Equity – Page 29

Yellow Pages – Float shrinks even further

Today on SEDAR, Empyrean Capital Partners disclosed a purchase of shares in Yellow Pages (TSX: Y) and their holdings are now 5.64 million shares, which is up approximately 677,000 shares from their previous disclosure (which was nearly two years ago).

Combined with the 63,750 shares that Yellow has repurchased in the month of August, this means the public float not held by the 10% owners is approximately 6.39 million shares, or about 23% of the shares outstanding.

The massive short position that was in the company last year has nearly exited the position – short interest is about 18,500 shares. This is unfortunate, as I rather enjoyed receiving an extra 10% yield on my shares as they were periodically being lent out for short sellers.

With the amount of cash flow they are able to generate, they will be paying the entirety of their convertible debentures (TSX: YPG.DB) on May 31, 2021, if the stock price is not above the conversion price ($19.04/share) at that time. After paying off the debt (or having it converted), I would view it more probable than not that the dividend and/or buybacks will increase significantly from the current quarterly 11 cents per share. I’m quite surprised the rest of the float hasn’t been taken private – I’d guess a lowball offer around $15-16 is incoming. When you consider the company has generated more than $4/share in cash in the past four quarters, this actually seems low.

What, markets don’t go up 30% a month forever?

I’m going to use Tesla as the standard, but you can pretty much use whatever high-flying technology sector stock as a substitute (e.g. Zoom):

Some basic math – from August 11 to August 31, Telsa went from $280/share to $500/share.

It is really a shame that Robinhood removed their customer stock holding information since it is very illustrative what the retail momentum crowd is chasing. Just imagine seeing this chart, and on August 26th or 27th you finally capitulate and say I’m going in. You buy shares at $420 level (remember that number? Pre-split!), and on August 28 and after the weekend you are looking like a genius, up about 20% on your investment in a week. Now this is how you become a millionaire!

Fast forward a week in the markets, and suddenly your $420/share purchase is now sitting at a 15% loss from the cost. How much further down does this go before you capitulate, dump your shares, and then swear off gambling on these popular technology stocks?

This sort of thing happened in 1999-2000 all the time.

One of the few differences is that treating the stock market as a casino is even easier than ever. The emotions associated with gains and losses are all the same.

Another difference is that after the Y2K scare passed without any consequences, Alan Greenspan applied the monetary brake pedals (do you remember the days when interest rates were above zero?) and it was one of the contributors to the crash in March of 2000. This crash was preceded by an incredible amount of volatility in February 2000. Right now, gasoline is still being poured onto the fire in the form of fiscal stimulus and interest rate curve control.

I’d be curious what the average retail holding period of Tesla stock was in the past month. I’d guess a week or two at most.

Since there was likely much more broad participation in this upswing since June (the realization that markets are effectively decoupled from the economy), in order to make a check on the upward momentum requires a much more violent downswing. As the chart of Tesla above can attest to, this was a pretty violent downturn, and will shake out people that think the stock market was a one-way street to riches.

In the short term, if a trade feels comfortable to make, it probably is a losing one.

Just Energy – the conclusion to the recapitalization

In regards to Just Energy (TSX: JE), after a suspenseful suspension of the recapitalization proposal meeting, a couple days later an agreement with substantially most of the shareholders and debtholders was struck.

On August 26, there was agreement to amend the following:

* pay accrued and unpaid interest in cash on the Subordinated Convertible Debentures until closing of the Recapitalization,
* issue C$15 million principal amount of new subordinated notes (the “New Subordinated Notes”) to holders of the Subordinated Convertible Debentures, which New Subordinated Notes will have a six-year maturity and will bear an annual interest rate of 7% (which shall only be payable in kind semi-annually),
* pay certain expenses of the ad hoc group of convertible debenture holders, and
* issue approximately C$3.67 million of common shares by way of an additional private placement to the Company’s term loan lenders at the same subscription price available to all securityholders pursuant to the New Equity Subscription Offering, proceeds of which will partially offset the incremental cash costs noted above.

All other terms of the Recapitalization remain unchanged.

The cash interest payment will save the debentureholders about (JE.DB.C) 1% and (JE.DB.D) 3% of par, and the $15 million debt issuance, assuming par, will be another 6 cents on the dollar. Debentures did jump up by a factor of 2 upon the recapitalization, and so did the preferred shares – clearly both classes were anticipating a CCAA proceeding.

The common shares also jumped upon the news, but traded lower from the morning spike throughout the day after approval.

Now, what is odd is that the news of the amended terms of recapitalization, coupled with the voting support agreements came by way of press release on August 26, at 8:27am, eastern time. The actual approval came on August 27, 5:32pm (after market close). On the morning of August 28, trading spiked up. There was a full two trading days where if one was alert, you could have sucked up a few bits of liquidity on the common shares and debentures:

Volume, August 26:
JE: 505,700 shares, VWAP 0.4315
JE.PR.U: 41,000 shares, VWAP 0.9997 (note: par value $25)
JE.DB.C: 113,000 par, VWAP 16.687
JE.DB.D: 139,000 par, VWAP 16.22

Volume, August 27:
JE: 349,850 shares, VWAP 0.4023
JE.PR.U: 100 shares @ 1.16
JE.DB.C: 93,000 par, VWAP 17.442
JE.DB.D: 18,000 par, VWAP 16.914

Dollar-wise, while we’re not talking about gigantic amounts of money, but for the small guppies out there, you could have made quite a few sushi dinners out of the gains from sucking up 5-10% of the average volume. Sadly I was asleep at the switch as well.

No positions, but this was rather fascinating to watch.

Apple – assimilating the S&P 500

Look at this chart since the COVID crisis period (March):

With a market capitalization of $2 trillion, they are now 6.75% of the S&P 500. You buy $100 of S&P 500, $6.75 goes into Apple automatically, without regard to its price.

Along with Microsoft, Google, Facebook and Amazon, that’s 23% of the index in 5 companies.

This is a well known fact. However, portfolio managers that are measured by performance relative to the S&P 500 will find it difficult to keep up if these five companies are the only ones appreciating while the rest are stagnating – so they’ll hedge by putting 23% of their assets in these five while playing the stock market with the other 77%.

Eventually this assimilation of the S&P 500 will get so large that the numbers become truly ridiculous – already rationalizing a $2 trillion market capitalization on an annualized net income of $60 billion – that’s a lot of growth expected from an already large baseline!

Canadian investors shouldn’t find much solace in the TSX either – the Composite’s top component right now is Shopify with 6.16% of the index. However, the rest of the companies aren’t the high-flying technology companies as seen in the S&P.

GFL Financial Scandal – or what to do if a short selling firm reports on one of your holdings

Thanks to Etienne and another that was kind enough to email me, Spruce Point Capital wrote a hit piece against GFL Environmental (TSX: GFL / NYSE: GFL, GFLU).

The allegations can be summarized as shady people, shady accounting, shady history, shady operations and shady associations. Apparently being associated with the late Toronto Mayor Rob Ford (infamous for being busted in his term in office for doing cocaine) is also is grounds for financial excommunication.

Do I believe the report? Not in its entirety. Do I dismiss the report? Not in its entirety.

The investment thesis for GFL has always been on whether they possess an ability to process acquisitions and make them more profitable. Even at the IPO their financials were a train wreck to go through, although you could see how it could be done to yield a decent amount of free cash flow, in line with major competitors (Waste Management / Waste Connections / Republic / etc.).

The report does present evidence that there have been exaggerations/creative interpretation by management, in addition to many acquisitions in the past that appeared to deliver sub-par results that were disappeared 1984-style.

One of the great things about being a small-time investor is that you can get in and out of positions (in most cases) by clicking a button. Shortly after the peak of the Covid crisis, I took a minuscule position in GFLU which I offloaded today.

Just imagine if you were an institution and have 50 million shares of this thing and the 180 day lock-up expiry doesn’t happen until August 31. Or if you were one of the purchasers of the US$750 secured bond financing, getting a paltry 3.75% for 5 years on an investment that doesn’t seem so secure anymore. Egg on your face as an institutional manager!

It actually doesn’t matter for me whether this report is true or not, simply because the thesis of any future investment in this company has changed. It is now a thesis on whether the evidence laid out in this report or not is factual enough to sink confidence in the company enough that it won’t be able to raise further financing. On balance, I deeply suspect it will survive and just like a lot of these short seller reports, they turn the most tenuous of connections into big news, just like a political “guilt by association” hit piece.

However, to deal with this in the future takes mental space that I can ill afford with a portfolio that is spread out with more individual holdings than I have ever had in my financial history. This quarterly cycle of 10-Qs and conference call transcripts just slammed me. I just do not have the mental capacity to follow the inevitable gyrations that will be occurring as institutional holders try to confirm or refute the GFL allegations in the upcoming weeks and months. Too many eyeballs are going to be looking at this, and my eyeballs aren’t going to have a competitive advantage of any worthy note. So I’m out, taken it off my watchlists, and focusing elsewhere.

This is also why I don’t get involved in any other financial scandal stocks (e.g. Herbalife), although I must say the Home Capital Group (TSX: HCG) fiasco in 2017 was most fascinating. There’s just too much attention and too many people, some a lot smarter and most of them better resourced than I, looking at these situations.

There is a valuation claim that I was suspecting from the very beginning that if GFL does have their crap together that they can head up to the CAD$50 range, but clearly that’s now going to turn into a “show me” with regards to their mammoth acquisitions they have recently made. This will take a lot of time (at least 18 months), and once the IPO lock-up period expires, there’s going to be a lot of gyration in the shareholder base. One tailwind for the company will be the inevitable inclusion in the TSX indexes (with a decent shot to get into the TSX 60 if it appreciates from here on in) which will cause its own momentum. We will see, and for those that are sticking around, I wish them the best of luck.