Tag: CF

Canaccord – Going Private?

Canaccord (TSX: CF) put forward a management-led buyout proposal of the company at CAD$11.25/share. The total price is expected to be $1.127 billion, which also includes a consortium of people, including management, of 21.3% of the company.

The balance sheet of CF is not the cleanest:

The significant amount of minority interest stems from the roughly 2/3rds ownership CF has in its UK and Australia subsidiaries (which are consolidated on the statements) – and 55% of the Goodwill stems from these divisions.

I remember looking at CF last year (when it was still around $8/share) and decided against it given where I thought the economic climate was going (2021 was a banner year for public offerings, while subsequent to this things are going to be quite dry, relatively speaking). This doom-and-gloom did appear to be baked into the stock price, but as to what degree, I could not say. Dividend investors would have been happy considering they have found a new appreciation for giving out their cash flow to shareholders.

There are a lot of companies that have “covid characteristics”, whereby one has to look back to 2019 results of being more representative of a baseline performance. 2020 to 2022 are abberations for many companies.

In 2019 (backing out dividends), CF was trading at around $5-6/share. Even after adjusting for inflation, an $8/share price seems to have embedded in a reasonable amount of risk. It was not ridiculously under-valued.

However, the special committee to review this CAD$11.25 deal is not thrilled:

The Special Committee and the Management Group engaged in prior discussions concerning a proposal from the Management Group regarding a potential Board-supported transaction to be executed by way of a plan of arrangement. The Special Committee advised the Management Group that it was not prepared to support an offer of $11.25 per common share based on the preliminary financial analyses conducted by RBC. To date, engagement between the Special Committee and the Management Group has not resulted in an agreement on a value per common share that the Special Committee could support and recommend to shareholders.

…

Importantly, the Special Committee has not agreed to recommend that shareholders accept the Proposed Offer.

One danger of investing in smaller-capped companies is that on occasion you will have management try to low-ball an acquisition of the rest of the company. Jimmy Pattison’s firm tried to take out the minority stake in Canfor (TSX: CFP) which nearly succeeded. I still remember being resentful when Cervus Equipment got taken out by management. Almost anything with the name “Brookfield” in it is susceptible to this phenomena. There are plenty of other stories out there. The danger of having these management-lead buyouts increases in proportion to the smallness of the company and the proportion of ownership of management.

As a final point, my last ownership in CF has been through its preferred shares many years ago – which I have long since sold. In early 2016 they were yielding double-digits and were too tempting to not purchase (indeed, they were a steal at the time). However, preferred shareholders get no preferred treatment as a result of this management buyout – the CF.PR.A shares traded up today, but basically at the asking price of a very high bid-ask spread. CF.PR.C traded down! The shares reset in September and June of 2026, respectively, and with current yields of 7.09% and 8.31%. If you believe that 5-year interest rates will remain at around 3.25% around the middle of 2026, the reset rate goes up considerably.

Canaccord Genuity Debenture amendment

A general cliche to remember in finance is that when things are complicated, they usually advantage the proposer of the complex terms.

Canaccord has an issue of convertible debentures outstanding (TSX: CF.DB.A) which are fairly typical: Unsecured debt, 6.25% coupon, matures December 31, 2023, convertible (by the holder) at $10/share at any time; it can be redeemed by the company after December 31, 2021.

Canaccord is reasonably solvent and payment of the debt is not an issue at present.

The stock (TSX: CF) is at $11.69/share, which means the debentures are in the money.

Canaccord proposed an amendment today with some terms I have not seen before. I have reformatted the below to make it easier to read:

The proposed amendments (the “Proposed Amendments”) are as follows:

The addition of a right of the Company to redeem, at its option and from time to time, between April 1, 2021 and October 31, 2021, any or all of the outstanding Debentures (the Amended Redemption Right”), for consideration of (for each $1,000 principal amount of Debentures held) cash equal to

(i) the greater of:
(a) 125% of the principal amount, being $1,250, and
(b) the sum of:
x) the amount calculated by multiplying 100 by the volume weighted average price of the common shares of the Company (the “Common Shares”) for the 20 trading day period ending two trading days prior to the date upon which the Company issues a press release announcing its intention to exercise the Amended Redemption Right; and
y) $40.00;

plus:
(ii) accrued and unpaid interest up to, but excluding, the date of redemption.

The Debentureholders’ right to convert their Debentures into Common Shares, at the current exercise price of $10.00, will be suspended until November 1, 2021.

The analysis of this offering took me a little bit of time to work out, but just like most complex transactions does not work well for the recipient.

The terms on initial glance seem attractive: Right now the debentures have an “intrinsic” value of $1,169 per $1,000 par (the assumption of a conversion and then a frictionless disposition on the open market). In scenario (a), you have $1,250, which is a higher amount, and in scenario (b), you have what you would have received otherwise in a conversion-and-sell scenario, plus an extra $40 for your efforts. Win-win, right?

No, for two reasons.

One is that the debenture holder is surrendering some time value of their equity call option (in the worst case scenario this would be eliminated by a December 31, 2021 redemption).

The second, and in my opinion, more valuable feature is that this amendment proposal is asking the holder to sell an information call option on the effective equity that their debentures have, for a very cheap price.

Specifically, the amendment proposal term of “for the 20 trading day period ending two trading days prior to the date upon which the Company issues a press release” is the offending term which gives away a lot of value to the holder, in this case, Canaccord.

The company controls the degree of information flow on its stock and to that extent, has some ability to talk up or down the stock price. The ability to issue a press release and retroactively determine a redemption price is a very powerful option given to the company.  It’s like buying and selling a stock using historical data.

If the company wants to get rid of the debentures without conversion dilution, it could launch a substantial issuer bid, but retiring the convertibles would likely involved a price higher than $1,250 per $1,000 par. Hence, this convoluted scheme to amend the debentures should be voted against.

The proposal requires 2/3rds of the debentures to be in support to pass the amendment.

A large Canadian asset manager, on behalf of certain of its managed accounts, has agreed to support the Proposed Amendments and has entered into an agreement with the Company to consent and vote in favour of the Proposed Amendments. These accounts hold approximately 55.4% of the outstanding Debentures.

What do I know? Nothing, it seems.

Overall market thoughts – volatility – fossil fuels

This is another rambling post with no coherency. The quarterly reports from companies are flowing in and I am reading them – but there are few companies that are below my price range where I start to care about them in detail. As such, my research pipeline at this point is in the exploratory mode rather than doing detailed due diligence.

It is in the middle of summer and I am not expecting much in the way of volatility – it is truly a summer where major portfolio decision-makers have decided to take away from the trigger switches.

Accordingly I have been sitting and watching with respect to my own portfolio while I do my casual research. Probably my biggest error of omission was watching the solar market rise over the past six months – I’d written them off, along with almost everybody else, as languishing when the price of fossil fuel energy dropped. A lost opportunity there – there was one company in particular which I earmarked, financial metrics looked great, but didn’t even pull the trigger, primarily due to insider selling. If I executed correctly on it, I would have been looking at a double now. Oh well.

An equity chart that caught my attention was the high expectations of investors of Canaccord pulling a great quarter, which came nowhere to fruition:

This is very obviously the chart of expectations crushed after a quarterly report – a regression to the recent mean would suggest a $4.50-ish stock price. I also notice their domestic competitor, GMP, being crushed after their quarterly report.

I also notice most liquid fossil fuel companies are getting hit badly and are close to multi-year lows. In the USA, most of the companies receiving boosts are the ones that have had been relieved of their debt burdens through the Chapter 11 process (LNGG is a great example of this). I still don’t think equity holders of fossil fuel extraction companies are going to be too happy over the next 12 months.

I also took notice with Interactive Brokers, and Virtu’s commentaries with respect to Q2-2017 as being one of the lowest volatility environments possible – they are two types of businesses that generate revenues as a function of trading volumes. Volatility correlates negatively with an increase with the broad markets – I am looking for defensive-type companies that will do okay in an environment like present, but will really do well when volatility increases.

Interactive Brokers is a classic example of a great company (they are the best at what they do by a hundred miles over everybody else), but one who’s stock I am not interested in buying at current prices.

Mostly everything in the Canadian REIT sector seems to be over-valued. An interesting trend is that the downfall of retail is somewhat being projected by RioCAN’s chart – trading below book value, it might seem to be an interesting value, but are they able to keep up occupancy and lease rates to businesses that have to compete against Amazon? The residential darling of the market is Canadian Apartment Properties (CAR.UN) but they are most definitely not trading at a price that would suggest a future performance beyond a high single digit percentage point and this is under the assumption that their real estate portfolio asset value remains steady. Trading in the entire REIT sector seems to be entirely yield-focussed which is never a good basis to invest, but it is a good basis to evaluate other investors’ expectations on these entities.

Gold has also been up and down like a yo-yo and might be an interesting bet against dysfunctional monetary policy. Unfortunately my ability to analyze most gold mining firms is generally not that fine tuned.

The liquidity of my overall portfolio is very high (nearly a quarter of the portfolio is collecting dust at a short duration 1.5%), but right now I don’t see much investment opportunity that would suggest avenues for outperformance. I could shove the money into some sub-par debenture (e.g. TPH.DB.F which buys you a 7% coupon until March 31, 2018 maturity) but do I really want to lock my capital into something that is questionable? It is the literal metaphor of picking up pennies in front of a steamroller. My policy is that if I have to force my money to work, chances are the investment decision’s risk/reward is worse than if I just held it in cash and waited for some sort of crisis to hit. I generally define “crisis” as something that will take the VIX above 30%, but it has been awhile since we last saw it:

It is pretty ironic how the election of Donald Trump was foreseen by most pundits to be the end of the world and higher volatility times, but so far the opposite has turned out to fruition. Will it continue? Who knows.

I see a lot of people making the mistake of impatience, and also the mistake of assuming that the index ETFs that they are investing into (Canadian Couch Potato, etc.) will leave them safe through masked diversification – works great as long as there are net capital inflows, but what happens if there is a correlated bust among these products? Will retail continue their conviction when they see a 10% drop in prices, or will they grit their teeth and add to their positions?

I continue to wait. It might be a very boring rest of the year with very limited writing. If you think you’re in a similar predicament, I’d love to hear your comments below.