On Taxing Duties

Mark 2017 as the year that voting rights began to matter once again.  The trend began many years past with the separation of share classes, and it imagined an inevitable future in which equity ownership was docile, impotent, and utterly passive.

Exhibit A of our new dawn was the IPO of Snap’s voteless shares.  Following the observed path of its tech brethren–Google, Facebook, et al.–it tried to do one better.  Why yield public investors any votes at all?  For its youthful boldness, the index overlords exacted their punishment, thereby abandoning it to that lurking nemesis from over the sea.

Let Exhibit B be the thinly veiled boardroom battle at Uber.

And for Exhibit C, I present Liberty Tax (Nasdaq: TAX), controlled by founder and “former CEO” John Hewitt.  Amid this particular boardroom battle, Mr. Hewitt’s voting rights have afforded him delicious privilege.  Namely, the privilege to “[engage] in an array of inappropriate conduct, both personally and involving business matters, while serving as Liberty Tax’s CEO and Chairman,” and continue to control the company despite the Board’s attempts to terminate him.  In this case, when the dust ultimately settles, Liberty will have lost the service of at least four Board members and two company executives.

Take sides as you must, but do pay homage to the personal sacrifices demanded by the skirmishes of this grand conflict.

On this day may Liberty’s minority shareholders yield gratitude for John Garel’s service.

Disclosure: No position.

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Joe Papa Gets Paid(?)

If a tree falls in the woods, does it make a sound?

If Valeant’s stock falls to $11 per share, did he really get paid?

The WSJ ran an article yesterday detailing the 2016 compensation of Valeant’s CEO Joe Papa.  I suppose the Editor’s thinking ran something like this: 1) its proxy season, 2) I’ll task an intern to find high CEO compensation even though the company’s stock price is low, 3) provoke reader outrage, 4) bring in the eyeballs, and 5) … profit?

Seems a decent strategy and allows abundant storylines.  It teases with envy.  It challenges the scales of justice and that old yarn about “pay for performance.”  Mark this reader intrigued–they hooked me.

Of course, when I looked at the proxy, the evidence there made it difficult to sustain that “Valeant (VRX) CEO Joseph Papa made $63 million in pay last year, according to documents the former pharma darling filed Thursday with regulators.” (CNN)

Yes, p. 57 does show that neat table with the Total Compensation figure — $62,717,846.  Case closed, right?

Perhaps, if you are that brand of journalist who tweets, baits clicks, and makes myths.

Yet, in this case, the proxy notes reveal some truths that may be even more interesting than standard fiction.

Of the $62.7 million, $8 million was “to compensate [Papa] for equity-based compensation he forfeited in connection with the termination of his employment with Perrigo.” (54)

$52 million of his compensation was comprised of stock and option awards.  And there are three components: PSUs (performance stock units), RSUs (restricted stock units), and options.  All vest at various intervals over the four remaining years of Papa’s current contract.

Interestingly, the 933,416 PSUs (valued at $29.8 million) “will vest on the fourth anniversary of the commencement date based on the achievement of the following share prices… : (a) if the share price on the vesting date is below $60, none of the PSUs will vest…” (54)  Suffice it to say that a share price of $60 is a long way from today’s $11.

The 373,367 RSUs (valued at $12.1 million) “will vest on the fourth anniversary of his commencement date subject to Mr. Papa’s continued employment through the vesting date…”  Four years is a long time in public equity markets, but suffice it to say that $VRX needs a much higher stock price than today’s to reach the RSUs’ imputed value.

Lastly, the 682,652 options (valued at $10 million) “will vest as to 25% of the total award on each of the first four anniversaries following the commencement date, subject to Mr. Papa’s continued employment with the Company through the applicable vesting date.” (55)  Since the strike price on these options is $23.92, Mr. Papa again has some serious work to do to realize any compensation from these.

As an additional footnote, recall that “Mr. Papa was required to purchase $5,000,000 worth of Common Shares by no later than the first anniversary of his commencement date. Mr. Papa has satisfied this obligation.” (54)  Based on his disclosed share count (202,000), it seems Mr. Papa paid roughly $24.75 per share for his initial stake.  Papa’s first year of employment then was rather expensive for someone “paid” so much; that fickle Mr. Market dinged him roughly $3 million for his “show of confidence.”

All in all, I will not disagree–Mr. Papa will do very well for himself if Valeant’s stock price ascends above $60 per share.

Of course, if that price stays around here, or if it only manages to double in the next four years, it would seem that Mr. Papa was not actually paid his $62.7 million after all.

Disclosure: No position.

Warren Buffett Loads Up on Apple

So… I guess you’re telling me it’s over.apple

Alice Schroeder’s opus The Snowball recalls a story about Benjamin Graham, Warren Buffett’s teacher and mentor.  The year was 1956, and Ed Anderson–a chemist who liked to coattail Graham’s investments–walks into the Graham-Newman office.

“Anderson had come in because he was thinking about buying another share of Graham-Newman, but he had noticed an oddity and he wanted to ask about it.  Graham had loaded up on shares of American Telephone & Telegraph.  It was the least Graham-like stock imaginable–owned, studied and followed by all, valued fairly, with as little potential as it had risk.  Was something going on? he asked Warren…

From watching the firm’s trading patterns and keeping his ears open, [Warren] had already figured out that Graham was going to shut down his partnership.” [199]

Fast forward to 1968… After a epic run managing the Buffett investment partnerships (a “1 in 1 billion event”), the last chapter of that story eerily finds Buffett also purchasing shares of “the blandest, most popular stocks that remained reasonably priced: $18 million of AT&T…” [316]

Of course, the clearest analogue to yesteryear’s AT&T has to be today’s champion and market behemoth–Apple.  To note on this day that Buffett has loaded up on 40 million shares of $AAPL leaves this investor with a sense of foreboding…

If the pattern is to repeat, I guess something has now reached an end.

Disclosure: As of today, I am long Berkshire Hathaway shares and short call spreads in Apple.

Pioneer Energy Services Unsecureds

Today’s post repeats many of the themes from our last.  A company in the energy sector?  Check.  Plenty of unsecured debt outstanding?  Check.  Unsecured trading substantially below par?  Check.  Revenues down nearly 50% YoY?  Check.  No signs of relief on the horizon… check.

“Pioneer Energy Services Corp. provides drilling services and production services to a diverse group of independent and large oil and gas exploration and production companies throughout much of the onshore oil and gas producing regions of the United States and internationally in Colombia. We also provide two of our services (coiled tubing and wireline services) offshore in the Gulf of Mexico.” (latest 10-Q)

Pioneer has a secured $350 million Revolving Credit Facility with Wells Fargo at present, with $110 million outstanding as of 7/30/15 and $21.3 million in committed letters of credit.  Borrowing availability as of July 30th was $218.7 million, and Pioneer was in compliance with all the covenants under the facility, which matures in Sept 2019.

Pioneer also has $300 million of senior notes outstanding which bear a coupon of 6.25% that mature in March 2022.  These notes Mr. Market currently values at roughly 60 cents on the dollar.  Similar to Cloud Peak, the market value placed on Pioneer’s unsecured debt is less than the availability on their credit line.

On the equity side, Pioneer had 65.5 million shares outstanding as of July 15, 2015.  After talking a $71 million pre-tax impairment charge in Q215, the company has a book value of $406 million at 6/30/15.  At today’s $3 per share price, Mr. Market values the equity a bit below $200 million.  (For those so inclined, it would appear there is no cost to borrow.)

Pioneer does have some capex commitments for the remainder of the year, roughly $65-75 million, to acquire “five new-build drilling rigs, nine well servicing rigs, eight wireline units, routine capital expenditures and certain drilling equipment which was ordered in 2014 but requires a long lead-time for delivery.” (30)  Pioneer did show $63 million in cash on the balance sheet at 6/30/15, and they are actively marketing some idle rigs for sale.

In the recent Q215 results conference call, management candidly described the challenges for Pioneer in this low energy price environment:

“…it is a soft market and there is not a lot of demand, there is not a lot of demand in drilling. And I think that it’s building for a definite recovery probably beginning in 2016 if not at the end of the year, but it’s probably going to be slow and we have got to manage our business as if it’s going to be slow and lower for longer and keep our cost structure tight and that’s what we intend to do.  So, I think we are anticipating a little bit more pain in the third quarter…”

Not exactly a ringing endorsement.  As Dr. Michael Burry might say… ick.

Disclosure: I own some of Pioneer’s 6.25% 2022 unsecureds.

Cloud Peak Energy and Coal Valleys

From Dr. Michael Burry’s School of Ick Investing today I have a one-time, g78151bai001exclusive offer for you… a coal miner… aptly named… Cloud Peak Energy.

Cloud Peak enjoys the privilege of being one of the only U.S. coal “pure plays” with a share price greater than $1 (as of 7/24/15).  With 61 million shares outstanding, at today’s $3 per share, it carries a market cap of roughly $183 million.

Perhaps more interesting to me though is Cloud Peak’s unsecured debt.  Its 6.375% 2024 bonds have offers near 62 (with $200 million outstanding).  And their 8.5% 2019 bonds show offers near 70 ($300 million outstanding).

So it would seem that Mr. Market values the enterprise, based on its publicly traded securities at $183mm + $124mm + $210mm = $517 million.

Based on Cloud Peak’s Q1 EBITDA, that valuation may not yet be entirely compelling.  Yet…

“As of March 31, 2015, no borrowings were outstanding under the credit facility and we were in compliance with the covenants contained in the Credit Agreement.  Our aggregate borrowing capacity under the Credit Agreement and the A/R Securitization Program was approximately $539.9 million at March 31, 2015.” (42)

So the market value of the enterprise today is less than their availability on the credit line.  A rather rare occurrence in today’s markets.  But it’s coal… ick.

Disclosure: No position.

Payday for Kingsway

I’ve been following 1347 Property Insurance Holdings since their spinoff (or better, “IPO“) from Kingsway Financial Services in the spring of last year.  After all, it appeared as veritable catnip to the enterprising value investor–a spinoff, insurance float, aspirations of growth…

Initial plans included expanding 1347’s Louisiana property and casualty insurance business (“Maison Insurance Co.”) to include “Texas, Hawaii, and/or Florida during 2014.” (49)

A secondary offering followed quickly on the heels of the initial offering and raised $23 million more in June (PR).

Unexpectedly, the Florida market proved resilient to entry, as “1347 Property Insurance Holdings, Inc. notified the Florida Office of Insurance Regulation (the “OIR”) of the Company’s intent to withdraw its initial application for a de novo, wholly-owned subsidiary to seek a certificate of authority to write insurance policies in the State of Florida…  The Company may choose to re-submit an application to the OIR in 2015.” (8-k)  No official word yet on progress in Texas and Hawaii.

Admittedly the story of 1347 would seem to be only in its first chapters, which is why I was surprised to see Kingsway recently terminate its management services agreement with 1347. (PR)

1347 though was kind enough to ease Kingsway’s departure, offering $2 million in cash, $3 million in 8% preferred stock, a performance share grant agreement worth 100,000 shares of PIH, and 1.5 million warrants to purchase PIH at $15 per share.  That is no small gift for company with less than $50 million in equity.

It does leave one to wonder though–what services will 1347 now be foregoing?  With some digging, one can find a brief description of the management services agreement: “On February 11, 2014, we entered into a Management Services Agreement, which provides for certain permanent services, unless terminated, that we will receive from 1347 Advisors, including forecasting, analysis of capital structure and reinsurance programs, consultation in future restructuring or capital raising transactions, and consultation in corporate development initiatives. For the services performed, 1347 Advisors will be paid a monthly fee equal to 1% of our gross written premiums, as defined in the Management Services Agreement.” (63)

Going forward though, that monthly fee to Kingsway would decline if Kingsway ever sold 50% of its common shares.  As they say: “After the seventh year of the term of the Management Services Agreement, should the ownership of our shares by KFSI or an affiliate or subsidiary thereof fall below fifty percent (50%) of KFSI’s (or an affiliate or subsidiary thereof) ownership of our shares at the close of our initial public offering, the monthly fee shall be calculated by (a) dividing the existing shares owned by KFSI (or an affiliate or subsidiary thereof) by the number of original shares owned by KFSI (or an affiliate or subsidiary thereof) at the close of our initial public offering, and (b) multiplying by 1% of our gross written premiums, as defined in the Management Services Agreement.” (63)

All told then, Kingsway has elected to forego 1% of gross written premiums in exchange for the cash/preferred/stock/warrant package.  I suppose it makes good economic sense for them, since 1% of $20 million premium would only amount to $200,000 per annum.

Disclosure: No position

BNCCORP’s 2014 Results

Some twelve months past we briefly profiled BNCCORP’s 2013 results. Casting aside the convention of geographic contiguity, BNCCORP, Inc. “operates community banking and wealth management businesses in North Dakota, Arizona and Minnesota, and has mortgage banking offices in Illinois, Kansas, Nebraska, Minnesota, Arizona and North Dakota.” (PR)

Initially it was the attractive price that drew my interest (uncovered frauds tend to provide such), but over the last few years, BNCCORP has also pleasantly surprised its investors with strong core banking results.  And 2014 offered more of the same.

As of 12/31/14, BNCCORP had a book value per common share of $18.28, and it produced a return on average assets and equity of  0.94% and 12.37%, respectively, through the year 2014.  Non-performing assets decreased to $317k at 12/31/14, compared to $6.7 million at 12/31/13.  For that performace, today’s buyer is willing to pay $15.75 per share, or roughly, .86x BV.

Last year I expressed some disappointment with BNCCORP’s modest loan book ($351 million in total loans at 12/31/13, vs. $436 million in securities), and the fact that they hadn’t yet redeemed their preferred stock and subordinated debt.  In 2014, progress was made on both fronts: the loan book increased to $408 million at 12/31/14 (vs. $449 million in securities), and the subordinated debt was redeemed in Q314.  Coupled together, these moves helped to prevent some of the net interest margin compression that peers have endured.

This year, one additional potential negative is the effect of lower oil prices on BNCCORP’s North Dakota loan book and demand deposits.  Though BNCCORP’s North Dakota loan book represents only $233 million of their $947 million total assets, it was the portion that many thought would offer the quickest and most profitable growth.

Disclosure: No position.

[P.S. On Seeking Alpha, Chris DeMuth has offered BNCCORP as his best long idea for 2015.]