similarities to Berkshire Hathaway and is often labeled a Baby/Mini-Berkshire. Many have tried to become the next Berkshire, most have failed. In this analysis, we conclude Boston Omaha can become a multi-bagger. However, we look at the company as a call option and have thus initiated only a small position.
What makes Boston Omaha a potentially good investment?
- Long runway, great reinvestment opportunities
- Still a small-cap
- Potentially a multi-bagger – can be considered a “call option”
- Young management with skin in the game
- A highly scalable business model
Boston Omaha is small, and mostly unknown, but could be a multi-bagger over the next decade(s). The business model is based on capital allocations, where the underlying businesses and managers are given a lot of autonomy. In many ways, it resembles both the organization and the mentality of Berkshire Hathaway. Boston Omaha even has an insurance unit, even though the float is not significant.
Because of its small size, long runway, short history, and good reinvestment opportunities, we look at the stock as a call option. The management still has a lot to prove, and the company has up until the third quarter of 2020 been operating at a loss.
Boston Omaha can become a true compounder:
To generate wealth, you need to compound the most effectively. The best way to compound is to find relatively small businesses that have high returns on capital and the opportunity to reinvest earnings back into the business. We believe the latter argument is mostly underrated among investors:
Why is it called Boston Omaha?
The name Boston Omaha derives from the fact that the company is being managed from both Boston and Omaha, by Alex Rozek and Adam Peterson, Boston and Omaha residents. The official address is Boston Omaha.
The history of Boston Omaha:
The current company was acquired in 2015 by Magnolia Capital Fund LLC (managed by Adam Peterson) and Boulderado Partners LLC (managed by Alex Rozek). The name was changed to Boston Omaha. Originally the company was a public SEC-registered real estate company based in Houston, Texas. To keep a registered company is expensive, and in the end, the owners sought other alternatives, and that’s where Peterson and Rozek seized the opportunity.
One of the substantive changes made to the original company was establishing a special voting class of shares (Class A common stock). The reasons for this were twofold: one is related to the incentives (growth in book value, see later), and the other being to create a long-term horizon of their investments. This what they wrote in the annual letter of 2015:
Second, the addition of the Class A common shares was unabashedly designed to help us do one thing: match our control of the company to the duration of the assets we are acquiring. One of our biggest strengths at Boston Omaha is our long-term horizon……This mindset is also a key item in discussions with many potential business partners and business sellers. The business owners who sell to us can be confident that we will be around to honor the deal we struck given our company structure and shareholder base.
Boston Omaha’s business model:
The business model is based on capital allocations. The holding company has no operating businesses except owning and managing investments and subsidiaries. The underlying businesses send their profits to HQ for allocations. However, currently, the businesses are operating at a loss.
We suspect the founders look at Berkshire Hathaway as an inspiration. Alex Rozek is the grand nephew of Warren Buffett, and Adam Peterson is a personal friend of Rozek. However, we emphasize that Warren Buffett has no ownership or interests in Boston Omaha, and we suspect Rozek must be pretty tired of being compared to his famous relative.
The framework for the road ahead was explained at the end of the first annual letter in 2015:
- Decentralization: Great managers will be left on their own. As long as incentives are right, this works.
- Get incentives right: alignment of interests so all parties share the same goal.
- Long-term thinking: Preferred holding period is forever.
- Focus on cash: Management prefers businesses that send cash to the parent company for re-allocation.
- Partnership: Management is invested alongside shareholders.
The annual letters read much like Buffet’s and straightforwardly explain the company’s aim: to allocate capital where management sees the best opportunities. We quote from the first annual letter (2015):
We do not have a predetermined plan or a rigid acquisition strategy to accomplish our stated goal. We will purchase suitable businesses as they are identified. Over time, and opportunity set willing, we hope to have interests in a handful of businesses that produce sustainable earning streams. Diversification is a potential result from a series of what we hope will be successful decisions over a long period of time, rather than a strategy at the outset…..Future earnings produced by the businesses Boston Omaha owns will be retained for the foreseeable future, to be reinvested in the productive capabilities of our subsidiaries, and potentially to invest in new, durable earning streams on an opportunity cost basis.
Thus, what we can expect is no forecasts, no estimates, no dividends, and no strategic roadmap. The only strategy is to grow intrinsic value. The annual letters read very well, but it remains to be seen how the two managers execute their plan. So far, it’s way too early to judge their performance.
Boston Omaha’s management:
Any investment in Boston Omaha is, in reality, an investment in the abilities of Peterson and Rozek. What is their background and track record? Are they competent to execute the business model?
Both are relatively young, around 40 years old. They have a short investing career behind them, and we believe most of their capital comes from family and friends. Moreover, most of the investors in Boston Omaha are most likely shareholders in Berkshire Hathaway.
Alex Rozek has liquidated almost all of his partnership, Boulderado Group, LLC, to focus solely on Boston Omaha. We have not managed to find the performance of his investment partnership.
Adam Peterson has been running his partnership, Magnolia, for at least 15 years. He owns 75% of the partnership. Unlike Rozek, he has not hinted about scaling back. Magnolia is the biggest shareholder in Boston Omaha. The current holdings of Magnolia look like this:
|% of portfolio||% ownership|
As we can see from the table, Peterson has concentrated the portfolio, worth around 650 million USD, to just a few select holdings.
What has Peterson’s performance been? We only managed to gather information from 2005 until 2013, which had a CAGR of 15%, which is pretty good. Both in 2008 and 2009, the partnership performed better than the S&P 500.
Up until 2019, both Co-CEOs worked for a minimum salary of 23 600. But from 2019, Rozek was paid 275 000, and it’s expected that Peterson gets the same salary shortly. Management’s further incentives come from growth in book value: 20% above a 6% growth. Any losses must be recouped before the 6% hurdle test is applied. Besides, there is a limit not to exceed 15 million in total for the 2018-2032 period. The book value growth, of course, strips out the impact of share issuance. Only retained earnings are considered.
The management has substantial skin in the game:
Rozek and Peterson are the two biggest shareholders:
Boston Omahas shareholders:
Of course, Boston Omaha has no affiliation to Berkshire Hathaway, but we suspect many shareholders from Berkshire are investing in Boston Omaha. Apart from the management, a recent new long-term shareholder purchased 9.2% of the shares in February 2019: MIT Investment Management.
Warren Buffett has spent all his life attracting the “correct” shareholders, and Boston Omaha pursues the same. The reason is simple: the shareholder base structure is an underrated factor in succeeding in executing the business plan. If you have short-term oriented shareholders, it isn’t easy to execute long-term plans. Both Berkshire and Bostom Omaha want owners that think like owners.
The shareholder letters are used to “educate” the shareholders, just like Buffett does. One thing that is very prevalent throughout all the annual letters is that Rozek and Peterson are certainly not over-selling themselves. We believe they do this on purpose, which is pretty similar to the strategy from Warren Buffett: to make positive surprises.
At present, the operations have no profits to speak of because they are set to handle bigger volumes and future anticipated growth. As they acquire more businesses, we can expect to see more scale and leverage.
The aim is to grow intrinsic value. However, intrinsic value is, of course, difficult to estimate. Another measure, growth in book value, is much easier to estimate: according to the 2019 letter, book value has grown from $7.48 to $14.68, as of December 31, 2019, a compounded annual return of approximately 16%.
Both the billboard and broadband businesses have high upfront CAPEX that results in bigger and faster depreciation charges that most likely don’t reflect the intrinsic value and true economic cost. As a result, the book value is most likely lower than the intrinsic value.
Current owned businesses:
- Billboards via a company called Linked Media.
- Surety insurance, General Indemnity (GIG).
- Broadband internet, AireBeam.
- Minority investments, primarily real estate operations.
Boston Omaha aims to own both controlled and non-controlled businesses. The distinction is important because controlled companies mean Boston Omaha controls the cash flows and where to deploy them. Non-controlled investments don’t offer this opportunity.
The controlled businesses form the majority of the assets: billboards, surety insurance, and broadband. Add real estate into the mix, and there you have basically all operations of Boston Omaha. It’s perhaps a rather odd mix, but management allocates capital where they see the best opportunities. They are investment agnostics.
The annual shareholder letters lay out the logic behind the investments, and the letters are recommended reading to understand the DNA of the management.
Let’s start with the billboard business:
The billboard business:
We are attracted to the outdoor display market due to a number of factors including high regulatory barriers to building new billboards in some states, growing demand, low maintenance capital expenditures for static billboards, low cost per impression for customers and the potential opportunity to employ more capital in existing assets at reasonable returns in the form of perpetual easements and digital conversions.
The above statement is taken from the shareholder letters and explains why they entered the billboard business. Billboards are managed by their subsidiary Link Media and consist of 60% of the total revenue so far in 2020 (21 million USD).
Today, perhaps surprisingly, the billboard market is one of the fastest-growing advertising mediums. Billboards are 66% of the “out of home” advertising category. According to The Hustle, billboards and online advertising are the only channels expected to grow over the next decades.
The supply is limited because you can’t just set up a billboard wherever you want, and substitutes are few. Permissions are needed. For example, Outfront Media (OUT) claims 75% of their billboards are “legal nonconforming”, meaning they are legal but couldn’t be built today. This is the regulatory barrier in the quote above.
Despite being around for many decades, the billboard market is still very fragmented. Many small companies operate in local and small markets, hundreds of them with less than 50 billboards and fewer bigger national players like, for example, Outfront Media (OUT) and Lamar Advertising Company (LAMR). Boston Omaha aims to acquire family-controlled billboard companies that come for sale, which tend to happen when the founder retires or dies.
Boston Omaha is still very small. By October 2020, they operated only 3 000 billboards compared to 350 000 boards in the USA (source: Statista).
One feature of billboards is their relatively short accounting life, while real life is substantially longer. Typically, depreciation is faster than the life of the billboard, which leads to lower earnings, but is not reflected in the cash flows.
Billboards should be a durable business that is less likely to get disrupted. While you can avoid ads on TV and the internet, billboards are much harder to avoid. TV suffers from cord-cutting, viewers skip ads, and digital/internet suffers from both fraud and viewability. Billboards still have a relatively low-cost form of advertising relative to eyeballs’ reach.
Boston Omaha’s second-biggest business is surety finance with 9.5 million in premiums earned, and one million in commissions, 30% of revenues. The name of the subsidiary is General Indemnity Group (GIG).
What’s so attractive with surety insurance? The annual letter of 2016 explained their preferred lines of insurance and where they want to start (thus indicating they might expand to other areas later):
The insurance risk we are interested in taking will overwhelmingly be commercial, not personal, charge premiums well in excess of their anticipated losses, and be shorter tail in nature, meaning our policies will likely have durations around a year or less. There may be instances where we would write risk that varied slightly in one way or another, but generally, our current plan is to focus on high policy count, low loss limit business.
Surety insurance fits this requirement. First, the average loss-ratio is low, averaging about 30% over the last years, much less than most other lines of insurance. Like auto, homes, commercial, etc, most types of insurance have loss ratios of 60-80% historically. The first company that GIG acquired, Warnock, had a historical loss ratio of 1%.
The main reason for the low loss-ratios is that surety is used to prevent a loss, not cover a loss. Another feature with surety is the high distribution costs. Surety agents take a high commission for sending premiums to insurers, often double other commissions. Furthermore, the surety business is labor-intensive, and there are over 10 000 different surety bonds.
GIG aims to become a low-cost producer in this business. Boston Omaha is trying to get hold of both parts of the business: management aims to vertically integrate both the selling and the underwriting by controlling the whole value chain.
Surety is a small line of insurance and is mostly neglected by the biggest insurers. The market is around 6.5 billion USD a year while, for example, auto insurance is over 200. Thus it’s too small for the big insurers. This means the market is extremely fragmented and inefficient. For example, many bonds are still “analog” and Boston Omaha wants to increase efficiency by digitalizing them. Boston Omaha would have made it among the 65 biggest surety insurers based on the numbers from 2017.
The construction industry is the biggest user of surety. When for example a contractor builds a school for the municipality, the latter requires a guarantee: The principal/contractor pays a premium to the insurer/surety, and the insurer eventually pays the obligee/school any losses if they arise. To be a good contractor, you want to show little losses as possible, thus small loss ratios. Claims typically arise from bankruptcy, cash flow crisis, or contractual disputes. Just like any other line of business, it’s cyclical. First, you lack underwriting discipline in good times, common for any type of insurance. Second, construction is around 70% of the market, and this is a cyclical business. In recessions, surety margins shrink. Since 1996 the surety market has grown 3% annually.
The management emphasized in the letter of 2015 it will not be an investment operation masquerading as an insurance company. However, insurance shields Boston Omaha from becoming regulated as an investment company, much like Berkshire set up their business.
In March 2020, Boston Omaha made the last acquisition: The “rural” broadband provider AireBeam based in Southern Arizona. Like the billboard business, this is a business where depreciation is out of sync with the real CAPEX. Most of the CAPEX is upfront and hence tax-advantageous, but the assets are expected to last for a long time. AireBeam is currently building out a fiber network among its customers.
Why Broadband? Unlike Europe, where telecom, in general, is a bad business, the telecom business is hardly regulated at all in the US. No US operator gets access to a competitor’s network in the US (like they do in Europe). Thus, by investing additional capital into fiber, for example, where the customers have few alternatives, a broadband company can expect to have next to no competition in the future. This is exactly what Boston Omaha wants to do. This means high CAPEX outlays today and higher returns further into the future.
On a side note, this is also one of the reasons we like Comcast and being managed by the Roberts family. We also included Comcast in our Family-business portfolio:
The minority investments are around 10% of the assets and consist of five businesses:
- Logic Commercial Real Estate: Logic is a Nevada based company with operations in property management, brokerage, capital markets, and other services aimed primarily towards the Las Vegas commercial real estate market. Boston Omaha owns 30% and paid a modest 360k for this. Real estate management has the potential for recurring revenue.
- Dream Finders Homes: A homebuilder where Boston Omaha owns 5%.
- Crescent Bank and Trust: A 14.99% stake of CB&T, a credit/bank based in New Orleans mainly lending subprime auto loans. The rest, 85%, is owned by the founding family, who is still running the company. The Solomon family controls and have five members on the board.
- 24th Street Asset Management: 24th Street makes loans and direct investments in commercial real estate. The stake is just under 50%.
- Yellowstone Acquisition Company (Nasdaq: YSAC)
In October, Yellowstone (a SPAC), did an IPO and listed on Nasdaq with the ticker code YSAC. Additionally, warrants were issued (YSACW). Boston Omaha got a 20% stake in YSAC for just around 25 000 USD while the IPO valued it at 150 million, according to Motley Fool. The IPO was at 10 USD, and the price is now 10.75. Additionally, Boston Omaha owns warrants that could be very valuable if YSAC is successful. The main reason to invest in a SPAC is to make Boston Omaha invest in other companies they otherwise couldn’t do. They are now investing alongside a team of investors that have the opportunity to make bigger investments than Boston Omaha could on its own.
We don’t expect Boston Omaha to become the next Berkshire Hathaway despite the similarities in the business models. Boston Omaha is a young company and management has a lot to prove. However, we look at Boston Omaha as a potential call option and have purchased a small number of shares. If it goes south, no big deal. If management succeeds we expect a multi-bagger.
This turned out to be a longer analysis than anticipated. But let’s summarize the pros and cons:
- The small-cap effect is well documented, and it’s always easier to grow a small capital base than a huge one.
- Currently, Boston Omaha receives hardly any analyst ratings, and it flies under most radars.
- The management is moderately optimistic. They are not overselling their ambitions.
- No analysts, no conference calls, no investor days, no guidance. This is good: no short-term activists.
- Solid and long-term shareholders.
- Interests are aligned: Skin in the game.
- Potential for bigger float in the insurance business.
- Current profitability is poor. It could last longer than anticipated.
- The management has a lot to prove.
- Patience is needed to build scale in their controlled-businesses.
- Perhaps the “hedgefund like” compensation plan is a minus (20% above 6% book value growth).
The company is still in its early stages, and we see no reason to rush in. To succeed, they need much more scale than what they currently have. Many compare Boston Omaha to Berkshire, we admittedly did the same in the headline to attract more readers, but hardly anyone among the shareholders put the bar so high. It’s unlikely they will manage to perform as well as Berkshire.
We consider Boston Omaha a call option: For a small investment, you can potentially have a multi-bagger. If it goes south, you stand to lose a small amount.
Disclosure: We are long BOMN. We are not financial advisors. Please do your own due diligence and investment research or consult a financial professional. All articles are our opinion – they are not suggestions to buy or sell any securities.