Deveron

For readers that have been here before, you’ll know that many of the companies previously profiled are typically (at the time of writing) beaten down. Case in point, the last few posts are consistent with this – Caldwell (price beaten down by COVID), Titan (price beaten down by a weak energy industry, and COVID) and Brattle Street (forgotten and currently reinventing itself). One might think that these are the only kind of companies that are profiled here, which is why this post is different. Deveron (formerly Deveron UAS) had been flying under the radar for a number of years now, both literally and figuratively. However, as of today (October 15 2020), the shares of Deveron are seeing a distinct lift in their price, so the review of this company is somewhat different. Like prior posts, I use a green, amber or red format to highlight areas that I believe are bullish, neutral, or bearish.

Who is Deveron ? Deveron was at one point a subsidiary of Greencastle Resources, a small resource company trading on the TSX Venture exchange. For those of you that are familiar with the Canadian small cap market, a “small resource company” encompasses an enormous amount of companies on the Venture exchange. Essentially, this would be the same as walking down the street and “passing a guy with two arms and two legs” – not exactly attention grabbing. Without much fanfare, Greencastle announced Deveron’s acquisition of a drone company in Q4 of 2015 (see below), and Deveron as a “drone company” was launched.

Not long after that, Deveron UAS applied for and received a listing on the CSE, and began trading as a “stand alone” entity. Greencastle retained a significant ownership interest, but Deveron operated independently in the area of “Agri-Tech”.

What does Deveron do ? Deveron uses data to improve agricultural crop yields. To quote their website, they:

Provide farmers or growers with both on demand drone, soil sampling and tissue sampling services along with analytics to help you increase yields through our subsidiary Veritas Farm Management.

In essence, Deveron is a seller of information (agricultural data) which it provides to farmers and the agricultural sector for a fee. The idea is that the commercial or independent farmer gains insight from the data that Deveron provides, which in turn helps them improve their crop yield or reduce costs, thereby improving overall profit margins.

What is the chart telling me ? That is a bit of a loaded question, as I (unfortunately) cannot defer to my favorite chart provider (Yahoo), given that Deveron very recently moved from the CSE to the TSX Venture. Therefore, Yahoo only captures the most recent activity on the Venture, without any of the historical information from the CSE. That being the case, a 5 year chart (up to September 2020) of Deveron trading was sourced directly from the CSE website.

What is immediately apparent is that as of today (October 15 2020), Deveron is trading well above the “exit” price on the CSE, which was $0.27. What is problematic here is that because of the recent move to the TSX Venture, one cannot see the 20 and 50 week moving averages. That being said, the recent strength in price suggests that if it hasn’t happened already, the 20 week moving average will be leading the 50 week moving average soon, which is typically a harbinger of good news. So, on a technical level, this chart is suggesting that Deveron is poised to exit what I call a “saucer bottom”, as it traded sideways since mid-2017. The chart is therefore green, but the obvious concern is that the “ticket price” to acquire shares Deveron is getting more expensive.

The company has moved to the TSX Venture – and changed the symbol. While the move to the Venture has caused issues with the chartist within me, I’m more than willing to give up a good chart for the increased exposure Deveron will get. The move to the Venture exchange can be viewed as a “graduation” of sorts. The CSE is a good starting point for a small public company, as it is less expensive, and generally poses less barriers in both filing requirements and costs. That being said, the TSX Venture has far more visibility than the CSE, which means that Deveron will end up on the radar of larger investors (and larger pools of money), which means more liquidity. In addition to this, the change of the symbol from “DVR” to “FARM” serves the same purpose. While it might be viewed as cosmetic by some, the truth is that a symbol that clearly communicates what the company does (or the sector it works within) only helps sell the story. These two changes are very positive, and it would not be surprising if Deveron attracted more eyeballs at some of the smaller investment firms.

The balance sheet is good – but not great. The balance sheet is typical of a reasonably capitalized young company. On the plus side, there is a decent amount of cash on the balance sheet, overall liabilities have remained fairly static, and there is no long term debt. On the other hand, there is also a very significant amount of Goodwill, which is almost always related to acquisitions. The takeaway is that there are no landmines hidden in this balance sheet. The only concern that one might have is the fact that if business takes a turn for the worse, then it could require an additional financing, which would mean dilution for an existing shareholder. However, all things considered, we are neutral when it comes to the current balance sheet.

The income statement is improving – a lot. Year over year, revenues as compared to the prior 6 and 3 months have increased by 70% and 54% respectively, and gross margins during those same periods have improved by 91% and 82%. To be blunt, these are numbers that make investors salivate. During that same period, costs have also increased, but not nearly at the same clip. So while Deveron is seeing growth in a high margin top line, they have managed to control their cost base, which is often the killer for smaller companies. If they can continue to grow their top line and maintain margins and G&A costs, more and more of the market will notice.

Cash flow from operations is still negative – but it is improving. At first glance, cash flow from operations seems to be almost identical to that of the prior year, as they both come in at approximately -$800,000. But if one views cash flow before changes in working capital, it’s actually much better year over year, as the six months of 2020 comes in at -$250,000 versus the prior year at -$560,000 – a more than 100% improvement. Viewed in another context, the current cash burn rate ($250,000 over 6 months, or $41,666/month) suggests that the company would consume their entire cash position in just over 3 years. Previously, the cash burn rate was twice as fast, at $93,333/month ($560,000 over 6 months), meaning that if nothing else, they have more time to execute their business plan.

Insiders continue to hold a significant position. Currently, insiders hold almost 15 MM of the total 50 MM shares outstanding, almost 30%. Of those 15 MM shares, 13.8 MM are controlled by 3 significant shareholders, all of whom have continued to hold as of October 15 2020.

  • Greencastle Resources (controlling shareholder) – owns 10.5 MM shares (21%). Also acquired shares in the range of $0.25 – $0.30.
  • William Linton (Director) – owns 2.2 MM shares (4.4%). Has a significant history serving on the boards of various TSX listed Canadian companies.
  • Roger Dent (Director) – Owns 1.1 MM shares (2.2%). Is the CEO of Quinsam Capital, and was formerly a small cap portfolio manager.

There has been no selling by insiders, which suggests that they are in it for the longer haul, and means that the public float is that much tighter.

No analyst coverage. As mentioned previously, there is no analyst coverage to be found on Deveron. Assuming that the company keeps executing at the same level (or better), there is the very strong possibility this will change, which will have a further positive impact on the share price.

The company has engaged in a reasonable amount of self promotion. Some companies are overly promotional and issue breathless press releases whenever possible, others toil in obscurity and only issue the bare minimum. Deveron has found the middle ground, and has issued a reasonable number of press releases in the past, but has not gone overboard in doing so. Past press releases tended to be events that were significant to the company, and were clear and succinct. This being the case, we view their news releases as neutral. While Deveron has not been “quiet”, it has also not unduly inflated expectations via over hyped communication.

Share outstanding have been increasing. Its preferable when shares outstanding stay flat, or the company engages in a share buyback. However, as mentioned previously, Deveron is different than some of the other companies previously profiled, as it is positioning itself for “growth mode” rather than “recovery mode” (Caldwell and Titan). So, while we view an expanding share count as bearish, we understand why it is happening. If management has a good handle on things, the growth in shares outstanding will be outpaced by the growth in revenues and gross margins, in which case this will become a non-issue.

The technology is potentially disruptive. Technology and agriculture don’t intuitively end up in the same sentence, but nonetheless, here they are. While I don’t know if farmers are traditionally a tech savvy bunch, I believe that farmers are cost conscious, and will adopt technology if the value proposition is clear. Assuming that Deveron can continue to communicate its story to the end users, adoption rates of the Deveron offering should increase, which has the potential to significantly change the farming landscape.

Valuation is stretched at the current price. At the current price, one is not purchasing Deveron because it represents compelling value in the traditional sense. None of the metrics that I might usually mention (Book value, PE multiple, EV/EBITDA, or Cash flow yield) can be used here to make the typical argument that the company is cheap. To be clear, given the current information we have, it is not cheap, and is clearly trading with the future in mind.

This does not mean that the future for Deveron is not bright. Given the recent revenue and gross margin growth rates, the future could be very bright indeed. Investors simply need to understand that if they invest in Deveron, they are doing so on the technical strength of the shares, not the current fundamentals. Despite the fundamentals, it appears that Deveron could experience a significant run upwards. For proof, one needs look no further than a company like Pyrogenesis, which has appreciated from around $0.50 to as high at $6.00 in less than a year. However, if Deveron fails to meet expectations, the shares could find themselves back in the $0.20 – $0.25 range, handing a potential investor (at the current price) a loss of up to 40%.

The final verdict. The Deveron opportunity can be summed up in the following:

  • The move to the TSX should keep drawing new investors : New investors will continue to be introduced to the Deveron story, and assuming Deveron maintains the same growth it recently demonstrated, these new investors will continue to drive the price in the short term.
  • November results will be crucial: Deveron will report Q3 results in late November. Current trading suggests that investors are bullish on pending results, so failure to come through with solid results will likely cause selling pressure.
  • There is strength from a technical perspective: Those that favor technical indicators over fundamentals will take comfort in the Deveron chart, as it appears Deveron may break out to new highs.
  • Those that go long now should have a clear exit strategy: Given the recent strength in price, those going long now should do so with a clear exit strategy. Price moves both up and down can occur quickly, so having a clear idea how to react before a major swing in price will save ones sanity.
  • Bankruptcy is a non-issue, but dilution might be: Deveron has managed to make it this far without having to worry about insolvency. If cash burn increases, the risk here will be dilution, not bankruptcy.
  • Liquidity has improved, but try & bid at the lower end: Trading volume has picked up, but pricing will likely be volatile. Given this situation, one can bid at the lower end of the bid/ask spread rather than hitting the ask right away.

I am long on Deveron, with an average purchase price of ~ $0.25 CAD. While it is correct to say that I am already in the money, one should bear in mind that I purchased Deveron some time ago (and suffered through the “dead money” phase), whereas a purchaser today is likely to see more immediate price movement. Each situation imposes its own particular risks – as they say, there is no free lunch.

As always, these are only my thoughts & opinions. If you have questions or comments, I can always be reached at mark@grey-swan.com. 

Polaris Infrastructure (PIF – TSX)

Position opened: First purchase on March 29 2016, total average cost of $8.37 CAD

Position closed: Last sale on September 15 2020, total average proceeds of $16.29 CAD, plus $3.60 CAD dividends ($19.89 CAD)

Hold period: 4.47 years

Rates of return: 138% (simple) and 21.36% (annualized)

When I purchased Polaris, it was a company in transition. The prior incarnation of Polaris (Ram Power Corporation) had fallen on hard times, and a recapitalization was necessary. The “new” entity (Polaris) was successfully recapitalized, but because of it’s small market cap, geographic focus (it operates in Nicaragua) and its niche (geothermal energy), it didn’t get traction amongst the general market. Even after initiating a dividend in May of 2016, it didn’t get any respect and continued to trade sideways for a number of months. Eventually, the broader market started to understand the Polaris story, and the stock was effectively re-priced. While I sold the bulk of my Polaris position, I continue to hold a small portion in a tax sheltered account.

The Caldwell Partners

The Caldwell Partners is a company that I’ve been familiar with for quite a while, and which I avoided for a number of years. The company, which specializes in executive search, was essentially controlled by the founder (Douglas Caldwell) via a dual share structure. This meant that holders of the B Class voting shares could dictate how the company operated, despite the fact that they controlled the minority of the total shares outstanding. Not surprisingly, other institutional investors finally got annoyed and proceeded to litigate. When the dust settled, there was only one class of shares, and Caldwell embarked on a new (and less complex) path. However, even after that, it took a while before I regained my interest in the company, but I did eventually commit capital to it. I believed it was attractive before COVID, and I believe that the impact of COVID, while understandable, has caused its valuation to fall into territory that presents an interesting opportunity for the patient investor. For the sake of highlighting factors that are bullish, neutral, or bearish, I use my standard format of using the colors green, amber, or red.

What does the Caldwell chart say ? As repeat visitors know, I tend to start with the “visual” representation of what makes a company attractive (or not), and this case is no different. The Caldwell chart (see below) prior to COVID was in a bit of a holding pattern – not bad and not great at the same time. However, once COVID hit, all bets were off, and the shares hit a new bottom. Normally, price movement like this is reserved for major restatements of earnings or other company specific issues. However, as any investor knows, all companies were hit by COVID, some more than others. As Caldwell is a smaller firm, and most investors (during times of crisis) tend to flock to larger companies, the valuation of Caldwell will remain compressed for a while, which is exactly what this chart is telling us. So, while we would normally regard this chart as negative, in the context of COVID, we view it as neutral.

The balance sheet is solid and cash rich. As one can see from the most recent balance sheet (as of May 31, 2020), things are pretty tidy. Caldwell is still sitting on a significant amount of cash – amounting to no less than $0.73/share. Add to this the fact that there is no long term debt, and overall liabilities are only marginally higher, despite the fact that Caldwell now carries a “Paycheck Protection Program” loan (which is eligible for loan forgiveness) and was also required to include lease liabilities, due to recent IFRS changes. Were those not included, overall liabilities would actually be significantly lower than they were a year ago. In any case, while we expect that the path forward for Caldwell won’t be all sunshine & rainbows, the balance sheet indicates that they can weather the storm.

Cash flow from operations is positive. The cash flow up to May 31st 2020 only captures the impacts of COVID for a few months, but the fact is that Caldwell created $0.15/share of cash (before changes in working capital), or $0.03/share (after changes in working capital). Depending on which of those you prefer, those numbers look either great or simply ok, but the fact is that Caldwell is creating a cash surplus from operations during a fairly difficult period, which is what we like to see.

Revenues are down – but so are costs. Falling revenues are never a good thing, but even worse are falling revenues and no ability (or will) to manage costs. In this case, we can see that Caldwell is taking a revenue hit from the COVID induced economic compression, but COGS also fell (which is to be expected) and Caldwell also took a hard look at G&A, reducing it by 50% year over year. The income statement is telling us is that the company is managing the situation as best it can by not allowing G&A costs to simply “carry on” as usual. Falling revenues are definitely bad, but prudent management is always favorable, hence the neutral stance on this.

Insider & significant shareholders continue to hold Caldwell. Insiders and significant shareholders hold about 41% of the outstanding shares, and have not sold throughout the entire COVID downturn. This suggests that they have a long time horizon, and that they have faith in the current management team. The breakdown of these shareholders is shown below.

  • Darcy Morris (Board member) – owns 3.8 MM shares (18.6%), and is the founder of Ewing Morris Investment partners, so he is arguably a knowledgeable investor.
  • C. Douglas Caldwell (founder, former Director) – owns 2.77 MM shares (13.6%). Given that Caldwell is his “baby”, he will likely continue to hold for the longer term.
  • J.C. Clark Ltd. – another sophisticated investment firm, owns 1.86 MM shares (9.1%). Clark has a very long time horizon and has held Caldwell shares for many years.

The key takeaway here is two-fold. First, these insiders, given their insight into the firm, would have sold if they truly believed that the future for Caldwell (post COVID) was bleak. Secondly, given their propensity to hold through this period, it would seem unlikely these insiders will engage in a wave of selling anytime soon, so further price compression is unlikely.

At the current price, the valuation is attractive. Although there are “many ways to skin a cat” we’ve detailed four key metrics that we tend to focus on when looking at a potential investment.

  • Book value: Caldwell has traditionally traded at multiples of 1.96 (low), 2.46 (average) , and 2.97 (high) times book value. As of October 8th, at a price of $0.73, Caldwell is trading at 1.12 times book value. Even if this simply reverts back to the low multiple (1.96 x book value of $0.65), this suggests upside of ~ 75%.
  • PE multiple: With negative earnings for the latest quarter, purists would suggest this is bearish. However, this has to be viewed in the context of COVID, so I’m not certain we can attach that much weight to the PE multiple in isolation. At any rate, if viewed as a function earnings, Caldwell is either trading at a high multiple or negative multiple, depending on how one believes the full year will play out.
  • EV/EBITDA multiple: The combination of a depressed share price and the significant amount of cash on the balance sheet means that Caldwell has an enterprise value of a paltry $2.22 MM, and that value is that high because of the inclusion of a forgivable government loan of $2.22 MM. Excluding this loan, the enterprise value of Caldwell is only $22,000. In turn, even with compressed EBITDA of $3.28 MM (for only 9 months) , this multiple falls to 0.68 ($2.22 MM / $3.28 MM). To put this into context, Caldwell’s EV/EBITDA multiple has ranged from a low of 1.1x EBITDA to a high of 10.6x EBITDA, suggesting there is ample room for the share price to move upwards.
  • Cash flow yield: As noted previously, this depends on how one tends to view cash flow, either before or after changes in working capital. If one prefers cash flow prior to working capital changes, then over the 9 months the yield is 20%, if one prefers cash flow after working capital changes, this falls to 4%.

The dividend has been cancelled. I suspect that last sentence will cause people to read it twice, as a cancelled dividend is rarely viewed positively. However, bear in mind that a purchaser of Caldwell today is purchasing a company where there is little (or no) expectation of a dividend at all. With that in mind, companies that have a history of paying dividends (like Caldwell) realize that their market value is, to some degree, dependent on perception. While not a “dividend aristocrat”, Caldwell did have a history of paying shareholders, as that was part of the appeal. A shareholder in Caldwell was holding it for some capital appreciation, and some income. When COVID reared its head, the management at Caldwell made the prudent decision to immediately eliminate the dividend to preserve capital. Like the rest of us, they couldn’t predict the future, and simply “hoped for the best, but planned for the worst”.

So, while there is no dividend today, there is the distinct possibility that the dividend will be reinstated. In the event that the dividend is reinstated (even at a reduced level), some of those investors seeking income that once sold Caldwell will return, and that increased buying could cause a significant move in share price. A good example of this is another Canadian company, none other than Boston Pizza. When COVID hit, Boston Pizza, like Caldwell, eliminated its dividend and paid nothing for the bulk of 2020. However, it recently re-instated the dividend at a level almost 50% lower than it’s pre-COVID dividend. The reinstatement of this reduced dividend caused the shares to jump 60% within the week. So, given its history of paying a dividend, it would not be unheard of for Caldwell to bring it back, as the world is slowly getting back to normal. And with that in mind, the shares in Caldwell could jump significantly as well.

The final word.  In essence, the opportunity in Caldwell boils down to the following:

  • Bad news is baked into the share price: The share price has already been punished, and unless there is another COVID like pandemic waiting in the wings, a further fall is unlikely. Businesses have started to adjust to the “new normal”, and cannot shut down forever. Executives still have to be sought out and hired – even if they end up working from a home office.
  • The shares are trading at cash value: Rarely can one purchase an operating business, with a significant history, for the value of the cash on the balance sheet. While it is true that the balance sheet is a “frozen snapshot of time”, even with that in mind, it is rare to find an operating company priced at such a discount.
  • Bankruptcy is a non-issue: This is a common theme in the companies I tend to look at, and this is no different – unless the future is very, very bleak, in which case we all have bigger issues to worry about.
  • Reinstatement of the dividend will move the price: When this happens, Caldwell shares will enjoy a significant move upwards, and investors who bought in when there is no dividend will enjoy a reasonable income stream even if the reinstated dividend is significantly lower.
  • Keep an eye on insider sentiment: Current insiders have remained steadfast in their resolve to hold Caldwell through this very difficult time. We believe this will continue to be the case, but we will also keep an eye on insider activity.
  • If you are a buyer, buy in small portions: The shares do not trade on huge volume, so if one is anticipating a purchase, use smaller bid lots in order to not move the price too significantly.

As I indicated previously, I am already long on Caldwell, and have bought more at the current price ( ~ $0.75 CAD). Many of my investments are made when the future is murky, which is what keeps many investors away – and also creates price inefficiency, especially in smaller companies.

As always, these are only my thoughts & opinions, and it will take some time for this thesis to bear fruit (or not). If you have questions or comments, I can always be reached at mark@grey-swan.com. 

Vecima networks (VCM – TSX)

Position opened: First purchase on April 01 2014, total average cost of $5.71 CAD

Position closed: Last sale on October 02 2016, total average proceeds of $9.94 CAD, plus $0.33 CAD dividends ($10.27 CAD)

Hold period: 2.51 years

Rates of return: 80% (simple) and 26.35% (annualized)

Back in early 2014, Vecima was the opportunity to buy into a technology firm with an attractive technical chart, a squeaky clean balance sheet, good sales, and a history of paying steady dividends. What was there not to like ? Vecima delivered both on a technical basis, as the share price appreciated nicely, and on a fundamental basis, as the business remained sound and paid out dividends as expected. The position in Vecima was closed out when more attractive opportunities presented themselves. The company continues to do well, but the balance sheet is not quite as pristine, and dividends, while steady, have remained flat.

Unilens Vision (UVI – TSX)

Position opened: First purchase on September 20 2007, total average cost of $3.73 CAD

Position closed: Last sale on May 02 2014, total average proceeds of $6.08 CAD, plus $1.96 CAD dividends ($8.04 CAD)

Hold period: 6.62 years

Rates of return: 116% (simple) and 12.31% (annualized)

Unilens was another one of those small, overlooked companies that is literally right under your nose – or slightly above it, depending on how you look at things. As a “manufacturer of specialty optical products”, the beauty of Unlilens was the royalty that was paid to them by Bausch & Lomb, the (very large) maker of contact lenses. Every year, Bausch & Lomb would sell an enormous amount of contact lenses, and every year they would cut a fat cheque to Unilens, who in turn would pay out dividends to shareholders. As with many “good things”, Unilens didn’t go unnoticed forever, and was eventually acquired by Valeant in 2015.

Titan Logix – update as of Q3 2020

A review of Titan is long overdue, so if you have been waiting (which I’m guessing is highly unlikely), this is your lucky day….

For those of you that are new to Titan, and are looking to do some catch-up reading, my first post on Titan can be found here. On the other hand, if you’re looking to minimize the required reading that you need to do, then we can sum up Titans business with the following statement from their website, which states that their mission is “….to provide our customers with innovative, integrated, advanced technology solutions to enable them to more effectively manage their fluid assets in the field, on the road, and in the office.”  Or, in really simple language, Titan provides state of the art technology (gauges & monitoring equipment)  for producers of oil to accurately measure, store, transport,  and safeguard their primary asset – the oil itself. While this doesn’t sound very sexy, producer companies face a lot of scrutiny in how safely they move oil from point A to point B, not only because of safety issues, but also because they want to make sure that every drop that’s in the tanker ends up in the storage tank, or pipeline, or refinery. Not only is spillage frowned upon from a safety & environmental perspective, it’s literally money that’s getting spilled on the ground. So, tracking, measuring, and moving it accurately is their primary service.

With that in mind, it would not be unfair to say the preceding few years have not been kind to companies within the energy sector. Low prices were already an issue prior to COVID, and with the onset of COVID, hydrocarbon demand evaporated – quite literally. No one was flying, far less people were driving, and with the world economy basically on hold, demand for liquid fuels fell off a cliff. In turn, this means that companies that serve the energy sector also got beaten up. Which brings us to the compelling question: is Titan dead in the water….or not ? I’ll get to the answer of that question, using my usual green, amber and red format.

An attractive technical chart – kind ofOriginally, this is one of the factors that drew me to Titan, as it appeared to have entered a nice, flat bottom. However, just like your summer vacation plans, COVID redefined what was (and was not) normal. Previously, you would have thought nothing of fighting your way through a crowded airport, only to sit for hours on crowded plane, happily breathing recirculated air. We all know that’s changed dramatically, and so did the Titan chart.

So, what once was a “nice bottom” around ~ $0.45 had the rug pulled out from underneath it, and fell into uncharted territory. Sure, the chart has flattened out since Q2 of 2020, but we will have put this chart into amber territory for now – getting better, but the 1st half hasn’t been pretty.

The balance sheet is still solid. Unlike most governments worldwide, Titan decided to not spend copiously during COVID, probably because it realized that, unlike political parties, they couldn’t buy votes, and nobody would care anyways. But I digress – Titan battened down the hatches and managed to preserve cash. The end result is that Titan is (as of their most recent May 31 2020 financials) sitting on $9.5 MM in cash ($0.33/share), no long term debt, a book value (excluding intangibles) of $14.7 MM ($0.52/share), and a net-net book value of $10.4 MM ($0.36/share).

For those of you that are looking really closely, you will notice that total liabilities did indeed go up, which is a function of accounting changes which have impacted all public companies, as per the note below:

The net effect is that there is now a “Right of use” asset and an offsetting “Finance lease obligation” on the balance sheet, but in terms of materiality, it doesn’t make a difference. At the end of the day, the balance sheet is solid – there’s still lots of cash, no long term debt, and book value is only marginally worse than the pre-COVID balance sheet of November 2019.

Revenues are down, gross margins are down, and expenses are up slightly. Normally, this combination should signal a whole lot of red ink. However, we have to view these outcomes in the context of what just happened – worldwide. With a few exceptions, most businesses suffered through the pandemic, as business activity was curtailed in an arguably draconian fashion. So, for most businesses, falling revenues were unavoidable, and Titan was no different. When compared with the prior period, it looks something like this:

  • For the comparative 3 month periods, revenues are down by $535,625, or about 40%. For the 9 month periods, revenues are down by $695,585, or about 17%.
  • For these same periods, gross margins are down to 49% (vs 56%) and 52% (vs 54%).
  • Cash expenses (G&A, Marketing & Sales, and Engineering) are up 8% and 7% respectively.

So, the fall in revenues and gross margins aren’t surprising, but the increase in cash costs is perhaps of more interest. On the surface, I would agree that an overall increase in cash costs isn’t good, but what is of further interest here is how these costs are broken up. One can see that G&A costs have actually fallen significantly, which signals “we are trying to be lean”. On the other hand, marketing and sales increased during the overall 9 month period but fell during the 3 month period, which makes sense. To me, this communicates “we were ramping up things, but had to pull back because of COVID”. Lastly, engineering costs have risen in both periods, which suggests that “we are working to improve and/or create new offerings”.

So while the overall theme of falling revenues and rising costs is frowned upon, in light of the situation and the way that costs have shifted in various categories, we would suggest this section is amber, and should be viewed with the backdrop of COVID as a factor.

Cash burn is low. In the context of the fact that Titan is probably seeing activity levels at historic lows, the marginal amounts of cash burned during the the 3 month period (-$357,256) or the 9 month period (-$313,033) are actually quite reasonable. I fully expected cash flow to be either very poor or negative, and at these rates, if one takes the worst of these (-$357,256 over 3 months) and assumes this will keep happening, then it suggests that Titan can last another 26 quarters, or about 6 1/2 years. Needless to say, they are a long way from blowing through the bank account.

Insider ownership is increasing. In my first post about Titan, I initially viewed the insider ownership as neutral. At that time, it was clear that various insiders had small positions, but the largest position was held by the “Article 6 Marital Trust created under the First Amended and Restated Jerry Zucker Revocable Trust dated 4-2-07”, which at the time held 7.2 MM shares.

Since that time, a few things have happened:

  • The insider positions of Angela Schultz (CFO) and Alvin Pyke (CEO) have increases as a function of an automated share purchase program – not much to see here.
  • The “Article 6 Marital Trust…” has acquired an additional 366,000 shares since May 2020, and total shares held has increased to 10.3 MM shares, most of which were purchased at prices significantly higher than todays price. To put this in perspective, the Zucker trust now owns 36% of the total shares, up from 25% when I first wrote about Titan.

This last point is the most interesting. To put it simply, if you had significant voting influence on a company which (a) wasn’t going bankrupt, and (b) had a reasonable shot at turning things around, given the balance sheet, would you be satisfied with a price that was dwelling in the proverbial basement ? I know that I wouldn’t. If I had that much influence on the company, I would be very involved with the direction of the company, and I would be doing my best to provide whatever support or leverage within my sphere of influence to make sure things get better, not worse.Which brings me to my last point.

They are actively seeking to diversify their business model. The folks at Titan can read the tea leaves as well as anybody, and they know that the energy services sector may or may not return to it’s former glory. With that in mind, they are actively seeking to diversify their business model outside of “just energy”. Indications of this are evident in the recent funding from Alberta Innovation, and in the closing paragraph on their Q3 results press release, below:

A simplified translations of this is “we aren’t waiting around for the price of oil to save us”, which is good news. Other energy services firms have done the same, such as Strad, and in doing so found a wider audience for their business offerings and an improvement in both market perception and company valuation.

The final verdict. Titan is a long way from “dead in the water”, but they are in that twilight zone of existing in a sector which is out of favor, while at the same time having enough cash (and cash flow), that they don’t have a need to engage investment banks. This “double barreled” lack of attention means that the shares will remain cheap for the foreseeable future. However, while there might not be any “market attention”, the executives at Titan and the majority shareholder have a vested interest in seeing the fortunes of the business turn around, while the squeaky clean balance sheet means that Titan has the flexibility to make wise long term choices. For the independent investor, this means there is opportunity….if you have patience.

As always, these are my thoughts and opinions. For those that have questions or comments, I can be reached at mark@grey-swan.com.

Strad Inc. (SDY – TSX)

Position opened: First purchase on August 10 2018, total average cost of $1.59 CAD

Position closed: Sold April 20 2020, total average proceeds of $2.34 CAD

Hold period: 1.69 years

Rates of return: 47% (simple) and 25.6% (annualized)

Strad was a great example of a company in the unloved energy services sector. Strad had de-levered the balance sheet, and while it was spitting out cash, earnings were poor because of significant amortization charges. Strad realized that it needed to shed the image of being “only” an energy services company, and re-branded itself from “Strad Energy Services” to simply “Strad”. It was eventually taken private in Q1 of 2020, and even at the offer price of $2.39/common share, the company was taken private for an inexpensive 3x cash flow.

Igloo Vikski (IVK – TSX.v)

Position opened: First purchase on July 04 2006, total average cost of $0.770 CAD

Position closed: Acquired in Q1 2007, total average proceeds of $1.10 CAD

Hold period: 0.69 years

Rates of return: 43% (simple) and 67.3% (annualized)

I think I included this company for the simple fact that I could not pass up on the name. I remember seeing the name, and thinking “what do they do ?”. As it turned out, the name did provide some hints – they were primarily involved in the sporting goods sector, in particular the segments of skiing and hockey. The market must have thought them to be particularly boring, as at the time of purchase, they were trading on a net-net basis, the company was earnings positive, cash flow positive, and was paying a dividend. As with many such situations, someone else noticed as well, and the company was acquired in early 2007.

Reliq Health Technologies (RHT – TSX.v)

Position opened: Private placement on November 06 2015, total average cost of $0.200 CAD

Position closed: Last sale on November 27 2017, total average proceeds of $0.640 CAD

Hold period: 2.06 years

Rates of return: 220% (simple) and 75.9% (annualized)

Sometimes private placements actually work out, and this was one of those instances. Those of you that have visited here before know that Reliq was a company that I eventually regarded as overvalued, which factored into my decision to sell in Q4 of 2017. While I did miss a good part of the (further) run up in price, I also wasn’t around for the debacle that occurred once Reliq announced it had to restate earnings. After that announcement, the shares fell precipitously.

Brattle Street Investment Corp.

The fact that the title of this post references one company, and the displayed logo references yet another is likely causing some confusion, so let me explain.

Brattle Street Investment Corp. is a company that has been in transition for some time, and (full disclosure) that I have been long on for some time. For quite a while, I debated creating a post about the company, however, I wasn’t sure what I could say – the company was opaque at the best of times, and basically existed as a shell. I had a hunch that, behind all of the “non-activity”, something was brewing, but that was all I had – a hunch. I kept buying at what I thought was a depressed price, but were I to post something, what would I say ? That something might happen in the future ? With no clear direction, I put it on the shelf for some future time. As it turns out, my suspicions were correct, as the company issued a significant press release as of September 17th 2020. I believe that the share price of the new company, once it starts trading, should improve. Because of the unique nature of this situation, this post is as much about why I continued to hold (and continued to buy), and why I believe there is an opportunity here.

However, before delving into the analysis, it probably makes sense to delve into the past.

A bit of history.  Before it was Brattle Street Investment Corp., the company existed as Inspira Financial, and offered “…a full suite of billing, consulting, and financial services to the substance abuse and addiction treatment industry.” During it’s existence as Inspira, the company enjoyed some success, as it actually paid a dividend for a while, something which usually bodes well for the future. However, good times were fleeting, the financial services business was wound down, and the shares languished. The dividend was eventually eliminated, the shares fell further, and interest in the company became non-existent. One can see from the chart (below), that Brattle Street was essentially dead money.

While this chart suggested a lack of interest, it was exactly this “dead chart” , among other things, that continued to pique my interest. I’ll walk through the factors that compelled me to hold Inspira / Brattle Street, and, as always, I use a green , amber, and red format to hilite specific areas that I believe to be bullish, neutral, or bearish. Readers are also cautioned that as of the time of writing this (September 22nd, 2020), Brattle Street shares are halted, and there can be no guarantee as to what price they will open at once they begin trading again.

This chart was (and is) saying “buy me”.  Yes, I know for a lot of you this chart is saying “I am on life support”, but the truth is that the company never flirted with insolvency (more on that later). More than a few of my successful investments (Athabasca, Macro, Pyrogenesis) have been initiated with charts such as this, as this chart tells me that things have been skipping along the bottom for some time. Unhappy shareholders have sold out of this position a long time ago, and there is very little (if any) negative news left. At this point, this chart is saying “the worst is likely over”. From a technical perspective, this chart doesn’t look sexy, but I believe that in conjunction with other factors, I believe it will start to look much better over time.

No debt, lots of cash.  I know that the first response of many is that the cash (and lack of debt) on the balance sheet is reflective of the past, not the future, and I absolutely agree. The balance sheet will change when the proposed transaction takes place, but it’s always nice to start from a position of strength. Having money in the bank means that there’s more ability to weather any storms, and likely means less dilution in the future. As of Q1 financials (at May 2020), the company had $8.5 MM in cash and a total of $150,000 in liabilities. Based on the 46.8 MM shares outstanding (as of September 2020), this equates to $0.181 per share in cash, meaning that the company is trading at “net-net” status. While it’s clear that there is no intent to liquidate the company, the net-net situation simply highlights that there is very little downside.

Not cash flow positive, but the cash burn is low.  Ideally I’m hoping for a cash flow positive situation, but current cash flow won’t really tell us much, given that the company will change significantly going forward. That being said, the cash burn rate for Q1 is ~ $220,000. While we know this will change significantly in the future, at least we can see that the company hasn’t been on the path of simply shoveling cash out the door. Additionally, to provide further perspective, as of the year end at February 28, 2018, the company actually had less cash ($6.0 MM) and more liabilities ($331,000), and that was over 2 years ago. While the company may have been in a holding pattern, they have managed to safeguard cash during a time when revenues were declining – without issuing more shares.

The company has significant tax pools. Something that you won’t see on the balance sheet (see excerpt below) is the fact that the company has significant tax pools in its back pocket. While it’s unlikely the company will be profitable from day one, once it is, these can be used to shelter income for some time.

High Insider ownership. Two notable insiders, Roger Greene and Michael Dalsin, control 6.5 MM and 6.24 MM shares respectively, which in combination makes up 27% of the total outstanding shares. Both have been buyers at current prices ( ~ $0.12), and both have a history investing in the health sector. Given that they are buyers at these levels, it would be a fairly safe assumption to say that they have a significant interest in seeing the share price move well beyond the current price range. Additionally, given their prior activity investing in the health sector, they likely have developed relationships which should prove beneficial going forward.

No analyst coverage, but some institutional ownership. TerraNova Partners, a private equity firm, owns 4.07 MM shares of Brattle Street, which it acquired when the company was still operating as Inspira. At that time, the relationship between TerraNova and Inspira was rocky at best, as TerraNova had more than a few concerns with the actions of the Inspira board at the time. In any case, regardless of their concerns, TerraNova decided to hold, as they are still listed as a significant shareholder. If we fast forward to today, the company has no analyst or institutional coverage to speak of. With a significant transaction waiting in the wings, this means that this situation is likely to pivot hard in the relatively near term, which means new coverage (and a lot of other eyeballs) will likely be looking at the new entity soon.

No self promotion. The company has issued the bare minimum with respect to press releases over the last few years, so to say that there has been “no self promotion” is diplomatic. While this has been a bane for shareholders who have held (like me), it also means that the price hasn’t been inflated by any stretch of the imagination. This “minimalist” approach to communication only confirms what the chart has already communicated – that the shares have been bumping along the bottom for some time. We expect this lack of self promotion will come to an end once the proposed transaction closes.

No share buyback, but the future share structure will change. The number of shares outstanding has been virtually unchanged since late 2016, but the share structure will change going forward. Current shares will consolidate on a 7.37 for 10 basis, meaning that the 46.8 MM shares will consolidate to become 34.5 MM shares. Additionally, the company is proposing a private placement of 10 MM shares at $0.85 per subscription receipt, which is the most interesting part of this transaction. The pricing of the subscription receipts makes a very strong suggestion that the company is very bullish, at least in the near term.

The sector has interest. Normally I look for value in sectors that are out of favor, but in this case, I have found something of value in a sector (health care) that is arguably front and center. While the new entity doesn’t have a line of sight to COVID directly, the health care sector has seen an increase in interest due to the COVID pandemic. Given that the COVID situation is likely here for the longer haul, it stands to reason that this serves as a tailwind from an investment perspective, as both retail investors and professional money managers look to this sector for opportunities.

Long management tenure. In this section, there are clearly some unknowns. We cannot in good faith make any assertions about a brand new management team, other than to say that they have a blank slate to work with that is, as of yet, untarnished. While the proposed management team certainly has experience in the medical sector, we usually view the associated pronouncements with a grain of salt.

Potentially disruptive technology. We would suggest this section is neutral , as there is nothing to suggest that anything that they will be embarking on will be “game changing”. While they might be able to create a better (financial) mousetrap via some attractive acquisitions, the new entity likely won’t be changing the face of medicine overnight.

Clean earnings & differential between EBITDA and cash flow. Normally, we would look at these factors to determine quality of earnings, and to see if there was anything out of the ordinary with respect to EBITDA and cash flow. However, since past quarters are reflective of the former entity (Inspira) and have been wound down, they are of little use in this instance. With this in mind, we regard these as neutral factors in our assessment.

So – what does all of this mean for the small investor ?  To summarize all of this into the proverbial “ball of wax”, the key takeaways are this:

  • The press release signals a very positive change: The September 17th press release is the catalyst that will start things moving again, as it confirms that “things have been brewing” in the background. It’s the initial whiff of oxygen to the embers of a slow burning fire.
  • The downside on the share price is limited: From a purely technical perspective, the shares have been forming what I call a “saucer bottom” for a long time. From a fundamental perspective, the shares, at their current price, are trading at “net-net” status, which further implies that risk is limited.
  • Bankruptcy is a non-issue: With lots of cash and no debt, the risk of short term insolvency is a non-starter.
  • New interest will move the share price: This company has been ignored for so long, that I would be surprised if anyone is aware of it. The proposed private placement will bring press releases and attention from both small and larger investors.
  • The trick will be to get in earlier rather than later: The shares are currently halted, so buying now isn’t possible. However, there should be some communication in the future as to the new symbol and when it will begin trading on the TSX Venture. This may come with a significant amount of fanfare, so the trick is to keep ones head and not overpay for shares.
  • Keep an eye on insider activity: Insiders are very good signals of what portends, especially in this case, as there is no “history” to draw on.

As I indicated previously, I am already long on Brattle Street shares, and have been a recent buyer at these levels, before the shares were halted.  I believe, given the factors described above, that many of the unique ingredients for a successful small cap investment are in place. Of course, these are only my thoughts & opinions, and it will take some time for this thesis to bear fruit (or not). If you have questions or comments, I can always be reached at mark@grey-swan.com.