SafetyinNumbers

My top pick for a non-cyclical name (I own some STNG and some NNA too) for 2020 is Atento (ATTO.N). The share price is undervalued because of concerns on margins, leverage and the Bain ownership overhang and there should be positive updates in all areas over the year but starting in Q1.

Curious what your PT is on this. I think it's more than a 100% upside and potentially a lot more if the new management team is successful in fixing margins. The crazy upside number if they can fix the business and get some revenue growth over 5 years is much bigger. Revenue is around US$1.7bn now and if they can get to US$2bn in 5 years with EBITDA margins of 15% (the goal for 2022 at the recent investor day last month), then EBITDA is around US$300m vs US$170m now. Peers generally trade north of 8x EBITDA, so that leaves an EV of US$2.4bn. The current DSO are at 90 days which is elevated for one off item in particular but management thinks they can get it to 45 days over time. Some peers are that low on DSO but even getting down to 70 days will free up over US$80m in cash. I can easily see with annual free cash flow plus improving working capital that debt will be closer to US$400m from ~US$565m now in 5 years. Also management is keen on buying back stock and there should be enough cash to do that too. If I model them buying 11.1m shares at $10 vs the current price of ~$3, there are 60m shares left outstanding. So an equity value of US$2bn and 60m shares outstanding is over a 10 bagger from here. I usually don't throw numbers like that out there because it sounds ridiculous but that's why I think the risk/reward is good at these prices. I think most investors are waiting for the resolution of the PIK and I think because of the upside that I'm sure Bain can see, they probably want to hold onto the equity. The big risk is that they turn over their shares to the bond holders who then proceed to sell into the market. I just can't see why Bain or the note holders would do that when they could run a strategic process and get a higher price or just wait to see how successful management is with the turnaround. That being said, I am constantly surprised by market participants. Is some maneuvering around in the capital structure really the big risk? What probability is a bankruptcy in the next few years? What effect would a large customer loss have? What kind of currency swing would cause real cash flow problems? Joel Greenblatt always said he bet the most on positions where he felt he could not lose much even in a bad outcome. You might be more savvy with restructuring-type situations, but this is not very asymmetrical from what I see. Telefonica is the big customer and all though there is a revenue guarantee, ATTO has lots of individual contracts with region, business line etc... that they are dealing with. While it might continue to decline marginally over time, I expect the percentage will mostly get smaller because of growth outside of TF. I think the probability of bankruptcy is pretty low. It’s pretty easy to see how accretive ATTO would be to almost any competitor so I think that would be the most likely scenario. The bonds aren’t pointing to financial distress (trading above par) and there is almost no short position despite all of the obvious concerns. Currency swings are a big issue over time given the debt is fixed in USD. They do hedge the debt when it’s issued but that can only do so much. I’m bearish on the USD so I see it as another potential tailwind. From an operational perspective they are somewhat naturally hedged. I could definitely be wrong and the PIK is not the dominant factor here. I’m definitely wrong more than I would like but it’s the most logical thing I can think of. If the stock was at $6 today vs $3 ahead of this PIK announcement, my position would be a lot smaller. After the PIK, I might own more at $6 than I do today, all else being equal.

Curious what your PT is on this. I think it's more than a 100% upside and potentially a lot more if the new management team is successful in fixing margins. The crazy upside number if they can fix the business and get some revenue growth over 5 years is much bigger. Revenue is around US$1.7bn now and if they can get to US$2bn in 5 years with EBITDA margins of 15% (the goal for 2022 at the recent investor day last month), then EBITDA is around US$300m vs US$170m now. Peers generally trade north of 8x EBITDA, so that leaves an EV of US$2.4bn. The current DSO are at 90 days which is elevated for one off item in particular but management thinks they can get it to 45 days over time. Some peers are that low on DSO but even getting down to 70 days will free up over US$80m in cash. I can easily see with annual free cash flow plus improving working capital that debt will be closer to US$400m from ~US$565m now in 5 years. Also management is keen on buying back stock and there should be enough cash to do that too. If I model them buying 11.1m shares at $10 vs the current price of ~$3, there are 60m shares left outstanding. So an equity value of US$2bn and 60m shares outstanding is over a 10 bagger from here. I usually don't throw numbers like that out there because it sounds ridiculous but that's why I think the risk/reward is good at these prices. I think most investors are waiting for the resolution of the PIK and I think because of the upside that I'm sure Bain can see, they probably want to hold onto the equity. The big risk is that they turn over their shares to the bond holders who then proceed to sell into the market. I just can't see why Bain or the note holders would do that when they could run a strategic process and get a higher price or just wait to see how successful management is with the turnaround. That being said, I am constantly surprised by market participants.

I added a touch more ATTO. I think ATTO trades too low based on the fundamentals and it would trade much higher if not for its largest shareholder (Bain) selling a PIK note to fixed income investors including sovereign wealth funds. The note is due in May 2020 but we should find out shortly what comes out of negotiations between Bain and the note holders.

I added a little more AXL.V today. I have been buying all of the way down so obviously my buying has not been predictive of future positive performance. Reported Q3 and announced plans to pursue a strategic alternatives process. https://www.globenewswire.com/news-release/2019/11/28/1953814/0/en/Arrow-Exploration-Corp-Announces-Third-Quarter-2019-Financial-and-Operating-Results-and-Initiation-of-Strategic-Alternatives-Process.html#.XeB-cq5pVfM.twitter I guess we'll see if there is a different price for private assets vs public markets in this case.

Also bought some $ATTO today

I added a little more AXL.V today. I have been buying all of the way down so obviously my buying has not been predictive of future positive performance.

Altura (ATU.V) is my favorite oil stock. Tiny microcap with a giant resource, no debt and smart management. They also have a new light oil exploration play that they will be testing this summer which might get some attention.

Would you mind explaining your logic in purchasing these particular preferred shares? Sure, basically its a parking place for cash with a fat yield - with low correlation to the market. When lower equity prices arrive I will move out of the prefs into equities. I like these prefs because the are fixed not floaters. I think with AZP.PR.A, the company is also reducing debt significantly so credit rating might improve over time and close the giant spread it trades at. Also, the company is trying to buy the preferred back but they won't be back in the market until December because they maxed out already for the year.

Thanks, SafetyinNumbers. Those are just the kind of insights I was looking for, together with some nice color on the space. Much appreciated. No problem! I would say on GCM.TO, they have some warrants, GCM.WT.B, that are offered at $2.60 with a strike of $2.21, while the stock is at $4.55. They expire on April 30, 2024 and trade at almost no vol. An interesting trade is to pair the warrants with GCM.NT.U which is a complicated senior secured note that has a fixed amortization schedule that pays a premium if the gold price is above $1250. With gold at $1410, for example, on July 31, 6.21% of the face value of the bonds will be redeemed at a premium price of 112.80 vs the last trade at 101. These bonds also have an 8.25% coupon.

I think the value tends to be in the smaller cap names especially in the gold space. Often this comes with geopolitical risk and single asset risk so I find a basket is a better approach. You definitely pay a premium for the well run names and it’s easier for those names to run into some bad luck or poor management like Goldcorp or Eldorado did a few years ago. I own ROXG.TO, GCM.TO, KNT.TO, SGI.V and USAS. GCM.TO has thread but no posts in a while. The interesting thing with that one is that the stock has done well for the past three years with production and cost beats and still trades around 1.5x EV/EBITDA like it did 3 years ago. Every 1 multiple point adds about C$3 to the share price versus the current price around C$4.50. SGI.V is a high cost producer but working towards increasing grade. Mid point of guidance is ~100k oz of production with AISC. of US$1125. Costs are supposed to trend lower with each quarter while grade improves. Meanwhile with the price of gold ~$1400 and the EV at US$35m, it just seems too cheap. ROXG.TO is probably the best operator of the bunch from an ROE basis and also has FCF yields over 20% next year. It should also qualify for the GDXJ in September which could increase the valuation.

Noted, thanks. Mind you, the price of gold has traded in a $60 range since the start of the year and is well above DPM's cost base. Seems a bit overdramatic for DPM to have run from $3.50 to $4.80 and back to $3.90 on the back of that. I wonder if there's also some overhang from the parent - concerns over a forced sale etc. It also has one of the higher copper exposures of the precious metals stocks if you want another reason. I think the overhang has always been priced in but just my opinion.

Great podcast episode on why now is the time to invest in Uranium. http://themikealkinshow.curzioresearch.libsynpro.com/website/stop-looking-at-your-stock-screens-for-great-ideas-do-this-instead-ep-60

It’s been almost a year since the below post and I’m still waiting for Uranium to get moving. I bought some NXE, CCO, and EFR.DB today. This second half of this podcast by Mike Alkin who is a former hedge fund manager and now runs a Uranium dedicated fund sums up the bull case quite well. http://themikealkinshow.curzioresearch.libsynpro.com/stop-looking-at-your-stock-screens-for-great-ideas-do-this-instead-ep-60 So from what I can tell, the interest rate on the debs varies between 8.5-13.5%, depending on the (weekly) spot market price of uranium oxide. Management doesn't expect the price to exceed 54.99 by 2020, the price above which the interest rate increases (and price is currently at 22.75$, from Google). Any reason to be optimistic about a bull market in uranium? Yes, I think so. The current Uranium spot price is too low for anyone to make money. Most producers locked into long term contract pricing much higher than spot which are expiring over the next few years. In response, Cameco and other large producers have decided to cut production and use existing inventory and buy in the spot market to fulfill production in order to preserve their resource for higher prices. Utilities will have to negotiate contract pricing soon and it will likely come in well above current prices. It’s a classical deep cyclical play that is complicated by an opaque market, two tiered pricing and extremely long lead times. I bought more yesterday with the stock surging higher and a holder of the debentures being forced to sell for what I can only assume are liquidity reasons.

I bought some Arrow Exploration (AXL.V). It’s an oil producer in Colombia that emerged from reverse takeover / spin off from CNE.TO in November. Given it’s a micro cap spinoff there could be some irrational selling going on. Each Canacol share received .127 shares of AXL, so it’s a trivial amount for what is now a 35 cent stock. CNE shares trade at $4.40. CNE valued each AXL share at US$0.885 each at the time of the spin and it’s trading so it’s down about 70% from that level in less than 6 months. Perhaps they were optimistic in how they valued it but it certainly has taken a haircut now. Management owns 18% and cannot sell the majority shares for 18 months and the stock has to be above US$1.50. EV is less than C$30m with 2P NPV at C$125m and the company is producing 1500 boe/d now and guiding to exit at 3000 boe/d. It’s production is tied to Brent pricing so it looks cheap on traditional oil company metrics.

I was expecting it and have been buying up B/D prefs in the last few weeks in anticipation. Any predictions on trading activity tomorrow? I would expect the B/D to be up nicely because they now have much more equity coverage and are becoming increasingly safe. Common probably down, but the potential for a large buyback may mitigate that. You would think so on the B/D but it also demonstrates that management doesn't think the NAV is all that hard, especially when you combine it with the big loss today. What discount to NAV should the pref trade at? I think the common will get hit pretty hard but the real test will be when the conversion is complete and we have some time to trade. A lot of these pref holders didn't use their opportunity to tender at par on those two previous opportunities so I don't know how closely they are monitoring their position. Maybe they will just miss the income and sell then.

They really converted those pref to shares but also promised a buyback in the common after the conversion, maybe. http://www.globenewswire.com/news-release/2019/03/28/1788028/0/en/Dundee-Corporation-Announces-Conversion-of-First-Preference-Shares-Series-5.html?ev=1

Bought some IVQ.DB.V (~12% YTM) and some GCM.NT.U (~10% YTM at this gold price). Anyone else look at the IVQ bonds? The IVQ.DB.U are trading over 1% tighter but they do mature about 18 months earlier.

SGI.V and GCM.WT.B Both gold value stocks/warrants which probably sounds like an oxymoron to most value investors but both trade at less than 2x EBITDA. Too small for any ETF so not participating in this gold rally today.

LOL. Get me some of this. That’s also after 12000% last year so is this year humbling after a year like that? The portfolio must be well over a $100m now. Is that making it harder to find opportunity?

I don't think reporting that way is kosher, and it doesn't actually make the returns actually higher. Your returns are based on your risk at the time of investment. You don't get to then take x% off the table through a div recap and say "look how much higher my return on capital is" by reducing your denominator for the distribution. Just think of a basic example where you invest $1B at T=0, take a $1B div recap after 5 years and the rest is worth, say $10MM. You didn't make $10MM on $0, you made $10MM on $1B. That's certainly how your LPs would look at it. It's totally different from a tax perspective, but that is not how you should be measuring your investment returns. When looking at absolute returns, this is the case. When looking at TWR and the opportunity cost of that $1B invested over the 5 years, it's absolutely not. If you can pull that $1B and reinvest it into something else, then you get that return and the $10M. Further, investing $1B, pulling it out, and getting $10M later is a "risk-free return" for all intents and purposes...so it's still better than having $1B at risk the entire time. Yes, I agree that going forward, you can calculate your incremental return on the remaining capital at risk. But when someone asks what your "absolute return" on a position is, they are asking: (Realized + Unrealized) / Capital Invested. The denominator of that equation *never* changes, unless you invest *more* capital. All I'm saying is that PE firms don't do this to "lower equity invested" to "make returns higher." If they do, they're using funny math. They may be taking out that capital to invest it in other, more attractive opportunities, which will generate higher returns, but they are not doing it to game a mathematical formula. Again, if they are that's not kosher. They usually do dividend recaps when they need to generate cash and/or can't actually monetize their portfolio co. I disagree. They do DO this. The $1B isn't in a vacuum. It's typically a fund with multiple investments. A $1B purchase with a dividend re-cal allows them to pull their cash back out and make incremental investments in other acquisitions for the fund. Maybe the denominator doesn't change, but having two investmenrs with the $1B versus just the one absolutely changes the numerator in your calculation. I'm not disagreeing that taking capital from one opportunity and investing it in an another opportunity with a higher return potential is good for the fund returns overall. I'm still disagreeing with the statement that "The lower equity invested after the dividend is paid out makes the returns higher on an absolute and after tax basis." You don't get to say that you made a 10-bagger on a $1B investment because you did a div recap for $990MM and then made $100MM on the last $10MM you had in there. Thinking of risk and return in this way is really flawed. You made $1.1B on $1B. It's more than just semantics because most funds calculate their carry on a position by position basis, not fund-level/European style. So following the logic in the example above, they'd calculate their carry as if they made a 10-bagger on $10MM when in reality they probably haven't even triggered carry with a 10% return. It most definitely does not make your returns higher. How can nobody see that if I give you $10 and then you give me $9 back, and then give me another $2 a year later, I haven't made 100%, I've made 10%? Ultimately that is all that matters. I'm also still harping on this because I'm shocked people actually think of risk and return in this way. I was referring to a dividend recap mainly when the acquisition is completed. For example, if a PE buys a company for say 6x EV/EBITDA that say has 1 turn of debt/EBITDA and they think the business can sustain 3x debt/EBITDA, they can take leverage up to 3x and pay out 2x debt/EBITDA as a dividend (the dividend recap). The equity was purchased directly from the former equity holders at 5x equity/EBITDA but now the net equity put up is only 3x EBITDA. Can we agree that adding this financial leverage will help returns if the business performs well and this isn't some sort of manipulation of returns?

What exactly are the qualifications to classify it as a return of capital vs a dividend? It usually depends how much equity they have on their balance sheet. In Canada, the concept is called paid up capital for tax purposes. Anything above paid up capital is a dividend. Also, in Canada, a dividend to another corporation is often not taxed depending on the type of corporation (to avoid double taxation). I’m not sure if it’s the same case in the US.

The lower equity invested after the dividend is paid out makes the returns higher on an absolute and after tax basis. Sometimes the company is just inefficient with working capital so the net debt before working capital doesn’t necessarily go up. If things do go badly, the PE firm can always inject more equity if they think they can make a return on that additional equity.

It seems to be a combination of credit spreads widening and interest rate expectations. Any floaters like BCE.PR.H such as TRI.PR.B have been hammered but so have perpetual fixed rate pref like SLF.PR.D.

I like the AZP.PR.A, it’s a perpetual fixed rate and the company has been buying them back while reducing leverage. The ALA.PR.A and ALA.PR.U are also interesting if rates are not going to plunge. I think the GMP.PR.B are more attractive than the Dundee pref as they will reset very high if the 5 year doesn’t plunge. The Dundee pref have held up rather well in the face of all this pref selling.