Thursday, February 17, 2011

Envoy Capital: Now Trades For What It's Worth

Seven months ago, Envoy Capital was brought up on this site as a potential value opportunity. Today, the stock price sits some 60% higher, even though the value of the business has actually declined over this period. This was no fluke. Investors who paid attention saw a situation where upside potential clearly trumped downside risk, thanks to a massive margin of safety.

Envoy Capital traded for just $8 million despite net current assets of $16 million. Most of the current assets were in cash or various market securities. The company protected its portfolio to some extent by purchasing put options on the general market, which can be a drag on returns but adds a level of safety. In addition, the company has over a million dollars worth of real estate property in Toronto.

Management clearly recognized the disparity between the company's price and the value of its holdings. As such, it initiated share-buybacks and followed through on many of them, raising the value of each share in the process (thanks to the large discount to book value).

Furthermore, there were signs that the market value of the company's securities was worth more than its stated value. This was due to the fact that one of the company's holdings showed strong price appreciation before the company announced its latest results. Based on the company's price action, the market appears to have only caught on to this after Envoy's results came out, allowing astute investors the opportunity to profit ahead of time.

Finally, what gave the company's price its final push toward intrinsic value was a private sale of 19% of the company's shares to a new management team that is taking the helm. The price the major shareholder received in the transaction was $1.55/share, which is still far below the company's book value (as of its latest financials) of $2.18. However, the company also announced a restructuring of about $0.70 per share, most of which will likely take the form of cash payouts to the ousted management, since the company doesn't have a lot of fixed assets to write down.

As such, the private stock transaction took place at about the same price as the company's new book value after taking the "restructuring" costs into account, which is about what you'd expect. But the shares currently trade a little bit above that level, offering current investors the opportunity to get out at a fair price.

Over the years, shareholders in Envoy Capital have lost a lot of money. However, those who invested when the price traded at a significant discount to its value (which has been possible for most of the last year, including just last month) managed to make a ton. Now that cash should likely be pulled out and deployed towards the next opportunity.

Disclosure: No Position


Paul said...

Excellent work again, Saj. Congrats!

Water Investor said...

I had a problem with this one from the beginning. I ended up holding my nose and buying some but selling near year end after failing to reach the co. They recently reported closing their merchant banking business in Monte Carlo (?) and moving it back to Canada for a tidy sum of $5.2mln. First off, why did they move it there in the first place. Secondly, $5.2mln to shut it down when it was run/controlled by insiders of ECGI. Let me be the first to say that if this turns out to be a fraud or a conduit for stealing money, you'll have read it here first. -- yours truly,
The cynical investor.

Saj Karsan said...

Thanks, Paul!

Hi Water, I agree that the situation smells. I surmise that the new management team (at no expense to themselves) got the existing shareholders to pay the old management team to get lost (in the official form of non-compete agreements, contract termination consideration etc.), and that's what this Monaco restructuring is really about. The new management team then buys in at book value, and gets a fresh start at earning some returns for themselves.

AT said...

New CEO buys 1.2M shares at $1.55.

Today, three other new insiders report buys total 440,000 at prices between $1.55 and $1.60.

Yesterday, an insider (by definition because of the size of the trade) bought 450,000 shares at prices between $1.65 - $1.70.

Trading at just over net-net, valuing the branding business (of which the UK branch was sold for $27M in 2006) at zero, with massive insider buying equaling over 1/4 the entire outstanding share count.

And it's time to sell?

Saj Karsan said...

Hi AT,

While I agree that usually insider buying is a good sign, in this case it looks like it's just new managers taking a stake in the company. The discount to book value is likely gone, so unless you believe these managers have special abilities, you are probably better off investing in undervalued companies.