Wednesday, October 7, 2009

Interim Updates

Investors commonly rely only on quarterly and/or annual reports to evaluate a company. But occasionally, companies will issue press releases or interim reports that can be valuable. Important and material information is often contained in these reports, and investors can often use this info to determine whether things are going as expected. Consider Quest Capital (QCC), a mortgage lender with very little leverage.

We discussed Quest as a potential value investment three months ago. For this stock to realize its price potential, one of the key success factors is that loan losses (i.e. mortgage debts that customers can't pay) do not come in well below management's estimates. The company has stopped issuing new loans for the most part, so if things are going as planned, cash should be coming in at a decent clip, adding to the company's safety and liquidity.

Last week, the company issued a release with some details describing its intentions towards its preferred shares. First of all, the company declared that it has paid its quarterly preferred dividend in cash. While this may seem non-newsworthy, the company actually has the option of paying this pref dividend in common shares, and it did so just two quarters ago. The fact that it has paid cash for the 2nd straight quarter suggests the cash flow situation is under control.

More significantly, however, the company also described some details with respect to restructuring the terms of its preferred shares. The company paid an upfront cash fee (again, suggesting its cash flow situation has improved) to lower the dividend it now has to pay on its preferred shares and for the right (but not the obligation) to redeem its preferred shares early. The pref dividend was 13.5% (now 12.75%, to be lowered to 12% in three months), as these shares were issued at a time when the company was in dire need of cash. But the fact that the company appears to be focusing on reducing and redeeming these preferred shares for cash suggests that the cash flow situation appears under control.

With the info provided by press releases and interim reports, investors can fine-tune their assessments of a stock's value that was likely primarily derived from the company's annual and quarterly reports. Subtle or not-so-subtle hints in such reports can help confirm or deny an investor's thesis.

Disclosure: Author has a long position in shares of QCC


Anonymous said...

Hi Saj,

I recently picked up some Quest Capital which I came across on your site, so I am obviously biased.

Their results come out next week. For me, it seems a good risk-reward on the back of recent press releases and big picture thinking:

1) Valuation - big discount to book

2) Property prices in Canada are back at/near time highs - so unless they're complete fraudsters/incompetent it seems unlikely that they would lose much money on their NPLs even if the loans don't start performing again.

3) When they ran into problems a while back they announced a complete stop to all lending to focus on their crappy loans. In a recent press release, they announced they would soon resume lending, which implies an improvement.

4) Chairman bought a lot of shares back in December.

5) Company issued Pref shares back during the crisis - but has recently repaid all of it, presumably more evidence the monetization of loans has improved.

6) NPLs as you know are ridiculously huge, but they are not leveraged like a bank or they probably would not have made it this long. Given my point #2, I am betting they improve.

As you know the stock is not well covered - and I am hoping/betting their results reflect some of the above. If I'm wrong, I'm hoping downside will be limited - but the stock is quite illiquid.

Press releases can be found:

Insider dealing information on SEDI

Saj Karsan said...

Hi Anon,

I agree; I look forward to the results as you do!

Anonymous said...

this was an interesting morning - the results were disapointing from my point of view cuz I was hoping for positive surprise and upward surge in stock.

Sold out of 2/3 of my position at entry cost. And now I see the stock is holding and I am emotionally a little more detached. There does not seem to be panic selling,

Results net net were OKish I guess. I would have liked to see improvement/reduction on enormous NPLs - but maybe I was too early in the cycle. We already knew about pref shares being paid down. Nice to see the bank debt paid down as well.

The one thing that I like seeing in the notes was their estimate of the collaretol value of NPLs. If this recovery in economy/property prices holds, that could likely mean write backs.

i guess the way to think of this thing is you're buying a loan book at a 30% discount to net face value, where enough provisions have hopefully been taken. And they seem to be buying back shares. What thinketh you?

Saj Karsan said...

Hi Anon,

I agree, I would have liked to see more cash receipts resulting in more buybacks. Nevertheless, cash has been coming in at a decent rate and should continue to do so, so I still like the situation due to the large discount to book. I am, however, disappointed by the option handouts.