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Ripper Oil & Gas (RIP – TSX.v)

Position opened: First purchase on October 10 2008, total average cost of $0.134 CAD

Position closed: Last sale on March 08 2011, total average proceeds of $0.120 CAD, plus $0.40CAD dividends ($0.52 CAD)

Hold period: 2.40 years

Rates of return: 89% (simple) and 30.5% (annualized)

Ripper started out as “just another” junior oil and gas investment, but eventually became such a learning experience that I’ve often considered writing up an entire post about it. Regardless, the purchase of Ripper came about because it was a profitable oil & gas producer – which is rarer than it should be. In an industry known for blowing its brains out with cost overruns, Ripper year end (2008) financials provided a glimpse of a company that was earnings positive, was creating $0.14/share in cash flow, and had healthy insider ownership. Eventually, the folks at Ripper decided to orchestrate a full exit from the industry, and issued a press release indicating that they had sold some significant properties, and that because of this, “they may declare a dividend”. That last part was not unlike spotting the Loch Ness monster and the Yeti at Sunday brunch, but because of Rippers size, the market hardly moved the shares. As a result, I bought all the shares I could, and any faith I had in the efficient market theory evaporated. My return on Ripper actually would have been better, as I purchased more shares after the special dividend (which skew the return values), as I thought the future might hold more nice surprises. I was wrong, but despite my misplaced optimism, the special dividend made all the difference. If anything else, Ripper cemented my belief that small companies can be mispriced for significant periods of time, which usually spells opportunity for the small investor.

Titan Logix – update at fiscal year end 2020

Titan released full year financials on November 26th, 2020, and as expected, the market reacted with a big fat yawn. While the shares are up slightly ($0.365 as of December 10, 2020), they are still inexpensive, given that the company is sitting on $0.33/share in cash, has no debt, and has skated through the pandemic with only marginal balance sheet impacts. Titan is currently still in a “holding pattern”, as it is not benefitting from the “Vaccine trade” that is pushing Canadian energy companies to recent highs. So, without further ado, we delve into the good, the immaterial, and the ugly parts of Titan Logix.

The chart is improving. As mentioned, the shares are up a bit, and this is reflected in the chart. That being said, the energy sector is still decidedly “unsexy”, so we would not be surprised if the current share price strength waned somewhat. In the very short term, the bottom line is that some of the easy money has come off the table, but it would not a total surprise to see the shares fall back down to $0.32 – $0.34. If the market is a beauty contest, Titan is still perceived as ugly, albeit with a bit more lipstick as of today. Bear in mind that we have been long on Titan since late 2018, so for those that are out of the money – we feel your pain.

The balance sheet is virtually unchanged. There is really not much to say here, as the balance sheet is only slightly changed from Q3. Once the dust settles, there is a $110,000 deterioration in net equity from Q3, which translates into a loss (in book value) of approximately $0.001 – not really something that’s going to move the needle. In short the balance sheet is the same – lots of cash, no debt.

The income statement is worse than last year – as expected. Not surprisingly, revenues are down (-26%), COGS are down (also -26%), and the company declared a net loss of $578K vs a small net income of $50K last year. To be fair, Titan was the recipient of a total of $440K of Government wage subsidies, which cushioned the impacts of the COVID slowdown, but virtually every organization that was paying attention managed to participate in such programs. While it’s true that if one adjusts for this amount, then the net loss (and the balance sheet) would be worse, but exclusion of this amount would not be a game changer. All things considered, the income statement story isn’t that bad. Gross margin held steady at 53% on a YoY basis, G&A is actually down 4% even after adjusting for the impact of the $440K wage subsidy, and the only noteworthy increase is a 62% ( + $410K) increase in Engineering expense. In the MD&A, this increase is addressed, as the MD&A states:

“….during the fiscal year, the Company incurred engineering expenses of $1,067,211 compared to $658,711 in fiscal 2019. The Company developed software and cloud based applications for its first IIoT products, the Titan Data System (TDS) and the Titan API plug-in for its guided wave radar gauges. The increase in engineering expenses was offset with wage rollbacks, discretionary expense reductions combined with benefits received from the CEWS program...”

In a sea of bad news, statements like this are a solid indication that the company is not sitting back and hoping – they are actively making the effort to come out of this very dark period with a better product offering. So, in closing, while the income statement is ugly, it could be a lot worse.

Cash flow from operations is negative – as expected. Not unlike the income statement, cash flow isn’t great. However, in light of the fact that revenues YoY were down by almost $1.5 MM, what can we expect ? The way that one views the cash flow statement is a matter of context. Yes, in absolute terms it’s bad, as cash flow from operations are negative, and would be negative to the tune of -$1.11 MM if one adjusts for the $440K of Government assistance. If this were representative of cash flow in a normal year, this would look very bad – but in the context of one of the worst years ever, it’s expected. It would be very surprising if Titan revenues continued at the same muted level in fiscal 2021, so while this cash flow statement isn’t “good”, it shares the same thread as the income statement – not good, but not surprising, and very likely to get better.

Insider ownership continues to increase. Since the Sep. 30th update on Titan, the largest shareholder, the “Article 6 Marital Trust created under the First Amended and Restated Jerry Zucker Revocable Trust dated 4-2-07” has continued to increase their position, purchasing an incremental 119,500 shares at an average price of $0.33. This means that the Trust now owns a total of 10.5 MM shares, or about 37% of the total shares outstanding. The consistent purchase of shares may suggest that the Trust has an interest in taking the company private, but this is conjecture at this point. Whatever the case, the Trust sees value in the company, as they would not continue to purchase in the open market if they felt the upside wasn’t significant.

The news cycle continues to be dormant. This is not a company that is shouting from the roof tops – they are simply trying to execute as best they can. Given that Titan is associated with the energy sector (for better or for worse), and the fact that they utilize media on a bare bones basis, the shares are not enjoying any sort of “hot news” premium. In fact, for those wishing to acquire shares, tax loss selling season may prove to be lucrative, as some investors who have short time frames may start selling as the end of the year draws near.

We continue to hold Titan, and continue to buy at the low end of the price range. The Titan story hasn’t changed much since the last update, and realistically, expectations were low. In closing, we would reiterate the following points:

  • The chart is definitely looking better: While there hasn’t been a sustained upward move, this is still a good place to accumulate cheap shares. Aside from tax loss selling, it would seem unlikely that the shares get much lower.
  • Tax loss selling will provide patient investors with opportunity: For those that would like to get in “really cheap”, it probably makes a lot of sense to put in some laddered stink bids. There are always some sellers out there who have either lost patience or aren’t sure why they bought in to begin with.
  • Titans balance sheet is very solid – many competitors may not be: An oft repeated theme on these pages is “there is no bankruptcy risk”, but the other side of that statement means that competitors who are poorly capitalized are dying a slow death, and new entrants are certainly thinking twice before competing in this decidedly “unsexy” space.
  • When activity picks up, Titan will be one of the few left: Commodity sectors (and those industries related to commodities) tend to endure long hot & cold spells, but when they do turn around, it can get busy – very busy.
  • The fact that Titan is diversifying their revenue stream is not priced in: At this time, the market is pricing Titan as a “pure energy services” firm. While it remains to be seen as to whether or not they can truly diversify their business model, it’s clear that this possibility is not priced into the company today.
  • This is a value play – patience is required: If your investing time horizon is short, then maybe this isn’t the right place to be. While a quick bounce in price could happen, a longer recovery is more likely.
  • The low hanging fruit is around $0.55: If nothing else, it would seem quite likely that the shares at least trade at the 2016-2019 average of the price/book ratio (1.07x), which would imply a price of $0.55, or upside of 50% from current prices.

I am long on Titan, with an average purchase price of ~ $0.45 CAD, and will continue to purchase at the current levels.

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

Armada Data Corporation.

In the universe of “small companies”, Armada may take the crown for being the smallest market cap company covered here. With only 17.67 MM shares outstanding, and a (current) market price of $0.13, the market cap of just over $2.0 MM is by all measures small, if not microscopic. But as the saying goes, good things come in small packages, and the current Q1 financials for Armada suggest that while they are indeed small, they are off to a blistering start to fiscal 2021.

Who is Armada ? Armada, which is based in Mississauga Ontario, has been around as a public company since 1999, but only started reporting as Armada data (and using the name) since 2004. In its current form, the company website states that the company  “specializes in the collection, re-packaging and distribution of Canadian new car pricing data.“, so it truly is a data only company – but that wasn’t always the case. At one point, Armada had a significant interest in the operations of “Mr. Beer”, which was referred to as their “bottle brew division”. Needless to say, while the combination of these two was surely interesting, there were little or no synergies to be had by these two lines of business. The Mr. Beer division was shut down in January of 2015, and Armada embarked on a more focused business plan. As of December of 2020, they have a singular focus, the automotive data market.

The Armada chart is waking up. We have been long Armada shares since early 2018, with an initial purchase around $0.15, and eventually averaging down to around $0.115, which means we were “early to the party”. From 2018 through to most of 2020, the Armada investment was dead money. However, solid Q1 financials have brought some life back to the chart. The shares have come off their lows, and even at prices around $0.12 – $0.13, Armada shares are still fundamentally cheap.

The balance sheet is cash rich and debt free. Readers who visit often may say this is an oft repeated line, but that’s the way we like our companies. Armada is no different – cash is up both on a YoY and 3 month basis, as are current assets and total assets. While there is some Goodwill and Intangibles on the balance sheet, there hasn’t been “inflation” of these assets, and they comprise a fairly small part ( ~ 15%) of the total asset base. Additionally, both short term and total liabilities have fallen, and there is no long term debt to worry about. For those looking for “book value”, it should be noted that Armada isn’t a “deep value” play when viewed in a book value context, and this isn’t what we are looking for. As a “data services” company, the value of Armada lies in the ability to leverage soft assets, not in the “bedrock” value of hard assets. In any case, the balance sheet suggests that Armada won’t be faced with undue financial pressure any time soon. The fact that the retained earnings deficit continues to shrink is also good news – which brings us to the Income statement.

Revenues and earnings are up significantly. During the prior fiscal year, Armada achieved total revenues of $3.28 MM, so the fact that they hit over $1.0 MM in one quarter is significant. While costs have come up along with revenues, the growth in revenues YoY of + 29% outweighs the +19% growth in total costs, which means earnings are still up 130% YoY. It might be argued that some of this revenue may be attributable to pent up demand after a prolonged COVID lockdown, but even if that is the case, if Armada can bring in a grand total of $127,000 of net earnings for the remainder of the year, it will achieve total net income (for the fiscal year) of $353,000, or $0.02/share – which would be its highest net income recorded going back as far as 2011. In turn, if it achieves $0.02/share in net income, then it suggests an earnings multiple (today) of 6.5x. Essentially, a higher valuation is well within reach. If Armada achieves EPS of $0.02 and the multiple corrects to 10x – 11x, the upside today is still ~ 50%.

Cash flow is solid on all fronts. Despite some hiccups on labelling of the cash flow statement (see below), cash flow is solid both before and after changes in working capital. If one assumes that (a) Armada can repeat this over the next three quarters, and (b) one selects the lower of the two cash flows ($159,562, after changes in working capital), it would bring in $638,000 for the fiscal year, or about $0.036/share. At todays price of $0.12 – $0.13, this implies a very attractive cash flow yield of around 30%.

Insiders have held a significant position since the beginning. Insider holdings that stay consistent over the long haul indicate executives and management are committed to the long term success of the company, as they have maintained their “skin in the game”. Armada has a very strong insider following, as the three largest insiders hold approximately 11.74 MM shares, or about 66%.

  • James Robert Matthews (CEO) – owns 3.55 MM shares (20%).
  • Paul & Daniela Timoteo (former director & spouse) – in aggregate own 6.48 MM shares (37%). It should be noted that Paul Timoteo passed away in 2012, so my assumption is that the shares that were listed under his control (3.0 MM shares) are now controlled by his spouse.
  • Eli Oszlak (VP & CTO) – Owns 1.7 MM shares (10%).

With this level of insider holdings, it suggests that there is clear alignment between the management/executives of Armada and the average shareholder.

No analyst coverage and no self promotion. We recognize that this is a two way street, in that attention moves the share price, and lack of attention doesn’t. However, we are approaching this from the lens of someone who might want to accumulate shares of Armada, not someone who already has them. Arguably, there has been an increased amount of attention focused on Armada recently, but this is entirely due to solid financial results. The amount of eyeballs that this company has drawn is still fairly small, so the shares are (at this point) by no means “overhyped”. Given the tiny market cap, we don’t expect any analyst coverage any time soon, so unless something unforeseen draws more eyes to the Armada story, it will continue to trade almost solely on the merits of financial performance.

No share issuance, and it’s unlikely there will be a capital raise. The company has not issued shares since 2013, and we believe it’s highly unlikely that there will be significant dilution any time soon. If the company continues to execute at the same level as its Q1 numbers, then there is no need to raise outside capital.

The product offering might not be “disruptive”, but some of it is very timely. Armada has been involved in the “digital” side of the car business for some time, as the CarCostCanada website has offered pricing information to consumers since 1999. But over the last year, consumer behavior has shifted even more to an online presence, as COVID imposed lockdowns and mandated social distancing has meant that even more consumers have gravitated to digital solutions. On the other side of the coin, dealers who traditionally conducted much of their business face to face are finding a growing volume of requests from consumers are coming via an electronic format – and they need to keep up. Armada issued a press release on October 30th 2020 about their agreement with ETA Response Inc., a technology company that specializes in managing the online relationship between consumers and companies, thereby ensuring that dealers adequately respond to customer requests and concerns. Incremental agreements such as this dovetail nicely with the Armada business model, and are the “right solution at the right time” given how COVID has forced changes in how both consumers and service providers interact.

In summary, the valuation is in a sweet spot – even if Q1 is anomalous. As mentioned previously, at the current price ($0.13), the shares are still inexpensive on several fronts. While Q1 may have benefitted from pent up COVID demand, the impacts of this quarter means that even if other quarters underperform (on a relative basis), the shares are still relatively inexpensive. For the sake of argument, let’s assume that Armada achieves at the following “underwhelming” level, as shown by the table below:

If Armada can achieve revenues over the next three quarters that are 30% lower, and is saddled with a much higher COGS%, it can still achieve EBITDA of just over $400,000 that is within earshot of its highest ever EBITDA ($465,000 in 2011). Additionally, at this muted performance, it would also achieve EPS of $0.02, which would be its best EPS since 2011. At the current price, the only thing Armada needs for a 50% return (from $0.13 to $0.20) is to hit mediocre targets, and a reversion to a market average 10x earnings multiple. Other valuation parameters suggest the same.

  • Book value: Using data going back to 2010, Armada has traded at an average of 3x book value. At the current price ($0.13) and a tangible book value of $0.05/share, Armada is trading at 2.5x book value, slightly under its long term average. It should be noted that fiscal 2015 was excluded from this dataset, as Armada tangible equity was slightly negative that year.
  • PE multiple: As already indicated, Armada needs to execute at a “mediocre” level, and the PE multiple needs to normalize to a market average 10x, which would provide 50% upside from todays price.
  • EV/EBITDA multiple: Since 2010, the typical EV/EBITDA multiple for Armada has ranged from a low of 1.95x to a high of 9.6x, with the average falling around 6x. The current EV/EBITDA multiple, again assuming mediocre results for the remaining quarters, is 4.4x.
  • Cash flow yield: Lastly, if one uses EBITDA as a proxy for cash flow, and Armada executes at the levels shown above, it will achieve $0.023/share in cash flow. This suggests a healthy current cash flow yield of 17.5%.

On the other hand, if Armada can execute at levels similar to Q1, then there is much more upside – but that remains to be seen.

At the current price, Armada provide low risk, small cap potential.  The reason investors look to small and micro cap companies is because they provide the potential for non-linear upside. As every small cap investor knows, it is extremely difficult to make the perfect pick with the perfect timing – but sometimes it is possible to make a very good pick which provides the possibility of abnormal (100% or more) upside, an even greater probability of more reasonable (but still attractive) upside (~50%), and a minimal risk of dilution or bankruptcy. With this in mind, the Armada opportunity can be summed up in the following bullet points:

  • Trading may still be choppy in the short term: While liquidity has improved, trading will likely be choppy until another decent quarter comes out.
  • The chart is looking attractive: From a technical perspective, the price appears to have turned the corner, with all MAVGs exhibiting a tell tale upward move.
  • Investors needn’t worry about bankruptcy or dilution risk: Barring a direct hit by an asteroid, it is highly unlikely that bankruptcy/insolvency is an issue, and Armada has not demonstrated a propensity to dilute existing shareholders.
  • COVID may be a partial impetus for improving results: The change in consumer behavior due to COVID may have juiced the recent Armada results, and if this is the case, the long term change in consumer behavior may continue to do so.
  • As is the case with many small caps, 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.
  • Patient investors may see the greatest returns: If Armada continues to execute at Q1 levels, then potential EPS could be closer to $0.05/share, which suggests much more upside. If this is the case, then investors will have resist the urge to make the “easy 50%”.

I am long on Armada, with an average purchase price of ~ $0.115 CAD, and will continue to purchase at opportunistic prices.

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


Total Telcom Inc. – update at Q1 2021

It seems just like yesterday when the fiscal year update for Total was published, and not two weeks later, we get to do it all over again. Such is the life of someone who is a slave to routine – but I digress.

Given that the ink on the full year update has hardly dried, this update will be relatively short. However, as they say, good things come in small packages, and the package of Q1 appears to be just that. Without further ado, we will get right into it. Key sections continue to be highlighted in green, amber, or red to signal issues that are bullish, neutral, or bearish.

The chart still looks flat – depending on the time frame. Trading in Total has been choppy over the last 12 months, and there were times that it could go days without trading at all, but this has changed since the last update. From mid- October onwards, Total has traded approximately 1.6 MM shares. This may not sound like a lot, but to put this into context, over the last 12 months, the entire volume of Total shares that traded was approximately 3.3 MM shares. So, about 50% of the total volume over the last 12 months has been concentrated over the last 60 days. Given that Total is still “unknown” to say the least, this would seem to suggest that those close to the company have been busy. This increase in activity is a good sign, and the price may be at a point where the chart starts looking decidedly different. At this point, the chart is still “skipping along the bottom”, but this could change in the relatively near future.

The balance sheet is boring – but better. Trust me, it is hard to come up with new and novel ways of saying “this balance sheet is essentially risk free”. Nonetheless, despite lacking creativity, it’s nice to see that the balance sheet is solid, and is actually better than it was at the fiscal year end. The cash balance has increased, and there’s no real debt, as the $40,000 COVID loan is both interest free and eligible for partial forgiveness. Simply put, as of September 30th 2020, Total has $3.95 in current assets for every $1.00 of total liabilities. At June 30th, this ratio stood at $3.55 / $1.00. To be blunt, there’s not much to talk about here, other than it’s just better. The main thing worth mentioning is the fact that there’s more cash – which means Total had a profitable quarter.

The company is on track for its 2nd best year in a decade. Revenue is up 16% YoY and COGS (as a % of sales) is unchanged, which means gross margins are also up 16% – you have to like consistency. Other cash costs are essentially flat, which in turn means that EBITDA, at $168,532, is up 25% over the same quarter last year ($134,560). Net earnings are actually a little lower on a YoY basis, but this is almost entirely attributable to movement in foreign exchange. Excluding FX, income from operations is up a solid 28%. All in all, there is nothing to complain about here – the company is starting off fiscal 2021 on solid footing. If Total can continue to execute at approximately the same level, it will be just shy of its best year (2018), when it recorded $476,000 in net income, and would be on track to hit $0.017/share in earnings. At the current price of $0.125, this implies a PE of 7.3, which is still inexpensive, and means there is 35% – 50% upside to a “market average” PE of 10 or 11.

With solid earnings comes solid cash flow. In the movies they say “with great power comes great responsibility”, but it’s kind of hard to insert that line here, so my version will have to do. Whatever the case, the story is the same – nothing earth shattering, just solid execution. Cash flow from operations is essentially the same as last year, due (again) to the the flip-flop of FX – last year was a gain, this year is a loss. Even so, at $160,000 for the quarter, this implies full year operating cash flow of $640,000. Viewed another way, an investor (today) at $0.125/share is getting a return of $0.025/share from operating cash flow, a cash flow yield of 20%. Again, this is if Total can execute at the same level, and doesn’t require an increase in revenues. If the following quarters see increased revenues, then this story will get better.

No changes in insider ownership or significant media releases. Given that there hasn’t been any movement on either of these fronts, we might as well kill two birds with one headline. Insider holdings haven’t changed (details can be found in the prior post), and true to typical form, Total has continued to keep a low profile, with only “bare bones” press releases. On that note, it was interesting to see that the original release of financials (on November 27th 2020) didn’t actually include the financial statements – a bit of an oversight. Someone must have noticed, as full financials appeared on SEDAR on the 30th.

The opportunity is essentially unchanged – with a new twist. Rather than repeat the same key points, interested (or new) readers can visit the prior post. However, there is one change worth mentioning, and that’s the fact that the dust has finally settled on the U.S. Presidential election. While this might seem like a fairly unrelated event, a snippet of the MD&A stands out when it makes the following statement:

A shorter translation might be “The Donald repealed a lot of environmental regulations, and Joe is likely going to bring some of those back”. In short, while this comment has been bouncing around the MD&A for some time (along with other comments about growth in new markets), it was previously discounted given that the political situation in the U.S. was still up in the air. With the dust finally settling on this, it means that a segment of the Total revenue stream that has been in hibernation for a few years is likely to come back.

In closing, Total is on solid footing for fiscal 2021, and if it can simply execute at the same level, the market should eventually re-price it to a more “normalized” valuation ( ~ $0.20). If Total can manage to increase revenues and maintain the existing cost structure, there is the distinct possibility that increased market awareness could push the shares well beyond the $0.20 level, as they traded north of $0.40 in 2017.

As always, for those with questions or comments, I can be reached at mark@grey-swan.com.

The “Grey Swan” of COVID-19

One of the few upsides of getting older is experience. When something happens, it’s no longer necessarily something “new and novel”, and from that well of past experience, one can better formulate actions as life presents new challenges.

When COVID-19 arrived, some might have argued that it was a “Black Swan”, and while I agree that it has been impactful, I would suggest it fits more into “Grey Swan” territory. Human history is peppered with stories of germs and viruses that have decimated populations, and while there hasn’t been an event of “Black Plague” proportions in modern history, we needn’t look too far back to find numerous smaller pandemics, such as SARS (2002-2004), Avian flu (H5N1 2008), and MERS (2012), all of which have happened in the very recent past. With these having occurred so recently, it suggests that COVID-19 was a swan much more grey than black.

Most of us (myself included) could never have predicted how exactly an event like COVID would play out, or exactly what impacts it might have. However, from an investing perspective, if there is one thing I have learned it’s that events such as this will continue to happen – with almost painful regularity. Investors who are successful over the long term learn from these events, and come back more prepared the next time. The pain of each of these events are valuable lessons, and the learnings which they impart are ignored only by the foolhardy.

I started managing my own capital in the late 90’s, and in doing so, I have seen my fair share of bumps along the way. Wikipedia lists no less than a dozen or more crashes and mini-crashes since 1997, but the most significant of these that I distinctly recall were the Tech bust (2000), the impact from the world trade center attacks (2001), and the Financial crisis (2008), to name just three. Since all of these are so different, some might ask how learning from one helps predict (and avoid) the next event, but that isn’t the intent. Forget about “predicting and avoiding”, because it’s usually a fruitless task. Sure, I can predict that there will be a major health scare (or financial crisis) in the future, but when, and where? Predicting when crashes will occur is a mugs game. The learning is utilized not in avoiding, but in having a plan, preparing, and reacting – appropriately – when such an event does occur.

Each of these market downturns (and all the others that I didn’t mention) were different with respect to the root cause, but each were the same when one views the outcome: initially there is shock, followed by denial, despair, acceptance, and finally, recovery. When that shock initially hits, it signals to the prepared investor that they need to implement their plan, as opportunities will undoubtably present themselves.

I once heard a money manager compare the investing process to fire fighting. For firefighters, there are long stretches of boredom, when there are no fires or emergencies to attend to, and finally, a fire breaks out somewhere. Firefighters often experience long stretches of “nothing”. Those with experience know that this time is precious – it allows the firefighter to train for the actual event and check and re-check the life saving equipment they will need when things do get ugly. When that call finally comes the last thing you want to think about is whether or not the fire engine tires are pumped up, or whether those holes in the hoses have been repaired. What you want to be able to do is put on your gear, turn the ignition key, and go – without any thought other than getting the job done. Preparation is the groundwork on which useful actions takes off from.

For the investor, this means doing “something” when nothing is really happening. Too many novice investors are action junkies, and feel compelled to hit the buy or sell button in order to feel like they are really investing. The brokerage loves this, but this isn’t what I mean when I say that one should be “doing something”. This may mean different things to different investors, but at the very least, there are some common themes. On a proactive basis, here are just a few examples of what an investor should be doing – before the market starts to nosedive.

  • Determine how an extended downturn might impact you. Is some of the money that is currently invested earmarked for something important in the near term?
  • If you derive income from your portfolio, how much will dividend cuts impact you? During this last downturn, more than a few companies reduced or eliminated their dividend.
  • If you are employing margin, ensure you understand to what degree a margin call might impact you. During the 2008 credit crisis, I personally knew of more than a few investors who did not understand how the margin on their account was calculated.
  • Identify those sectors (or companies) where you truly have insight. If you work in a particular sector (tech, real estate, energy, etc.) then your experience gives you an edge.
  • Maintain a shopping list of companies you would like to own, especially within those sectors where you have experience or insight.
  • For those companies you wish to acquire, develop a 5 or 10 year history of where the shares have traded in relation to various valuation metrics. Data such as this is invaluable in identifying when companies are under or overvalued.
  • Develop an understanding of what factors will help (or hinder) a particular company’s prospects. Read whatever you can get your hands on to expand your investing knowledge.
  • Lastly, because this blog tends to deal with small and obscure companies, research the different ways to ferret out good small cap opportunities – aside from paid newsletters.

During the first few downturns that I experienced (in the early 2000’s), my portfolio was small, and I didn’t have significant amounts of capital. Not only was I unprepared, but many of the companies that I owned were small and illiquid anyways, so the impact on me wasn’t the same as what I saw in major indexes (and large companies). However, I knew that I was missing something. I knew that opportunities were appearing, but I didn’t know how to assess them, or to determine if they truly were opportunities.

This changed during the financial crisis of 2008. During the credit crisis, I was both lucky and unlucky – lucky because I dealt with a sector that was heavily impacted (banking) and unlucky because I couldn’t allocate as much capital as I might have liked. In 2008, much of the work that I did peripherally involved the world of banking, and I had come to understand how Canadian banks differed from their American counterparts. From both my work and my travels in the U.S., it had become abundantly clear how many more banks were competing for business in the U.S. when compared to Canada, even after adjusting for population size. Nowhere in Canada could I go to a “First Farmers bank of Easter Manitoba”, whereas in the U.S., First Farmers bank is a real thing. What was clear to me was that while Canadian consumers complained bitterly how the “Big Six” gouged them on fees, the fact that they dominated the industry in Canada, and the fact they were an oligopoly made them more stable than their American counterparts (a comparison of the two can be found at Visual Capitalist). When the financial crisis hit, I was lucky in that I already had an understanding of the banking sector. At that time, everything in the banking space was painted with the same brush, and when I saw the dividend yields on Canadian banks hit unprecedented levels, I knew that the opportunity wouldn’t last. I took what little money I had and invested in a basket of the “Big Six”. At the time of writing this, these same investments spit out dividends whose average today is 15% and growing – such are the fruits of preparedness.

When COVID hit, I didn’t quite have the same advantage, but since that time (in 2008) I have always maintained a “shopping list”, I have 10 year histories of many companies on hand, and I update my personal financial snapshot on a monthly basis. As the markets weakened in Q1 and Q2 of 2020, it was clear to me that many companies were “on sale”. Readers who have visited here before are already familiar with the kinds of small (overlooked) companies that I tend to write about and hold in my “high risk” bucket, but I also kept an eye on larger companies, and many of these were fire-sale priced during the depths of COVID. While it was difficult to do, during some of the dark days of the market downturn, I tried to ignore that unsettled feeling in my gut and purchased various companies such as Deveron, Pioneering Technologies, Scotiabank, Suncor, and Vitreous Glass, to name a few.

Ultimately, we can’t reverse COVID and turn back the clock, and by no means am I trying to downplay the human cost of the pandemic. It is my sincere hope that something like this never happens again, and it’s also my hope that the various nations can learn from the missteps of this pandemic, and be better prepared next time. In the meantime, on a much smaller scale, if investors learn from the pain of this event, it also means that they will be better prepared for the next financial downturn, and will be better able to react appropriately once the next Grey (or Black) swan arrives. If there is one prediction I am confident making, it is that another such event will occur in my lifetime – and probably a lot sooner than I might like.

As always, If you have questions or comments, I can always be reached at mark@grey-swan.com. 

Deveron – update at Q3 2020

On November 18th 2020, Deveron released Q3 results. The numbers were a mixed bag – not bad & not great. Generally speaking, because market expectations weren’t overly inflated, it would appear that results have been viewed in a positive light. However, there is always the risk that enthusiasm (for shorter term investors) might be waning, which brings us to our usual first stop – the Deveron chart.

The Deveron chart is still looking “up”. For those who read my last Deveron post, you will recall that I originally had trouble sourcing the Deveron chart on Yahoo. It would seem that the recent move from the CSE to the TSX Venture caused issues for Yahoo, as the chart below shows three years of Deveron price and volume, but one can see that the current price that is displayed ($0.23 as of August 27th), the symbol (DVR), and the exchange (CN) are incorrect. Despite these errors, the chart displays correct historical and current pricing, and one can see that from a chartist’s perspective, things still look positive as of November 23rd. While there was some selling pressure on the 18th, other investors with a longer view have picked up the shares.

The balance sheet is still OK. Since the end of Q2 (June 30th 2020), Deveron has burned some cash ($618,000), and overall current assets are down by $489,000 to just over $2.0 MM. When compared with the prior quarter, longer term assets are essentially the same, with no significant changes. So, in the “big picture” context, total assets have fallen entirely as a result of cash burn, and now come in at $4.33 MM vs $4.79 MM at Q2. If one goes further back (to December of 2019) it’s clear that total assets have increased by $480,000 (+12%) since December of 2019 – but in this case, this is all growth in Goodwill, which is the result of acquisitions.

On the liability side of things, total liabilities at $779,000 are up as compared to both the prior quarter ($777,000) and December 2019 ($736,000). The bulk of that change is found in the current liabilities section, in overall growth in Accounts Payable. However, while total liabilities are up, they are not up so much as to be a major concern. So, the balance sheet, while it’s a bit worse off, still falls into “ok” territory. Of all the balance sheet items that are worth discussing, it’s the very first one – cash burn – that leads right into the income statement.

Revenues are up – but so are costs. Revenues are up by $647,000 (+44%) over this period last year, at $2.117 MM vs $1.470 last year. When compared to the prior quarter, the change is not quite so dramatic, with only a 10% increase, but it’s still up. Additionally, gross margins for the full 9 months are healthy, at $1.628 MM vs $1.033 MM last year, an increase of +58%. All things being equal, this section should look a lot “greener” – but it’s not.

When looking at “why” earnings are good (or bad), I prefer to look at cash expenses in isolation. The truth is that non-cash expenses are sometimes subject to more discretionary measures, which can obscure what actually happened. So, in this case, for the nine months ended September 2020, we have taken all the non-cash expenses that appear on the cash flow statement ($307,000) and subtracted them from the total expenses ($2.963 MM) on the income statement. This process tells us that the actual cash expense for this period was $2.656 MM, or about $295,000/month. If we complete this same exercise for the 9 month period in 2019, we come up with non-cash expense of $625,000, which is backed out of total expenses of $2.429 MM, to come up with actual cash expenses of $1.804 MM, almost exactly $200,000/month. All in all, cash expenses were up 47% YoY, which unfortunately outstrips any gains in revenues.

So with costs growing faster than revenues, why is this section not red ? Well, the silver lining in this cloud can be found in the press release following the earnings announcement, from which we have taken the following excerpt:

Data collection revenue lagged in Q3 due to late harvesting across North America with most bookings rescheduled for Q4. Gross margin decreased 13% largely due to the company expanding its collection capabilities in the United States. Deveron relies on third party contractors to drive new network node expansion and expects margin improvement as the Company fills these positions with employees.

So, the short and sweet summary is that revenues normally would have been larger, and future costs should fall as the company transitions from more expensive 3rd party contractors to (hopefully) less expensive employees. Additionally, if most bookings are going to happen in Q4, then we should see a particularly good Q4. So, this tidbit keeps the income statement story amber for now, as we wait to see what Q4 brings.

Along with increased costs, increased cash burn. Yes, that heading is correct – it is showing two colors – amber for the fact that cash burn is essentially the same, red because it hasn’t improved. Not surprisingly, increased costs also means that cash burn hasn’t slowed down. While it isn’t out of control, cash flow (before changes in working capital) for the current 9 month period came in at -$757,000 vs -$771,000 during the 9 months of 2019, virtually unchanged. After changes in working capital, the story is the same, as operating cash flow came in at -$1.294 MM, slightly higher than the 9 months of 2019 at -$1.190 MM. So operating cash flow hasn’t come off the rails, but it hasn’t improved either, regardless of how one looks at it. Again, given that a significant amount of revenue has been pushed into Q4, we will have to wait to see if this situation turns around. In the meantime, if operating cash flow doesn’t improve, Deveron has a little more (or a little less) than a year’s worth of cash left before it will have to raise capital or seek other financing.

Insiders continue to hold. Not surprisingly, not much has changed since the prior Deveron post in mid-October. There is no indication of insider selling, and the three largest shareholders (Greencastle, William Linton and Roger Dent) still hold 13.8 MM shares, or about 27% of the total shares outstanding.

Deveron remains relatively unknown. Deveron remains unknown in the general market, and has not engaged in “excessive” PR. So, while expectations are higher (for those that are familiar with Deveron), there remains a much larger segment of investors that have never heard of the company. If one searches for something like “Deveron analyst coverage”, the end result is usually something like this:

Suffice to say that the company hasn’t engaged the typical “press cycle” yet, which in turn means that upside from such engagement is yet to come.

The share count may increase again. Usually, a heading such as this is red, as it was in the prior post. However, as mentioned above, Deveron has virtually no following – yet. If Deveron decides to leverage the improving share price and raise incremental capital, it may happen with coverage from whatever investment bank or wealth management firm that leads the charge. So, the question becomes: is the potential dilutive effect less (or more) impactful than the increased number of investors chasing the story? Ultimately, the answer is unknown, but with Deveron executing reasonably well, and demonstrating top line growth, it would not be a huge leap to see a capital raise that would attract a larger investment following, which in turn drives the share price. With this in mind, we recognize that this issue has both good and bad impacts, hence the amber heading.

So, while Q3 wasn’t great, Deveron isn’t a write off. We continue to hold our Deveron position, as we believe that over the longer term, it has promise. In the meantime, most of the key points from the October 16th post still hold true, plus a few new ones:

  • The move to the TSX should keep drawing new investors: Given that Deveron is still relatively unknown, this should still be the case. Additionally, any capital raise will likely draw new eyeballs.
  • There is expectation around Q4 results: Deveron clearly indicated that Q4 results will include business that usually would have fallen into Q3, thereby “kicking” expectations down the road.
  • There is still strength from a technical perspective: As of the date of writing this (November 23rd 2020), the Deveron share price is still trading around $0.35-$0.37. We believe the share price would have suffered more (around the 18th – 19th of November) if current investors were “giving up” on Deveron.
  • Investors should maintain a clear exit strategy: Depending on one’s stomach for volatility, have a plan before going long, which is even more important for those that consider themselves short term traders. If one thinks of investment horizons in years, then you probably will sleep well despite volatility. If your investment time frame is shorter, be aware that the share price has the ability to move quickly – either way.
  • Bankruptcy remains a non-issue, but dilution still might be: Insolvency is unlikely, but any future capital raises will obviously create dilution. If a capital raise does occur, hopefully Deveron can do so above the current $0.35 – 0.37 range to minimize dilution.
  • Liquidity is still good, so pricing is less choppy: Trading volume & liquidity are still solid, so the bid/ask spread is better than it was when Deveron traded on the CSE. With this in mind, one is better able to potentially fill bids at the lower end of the spread rather than having to hit the ask right away.

I continue to be long on Deveron, with an average purchase price of ~ $0.25 CAD. As always, these are only my thoughts & opinions. If you have questions or comments, I can always be reached at mark@grey-swan.com. 

Prime Hospitality Corporation (PDQ – NYSE)

Position opened: First purchase on April 07 2003, total average cost of $5.25 USD

Position closed: Acquired by Blackstone, October 08 2004, total average proceeds of $12.25 USD

Hold period: 1.51 years

Rates of return: 133% (simple) and 75% (annualized)

Prime was purchased in Q2 of 2003 on the heels of a “bad” year. While revenues were down over prior years, 2002 was particularly bad because of a one time charge which caused Prime to declare a significant net loss. However, both long term debt and total liabilities were down 8%, cash flow was solid at over $1.00/share, and book value was over $15/share. Eventually, the Blackstone group noticed the same situation, and acquired Prime in 2004 at $12.25/share, for a nice 133% gain in less than 2 years.

The Caldwell Partners – update at fiscal year end 2020

Caldwell released full year financials on November 12th, 2020. Results were better than expected (given COVID) and the market response was generally positive. After COVID was in full swing, the shares typically traded around $0.75, so their current price ($0.78 as of November 18th) isn’t a departure from the normal trading range. However, the fact that the financial results are as healthy as they are is a good sign, which is why we believe Caldwell is still an interesting opportunity. For those that are new to Caldwell (and want a bit more background), the initial Caldwell post can be found here. As always, I use a greenamber and red format to indicate areas which are thought to be bullish, neutral, or bearish.

The typical “COVID” chart. Returning readers will know that I favor an entry point when a chart has “flattened out”, which was consistent with my entry into Caldwell. My initial investment was made prior to COVID, and I was happy to collect the dividend while the business continued to grow. With the onset of COVID, the wheels came off the proverbial bus for just about everyone (and every business), and Caldwell was no exception. As one can see from the chart below, Caldwell has taken the typical COVID nosedive, but more recent price action does appear to suggest a new bottom. It does appear that the MAVGs are converging, but for the meantime, we continue to regard the chart as being neutral.

Despite economic woes, the balance sheet remains solid. Despite all the hurdles that COVID presented, Caldwell managed to wade through the remainder of the fiscal year without compromising the balance sheet. Overall, there are no red flags. While current assets have fallen (compared to last year), current liabilities have done so in a similar fashion. Some might argue that this is due to the cancellation of the dividend, but even if one were to adjust for dividends that would have been payable, the current ratio is still an improvement over the prior year. It is also noteworthy to point out that both assets and liabilities have increased as a result of the adoption of IFRS 16 (change in accounting for leases), and the fact that Caldwell did take on some new leases in 2020. However, these do not materially alter the picture – the company managed to navigate a period of significantly reduced revenues while at the same time remaining fiscally prudent. Given all that’s happened, the balance sheet provides solid footing for Caldwell as it moves into 2021.

Revenues are down 20% – but Caldwell reports its highest earnings in 10 years. Those two statements generally don’t go together, but nonetheless, there they are. As expected, revenues were down significantly, but since so much of the cost structure is aligned with achieving revenue targets, costs went down as well. Add to this the fact that Caldwell was eligible for both Canadian and US COVID assistance (which offset cost of sales), and you end up with the highest net earnings in the last decade. To be fair, if one removes the full impact of COVID stimulus amounts ($2.839 MM), operating profit would be reduced to $927,000, and pre-tax net income would be reduced to $134,000. Clearly, without the COVID assistance, it would have been a marginal year at best. Regardless, given that 1/2 the fiscal year (March – August) was arguably compromised, maintaining profitability is no small feat.

…and cash flow remains solid. Lastly, it’s always a bit disconcerting when earnings are positive, but cash flow remains stubbornly negative. In this particular case, we need not be concerned. Cash flow after changes in working capital clocks in at $1.389 MM ($0.07/share). If one prefers to look at cash flow before changes in working capital, it becomes that much better, at $6.491 MM ($0.32/share). Depending on ones preference, Caldwell is currently trading at an unattractive 11x cash flow or a very compelling 2.4x cash flow. Valuation aside, the cash flow statement tells a solid story.

The Insider story remains unchanged. Nothing has changed since the prior Caldwell post (October 9th 2020), as no insider selling is evident. Significant insiders continue to hold 41% of the total outstanding shares. A breakdown of these insider holdings can be found in the October 9th Caldwell post.

The price has strengthened, but the valuation is still attractive. Since October, the price has improved somewhat, peaking at $0.86 recently. That being said, this comes on the heels of better than expected results and general market optimism that a COVID vaccine is just around the corner. Earlier in November, Caldwell traded as low $0.68, so it would be fair to say that deterioration of the price (back to $0.75 or under) is just one bad headline away. At the date of writing this (November 19th), Caldwell is trading at $0.78, which is still reasonable in the context of various metrics:

  • Book value: Caldwell is trading well below it’s 5 year average (2015-2019) price/book multiple (2.4x) and even below the average price to book multiple if one takes the lowest prices for each of those years ( ~ 2x). At a year end book value of $0.76/share, Caldwell is trading well below the norm, and simple reversion to something more reasonable would provide very significant upside.
  • PE multiple: While earnings were strong, one has to be aware of the fact that this year is not representative of a “normal” year, and the implied 6x PE, while low, must be taken with a grain of salt. While we believe Caldwell still offers compelling value, we would defer to other metrics other than PE, given how earnings this year have been skewed by both negative and positive COVID impacts.
  • EV/EBITDA multiple: At an EV/EBITDA multiple of less than 1.0, Caldwell continues to trade in depressed territory, despite the fact that it has no debt, significant cash, and is both earnings and cash flow positive. Historically, the EV/EBITDA multiple has exceeded 4x, suggesting there is significant room for share price improvement.
  • Cash flow yield: As noted in the October 9th post, 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, the full year cash flow yield is an astronomical 41% ($0.32/$0.78). If one prefers cash flow after working capital changes, the full year cash flow yield is a more “normal” 9% ($0.07/$0.78).

The dividend is still gone – for now. Yes, the dividend is still MIA, but the following excerpt from the Caldwell MD&A states that “…payment of regular dividends can be in the best interest of the Company and its shareholders”. The short story is that Caldwell has a history of paying dividends, and the Senior management of Caldwell are very aware that without a dividend, the share price will remain depressed. At the current price, there is also the risk that someone larger (and with deeper pockets) is looking at Caldwell and wondering if it would make a nice acquisition. Unless the current executives of Caldwell all despise their jobs, they probably have an interest in working for the “devil they know” as opposed to a new “devil they don’t”. Quite often, once a company is acquired, the acquirer is more interested in installing their own hand picked executive group – and handing pink slips to the executive team of the acquired company.

So, for now, the dividend is gone, but the ability to pay a dividend certainly is not. Even a reduced dividend would signal confidence, and would spark interest for income seeking investors, who would purchase shares after the certainty of such an announcement. In the meantime, without a dividend, the shares will remain likely remain “on sale”. Once a dividend reinstatement is announced, they will enjoy a nice bump. For an example of what that looks like, just take a look at Boston Pizza, whose share rallied 35% on the day of the announcement, and have since risen as much as 60%.

Lastly, the economy is still soft. As COVID continues to shake the global economies, it begs the question: when will normal return? The truth is that nobody really knows – but companies continue to operate, and cannot put hiring and growth plans on the shelf forever. While some industries continue to struggle (energy, transportation), others have seen a significant run as a result of COVID, as a recent Mckinsey study suggest that COVID has likely accelerated the move to digital commerce by as much as 4 years. Companies will continue to adapt, and some of those companies will need to search out the right executives to lead that charge. When they do, companies like Caldwell will be there to manage that process.

In closing, all the same points that were made on October 9th still hold true:

  • The share price is slightly better, but still reflects (mostly) bad news: 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 slightly over cash value: The share price has improved a bit in the last month, but the balance sheet is actually in better shape that it was at the end of Q3.
  • Bankruptcy is still a non-issue: This is a common theme in the companies I tend to look at, and this is no different. Caldwell continues to be debt free.
  • Reinstatement of the dividend will move the price: This is no secret, as I previously alluded to the significant bump that Boston Pizza received when it reinstated a dividend that was only 60% of its former payout.
  • Keep an eye on insider sentiment – although selling is unlikely: 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) and will likely continue to do so. 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. 

Total Telcom Inc. – update at fiscal year end 2020

Total Telcom full year financials were released in late October of 2020, so with that in mind, it’s probably a good time for a quick recap. For readers that are interested in the prior analysis of TTZ, that post can be found here. For those folks in the “speed reading” category, suffice to say that Total, via its wholly owned subsidiary (ROM Communications), is a developer of remote asset monitoring and tracking services throughout North America. Specifically, they specialize in low cost (but high tech) mobile monitoring solutions in extreme conditions. Their involvement in the “Best in the Desert” racing circuit is one of the examples of where Total has created a “tracking solution” for a specific niche of users, who rely on it not only for race tracking, but also for safety. If it ever becomes necessary to find a crashed or stalled vehicle, accuracy is paramount – nobody wants to wait around in the 120 degree desert heat.

Like most companies, Total has taken a “COVID” hit, as businesses in every segment were impacted by either full shutdowns, or at the very least, a slow down in business. So while the year hasn’t been a total write off for Total, suffice to say that hopefully, 2021 will be better. Consistent with prior posts, the usual greenamber and red format is used to indicate areas which are thought to be bullish, neutral, or bearish.

The chart is still flatThe Total chart has been skipping along a bottom for some time. At the current price ($0.11), we view this as an attractive entry point to accumulate shares cheaply. The money will likely be “dead money” for some time, but the chart suggests that unless there is some extreme event that is yet to happen, the current price is probably suggestive of a technical bottom. It is worth noting that while Total did experience a “COVID dip”, it was not as extreme as those of many other companies. As one can see from the chart, there is a lot more potential towards the upside (~ $0.40) versus the downside (~ $0.07). With that thought in mind, that brings us to the financials, which further validate this idea.

Still cash rich, still debt free. Overall cash is essentially unchanged, at $0.057/share, whereas overall assets have increased by approximately $600,000, some of which is due to the change in accounting for leases (IFRS 16) and capitalized Product Development costs. There is a small amount of longer term liabilities now on the balance sheet, but part of this is due to the IFRS 16 change, and a smaller component is a “Canada Emergency Business Account (CEBA) loan”, which bears no interest, and if repaid by December 31 2022, 25% of the face value will be forgiven. Given the non-interest bearing status, the forgiveness clause, and the amount of cash on hand, we have not classified this as “real” long term debt.

In any case, the balance sheet is solid, and depending on how much of a “value investing” purist one is , the book value of Total falls somewhere between $0.07/share (if capitalized Product Development is excluded) and $0.11/share (if it is included). Regardless, the balance sheet confirms that a worst case scenario price is probably in the $0.07 range, barring any unforeseen catastrophes.

In the year of COVID, Revenues and gross margins are up. Given that this occurred in one of the worst years on record (on many counts), this is no small feat. While the increase in revenues (+4.7%) and gross margins (+6.0%) aren’t world beating, they are significant given the backdrop of COVID. In addition to this, it would appear that Total also managed to significantly decrease G&A costs, which is a bit of an illusion. As per the MD&A, this drop in expenses is also the result of the change in accounting for leases, so now costs that were once classified as rent expense are captured in Amortization of right of use asset and Interest on lease liability. In any case, considering the overall business atmosphere during 2020, the income statement outperformed expectations.

Total posted it’s 2nd best year in a decade for cash flow. Regardless of how one defines cash flow, Total did well both before working capital changes ($550,000, or $0.022/share) and after working capital changes ($460,000, or $0.018/share). This is impressive given that this is the 2nd best year for cash flow in over 10 years, and it was achieved while a pandemic was ongoing. At the current price, this suggests that Total is trading around 5x to 6x cash flow, in a year that likely saw compression of overall sales. Like the income statement, the cash flow statement doesn’t raise any red flags.

Insider ownership remains steady. No surprises here. Insider ownership has remained static, with three insiders owning almost 30%.

  • Neil Magrath, CEO: 3.0 MM shares, or 12% of total shares outstanding
  • Scott Allen, CFO: 1.99 MM shares, or 7.9% of total shares outstanding
  • David Hammermeister, Director: 2.46 MM shares, or 9.8% of total shares outstanding

The public relations story remains quiet. Many would argue that this is a bit of a mixed bag, as lack of promotion also means less price movement, which is exactly what we see in the chart. If a potential investor is looking for something that will “take off tomorrow”, then Total is not the place to be – perhaps something like BRTL or PYR offer more “press release” sizzle. Total has traditionally shunned extraneous press, preferring to focus on operations. So, for an investor who is long (such as myself), then one might make the case that lack of promotion has kept the price depressed. On the other hand, if an investor is looking to acquire shares at a reasonable price (also like myself), then this lack of PR is, as Martha Stewart might say, a “good thing”. In the event that sales increase, or an unforeseen catalyst arrives, the current lack of attention will shift quickly, which means that net buying activity would move the shares north – quickly.

The opportunity summarized. Like many of my holdings, Total will require patience, as I tend to favor stories “before they happen” rather than “when they are happening“. If an investor has a longer time horizon, then the opportunity could be summed as follows:

  • The valuation is cheap on many levels. With the exception of tangible book value ($0.07/share), the valuation is still very reasonable. At the current price, Total is trading at 8.5x earnings, 5x – 6x operating cash flow, and currently at an EV/EBITDA ratio of less than 3x. All of these ratios say “inexpensive”.
  • The company has managed to increase sales in a very challenging year. The fact that Total increased revenues and gross margins in 2020 suggests that the full year could have been much better. While there may still be a hangover from 2020, there is also the possibility that 2021 will see pent up demand for products that were not purchased in 2020.
  • There is no insolvency or financing risk. The company is debt free, and has no need for dilute by raising capital, so someone who goes long today isn’t at risk of insolvency or dilution.
  • Significant insider ownership means costs should stay tight. There is little risk that “runaway” costs will eat up cash. Given the significant insider holdings, there is clear alignment between management and shareholders.
  • Double digit revenue growth since 2015. The company has experienced significant revenue growth while maintaining strong gross margins. While they did pull back in 2019, they resumed growth in 2020. If they can continue even modest revenue growth, the market will eventually notice.

I am long on Total (TTZ), and continue to purchase at opportunistic prices. For those that have questions or comments, I can be reached at mark@grey-swan.com.

Recognizing small cap opportunities (updated)

A post essentially identical to this one was originally published on October 27th, 2020. The original post did not actually disclose the identities of the respective companies at the time, as the primary intent was to explore what signals & information an investor might use to confidently come to an investment decision in one or both companies, given how different they are. The content below is identical to the original post, with only some minor changes to insert the actual company names and ticker symbols. It should be noted that that while some readers did ask what the actual tickers were, only one reader managed to correctly ascertain one (Vitreous Glass).

On December 22, 2000, a brazen mid-day art heist took place at the Swedish National Museum. Three heavily armed men walked in and removed three paintings – one by Rembrandt, the other two by Renoir, one of which (Conversation with the Gardener) is shown above. The men had planned the robbery to the most minute detail, and had created other diversions in the city to distract police. Once they had secured the paintings, the men found their way to a waiting motorboat and proceeded to vanish. 

By all accounts, the robbery was perfect, but there was one nagging issue. The paintings were valued at approximately $30 million US dollars, but the value of art, unlike gold or diamonds, is very specific. A stolen painting cannot simply be sold on ebay, and many people wouldn’t place a high value on it because they simply wouldn’t know what they are looking at. In order for a particular piece of art to have monetary value, one must be able to validate three things: authenticity, history of ownership, and legal title. If one of these is missing (or cannot be determined), then the value is gone – as is the opportunity to recognize a handsome (criminal) profit.  So, this combination of factors meant that the paintings were valued at $30 million – but not in the hands of the criminals. Eventually, all of those involved in the heist were caught and charged, and the paintings were eventually recovered. What first appeared to be a sure-fire opportunity was nothing more than a mirage. 

Fortunately, the investing universe is not quite so demanding, and most people can recognize the opportunities presented by various companies. But when it comes to the Canadian small cap market, there are more than a few situations where investors aren’t sure about a potential opportunity, and are unsure about what brings value to a particular company. This post deviates from our usual theme of profiling a company we have invested in, and instead takes a look at two very different companies currently trading on the TSX Venture. Both have provided opportunities for their respective investors to profit, but in very different ways, and in different time frames. While you won’t have to be an art buff to have an interest in this post, rest assured that for one (or both) of these companies, beauty is in the eye of the beholder.

What is value exactly ? Merriam Webster defines value as “a fair return or equivalent in goods, services, or money for something exchanged”, and as investors, we can interpret this easily. For instance, if one purchases shares at $1.00 and expects a fair return, then the sale of those shares at some later date at a price in excess of the purchase price (and hopefully in excess of risk free rates) would constitute a measure of value. But, as we all know, we are looking for returns above and beyond “normal”, as investing in small caps can be a risky venture. 

So, in the universe of investment, the ultimate value that one derives from the purchase of stock can be derived by a sale of those shares, dividends from those shares, or a combination of the two. On the surface, this sounds pretty straightforward – buy the shares, collect the dividends, and/or wait for the price to move up. The tricky part is recognizing the value in a particular company, and then, validating the specific requirements to ensure that there is value. Without these, there is the risk that we are looking at a “forgery” – an investment that leads us to believe it will be valuable, but ultimately ends up worthless. 

Does the chart signal opportunity ?  While I don’t consider myself an “expert technician” by any stretch, I do believe that charts have their place in the investing process. If nothing else, they communicate market sentiment about a company, and provide some indication of volatility, even if it is in the rear-view mirror. The two charts below are a snapshot of our two respective companies, Vitreous Glass (VCI – TSXv) and Pyrogenensis (PYR – TSXv).

The first thing that becomes apparent from these charts is that one chart puts one to sleep, whereas the other offers few clues as to future success. VCI appears to have zero volatility, having traded almost in a straight line. On the other hand, PYR exhibits more volatility, but has also traded sideways for years. More recently, it appears that both are trading at or below the various moving averages, suggesting future weakness for both. At this point, it’s probably fair to say that while a picture is worth a 1,000 words, the words provided here are inconclusive at best. With this in mind, we dig a bit deeper into the financials. 

The details of the financials provide a better picture.   With the technical picture being somewhat murky, we defer to the financial statements to provide some better clues. Rather than dissecting (and discussing) multiple years of financial statements at length, we boiled down some key information into two comparative tables (below), which provide us some context on why the two charts look the way they do: 

These numbers explain a lot. VCI is the model of consistency. Revenues are generally flat, but it appears that the company knows what it’s doing, as gross margins are consistently around 45%-55%, and the company is always cash flow and earnings positive. Additionally, over the 7 year period shown, the company, which has a market cap of around $22 MM (Canadian dollars) has provided no less than $17.8 MM in dividends, or about 80% of the market value of the company. To put this into perspective, in 2013, when VCI had its worst year, it traded around a high price of $3.00 and returned a $0.30 dividend to investors – a 10% yield. This sort of performance explains the lack of volatility in the chart, as shareholders have recognized the value of a company which can execute its business plan consistently and return capital, year after year. Because of this consistency, VCI hasn’t raised capital in years, and the share count has remained flat, meaning no dilution for existing shareholders. 

On the other hand, PYR is a cash burning machine. Share count has more than doubled over the same period, and it is difficult to discern any trend when it comes to gross margins. Revenues have exhibited some consistency, but net income and cash flow have been negative in all years. There is precious little to get excited about here – the numbers are simply ugly and do not inspire confidence. While the chart provided an inconclusive picture, the financials indicate one area of success – the ability to consistently increase shares outstanding. 

These trends are further highlighted when one looks at the Enterprise value / EBITDA ratio (EV/EBITDA). This ratio is particularly useful because it takes into account a company’s cash and debt levels, and thereby provides an understanding of not only value, but risk. For instance, a company with a market cap of $10 MM and EBITDA of $2 MM would appear to be attractive, as the EV/EBITDA ratio (excluding debt) would be 5x, implying that a purchaser of the company could “buy” $2.0 MM of EBITDA for only $10 MM, a 20% return.  However, if the company is also carrying $25 MM in debt, the EV would increase to $35 MM, and the EV/EBITDA ratio would be much less appealing at 17.5 times EBITDA. This highlights the fact that the debt obligation makes the investment that much more risky, and suggests that the return is closer to 6%. For the sake of simplicity, the market price at year end is used for the calculation of Market cap and Enterprise value. 

Again what becomes immediately apparent is how the EV/EBITDA ratio of VCI falls within a tight range of 5 – 7, suggesting that despite the fact that it has returned a significant amount of capital to investors via dividends,  investors have yet to bid up the shares to lofty heights. By comparison, the EV/EBITDA ratio of PYR is always negative, given that their EBITDA is always negative, and the ratio shows wild swings – which, as you may have noticed, is where the rubber of our story really hits the road. 

Recognizing the two opportunities. At this point, we have explored a common theme, and have come to what appeared to be a clear conclusion. One company (VCI), although offering up little in the sense of “excitement”, provided investors with clear clues. While the chart didn’t immediately scream opportunity, it did signal “lower risk”. An investor who was willing to roll up his or her shirtsleeves and take a deeper dive into the financials would have uncovered the opportunity to recognize a “like clockwork” annual return of somewhere between 7.7% (high price in 2015 of $4.17 with dividend of $0.32) and 14.8% (low price in 2016 of $2.90 with dividend of $0.43). In essence, the ability to “recognize” the opportunity of VCI just takes a little time and effort via a well worn approach. 

The opportunity of PYR is, not surprisingly, opaque. The chart provided little in terms of clues, and the financial statements were less than inspiring. Regardless, in 2020, you may have noticed that the Enterprise Value of PYR increased by a factor of 8 when compared to 2019. This is where “recognizing the work of art” takes someone who is willing to put in a bit more effort, and who can see how the picture is taking shape as it is being painted. 

Back to the charts. If you were looking closely, you’d have noticed that the previous charts for VCI and PYR did not extend through to October of 2020. This was done with intent, otherwise it would have been a lot harder to write this article – and a lot less interesting. In the first part of this analysis, the lack of direction given by the charts compelled us to look (in detail) at the financials, which is how the opportunity of VCI was revealed. Had we included the full charts from the very beginning, we might never have gotten to that point, given that the PYR chart would have gotten all the attention. 

Below are the two charts of VCI and PYR again, but this time they begin in January of 2020 and end as of October 23rd, 2020, the date that this article was penned: 

Here we see the two charts again, but this time there are some distinct differences. First of all, it is clear that while VCI keeps doing what it does best, the chart is not markedly different than the prior one. Since this time period encompasses COVID, we see the price bottom out in March and April of 2020, but then it recovers nicely and comes right back up to where it was. Anyone that purchased VCI during the depths of COVID will be doing very well. Going forward, a purchaser of VCI during the “COVID dip” will be realizing dividends of (on average) $0.30 annually for the foreseeable future, on a purchase price under $3.00 and potentially as low as $2.50.  That equates to collecting a yield between 10% – 12%, which is pretty good if you ask me. Additionally, it stands to reason that at some point the market might actually notice, and VCI might be acquired at some future date, at a premium. 

That being said, as enticing as an ongoing 10% yield is, there is no denying the opportunity that is now clear that PYR has provided. Shareholders who purchased PYR and held it for the longer haul have made very, very significant amounts of money. To be specific, a small retail investor that would have invested $5,000 in PYR at an “expensive” 2019 price of $0.70 could have realized a total pre-tax gain of approximately $38,000 had they sold close to the peak 2020 price at $6.00. Even at the more recent price of $3.50, an PYR investor would have a pre-tax gain of $20,000. Investors who were patient enough and invested earlier (at lower prices) would have held longer, but would have seen some even more extraordinary gains. 

Getting into the depths of the chart. Just as we “waded into the weeds” of the VCI financial statements, we now have to wade into the weeds of the PYR chart. If nothing else, it is clear that these two “artworks” are substantially different. If one were looking at a classic sculpture, it wouldn’t make a lot of sense to try & determine whether or not it was an oil or a watercolor. In the same way, it’s clear that reviewing the charts, not the financial statements, will help us better understand the PYR opportunity. 

There are two significant things worth mentioning about the PYR chart, both of which we will discuss in detail. 

First – what are all of those red dots ? We have all seen the movie where our hero, cornered by villains, jumps into a river to escape. We watch intently, waiting for our hero to surface, but they never do. Death seems imminent, but at the last moment it’s revealed that he (or she) had a hidden source of oxygen – an old water bottle found at the scene provides just enough air to allow them to swim, underwater and undetected, to safety. 

While this example is fairly dramatic, the reality of small caps is slightly less dashing. Companies, large and small, depend on capital to keep themselves afloat. Lack of capital is not unlike asphyxiation – the company will die, either quickly or slowly, if capital isn’t available. For large companies, this is mostly an academic issue. As horrible as the market landscape might be, Enbridge will probably still be able to tap debt markets or issue shares. In the example of our two companies, one of them (VCI) creates more than enough capital from operations, and is able to return excess capital to shareholders. It’s clear that VCI doesn’t need any other sources of capital.  But for PYR, the story is different, as it is far from self funding. The ability to issues shares is key to the survival of PYR, and an inability to do so would have meant a slow death a long time ago.  

On those charts, along with price, volume, and moving average (MAVG) lines, one can see a scattering of red dots. Each one of those dots represents what is defined as a “non-standard press release”. For instance, a standard press release might be: 

  • Announcement of quarterly or annual financial statements
  • Dividend announcements
  • Announcements about appointments of Directors or Senior management
  • Early warning reports
  • Share buybacks or notices of private placements
  • Notices of annual meetings

Therefore, a “non-standard” press release is something that deals with none of these, and is usually an announcement of “ongoing potential contracts” or a “comment on unusual stock trading activity”. The difference in the two charts is striking: on the VCI chart, you have to look hard to see when the press releases occur. In the 46 month period from January 2017 to October 2020, VCI issued a total of 5 non-standard press releases, 4 of which were related to COVID. On the PYR chart, there are so many, they sometimes obscure the MAVG lines. During that same period, excluding all “normal” press releases that one might expect, PYR issued 116 non-standard press releases, approximately 2.5 for every month of the year. 

These press releases have purpose: they keep PYR first and foremost in investors minds. We are all familiar with the idea that if one hears something often enough, it becomes accepted, and this is not lost on public relations departments. You will recall that the two companies were strikingly different when it came to total shares outstanding – one company (VCI) had issued virtually no shares, while the other (PYR) had more than doubled total shares outstanding since 2013. If a company is consistently issuing shares, it is a good idea to do so at the best price possible. By maintaining a consistent flow of communication, it ensures that the company never totally falls off investors radar, and for those investors that are already closely following the company, it provides reassurance that all is going well. In the absence of cash flow and earnings, good communication ensures that the share price never tanks too badly. The fact that the share price never gets “too low” means that even while PYR is diluting the existing shareholder base, it is at least mitigating this process to some degree. Additionally, this ongoing communication has another important function.  At some point, one of the press releases (or a combination of press releases and other events) will eventually provide a catalyst, perceived or otherwise, causing momentum to change – which brings us to our second point. 

Second – we need to view a smaller timeframe. The 2017-2020 chart, while it clearly shows what “has happened”, needs to be distilled into a smaller timeframe so that we can look at it “in the moment”. We need to bring ourselves back to when the opportunity was unfolding to get a better sense of what was happening at that time. To do this, we take a look at two PYR charts (below), both of which encompass the first 90 trading days of 2020. We look at these in detail, as we know that not much was happening in January and February of 2020, but things suddenly took off not too soon afterwards. 

This first chart is typical. We can see that PYR is trading below almost all MAVG lines in the early part of the year. There is a flurry of press releases, beginning in late January, the price dips when COVID is announced, and then the price begins to recover. From the middle of March through to 3rd week of April, the price strengthens, but the improvement in volume is less dramatic. We get the sense the share price is improving, but it lacks conviction – until the price and volume spike in late April, at which point we would be committed to buying in at ~ $0.70 or higher, as opposed to the $.050 – $0.60 range. In essence, it would be nice to have some more fulsome information prior to the spike in volume. This brings us to our 2nd chart, below. 

This chart is similar, but different than the prior one. Like the prior chart, price, MAVGs and press releases are apparent. But the difference we see here is that the bars are no longer measuring volume – we are now quantifying retail investor chatter – essentially, the daily volume of investor discussion. 

For a company such as PYR, momentum and technical factors outweigh fundamentals, as we have seen. In this chart we can see evidence of growing investor “chatter”. Measured by the 30 day average of investor posts about PYR, we can see that interest in February is building. For example, in early February,  the 30 day average of posts is >15/day as compared to around 10/day in early January. The volume of posts level off a bit during the COVID announcement, but then pick up again in early April, then more in late April, and then one can see it pick up significantly in early May. From the period from mid-March (when COVID is announced) through to the 3rd week of April, we see chatter clearly trending upward. Every day, investors were posting and talking more about PYR. This information, in conjunction with all the other information we have, provides that extra bit of confirmation that sentiment is likely to swing significantly in the coming days and weeks. As we know, an investor that would have gone long on PYR any time from late March through to the latter part of April would have done very well, as they would not have waited for the “loud” signal of the price spike on April 30th, which drove shares over $0.70. Once the shares were in full “rocket” mode, daily posts kept growing, sometimes exceeding 400 per day. 

The rest of the PYR story is history at this point. While the shares peaked over $6.00, they have come off their high, but are still significantly above their early 2020 prices. The long term PYR story has yet to play out, and investors who commit capital today are, for better or for worse, buying into some lofty expectations. The market valuation of PYR today has much more expectation built into it than it did 12 months ago. For those who bought in early – and held on – I salute you!

In conclusion, there’s probably a few key takeaways that I think are worth mentioning:

  • The intent of this post was to point out that opportunity exists in small caps in many different forms, which these two companies serve to highlight. 
  • Like fine artwork, for those who value “classic lines”, the TSX Venture does offer up companies such as VCI, the opportunity of which is best recognized via traditional financial statement analysis. 
  • For those who prefer something more risqué, one must adopt more technical tools, as the fundamentals will reveal little or no opportunity. 
  • The ability to weave in and out of both worlds provides more opportunities to uncover, just as speaking more languages allows you to interact with a more diverse (and interesting) group of people. 
  • Lastly, some of the most impactful opportunities may require one to step outside the usual boxes of fundamental or technical analysis. 

In the original post, the identities of the two companies were not revealed. I thought it would detract from the post itself if the actual symbols were provided, as readers would (likely) zero in on the Pyrogensis story rather than read through the entire content of the post. In the meantime, as I always say, these are only my thoughts & opinions. If you have questions or comments, I can always be reached at mark@grey-swan.com.