Dollarama – Valuation

Dollarama (TSX: DOL), the dollar store that is all over the place in Canada, came up on my investment radar during a screen. I last looked it many years ago, and obviously I would have done very well had I just bought it, but even back then I recall thinking the stock was over-valued. Shows you how little I know!

The following is a snapshot from their last fiscal annual result ending January 2024:

Some quick thoughts:

* Dollarama is one of the few retail segments that can effectively compete against Amazon, hence its ability to retain its margins is relatively good;
* They seem to out-compete other dollar store chains as well;
* Somehow they manage to successfully compete against the Loblaws (TSX: L) and Soebys (TSX: EMP.A) discount chains (No frills, Freshco, etc.);
* How many stores can they possibly run in Canada? 1,551 is the current number, what is the saturation point;
* Net operating margins (before taxes and interest expenses) of 25.5% – pretty damn good! Up from 23.6% in the previous year!
* Expansion out to South American in a 50.1% owned subsidiary of the company gives them more runway, but the dynamics of that market remain to be seen.
* Company is goosing up its stock price with buybacks – 7.12 million shares at $92/share

… the valuation currently is a share price of $118.32 over a $3.56/share, relatively “clean” net income, balance sheet not too levered (2x net income) with expansion expecting to increase the bottom line. DOL is trading at 33x trailing earnings, but ultimately the question here is – when do we get to the point where the entire world is flooded with these types of shops and margins come down or expansion simply stops? Dollar General (NYSE: DG) is the big fish in the USA (sales are about 10x that of Dollarama) and their operating margins are 6.3% and well down from 8.8% in the previous year! DG had quite a fall from grace, with their stock falling about 60% from their peak before they started to recover. While the market in Canada is a different (we tend to have less competition), it would not shock me if their stock had a similar change in fortune. The price being paid for shares is very high and assumes a significant amount of growth well into the future. Don’t get me started on the valuation of Costco, a retailer that I love with a stock I would never touch!

Slate Office REIT – The next episode of boardroom drama

Continuing on from my April 19, 2024 post about the board room and proxy drama occurring at Slate Office REIT, we have the following developments:

April 20, 2024 – an incumbent trustee decides to not run again, and in replacement Armoyan’s nominee is put forward (Scott Dorsey).

Following receipt of the Notice, Lori-Ann Beausoleil advised the Board that she is declining to stand for re-election to the Board and tendered her resignation as a trustee of the REIT effective May 2, 2024 and, thus, will not be standing for re-election at the Meeting. Following unsuccessful attempts by the REIT to come to a cooperative outcome with Mr. Armoyan, and in light of the resignation of one of the Board’s nominees for election at the Meeting, on the recommendation of the Governance Committee, the Board resolved to nominate Scott Dorsey in place of Ms. Beausoleil and to add Mr. Dorsey to the REIT’s slate of management nominees to be considered for election as trustees at the Meeting. Mr. Dorsey is also one of the individuals put forward by Armco.

April 24, 2024 – another incumbent trustee, Jean-Charles Angers, decides to not run again (obviously knowing that the writing is on the wall and he would not win a seat).

May 2, 2024 – Slate reports their quarterly result, a rather tepid quarter. FFO and AFFO is roughly $4 million. Loan-to-value still hovering around 68% and interest expenses creeping higher. They are basically continuing their slow fire-sale of properties to try to deleverage.

May 3, 2024 – AGM day! Voting results:

Brian Luborsky and Scott Dorsey and Sam Altman were endorsed by Armoyan.

And finally, after the vote…

May 8, 2024 –

Slate Office REIT (TSX: SOT.UN) (the “REIT”), an owner and operator of high-quality workplace real estate, announced today that Scott Dorsey has informed the REIT that, for personal reasons, he is unable to serve as a trustee on the REIT’s board of trustees.

What??? Who strong-armed him into leaving Slate with a five-trustee board?

Practically speaking, it appears the George Armoyan takeover of Slate Office REIT is nearly complete. The question at this point is what he can salvage from the entrails of this debt-laden entity before it will have to go through some inevitable recapitalization.

Berkshire / Apple

I rarely write about Uncle Warren, but when he makes moves, he picks them really well. Burlington Northern at $100/share was a stroke of very well-timed genius, and even more for him, I am still amazed by his Apple trade he made between 2017-2018, which was a slow and steady accumulation of a huge stake. Don’t get me wrong, he’s had his fair share of disasters (Airlines pre-Covid, for example), but for the most part his investment successes have massively overshadowed his failures.

Warren Buffett’s final cost base on his Apple shares as reported on December 31, 2018 was $35.30/share (he paid $36.044 billion for 1.021 billion shares, split-adjusted). He sold a hundred million shares by the end of 2020, ending with 907,559,761 shares of Apple at an average of $34.26/share. Prior to today’s announced divestment of 13% of his stake, those shares at $180/share amounted to $163 billion. The unrealized gain that he was sitting was $130 billion. So his 13% liquidation nets him about $21 billion and he can offset the capital losses on his Paramount trade which fizzled.

He still has a stack of $142 billion in Apple stock which, needless to say, is still a lot of capital tied up in a single company. There are competing interests that Buffett is facing – one is that the concentration risk of Apple in the overall Berkshire portfolio is massive. Two is that he does not want to give up on the tax deferral value of the unrealized gain (which is likely why his choice to recapture the losses from Paramount was to diversify out of Apple first before anything else). Three is that Berkshire is facing a lack of reinvestment choices – apparently their cash stack is now up to $188 billion and just the interest alone on this, if invested in 5% short-term government bonds, would be around $9.4 billion dollars annually.

Apple reported a diluted EPS of $3.71/share for the past six months (October 1, 2023 to March 30, 2024). This puts Apple at around a P/E of 25 and I bet you Buffett is looking at the announced additional $110 billion share purchase authorization (making it a total of about $140 billion at the end of March 30, 2024) and will be dumping into it further over time.

While the Apple franchise will continue to make a lot of money, the stock is another matter – I personally think it is about 40% over-valued. The company seems to be very happy to buy back their overpriced shares – they bought back 130 million shares in the past three months at $180 a piece, and this is likely to continue for future quarters – this demand pressure on the stock will keep its value artificially inflated until economic and technological headwinds take it down further.

Slate Office REIT – attention to details

It looks like things are getting heated in the board backroom of Slate Office REIT (TSX: SOT.un). 17 days before the scheduled Annual General Meeting, George Armoyan decided to let loose a proxy solicitation to install two additional directors out of six. If he won, including himself, that would constitute a board of six directors – George himself, two controlled by him, two directors (the co-founders, who are brothers) and an independent.

To take action this late in the game suggests that there was some sort of board decision that pissed him off.

Armoyan controls 17.7% of the units, or 15.1 million units of Slate, which gives him huge sway considering that only 36 million units voted on the resolution to increase the gross book value to debt ratio of 65% earlier this year. When adding the 1,123,880 units that one of the director nominees owns, it’s a near majority. 32 million units voted in the 2023 annual general meeting. It’s quite likely that Armoyan will find at least a million or so disgruntled Slate Office holders to vote in his direction to put him over the top.

Part of the previous vote was a consent to decrease the board size from 8 to 6 trustees, which means there are less people for him to take out. If he is successful, he will effectively have at least a veto on every decision from the board, which is close enough to having control of the entire operation.

I do note, however, when reading the proxy solicitation statement, that it must have been hastily constructed. Witness the following from their proxy solicitation:

On the bottom, “PROTECT YOUR IVESTMENT IN SLATE OFFICE REIT”. Not the greatest look for the professionalism of Morrow Sodali, the firm being engaged to solicit the proxies.

Perhaps they all just need to hold on until after June 25 before going into CCAA – at least when everybody disposes their units for zero, they get 2/3rds and not 1/2 inclusion on the capital loss. To be clear, this was a joke and not a prediction although the last financial statement released by the trust is not looking that good!

The nuclear insurance trade – Mirion

(See previous article: November 4, 2022)

Unfortunately, due to my complete inability to properly read the warrant indenture for Mirion’s public warrants (NYSE: MIR.wt), they have called out their warrants because their common stock satisfied a particular call criteria. Unfortunately I was mislead to believe that they could only call out the warrants when the stock was trading above US$18/share when there was a provision that allowed for a call above US$10/share! Oops!

The announcement has the salient paragraph:

Warrant holders may continue to exercise their warrants to purchase shares of Common Stock until immediately before 5:00 p.m. New York City time on the Redemption Date. Holders may exercise their warrants and receive Common Stock (i) in exchange for a payment in cash of the $11.50 per warrant exercise price, or (ii) on a “cashless” basis in which case the exercising holder will receive a number of shares of Common Stock determined under the Warrant Agreement based on the redemption date and the redemption fair market value, as determined in accordance with the Warrant Agreement. The “fair market value” is based on the average last price per share of Common Stock for the 10 trading days ending on the third trading day prior to the date on which the Notice of Redemption is sent. In accordance with the Warrant Agreement, exercising holders will receive 0.220 of a share of Common Stock for each Warrant surrendered for exercise. If a holder of warrants would, after taking into account all of such holders’ warrants exercised at one time, be entitled to receive a fractional interest in a share of Common Stock, the number of shares of Common Stock the holder is entitled to receive will be rounded down to the nearest whole number of shares.

Given that the stock is trading at about US$10.90/share, there is no way that people would rationally choose to exercise for US$11.50/share. At 0.22 shares per warrant, the break-even price for the $11.50 strike provision would be about $14.70/share. So the warrants, for a month, are effectively trading at 0.22 MIR shares per warrant. They will get delisted on May 17 and if people did not exercise or sell them on the open market by then, they will get cashed out for 10 cents a piece for those too sleepy to take action.

The 0.22 share conversion number came from a result of this table, which applies a premium to an early redemption when the stock is above US$10/share:

The warrants were to expire on October 20, 2026 and hence there are about 30 months remaining.

Anyhow, sadly I had to close off this trade – while my gross incompetence did not result in a loss, I do consider it a completely failed trade for my financial illiteracy.

The reason why this trade is so good for “nuclear insurance” is because of the embedded leverage of the warrants – especially the leverage that would occur if there was a nuclear event of prominence. The stock price would skyrocket and the percentage gain on the warrants would be astronomical. While the common stock is an acceptable way of achieving an “insurance payout”, the cost of capital is a lot higher than going down the warrant route. Essentially you just want to purchase as much out of the money as possible (just like how a life insurance policy is effectively selling a call option on the low probability expiration of your life!). The publicly listed equity options do not sufficiently go out in time and are illiquid so you will have to pay the market maker spread – the November 15, 2024 call options with a strike of 12.5 are trading at bid/ask 0.75/0.85, which is a terrible value compared to the October 2026, 11.5 strike for the warrants that were trading at $1.80-ish just a few days before this announcement. Too bad! This really hurt me.