December 7, 2018, Quick Update: Peanut Convertible Debenture Power Rankings

Hello, time for another update.  This is the 37th update of the Peanut Convertible Debentures Power Rankings, which is current to December 7, 2018.  Thank you for continuing to read and support the Canadian Convertible Debentures Project.
      
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For a summary of the rankings of our entire convertible debenture coverage universe including the quantitative model prices of, and notes on each issue we follow, click on the table below to view it larger.

For background information on the Peanut Power Rankings, please see our FAQs by clicking here.

Important: the Peanut Power Rankings are provided as information and opinions only and are not intended to be a provision of investment advice or a recommendation of any investment action in any form.  As with all information concerning investments, it is highly recommended that an individual consult with a qualified investment professional before making any investment decisions.


Canadian Convertible Debentures Project: In the Media

Our sleepy little blog received some ink in the press last week. On Tuesday, December 4, my interview with columnist, Larry MacDonald, ran in the Globe and Mail, where we talked about convertible debentures among other topics.  The column is accessible online here for Globe and Mail subscribers; for those of you without a subscription, the column also appeared on page B8 of the print version of the newspaper.  I don't think there was too much in the interview that we haven't already covered here at the Canadian Convertible Debentures Project, but maybe some of you will find it interesting.

Public Service Message: the Financial Post Convertible Debentures List

We've received quite a few emails asking about the Financial Post's convertible debentures list, which has apparently vanished from the newspaper's website for almost a year now.  Unfortunately, we don't know of another complete list of Canadian convertible debentures that is available free to the public that has the same depth of information that was contained in the Financial Post list.  The stats and figures we use for the Peanut Power Rankings we collect from various public sources and calculate ourselves (it's a lot of work!); we don't have a complete list of convertible debentures either.

For those of you out there that are clients of a full-service brokerage firm with a research team that covers convertible debentures, you may be able to obtain a complete list if you ask your broker.  Also, as we announced on December 20, 2017, thanks to one our valued readers, we were informed that the TSX publishes a basic list on its website approximately monthly.  It's not the same as the old Financial Post list, but hopefully it can still be of use to some of you out there. 

Market Commentary - Quick Points (December 7, 2018)

• Ok, let's see what's happened since our last Peanut Power Rankings update in early November. 
• Well, the pollsters mostly got it right in the US mid-term elections: the Democrats won the House and the Repulicans retained the Senate.  For fans of democracy and the rule of law, the House result was obviously very important.  In the last week, the President has been tweeting up a storm to distract from the footsteps he hears that is the Mueller investigation - and the footsteps are gaining on him.  If turmoil in Washington is an inevitability in 2019-20, I'm going to guess that the market isn't going to like the added uncertainty. 
• The market already doesn't like the United States' (unnecessary, so unnecessary) trade war with China.  Tariffs, tariffs, and tariffs are so pre-New Deal 1930's, and this "policy" will serve to hinder economic growth in the next couple of years.  Quite frankly, I don't think it's impossible we find ourselves in a recession by 2020.  We'll see. 
• The arrest of Huawei CFO Meng Wangzhou in Vancouver by the RCMP at the behest of US officials puts Canada in a very awkward spot.  Yes, Canada is bound by the terms of its extradition treaties with the US, but this highly publicized incident also seriously threatens trade ties with China, which are needed more than ever with US trade relations already frosty.  Not good.
• Also not good for the Canadian economy: oil prices have completely tanked.  Hard to believe that just a couple of months ago, US$100 WTI oil wasn't that far off ... now, it's barely keeping its head above US$50, even after a round of OPEC production cuts.  Of course, Canadian oil only wished it could fetch fifty bucks a barrel, with WCS flirting with sinking into single-digits(!) until Premier Rachel Notley made the highly unusual (for Canada, anyway) announcement for production cuts in Alberta. 
• At least Canadian unemployment is plumbing record lows with a 5.6% print on Friday.  However, wage growth has been virtually non-existent, which is bad for working Canadians heading into the Christmas season. 
• Just weeks ago, it seemed like a certainty that the Bank of Canada would raise rates in December, but with the plunge in oil and inflationary pressures more or less at bay, Stephen Poloz held the line earlier this week.  We're on record (if you read our last update) saying that interest rates may rise somewhat slower than what the market thinks, and so far, that view seems to be playing out.  Right now, I'm not sure that it's a slam dunk that the Bank of Canada raises rates in January, either.  
• Not surprisingly, interest rates in Canada fell quite sharply all across the rate curve in the past week.  This helps the prices of our convertible debentures.  
• Speaking of convertible debenture land, I know we sound like a broken record, but in these times of uncertainty, it's still best to concentrate on quality issues from issuers with strong balance sheets.  First rule of bond (whether converts or not) investing: make sure you get paid your principal back.  
• As for our Peanut Power Rankings, we've added two new issues to the list, the Innergex 30-Jun-2025 4.75% convertible debentures (INE.DB.B, ranked #7) and the Invesque 30-Sep-2023 6.00% US$ convertible debentures (IVQ.DB.V, ranked #11). 
• I know lots of you reading this blog have an interest in the Hydro One Instalment Receipts (H.IR, ranked #22).  Interestingly, the Washington state regulator rejected Hydro One's proposed takeover of Avista earlier this week citing political interference.  Hydro One shares and the instalment receipts both spiked on the news.  As we understand it, the instalment receipts will continue to accrue coupon interest until the deal is finally closed or officially put to bed.  At Friday's close price of $21.40 per Hydro One share, the instalment receipts (which closed at $32.10) are just a hair below the conversion price, but the model is currently pricing the receipts as slightly overvalued. I'm not sure what's going to happen to the Avista deal in the end, but with the Ford regime installed in Queen's Park, political meddling going forward is real and present risk for Hydro One.  For investors interested in utilities, there are other options out there - just my opinion.  

Picture of the Day


City Hall and Nathan Phillips Square. Toronto, Ontario. Copyright © 2018 Felix Choo / dingobear photography.  Photo available for licensing at Alamy Images. Photo may not be reproduced without permission. 

Drop Us a Line

Thank you for reading this blog.  As always, if you have any comments or questions about convertible debentures or this blog, please leave us a comment at the bottom of the page or email us at convertibledebs@gmail.com. 

In addition, for media, sponsoring and/or financial institution inquiries, please email us at convertibledebs@gmail.com.  Thank you for your interest!

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Beyond Convertible Debentures: Guardian Capital Group (GCG.A), December 6, 2018, Update

The bear (market) is coming for us all. What to make of Guardian Capital, then? Anana, the polar bear, at Lincoln Park Zoo in Chicago, Illinois. Copyright © 2014 Felix Choo / dingobear photography.  Photo may not be reproduced without permission. 

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Beyond Convertible Debentures is a semi-regular column on this blog where we explore different and somewhat less widely covered investment ideas that exist outside of our favourite asset class, convertible debentures.  We hope at least some of you out there find it interesting. As always, thank you for reading The Canadian Convertible Debentures Project.

Important disclaimer: Like everything else on this website, content here is provided as information and opinions only and not intended to be a provision of investment advice or a recommendation of any investment action in any form. As with all information concerning investments, it is highly recommended that an individual consult with a qualified investment professional before making any investment decisions.



Beyond Convertible Debentures: Guardian Capital Group, December 6, 2018, Update

Since our last Beyond Convertible Debentures update on Guardian Capital in August, the company has reported on its fiscal third quarter, which allows us to update a few of the numbers we've tossed around in previous analyses. We won't repeat the background on the company that we've gone into in previous updates; click here to for links to our previous posts on Guardian Capital. 

Instead, let's just get to the updated numbers. 

When attempting to value Guardian Capital, I like to use a sum-of-the-parts type of approach.  The way I see it, there are three main parts to company's valuation: (1) Guardian's core asset management business, (2) Guardian's large position in BMO shares, and (3) the rest of Guardian's proprietary investment portfolio, which is mainly comprised of a diversified global equities portfolio.  Note that the ownership of (2) and (3) here belong solely to Guardian Capital; these positions are separate and apart from the assets it invest on behalf of its clients.

The investment premise with Guardian Capital has always been that the BMO shares and the proprietary investment portfolio constitute a large portion of Guardian's share price, allowing investors to essentially buy the company's main asset business for either very cheap or, at times, free.  Let's see what the current numbers tell us: 

Guardian Capital's class 'A' non-voting shares (GCG.A) closed today (December 6) at $21.75 per share and its common voting shares (GCG) closed at $21.85 per share.  If we take a weighted average of the two classes of shares based on their market capitalization, we get a "combined" per share value of $21.76 per share. Like many other stocks in the last couple of months, it's taken quite a swipe from the bear. 

Based on the numbers we've calculated from publicly available sources, $11.98 of this $21.76 total per share value is comprised of Guardian's holdings of 3.70 million BMO shares and $9.48 of the $21.76 is made up of the rest of Guardian's proprietary investment portfolio.  This leaves only $0.31 of per share value in what's left of the $21.76, which we would, by process of elimination, then attribute to Guardian's core asset management business.  Stated differently, as at the close of trading today, the market is pricing Guardian's asset management business at $0.31 per share ... because the rest of the share price value is comprised of Guardian's own holdings in a big chunk of BMO shares and a proprietary diversified investment portfolio that is mostly made up of global equities. In other words, an investor that buys Guardian's shares at current prices is essentially getting the company's core business for cheap. 

Does cheap equal good value here?  Well, it depends on perspective.  Since we started following this name, we have always thought so.  Let's do some mental gymnastics to state our case as to why.   

The crux of our investment thesis is that the $0.31 per value attributed to Guardian's core asset management business is, quite frankly, low for the things what the company brings to the table.  As at September 30, 2018, Guardian generated $24.0 million of adjusted operating earnings in the last 12 months.   Note that "operating earnings" here includes the regular income from Guardian's fee-generating investment management activities, less the dividends generated from the BMO shares and the rest of its proprietary investment portfolio.  This figure also excludes any net capital gains (or losses) generated from trading of its BMO shares and/or proprietary investment portfolio.

If we take the market-implied market capitalization attributable to Guardian's core asset management business (i.e., $0.31 value per share x 29.0 million shares outstanding = $9.0 million market implied market cap) and divide it by the $24.0 million of adjusted operating earnings generated, we arrive at a price-to-adjusted operating earnings ratio of 0.37x for this business.  On pure numbers, it doesn't get much cheaper than that.    

This said, even though I think Guardian Capital continues to be underrated by the market, it remains very much open for debate as to what kind of price-to-adjusted operating earnings ratio multiple that its core business should be trading at.

Like in our previous columns on Guardian, we've played around with the numbers to see what the shares of Guardian Capital would trade at if the market assigned, say, an 8.00x price-to adjusted operating earnings ratio on its shares.  In our view, an 8.00x multiple is quite a reasonable ratio, but there's no magic to this number per se.  Others may make more or less aggressive assumptions - different opinions is what makes a market.  In any event, using an 8.00x multiple, here's what the numbers look like:

As you can see, with an 8.00x multiple, we would get to a value of $27.59 per share, which is 26.9% higher than GCG.A's close price today of $21.75.  So, based on this quick-and-dirty analysis, we think there's some relative upside here - but only if the market starts assigning more value to the Guardian's core asset management business.

To summarize, here are what we see as positives associated with investing in Guardian Capital shares:

• Not widely followed by Bay Street, we believe that the market continues to undervalue Guardian Capital. When we dive into the numbers and carve out the significant value of its holding of BMO shares plus the rest of the company's proprietary investment portfolio, the "stub" asset management business is currently trading only at a 0.37x price-to-adjusted operating earnings ratio. In other words, an investor buying it at current prices is essentially buying Guardian's well-established asset management business for very, very cheap.
• The company's asset management business has a long history of being consistently profitable.  In the last 12 months, the company booked $97.5 million in after-tax net earnings.  Based on today's close prices, the company has a market capitalization of $631.1 million.  This implies a total business trailing price-to-earnings ratio of 6.48x.  This is also cheap, and is favourable when compared to the TSX as a whole.
• Guardian Capital has grown its dividend in each of the last eight years, and based on the current quarterly dividend of $0.125 per share, the current dividend yield of the stock is approximately 2.30%. 
• Given that there are few publicly traded independent investment asset managers left trading on the TSX, there is definitely some scarcity value in Guardian.  It would almost certainly be a good acquisition target for any of the big Canadian banks (given their history of dealing with one another, BMO would seem like a possibility), but this is, of course, just pure speculation on our part.  The company has never been eager to sell, and has remained independent for more than half a century since its founding.

There are also, of course, risks to investing in Guardian Capital.  Here are some of the more prominent risks, in our view:

• The value of Guardian Capital's shares are highly correlated to equity markets, and in the event of a broad market correction, they would almost certainly struggle.  And guess what? As you investors know all too well, the volatility of the last couple of months makes one wonder if a true bear market is around the corner, which would not be surprising after a decade-long bull market. In the depths of the 2008 financial crisis, GCG.A traded as low as $3.00 per share.    
• Since the company's position in BMO shares is such a large part of its overall valuation, Guardian's fortunes are therefore also tied to that of BMO's.  I continue to think that BMO is a pretty solid bank, but to the extent that BMO runs into any issues, then shares of Guardian would be negatively affected as well.  Note that BMO shares have not done particularly well the last couple of months, which has helped drag Guardian's intrinsic value down.  In addition, the rest of Guardian's proprietary investment portfolio is largely comprised of global equities, which has similarly traded off this fall, further lowering intrinsic value.
• The shares of Guardian Capital are illiquid.  Even the more-liquid class 'A' shares only trade on average less than 10,000 shares a day, so bid-ask spreads can be quite wide at any given time.    Our view: know your price and set limit orders and not market orders when buying or selling. 
• The illiquidity mentioned above is due, in part, to the company having a majority owner.  One can (successfully) argue that Guardian deserves to be trading at a discount to its intrinsic value due to the presence of a majority owner, which will have final say in important company matters such as, for instance, any potential sale of the company.
• A large part of Guardian's business is focused on managing assets for institutional investors such as pension funds.  In recent years, large institutional investors have tended to reduce their allocations to liquid assets such as stocks and bonds, and instead increased allocations to such asset classes as real estate, private equity, and infrastructure.  If this trend continues, traditional asset managers such as Guardian could be negatively affected.
• Outside of the Guardian's acquisition of US-based Alta early in 2018, Guardian's assets under management have actually declined in the last year or so.  This could be due in part to the point above, and also due to general declines in the market.  Either way, this is something to keep an eye on; if net redemptions persist or accelerate, this is not good for Guardian's core business.
• With the huge, widespread of acceptance of ETFs and other lower-fee investment options, pricing power for traditional investment asset managers is arguably eroding.  This may negatively affect Guardian's ability to generate the same level of fee income per dollar of assets under management going forward.

The bottom-line: in today's volatile market, we're always on the lookout for potentially undervalued investments such as Guardian Capital.  In our view, the market continues to undervalue this investment asset management firm, whose value is backed up by valuable (albeit market-sensitive) components.  We continue to hold a position in GCG.A with an average cost base of approximately $25.19 per share, with dividends automatically reinvested.   



An Alternative View

In investing and life, it's always good to be open to alternative views.  Over at the Canadian Value Stocks blog, the principal there continues to follow Guardian Capital, which he most recently mentions in a post here.  Please note we are not affiliated in any way with the other blog, have no control and take not responsibility over its content, and make no opinions and endorsements of it therein.  We are merely providing this link for information only, which potential readers that are interested in Guardian Capital may find useful. 

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Any thoughts, questions, or comments?  As per usual, please feel free to drop us a line through the comments form below or by sending us an email.