Archive for October 6, 2010

| October 30, 2010
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Coast Wholesale Appliances CWA.UN

The Facts (as of October 29, 2010)

Unit price: $4.97. Book value per unit: $8.72. Market cap: $32 million (small). Distribution: $0.0416 per month or $0.50 per year. Current yield: 10%. AFTER conversion dividend (approximately 50% of annual net income): $0.42 per year. 2011 yield: 8.45%. Current P/E: 7.7x. Debt/equity ratio: 0.0 (no long-term debt) . Current payout ratio: 77%.

The Story

Coast is a leading independent supplier of major household appliances and accessories. Headquartered in Vancouver, British Columbia, Coast sells to developers and builders of multi-family and single-family housing, and to retail customers.

Coast’s sales are almost evenly divided between developer and builder customers, and retail customers. Coast currently operates 15 stores across the four western provinces and one store in the Greater Toronto Area of Ontario, as well as a network of warehouse distribution centres strategically situated to serve these locations.

The income trust was formed in 2005 and units were issued at $10.00, paying a distribution of $0.10 per month, for a 12% yield. The unit price soon dropped to $8.00 and traded in a range between $7.50 and $8.50 until January 2007. Over the next six months, the unit price grew to $11.00, before drifting back down to $6.00 by September 2008. In the market crash, the distribution was cut to $0.08 then $0.04 per month and the unit price cratered to $2.00 in April 2009. The distribution has remained constant at $0.04 since, and the unit price has grown back to $5.00.

Pros

The company has no long term debt, which makes it less risky. It currently trades at a low P/E and is very cheap relative to its book value. It offers a high yield given the present distribution policy and the new dividend policy has already been announced. The dividends should be sustainable and still allow some capital for growth. Management appears to be open and forthright.

Cons

This is a regional company with a small market cap. The shares are thinly traded, making it difficult to buy in volume (which may be a benefit to small individual investors). Profitability related to new houses and renovations, both of which have been affected by the recession. It may take some time for profitability to return.

Impression

This company appears to be relatively safe, offering a good investment for income. There may not be much potential for capital growth, unless profits and dividends increase. However, if the investor is satisfied with the 8.45% yield expected for 2011, the outcome should be fairly predictable.

Category: Investment Ideas |
| October 27, 2010
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Smaller is More Robust

There are many challenges that come with a large portfolio. It is the goal of most pooled investment funds to grow as large as possible, for the profitability, but also for the theoretical economies of scale, ie. spreading the same expenses over a larger revenue base. In reality, however, I haven’t seen economies of scale in investment funds. Remaining small has advantages, which will be explored below. Read more

Category: Opinion |
| October 25, 2010
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Market Outlook October 22, 2010

Surprisingly, interest rates have fallen slightly. Interest rates are already low, however central banks are keeping money supply loose in order to continue to stimulate the economy as it recovers. The recovery is not guaranteed, although it seems to be underway. For that reason, it makes sense to maintain the availability of money until the velocity picks up again. Another effect is that inflation expectations are higher. This implies that rates should rise, bringing us closer to the end of a bull market (although, in reality, not very close yet).

I am also surprised to see that stocks and bonds both have positive momentum. However, the momentum of the stock market is much greater than that of the bond market. The stock market is almost certainly the place to be right now. There still seems to be quite a bit of risk aversion from investors, making stock-based investments a contrarian choice. Corporate earnings are still rising, many beating expectations, which raises the fair value of the stock market. Stocks still appear to be at the high end of reasonable value, given past earnings. But accounting for the fact that the economy is in recovery mode, it seems reasonable to expect earnings to continue to grow, and stock values to continue to rise.

Category: Stock Market Outlook |
| October 24, 2010
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CML Healthcare CLC.UN

The Facts (as of October 22, 2010)

Unit price: $12.01. Book value per unit: $6.08. Market cap: $1073 million (large). Distribution: $0.0629 per month or $0.7548 per year AFTER conversion in January. Post-conversion yield: 6.37%. P/E: 21.3x. Debt/equity ratio: 0.59. Current payout ratio: 104%.

The Story

As the largest provider of medical imaging services in Canada, a leading provider of laboratory testing services
in Ontario, and a leading provider of medical imaging services in the U.S., our centres play a critical role in health
management. CML’s operations are focused on providing the following services:
• Laboratory Services: conducting a wide range of medical tests used by physicians to diagnose medical
conditions, plan or evaluate treatment, and monitor diseases, through CML’s Ontario–wide network comprising
121 specimen collection centres (“SCCs”) and a central laboratory located in Mississauga, Ontario.
• Imaging Services: providing medical imaging services, such as magnetic resonance imaging (“MRI”), computed
tomography (“CT”), Positron Emission Tomography (“PET”), x-ray, ultrasound, mammography, nuclear medicine,
fluoroscopy, and bone densitometry (“DEXA”), through a network of 108 centres in Canada located in Ontario (77),
British Columbia (19), Alberta (nine), Manitoba (two) and Québec (one); and 23 U.S. based centres located
in Maryland (17), Delaware (one) and Rhode Island (five).

The unit price peaked over $17.00 at the end of 2007, while the distribution increased from $0.08 per month to $0.09 during that year. They were maintained during the recent recession, but the unit price  fell to just under $13.00 during the worst of the crash. The unit price recovered to $14 over the course of 2009, before crashing in 2010 with the prospect of conversion and a reduced dividend. This year, the price has gone from $14 to $10 and back to $12. We know that the yield with the new dividend, after conversion to a corporation, will be a little under 7%, based on the current unit price.

Pros

This stock provides a good yield, and there is some certainty about what the income will be in future. Once the income trust converts to a dividend-paying corporation, those dividends are expected to be eligible for preferential tax treatment. Medical services are profitable and are experiencing increasing demand as the population ages.

Cons

The current price seems high relative to earnings. With a P/E over 20 and a market value that is twice the book value, there is some inherent speculation that earnings will recover to pre-recession levels. That may be a reasonable expectation, given that 2009 earnings were around 50% of 2008 and 2007 levels. However, with changes to health care provisions by governments in Canada and the US, there is some uncertainty.

Impression

The yield is reasonably good, and I like the fact that management has already announced their intention for their dividend post-conversion. This company seems to be relatively stable and, at these prices, offer a reasonable investment. Even if the integration of their radiology acquisition is not successful, the share price appears to be relatively low, offering some downside protection. This could work as a part of an income portfolio.

Category: Investment Ideas |
| October 20, 2010
One comment

Assymetric Payoffs

Investing is the interplay of hundreds and thousands of human interactions. Because human emotions and decisions are unpredictable, investment results are too, and don’t conform to the laws of mathematical probability (based on Gaussian statistics). For this reason, the most reliable estimate of risk is the worst case scenario loss. When evaluating a potential investment, it makes sense to review the potential gain, the potential  loss and the associated costs in order to determine the best opportunities. Estimating probabilities only inserts false precision. Read more

Category: Opinion |
| October 18, 2010
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October 16, 2010 Market Update

There is almost no change from last week. Interest rates remain low and stable. The interest paid on savings accounts has crept up, and the five year fixed mortgage rate has fallen slightly. Central bankers continue to talk about stimulus (quantitative easing) to keep the economy growing and climbing out of recession.

The stock market continues to climb, even if momentum is slightly lower than last week. Earnings continue to come in better than expected. There is a good possibility that the market will adjust to improved expectations. If that’s the case, the market will continue on its upward climb.

Today is the municipal elections in Alberta, next Monday is the municipal elections in Ontario and in two weeks are the mid-term elections in the US. Different people vote for different reasons. No matter your decision, everyone ought to vote.

Category: Stock Market Outlook |
| October 13, 2010
One comment

Decentralising Portfolio Management

One of the major factors for investment success is people. People produce growth, whether they are managing the portfolio or managing the companies that form a part of it. But people are human and change is a part of every equity investment. At some point, people will leave, and a portfolio must be robust to those changes in order to continue to profit. Read more

Category: Opinion |
| October 11, 2010
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October 9, 2010 Market Outlook

There has been essentially no change in interest rates from last week. Rates remain historically low, providing stimulus to the economy. Companies who operate with debt can service their debt at a low cost, improving their profitability. Banks and financial institutions that earn a spread are also more profitable. For these reasons, chances of a bear market still seem very slim. We are experiencing a bull market as the economy recovers from the recent recession. It hasn’t all been straight up, but we’re seeing the market move in the right direction for investors.

It was another very good week for stocks, with the market advancing 1.4% over the week. Stocks are definitely the place to be right now, and it’s starting too look as though the market may take a serious run at 13,000 by the end of the year. It will also be interesting to see how institutional investors react. Apparently, many institutions and individuals, still scarred from the market crash, are holding large amounts of cash. When they finally believe that the bull market is real, they are very likely to plow the cash into stocks. Risk aversion is still very much apparent, and it’s likely that the blue chips will benefit first. However, it should give the already-rising markets a boost, pushing them to new heights.

Alcoa reported their earnings last Thursday, after market close. They beat Wall Street’s expectations. That was a theme last quarter, with about 75% of companies reporting earnings better than Wall Street’s expectations. This tells me two things: corporations are very profitable and Wall Street’s expectations are too low. When Wall Street values a stock, they base it on their expectations of future earning power, so this implies that the stock market is currently undervalued. It will be very interesting to see what news the next few weeks bring.

We are nearing the strongest season for stock markets. The saying, “Sell in May and go away” held fairly well this year. The corollary is that November to April is the period with the strongest returns. We still have much of October ahead of us, and it’s possible that the markets will take some time to establish a new base before moving higher. However, it feels like it will be wise to be fully invested in stocks over the coming six months.

Category: Stock Market Outlook |
| October 8, 2010
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Badger Income Fund BAD.UN

The Facts (as of October 6, 2010)

Unit price: $15.40. Book value per unit: $6.71. Market cap: $166 million (small). Distribution: $0.105 per month or $1.26 per year. Yield: 8.2%. P/E: 9.8x. Debt/equity ratio: 0.45. Payout ratio: 80%.

The Story

Badger Daylighting’s mobile hydrovac excavation systems offer many advantages compared to traditional hydraulic powered trenching and excavation machines. Our excavator systems use water and vacuum technology to quickly and cleanly blast through dirt and rocks to expose pipeline, utility and electrical systems or to open the ground for future work. Digging trenches using general excavation techniques also poses potential safety hazards when excavating around buried gas lines and hydro utilities. The Badger Hydrovac provides a safe and non-destructive alternative to conventional backhoes or other mechanical means.

In 2008, the unit price peaked over $23.00, while the distribution increased from $0.07 per month in 2005 to $0.105, remaining consistent during the recent recession. The unit price  fell to $13.00 during the worst of the crash, recovering to over $15.00. This stock has not fully participated in the market recovery and still has room for growth. The company has already announced their plan to convert to a corporation at year end. At their current payout ratio of 80%, it is reasonable to assume that the distribution may be cut by 10% or more when they become taxable. It seems reasonable to expect a dividend yield of 5%-7%.

Pros

This stock looks relatively cheap by all measurements and appears to have ample room for appreciation. The yield is attractive and the outlook is fairly stable. This is a relatively small company headquartered in Calgary, with operations in utility maintenance with some operations geared toward oil & gas production. In the coming years, whether there is a focus on infrastructure build-out or on oil & gas development, this company stands to benefit. Management is considered to be conservative and is highly regarded by professional investors.

Cons

Trading volume is thin and the price is volatile throughout the day. Earnings are down from last year, but not significantly. There is uncertainty surrounding government and private spending on infrastructure, even though many people seem to expect it to be a strong theme in future.

Impression

The yield is reasonably good, and I especially like the relatively low payout ratio and debt-to-equity. This company seems to be relatively stable and, at these prices, offer an attractive investment. Even if the distribution is cut, giving the company more capital to expand operations, it will likely offer an attractive dividend, probably with an expectation of some capital growth.

Category: Investment Ideas |
| October 6, 2010
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Robust to Bureaucracy

Because not everyone has the ability, the interest or the time to devote to managing their own investment portfolio, there is a real place for outsourced investment management.. One solution is to buy index funds, which have a low cost, and either piggyback on the work of professional investors or follow the natural evolution of the market, depending on your perspective. I prefer having people use their judgment in making investment decisions on my behalf. However, when choosing a person or organisation to manage money, bureaucracy is a threat to success. Having a small group of people in close communication renders decisions more robust. Read more

Category: Opinion |
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