Taiga Building Products notes

I was doing some research on Taiga Building Products subordinated notes (TBL.NT, coupon 14%, due September 2020). The amount outstanding is $129 million face value. They are trading around 49 cents on the dollar so this is obviously in the distressed debt category – the yield to maturity calculation is an irrelevant figure (32%). The debt traded as low as 17 cents (if it did so today, the yield to maturity would be 103%). Yield to maturity is a misleading figure because it assumes coupons can be reinvested at a rate that is at the YTM. This will obviously not be the case.

In early 2008 the notes were trading very close to par value. Around October 2008 they went below 90 cents and never came back.

The first thing that struck out at me is that any company willing to shell out debt at 14% is a high credit risk. They issued the notes in September 2005.

The equity is around 41 cents, at 32.4 million shares outstanding this is a market capitalization of $13.3 million. This would rule out any debt-for-equity swaps, at least outside the context of bankruptcy proceedings.

The other salient detail is that they deferred interest payments up until September 1, 2010. This is also conveniently the date where their revolving credit facility ($53 million) becomes due. This essentially means that the credit facility gets paid off first (as it is secured by various assets of the company) and then the noteholders will get the second stab at the company.

Looking at their financials, Taiga is a profitable company, but they are not generating net income nearly as quickly as they need to in order to pay off the debt by September 2010. They generated about $11 million in free cash flow for the first 6 months of their fiscal year, but this will likely moderate for the rest of the fiscal year. Their balance sheet is in rough shape, with equity at negative 82 million and a significant chunk of debt due in less than a year. If I was a creditor to Taiga I would be somewhat concerned as the September 2010 debt payment date comes closer.

The value of the notes strongly depends on whether they can refinance their credit facility. Presumably the company would be in better financial shape if they paid off their 14% notes and refinanced the amount for a lower rate of interest.

That said, the market right now is not going to let the company do that.

It is essentially a gamble to decide whether Taiga will be able to refinance. My bet is that they will not be able to without giving some sort of concession on the interest rate, plus an equity stake in the company. It will be very expensive for shareholders and the company in general. It is clear that Taiga can be a sustainably profitable company, but it has simply taken on too much debt – my unprofessional estimation would be that it needs to go down to about half of existing levels.

As such, I wouldn’t touch the notes at current values.

How to take advantage of social networking for investing advantage

Read the Reddit (a link aggregation/dissemination site that is mainly dominated by teenager/sub-30 year old people) comments on “I have about $12,000 to invest, what should I do? I’m 26 and never invested before!“.

There are some decent responses (for example, people asking for more information on the person’s balance sheet), while there are a lot of comments that sound quite sophisticated but are quite incorrect.

While responses like these are not typical of the pricing you typically see in the marketplace, if you were locked in a room with teenager/sub-30 year old people and were forced to trade with them, you could use this information in a way that would give you a disproportionate advantage.

That said, in most cases people that have never invested before, if they do invest in risk-bearing instruments, will lose money. Even indexers, adjusting for management expenses, will not be able to outperform the rest of the market because so much money is tracking the S&P 500, Nasdaq 100 and the TSX 60 in Canada.

Outperforming the market requires you to know what you are doing, and to know it better than the people you are playing against in the marketplace. Most of the time the market gets it close, and knowing when the market is errant is crucial.

Dubai World default a lesson on foreign investing

I do not have any exposure to equities or debt outside of Canada and the USA, but I have been watching with fascination the fallout with respect to the default of Dubai World. Although most of Dubai’s investor base is European, it should have a small ripple effect around the world in absolute terms, but in psychological terms should reinforce that unmitigated speculation in real estate properties in might have adverse consequences in the future.

The parallel analogies between China (which one could argue has sufficient economic growth to warrant such capital investment) and Vancouver (which continues to mystify almost anybody that tries to perform a rational valuation on most properties) is obvious. However, even Vancouver does not have the excesses that Dubai did, mainly valuing waterfront properties so highly that they are to be reclaimed from the sea (or here). Looking at these projects makes me wonder what the monthly “strata fee” would be for one of these strips of land – just the costs to make sure that your island is not reclaimed by the Persian Gulf must be huge.

Financially, what is more complicated for investors is the lack of any idea of how subordinated their debt is, and what guarantees, if any, are embedded in the debt financing that was used to build such structures. The closest governmental analogy is that Dubai is a municipal government, while Dubai is one of seven divisions of the senior government, the United Arab Emirates (UAE). That said, the UAE (and the government of Dubai) made it quite clear that they will not be guaranteeing any debt of Dubai World, which means investors are hooped and can only claim whatever embedded asset value there is in the properties. This is even assuming the corporation follows whatever legal rules that are available to foreign investors in the UAE or Dubai.

It is these legislative nightmares that keep me clear away from foreign investments. In order to have a true grasp of the risk that one takes while investing, one needs to know the legal framework of the jurisdiction in question. Good luck trying to figure out Dubai World.

That said, China has gotten to the point where one might wish to more intensively study how their corporate legal structures work – from what I can tell, signed contracts and written documents are guidelines, opposed to binding, which makes analyzing social frameworks a much more relevant avenue than here in North America.

Half-year fiscal report card for Canada

The September update of the Fiscal Monitor is out. This is the half-year mark for fiscal reporting in Canada. We have as follows, for the first half-year comparing 2008-2009 vs. 2009-2010:

1. Personal income tax collection down 7.5%. This is slightly offset by income tax reductions (by virtue of raising the thresholds for the lower two tax brackets).

2. Corporate income tax collection down 39.5%. This is slightly offset by corporate tax reductions, but this shows that corporate profitability has fallen off a cliff between years.

3. GST collection down 17.9%. This is a good indicator of consumer spending.

4. EI Benefits paid up 50.1%. Probably the best proxy measure for unemployment – these people in the future, assuming they do not get jobs, will be paying less in personal income taxes as well.

5. Budgetary balance of a $28.6 billion deficit for the half-year. Extrapolating this out for a full year will result in a $57 billion dollar deficit for the year, slightly higher than the government’s projection of $55 billion.

Oddly enough, public debt charges (i.e. interest on debt) is down from $16.5 billion to $15.1 billion which is because of the very low interest rates offered by the Bank of Canada on public debt. As the term structure of interest rates is severely low at this point in time, it makes one wonder what will occur if or when interest rates start to rise again. Right now the Bank of Canada will happily take your money at 1.12% for 2 years. It will also take your money for 3.22% for 10 years. At this moment, the Bank of Canada should be trying to sell as much long-dated debt as they can, as they are receiving exceptionally low rates.

John Jansen a true financial journalist

Across the Curve was written by John Jansen, and it was something that I thoroughly enjoyed reading. He was quantitative, and factual and to the point. It was very good writing.

Probably a recent highlight for the author was when he got invited to a meeting with a few other bloggers to a meeting with some senior US Treasury officials, and ended up on television for an interview shortly after on Canadian business television.

Anyhow, he got a job with TD Securities and will presumably not be allowed to write about his views on the market, which is tragic, but I wish him the best of luck in his job.