SharperDingaan

Couple of final comments. Agreed, there was no other practical way to take out the institutions other than via a bid for all of FBK. The bid had to be orchestrated from pretty much only one source, & we should all be thankful to get out at $1.00. Agreed EV was around 130M. That was the offer price & it included the typical >30% take-out premium. The offer was the lowest possible, but fair. If we believe in IFRS accounting, & its associated impairment testing, the BV should be reasonably close to the MV of the assets & liabilities were the business to continue as a going concern. Furthermore, the principle is so well established that ABH will be able to use it - to write-up the value of the net assets acquired to about their former BV. The difference between BV (350.6M) & EV (130M) will result in an accretive 220.6M addition to equity for no new share issuance. Most would argue that how that 220.6M is split between buyer & seller, would be negotiated. The folks around the table are more than capable of coming up with a reasonable saw-off. SD

"Are you thinking the assets may generate more interest if they are split up and sold off in pieces?" 1) We think FBK needs an appraisal on each of their mills. 2) We think the mills need to be shopped to determine buyer interest & the accuracy of the appraisal. 3) We think FBK needs to reconcile & explain why the Sep-30-2011 $369,719 BV of the P&E is only receiving a market value of $112,519 (at best). A $257,200 (70%) difference of $1.98/share. 4) We think FBK needs to review the results of the IFRS Dec-31-2010 long term asset impairment testing & explain why either the bid valuation, or the P&E BV, is not appropriate. 5) Our expectation is that FBK will be able to show that the P&E BV is about what the independent appraisals/bids/DCF valuations come in at. ABH either pays up or walks away. 6) We think there is a >50% chance that a FBK mill will get sold, FBK shares get consolidated, & FBK rebrands into just a RBK recycler. Best guess is that ABH pays up (with equity), then sells the RBK mills (for cash). Materially improves the ABH D/E ratio, takes out the FBK shareholders cleanly, & lets everybody move on. An elegant solution, but we suspect that it may well be Plan B. SD

Doc. We know the stock in lock-up is going the share route; that leaves a remaining 70.5M shares that could take the $1.00/share in cash - yet there is $71.5M of cash allocated. Hence you can be pretty certain that if you want the $1.00 in cash, you are going to get it. What the ABH stock price does in the interim is essentially irrelevant. LessThanIV. Agreed it is unlikely there will be another bidder, but FBK does not have to agree with the price & can put its plants up for sale to extract a better price (which diligence requires them to at least attempt). Also agreed that ABH will likely prevail - but they are going to have to cough up. Even if ABH offers $1.45 - it is only 59M (3.7M shares), all of it will be additional equity, & the Dec-30 working capital sale adjustment (Q4-2011 earnings) will cover some of it. How much is your reputation worth to you ? & do you really want to smear it by being cheap, when you should be gracious ? These things happen, & price is a negotiation, but you still have to put up. No cheap suds! SD

"The deal seems to be valued around 4X a reasonable estimate of EV/2012e EBITDA . That's perhaps a little too cheap but in the vicinity of proper multiples for a single product pulp company. Most seem to garner multiples of 4.5X to 5X EV/EBITDA" 1) Keep in mind the power generation EBITDA of 4-6M/yr starting 01/01/2013. Roughly 5 x 5M discounted at 7% ? (debt rate) for 1 yr; 23.36M/130M shares - or an additional 0.18c MINIMUM. 2) Assume another 35M MINIMUM of market value > book value for all the P&E. Another 0.27c/share. They need to be thinking about getting above at least $1.45. SD

Trading at <$1.00/share. For many - there is simply disgust & little confidence that ABH will improve their offer. They just want out, & are willing to give up a few cents for the liquidity. The price is not rising above $1.00 because there is so much selling. But ... that $1.00 price will still be there over the next month, & everyday that goes by increases the pressure to be more accommodating – especially if a chunk of the 3M+ shares sold today are going to less polite activists. It is not hard to see what FBK paid for its plants, & to come up with an approximate market value in today’s market. That MV is > the carrying value, & at a minimum - that difference needs to get reflected in the price. Stay 30 days & make a certain 5% (1.00/.95) - possibly a lot more. Or sell now for an uncertain > 5% somewhere else. It doesn’t cost anything to stay & bitch loudly. SD

This proposal has to pass due diligence at both boards. FBK needs to prove (1) that its liquidation value (appraisals &/or getting bids on the plants) is above the offer price & (2) that the going concern (IV) value is above the offer price. The current price of $1.00/share is just the offer price the last time they went out. ABH needs to prove that they put up an appropriate initial offer (price & lock-up), & then settled on a number that was independently proved as reasonable. Most would argue that if you want FBK, you need to pay something between the liquidation and IV value. The institutions that bought at $1.01 last time out will want an appropriate return on that additional investment. They will also want the bid to at the very least, materially cover their average cost bases. We would expect that most of the non lock-up group consists of these institutions, & that the lock-up group has essentially withdrawn (via the agreement) to allow them to set the final price. It is highly likely that the bid was intended to raise a fuss, but the degree of distaste was unanticipated. Not a bad thing, but now is the time to demonstrate the elegance that would appear to be behind this bid. It is highly likely that the ABH bid is the match that sets off an industry consolidation wave, raising the tide for all in the industry. To play the bid you really need to buy FBK & anticipate by how much ABH might improve the exchange rate for an all equity deal – then multiply by the probable increase in the ABH share price as a result of the offer. That kind of demand on the small FBK public float, should be an good indication as to where the true floor price might be. May it be an interesting day. SD

Look into the operations of most TSX listed companies. Often a high % of the sales revenue is from outside Canada, & a good chunk of expense may also be in foreign currency (Indian call-centre, foreign assembly centre, etc.). You already have FX exposure - you don’t need to buy it. Often forgotten is that the $C is a petro-currency backed with probably THE largest oil reserves in the world (Tar Sands + Beaufort + Hibernia). Given that most would expect another Bretton-Woods/Plaza Accord following Europes eventual resolution, it is hard to see why the $C would not settle somewhere in the $1.50-$2.00 range. Probably over a few years (BOC intervention). SD

At 90% you can force the minority to sell. Given that this a friendly deal it'll be what the majority of the remaining shareholders want to do, that will decide it. The major players in that group will also negotiate the exchange rate on everyone's behalf. Couple of beers around a table, & saw-off somewhere around half-way between $1.00 & IV. SD

Alert. Keep in mind that it is highly likely that most/all of the shares in lock-up will opt for conversion. Makes the sale a tax-free roll-over, & the holder indifferent as they have not lost any value. Arguably, if enough shareholders opt for conversion (90%+) they could collectively negotiate for a better price (liquidation value) & 100% conversion. The buyer gets a bigger equity issue, & can use all of the sellers cash to pay down debt - improving their D/E ratio. $1.00/share may well just be the opening bid. Here's to hoping that Santa is a little more generous! SD

The price sucks at approx 2.7x projected stable EBITDA (with power) of 48.5M, but at least it will be more liquid (with better prospects) holding ABH over FBK. Think they could afford more, but a friendly bid was pretty much inevitable. Looking forward to holding ABH! SD

Re asymmetric bets: For maybe 80% of PMs ?, a short is one side of a pair trade - done to extract alpha, & executed via options to extract leverage and avoid the possibility of an inopportune loan call. The different dynamics drive the typical response. Most see the asymmetric bet as a small (but certain) realized outflow against a high (but very uncertain) REALIZED inflow. EG. Long a marginally out-of-the-money put option on XYZ Coy. Easy to understand, intuitively obvious, but most don’t get that the magnitude of the payoff x its probability is key (Taleb) ... But an asymmetric bet can ALSO be as a small (& certain) realized inflow against a high (but less uncertain) UNREALIZED inflow. EG. Long a T-Bill & short a put on XYZ coy - or - selling existing XYZ coy & repurchasing later (synthetic short). Not so easy to understand is that the intent is to get called (to the get the stock cheaply) & THEN HOLD IT, & it is not intuitive that Mr Market is going to pay you to do it (premium + T-Bill interest). Examples might be BAC, RIM, etc. We use variations of the synthetic short extensively, & find that in a concentrated portfolio it materially reduces month-to-month volatility. Given that the risk is that the stock could run while you’re short, we don’t sell more than 50% of our position. Hope it works for you. SD

Know what you’re trying to hedge & why. Measure ‘wealth’ by sustainable cash flow. Most retail would systematically withdraw investment funds, reduce debt to low levels, & maintain debt service at current rates. The hedge is against loss (on those funds withdrawn) & caps the major cash outflows (interest rates can now double if you hold only 50% of the previous debt level). Most retail would also invest for positive CF, & sell covered calls - patience, call premium & dividends as a hedge against loss. Pops to periodically take out the position & associated margin. Patience to repurchase on dips at 5-10% lower. Notable, is that this is pretty close to the Taleb approach – but for different reasons. SD

Core to Cdn financials is concentration in few hands, & the omnipresence of OSFI. Risk management is extensively examined every year, & there is little tolerance for chronic repeated failures. The result is better financial resiliency, less volatility, & on-going focus on day-to-day business. When Canada hit the debt-wall in the early 90’s, the Cdn financial sector did very well – most would argue that today, the sector is materially stronger than it was back then. It is much harder to get a double on the retail businesses, as you really need a sustained & extreme external event to materially force down the multiple. The businesses themselves are going to reliably continue generating EPS, with at most a 15-20% reduction off the ‘norm’. The source of that EPS is now also increasingly diversified outside of Canada. The big questions are currency & the benchmark. A double in a hard currency may be equivalent to a 4 bagger in a softer currency, but only if FX depreciation goes your way. The unemployment rate, usually trumps a rising dollar – hence a crap shoot as to where FX might go over the mid-long term. OK place to be, if measured against the TSX; a great place if measured against the DOW, DAX, FTSE, etc. If you want 25% compound returns this probably isn’t it. If you’re OK with 15% & some FX risk, there are lots of choices. SD

The case for the defence: BAC is 1 of 4 unique oligarchs in the US. If someone else wanted to be BAC they would effectively have to buy the company (established relationships, market share, etc). And even if BAC had to massively dilute to weather the coming storm, the buyer has nowhere else to go. The only question is how material an interim direct stake the fed might take – as if it is good enough for AIG, GM, etc. it is certainly good enough for BAC. There is nothing wrong with threatened &/or state intervention. WEB used it with GS. HW has used it with the Bank of Ireland. Today - both GS & the Bank of Ireland are doing very well. Most would argue that for the price paid - both investors have either done very well, or may reasonably expect to. Venture Capitalists have long practiced J curve investing, & currently a long-term investment in BAC is really no different. However - unlike a start-up, BAC has long established relationships, market share, etc. One hell of a moat, that actually strengthens when they start a buyback at some distant future point. It is highly likely that over the long-term, BAC is a solid investment. But until Europe resolves ... there is probably no rush - which is what the absence of insider buying is saying. SD

Keep in mind that a stress test is after the really bad stuff has been repo’d off the books – in today’s market it will the best possible outcome after the MAXIMUM POSSIBLE manipulation. All (Asia as well?) central banks (& agents), insurance companies (with different quarter-ends), & Hedge Funds (non regulated orbit) swapping dung for T-Bills over the cut-off date – to give the banks the maximum possible regulatory capital. Subtract actual from desired capital to find the capital shortfall – for the financial system as a whole – then force the banks to raise it, allocated by market share. Yet all seem to be 100% certain that BAC will not have to dilute (again), when we know that regulators have (publicly, via the leak) warned of insufficient capital ? To most folks a public warning implies that the target is currently BELOW its minimum capital requirement, & that existing anticipated capital raises have already been anticipated (which will bring them back on side). There are lots of ways that big friends can help with the capital, but is it really likely that there will be no further dilution? SD

Some observations: BoA grew assets by 3x (2250/750) over a 6 year period during the credit crunch. Created a hell of a BS strain; but as a good portion of that growth probably has an implied fed guarantee - the risk is not solvency, it is dilution. The global credit mess is likely going to require all banks to hold more capital. That capital can only come from calling in loans, reserve releases from improving loan quality, asset sales, reduced exposure to the higher risk business lines, &/or dilution. Fewer assets, generating less margin, & dilution risk largely dependent on uncontrollable macro factors. Going forward, a lower earnings stream that could well end up spread over more shareholders. It is implied that BoA remains as one entity over the ‘work-out’ period. That may not be reasonable, as most would expect regulatory & business incentives to develop - that spin the businesses into separate recapitalized ‘banking’ pillars. Going forward, multiple (& initially lower) earnings streams, virtually assured dilution, but capital in place to grow what are now healthy Balance Sheets. At 35% dilution (guess), consolidated income needs to increase by 35% over ‘X’ years – just to maintain the current EPS. To make money during the period - either the P/E ratio must increase, or earnings must grow faster than dilution - & all with a high probability of it actually occurring. The longer ‘X’ is, &/or the lower the probability of it actually occurring, the lower the expected compound return will be. To offset the risk you need a very low cost base, but post ‘X’ this is a growth stock with the commensurate return. There is a need to recognize the reliance on ergodicity (the longer the event path the more the eventual possible outcomes resemble each other). Just as a bad trade will catch up with you the longer you play, the same applies to the good trade. As long as BoA does not bankrupt - the longer the ‘X’ year period is, the greater the certainty in a return to ‘normal’. Punch-card bet, but you have to be prepared to marry it for what could be a very long time. SD

[amazonsearch]Fooled By Randomness[/amazonsearch] Very good ‘heretic’ read for those statistically & market minded. To get the most out of it, expect to re-read each chapter & map out what you are being told - as it is not intuitive. Then expect it to completely changes your view of markets. Snippets from Chapter 2: You will probably not do very well if you ... - Don’t recognize that history is written by the winners, not the losers. If you’re a despot but invade someone & win, you’re a hero. You’re still a despot - but no one will hold it against you! - Don’t recognize that the idiot who can present well - comes off as the expert. The alchemy of the CNN talking head! - Don’t recognize the Risk Management is done to give the impression of Risk Management – not actually do it. - Don’t recognize that you should insure against the abstract risk, not the vivid one. The vivid risk is already priced in - the abstract is not, & the reason why HW can occasionally make 2B on CDS swaps! SD

Agreed re Greenblatt. But assuming no real change in share price until IV is realized - there’s not much difference. Nice thing with the equity though is that the timeframe is open-ended, & buybacks (speculation) tend to increase both floor price & liquidity. You may get an opportunity loss, but you’re unlikely to lose on the actual investment itself. Obviously, not for everyone. SD

If you think FBK will see IV in 3 yrs, the compound return is above 40%/yr – but you essentially see FBK as akin to a zero-coupon bond maturing at 100. We think IV realization is conditional (share consolidation, merger), but given the type of institutional ownership - reasonably likely. To get 40%+/yr this has to be a pretty special business. We think it is. They hold a dominant portion of the RBK market, & have a significant new product in that market at the beginning of its life cycle. They have a profitable NBSK operation, which will have a material portion of its EBITDA hedged against an independent income within 12-18 months. They have very little debt, free cash flow, & the ability to grow EBITDA at more than 36% - by simply repurchasing shares that nobody wants. They are indeed pretty special. Most folks will not pay $1 today, for $2.50 - 3 or more years out (in spite of it being a 40c dollar). To get the Greenblatt 30% return experience, you have to be 75% confident that you will actually see IV realization within 3 years. SD

Assume the debt has a refinancing penalty that makes it uneconomic - until it rolls-over, there is little they can do. Business wise they are pretty much limited to strengthening their value proposition, & their Balance Sheet, for the next 12-18 months. Depending on the method used, the IV is maybe 2.25-2.75/share. Given that it is highly unlikely the market is going to pay that - the best interim prospect is periodic share buybacks. Buybacks financed with new debt at dirt-cheap rates, repaid from future free cash-flow over the next 12-18 months. If you applied the Greenblatt approach & held for 3 years, most would argue that you could do very well. Taleb (The Black Swan, Fooled By Randomness) would hedge against a lower return higher probability equity. WEB would consider the tax position. Not for the rabbit footed - but if you want to practice applying the craft, there are probably few better places for the price. SD

Not so sure on Germany. It is virtually certain the banks would get nationalized following a Euro haircut, but it is also highly likely that Germany will not permit the degree of inflation that the rest of Euroland will probably use (Weimar experience). CHF or DM essentially become the regional trading currency, & they get to borrow at lower cost. It also means that German industry sets up new plant in the lower cost Euroland (as occurred in the former East Germany)to reduce its costs. Germany remains the global power-house for decades to come, & can use the crises to offset it ageing demographic. SD

Hard to see why the solution is not Germany & France ultimately pulling out of Euroland, & effectively nationalizing their domestic banks. The big domestic industrials get protected, we get Breton Woods 2, & global banking broken into segregated pillars – capitalized according to the risk. Assuming all Euroland does an Iceland, & declares an average 25% haircut ..... things could get very ugly. SD

We think the investment community will need to re-assess. It is hard to make the case that a down-turn in the pulp cycle will hurt, when there is maybe 4-6M/yr of power generation EBITDA coming on stream in 12 months. An analyst cannot afford to ignore its existence, & the valuation hedge that it provides. It is hard to make the case that price driven market substitution to lower grade RBK will hurt, when they have a significant new product in this LOB at the beginning of its product life cycle. Not recognizing that the segments trend may well reverse, & soon, could be a career limiting error. It is hard to argue that the high industry leverage ratio applies to them too when they are cash heavy, their leverage is trending down & is probably at/near the record industry low. If anything, they should be terming out &/or taking on new debt at today’s record low rates. The negative is that < $5/share, FBK is difficult for most institutions to trade. Impossible to take an activist role to force a break up &/or an acquisition, & hard to acquire any meaningful float without driving the price up. In practical terms, you can only buy & hold, & most institutions cannot buy because the price is <$5/share. Their competitors may be dogs – but at least you can trade them! Hard to see why the price would not rise to about the average cost base of the institutions holding it, as the restructuring risk has effectively gone. Long term there needs to be a share consolidation, but we don’t see it happening until the power generation is on line. SD

Nice to see the results of all the changes finally get traction on the financials. http://www.fibrek.com/static/en/PDF/infoFinanciere/rapports_de_gestion/2011_3Q_MDA.pdf Keep in mind that the new RBK product is probably a higher margin product, it hits the market this quarter, & most buyers would probably prefer volume under cost plus pricing if the product is a hit. The losses on the LOB are unlikely to continue, & the business risk is likely to continue declining. Power generation commences 12 months out & is proceeding as planned. Most folks will recognize that the future earnings stream will need to be PV'd into the 1 yr forward earnings projection, & that the closer we get to generation the higher the PV impact will be. Pulp prices have to soften by > 30% to offset the hedge from that future power generation. Elegant. SD

Today’s Lifeco purchase is for positive carry. Simply buying MFC common with 60% margin @ 4.25% will produce a net yield of > 4% on the equity invested. Captures spread & appreciation, but creates an exposure to higher margin rates & a possible dividend cut. Not popular, & over the medium term the Lifeco may not do so well, but it is not really relevant – Brand Name & Quality is. IE: MFC: Take the closing price on its first day of trading, adjust upwards for inflation, & compare it to the price today. Is the 12 yrs of intervening business growth in a name plate OSFI regulated company - really only worth a premium of 11%? SD