Tag: PNP

I’ve written about Pinetree Capital in the past (TSX: PNP) (previous articles), but it appears that management is cutting it really close with a debt-to-assets covenant on their convertible debentures. The indenture document, as amended (amendment 1, amendment 2), broadly stipulates that the debt-to-asset ratio cannot exceed 33%. If the company cannot cure this condition within 30 days of being called on it by the trustee, bondholders can declare the company in default and demand immediate payment (which would clearly result in Pinetree going into creditor protection).

The relevant clauses are quoted as follows:

7.10 (c) Until the earlier of May 31, 2016 and the date when no Initial Debentures remain outstanding, neither the Company nor any of its Subsidiaries shall incur any Designated Indebtedness or issue any Debentures if, after giving effect thereto, the aggregate amount of all Designated Indebtedness and Debentures would exceed 33% of the aggregate value of the total consolidated assets of the Company and its Subsidiaries as at the end of the immediately preceding month, as reflected on the unaudited consolidated balance sheet of the Company as at the end of such month.

(d) Until the earlier of May 31, 2016 and the date when no Initial Debentures remain outstanding, the Company shall not, as of the 15th day of each month, permit the aggregate amount of its Designated Indebtedness and Debentures to exceed 33% of the aggregate value of the total consolidated assets of the Company and its Subsidiaries as at the end of the immediately preceding month, as reflected on the unaudited consolidated balance sheet of the Company as at the end of such month.

According to a November 24, 2014 press release, Pinetree has until January 23, 2015 to cure the existing default condition as their debt-to-assets ratio was 38.8% as of October 31, 2014, based off of a net asset value of 47 cents per share (disclosed November 11, 2014).

On December 2, 2014, Pinetree also breached a debt incurrence covenant by accumulating $3.3 million of margin debt subsequent to the debt-to-assets ratio breach occurring, but this was subsequently cured on December 12, 2014 when presumably they sold securities to cover this amount.

Scouring SEDI, Pinetree Capital disposed of the following securities from November 24, 2014 onwards, of which they are required to disclose in the event of them being 10% or greater owners, or an insider of Pinetree is also an insider of the following issuer:
Canadian Orebodies Inc.
Caracara Silver Inc.
Gold Canyon Resources Inc.
Macarthur Minerals Limited
Manitex Capital Inc.
Mega Uranium Ltd.
Sanatana Resources Inc.

The dispositions of these securities alone do not account for $3.3 million, so there are other companies in the portfolio where Pinetree is not a 10% owner that must have accounted for other cash raised.

There is a major complication at this stage with Pinetree Capital and their ability to obtain a waiver or cure the default.

On November 26, 2014, they filed a notice with SEDAR that an extraordinary meeting will be called on January 22, 2015 for debentureholders on record as of December 18, 2014. The relevant regulations concerning notification to securityholders is through NI 54-101, Communication With Beneficial Owners of Securities of a Reporting Issuer; Section 2.12 (which applies to securityholders in this particular circumstance) states that proxy materials need to be sent 3 business days before the 21st day of the scheduled date of the meeting. The deadline for this was December 24, 2014, which means there can be no brokered agreement with debentureholders as there is no time left for the January 23, 2015 default date.

This leaves them with the following options:

1. Purchase debentures, approximately $11 million face value at 80 cents of par value, which will bring them relatively close to the 33% level. The complication with this is that there is little liquidity in the marketplace, coupled with a lack of time, and the inability to execute on a dutch auction in such a short period of time. They would need to find a private seller of debentures and make a private purchase from them off-market. This is not a trivial amount of debt to be repurchased in a short period of time.

2. Issue equity – given that their stock price is in the toilet, it would be highly dilutive. At a share price of 13 cents, they would need to dilute the existing firm about 40% in order to raise enough in assets to get below the 33% debt-to-assets mark. Pinetree would have to apply to exempt themselves from TSX rules and have this classified as a distressed situation that does not need shareholder approval in order to proceed.

3. If by whatever miracle their assets appreciated by December 31, 2014 to the point where the debt-to-assets ratio went below 33%, they bought themselves at least another three months, depending on what happens to the assets.

Note that simply selling securities in their portfolio would not help their situation – even if they received fair market value for their securities (which is unlikely given the illiquid nature), the debt-to-assets ratio would still remain the same. In order for the ratio to change, their asset value needs to increase significantly, or they need to repurchase debt.

There have been no reported debt repurchases by Pinetree, nor any other insider activity other than insider management issuing options to themselves consisting of approximately 1.76% of the outstanding shares of the company, with a strike price of 16 cents per share and a 2019 expiration date.

How this is going to play out over the next couple of weeks is going to be very, very interesting. There is also a distinct possibility that the company will opt for going into creditor protection via the CCAA (Companies’ Creditors Arrangement Act) and restructure their debentures through that route. This would presumably be a sub-optimal route for management, however, since they would most likely lose control of the company; it would be in the debentureholders’ best interests to see a timely liquidation of a company that presumably still has a positive net asset value of 46 cents per share, as reported on December 15, 2014 – it would be a good educated guess that they could derive $54.8 million in remaining par value with the $148 million in reported assets on the books.

And finally, yes, I will disclose that I own some debentures in this train wreck. This one is not for the faint of heart, nor for those that will have issues with liquidity in the future (there will be none if they go through the creditor protection route, rather there will be a payout by the trustee at some distant point in the future).

This article is about Pinetree Capital (TSX: PNP), which came across my radar a few months ago when doing some casual screens of the market.  I’ve analyzed this one many, many years ago and dismissed the idea for obvious reasons.  Nothing much has changed since then other than that management has blown about half a billion dollars – this is an accomplishment that very few non-fraud artists can claim.  The firm itself is quite easy to analyze.

The company functionally operates as a closed-end fund that invests in extremely risky microcap ventures in the mining sector. They were lucky enough to catch the uranium boom half a decade ago, but judging by their subsequent performance it was likely due to luck more than anything else. Their existing investment portfolio is full of unrealized losses in failed ventures:

 

With a whopping 378 investments, this company is a functional proxy for the TSX Venture exchange index.  And as investors might know, the Venture exchange has taken a serious beating over the past year, especially as most gold ventures have cratered (the TSX Venture is down 24% year to date, while you can see Pinetree capital’s portfolio is down about 45% in a year where there is a raging bull market in practically everything else than what Pinetree is invested in).

It is kind of amazing to see the $494 million unrealized loss row on the financial statements as this type of prowess in investment picking should be carefully harvested in a hedge fund designed to mirror 180 degrees exactly whatever the Pinetree investment committee chooses to engage in.  Investors would have made a fortune.

On the balance sheet side, the asset portfolio is primarily capitalized with $388 million equity from generous investors and the usage of convertible debentures (TSX: PNP.DB) of which $61 million is currently outstanding.  Strictly in terms of assets and liabilities, the debentures are the only major liabilities on the book and they are currently the only debt on the books (aside from some broker margin loans that arise from time to time):

 

There are a couple comments I will make on asset quality (or lack thereof):

1) Fortunately, most of them ($124 million) are level 1 assets, which means that there is some external methodology (market quotations) that can be attributable to how management values them.  The level  2 and 3 assets I would mentally write off.  Even the level 1 assets will likely have questionable amounts of liquidity (given that the history of the corporation is to purchase minority stakes in various junk firms) and should be mentally discounted for this reason.

 

2) The company is likely to exclude the $23 million in deferred tax assets when they release their year-end audited report as it will be a very, very long time before they’ll be able to use it all.  In fact, one of the likely liquidation scenarios for the entire firm is to sell the whole thing to somebody that knows what they are doing, and will recapitalize the firm and utilize all the capital losses the company will be booking – indeed, if you journal the half billion in losses, the company does have about $65-70 million in a reasonable capital tax shield to a potential acquirer.

This tax asset does have hidden value, but you have to get by the fact that management has a heavy severance penalty.

So when doing some mental adjustments on these assets (eliminating the deferred tax asset, eliminate level 2 and level 3 assets, and taking a 20% haircut off the level 1 assets) you have about $100 million, offset by about $61 million in convertible debentures.  The residual $39 million is reasonably close to the current market cap of the company ($42 million at present).

Management is entrenched in the company and they make a pretty profit from simply being there.  I will let this chart speak for itself:

 

Suffice to say, pulling a cool million a year out of this train wreck is rivaling what Robert Mugabe has done to Zaire Zimbabwe over the past few decades.

So what is the thesis on this train wreck? The answer is in the debentures.  They are trading at around 2/3rds of par value for obvious reasons – they mature in May 2016 and investors are wondering whether the level 1 assets are going to have any hope of recovery or not.  That said, there was a covenant in the debentures that required the company’s liability to asset ratio to not be greater than 33%, which they breached earlier this year (mainly due to losses on their investment portfolio).  They had to arrange a special meeting to obtain a partial cure (where the liability to asset ratio would be 50%) for 9 months, and endeavour to buy back some debentures and raise a little more equity capital on a best efforts basis.  They were able to obtain this by giving out a 6% sweetener and increasing the coupon from 8% to 10%, effective at the end of this month.

If the company didn’t broker this deal, debenture holders could have foreclosed on the entire firm and then there would be a firesale to make the debtholders whole.  Indeed, the salaries of top management could be used to pay for bankruptcy trustees.

In addition, the following terms and conditions were agreed upon:

 

 

It is clear that there is some large holder out there of the debenture that is dictating terms to the company.  Notwithstanding the external pressures being applied by the major debenture holder, management still has firm control of the company and it is clear that nobody rational would ever want to own the common shares of the business.

Management has a clear incentive to seeing that this train wreck continues as long as possible – it is a million dollar per year vehicle to extract capital out of unwitting investors and this incentive should make it possible for them to get rid of the pesky debenture holders by just selling enough assets and getting rid of them.

Of course, the scenario of destruction is that management will continue to bleed away their asset base.  At the rate they have been going, they will hit zero at 2014.  I think the value of the gravy train is more of a powerful force for management than trying to screw over debtholders, however.

The debentures can be redeemed at maturity for shares of common stock at 95% of the market value at a pre-defined time before maturity.  This is the ultimate nuclear button for management, but it would virtually ensure they would lose control of the firm at this point.

There is the additional catalyst of the 9 month deadline for the company to once again be compliant with the 33% liability-to-asset ceiling.  This is June 12, 2014.  By then, the company should have bought back $20 million in debentures and raised $5 million in equity.

The risk/reward dynamic here is obvious – if the Venture index does not plummet any further, debtholders should come out whole and also receive some very healthy-sized coupon payments along the way as compensation for holding onto the train wreck.  The risk is the aforementioned market risk with the index-like exposure the company has to the penny stock market.

Anyhow, I took a position in this early July before some other insightful writer identified this opportunity and it became public on Seeking Alpha.  It received a temporary boost-up in value then, but it has recently sunk to values that made me want to write about this in case if somebody wanted to hold their nose and purchase some of this stinker – the debentures, not the equity.