Saturday, November 27, 2010

Moose Hunting - Down Markets

We'll we made it back and were successful in harvesting a young bull moose.  Missed another.  Saw several other moose, so overall it was a very successful hunt.  Some other hunters shot a bull moose 250 yards from our cabin the day before we got there.  We definitely hunt in a fantastic area. 

I though it was going to be cold up there as temperatures were around -25°C (-13°F) overnight, and only reached about -18°C (0°F) during the day.  I was worried we were going to freeze to death but marching through 2-3 ft deep snow definitely keeps your heart rate up. 

Tuesday I got on a fresh set of tracks and walked for 2 miles with only a fleece coat over a long sleeve t-shirt.  Stayed plenty warm, even sweating.  Even at night, it's amazing how warm you can stay in a really good sleeping bag. 

Well, it looks like I didn't miss much on the markets during the past week.  Hopefully investors get even more scared about the European debt issues with Spain and Portugal.  I know most investors don't like falling markets but you really shouldn't care what your portfolio does in the short term.  I am very patient when I purchase anything and stocks are no different.  I love a good deal and when I see one I whip out my cheque book.  Parting with cash is difficult for this investor unless I feel I am getting a really good deal.  What I paid for our acreage would be a great example, and I nearly walked away from the deal.  Regardless, it's now worth 4 times what I paid for it. 

Bring on lower prices.  Perhaps it will be a Merry Christmas on the markets this year!


Best Regards and Go Riders,

Kevin

Saturday, November 20, 2010

Moose Hunting - Value Investing

Just as an update, there will be no posts for the next week or so as I will be gone hunting. 

We are all packed up for another adventure into the northern forest to hunt down big bull moose.  We may also take down a whitetail deer if the opportunity presents itself. 

No running water, no toilets, no showers... just snowmobiles, a wood stove, and high powered rifles. 

Hunting and value investing do share a number of common characteristics.  You have to be very patient, survey your surroundings carefully, you have to watch for signs, and often sit inactive for long periods of time.  Often you have to pass over several animals before finding the right target.  Sometimes you have to be quick to the draw or you'll miss a great opportunity. 

Quite often patience is rewarded and you can land a trophy.

In the meantime, if you are looking for an outstanding business selling for a reasonable price I would really suggest reading up on Wells Fargo.  Between Warren Buffet and myself we collectively own 17% of the company.  When Buffett first made his initial purchase of Wells Fargo back in 1990, it was for at or around book value.  Today it sells for a slight multiple to book value.  Compared to other banks it is in a league of it's own.  Net interest margin is the highest amoung large banks and historic ROE is between 18-20%.


Best Regards,
Kevin Graham

PS. I also think there is a good possiblity that Wells Fargo will increase it's dividend in early 2011.  They have dramatically inceases their capital ratios over the past year because of the lower dividend rate. 


Disclosure: I own shares in Wells Fargo.

Wednesday, November 17, 2010

Bill Miller Q3 Letter - Listen to Buffett

I recently read Bill Miller's Q3 Commentary.  I know most everyone has written Bill off as a decent investor becuase of his bad bets prior to the financial meltdown.  Here are what I consider the highlights of his Q3 letter to investors. 


The economy is expanding, liquidity is ample, inflation is under control, profits are growing rapidly and are set to pass their all time high, nominal GDP is at its all time high and real GDP will have fully recovered to its all time high within a quarter - two at the most, profit margins are at record levels, and  orporate balance sheets are the best they’ve ever been, yet stocks languish below where they were in late August 2008, and that was hardly a bull market.


One of the most remarkable things about the investing world is how (correctly) venerated Warren Buffett is and how completely people ignore his investing advice. Since Mr. Buffett has made more money than anyone in the history of the planet solely through investing, one would think that when he says quite clearly what to invest in, people would pay attention. I guess they do pay attention, they just do the opposite. In 1974, near the bottom of the market, he said stocks were so cheap he felt like an over-sexed guy in a harem. In 1999, near the top, he opined that stocks would see returns way below those experienced in the bull market up to that time. From the time of his comments in November 1999 to the end of October 2008, stocks fell over 2% per year. In October 2008, again near the bottom, Buffett published an op-ed in the New York Times entitled, “Buy American. I Am.” telling people to buy American stocks. They promptly accelerated their selling. On October 5


What will bring the public back to stocks? The same thing that always does: higher prices.


The reason for this is that investors practice what I call rear view mirror investing.  Look at the recent history and invest in what has done well the past few years.  The truth is investors would be better served to look at poorest performing sectors of the past ten years and invest there.

Large cap stocks have returned zero for the past ten years and investors shun them for that reason.  To see exactly what I am talking about take a look the valueline investment survey for the Dow 30 (Valueline offers free analysis for the Dow 30, click here).  Take a look at Walmart, Cisco, HP, Microsoft or Johnson & Johnson.  Their balance sheets are rock solid and most are sitting on billions in cash.  These are solid companies that earn very high return on equity, and pay large dividends.  Tell someone that Walmart has more than doubled sales in the past ten years and they look at you funny, and say "really".  Combine the sales growth with the share buyback and improved margins and it adds up to earnings growth of 13% at Walmart for the past ten years.  Incredible. 

If you want a cheap way to and less risky way to bet on the oil markets, Chevron and Exxonmobil sell for single digit P/E's and both have negligible debt (net of cash).  Both companies aren't nearly sexy enough (or risky) for most investors.  Exxon is extremely well run, and have returned significant amounts of cash back to shareholders in the form of dividends and share buybacks.  Both have earned very good returns on captial over the long haul.  Just remember the price of oil is the major driver of these companies. 

Lastly, it is important to act like a business owner when investing in any company.  If you pay in excess of book value you better make sure you understand the value of the intangible assets you are paying for.  If not, you may record a "goodwill" writedown of your investment in the future.

So the choice is yours.  You can either live in fear or seize the opportunity to buy high quality large cap stocks trading at reasonable levels today. 




Best Regards,
Kevin




Disclosure:  None positions, except JNJ in an account I manage for a family member. 

You can read the rest of Bill Miller's Q3 Commentary:
http://www.lmcm.com/pdf/miller_commentary/2010-11_miller_commentary.pdf

Sunday, November 14, 2010

Wells Fargo - Profits, Do They Matter?

Just a quick follow up from my previous post regarding profits. I was told that I didn't understand profits. In response I offered a simple formula to person who made the comment. It was,

Revenue - Costs = Profit.

Now some companies understand that formula and some don't. Some companies can control the revenues, while others cannot.  I believe all companies can control the cost part of the equation.

The best management of any business strive to minimize costs and maximize profits.

If I could quote from the 2008 Wells Fargo annual report to shareholders.

Our revenue grew 6 percent, and our expenses declined one percent — the best such revenue/expense ratio among our large peers, and the one we consider the best long-term
measure of a company’s efficiency.

• Our return on equity (after-tax profit for every shareholder dollar) was 4.79 cents for every dollar of our shareholders’ equity, best among our large peers.


Now those are wonderful words to read from any CEO in which you own shares.  Maximizing revenue while lowering costs, it all adds to higher real returns for the shareholder.

Don't let anyone tell you investing is difficult, like some who have commented here make it out to be. They liken investing to panning for gold, or a search for buried treasure. It has far more with understanding your assumptions, focusing on real returns, and a consistent operating history. I'm not saying there isn't value in the panning for gold technique but you have to understand your assumptions, accounting, and risks involved.

Futhermore, degree of difficulty doesn't matter in investing. Temperment does. Investing within your circle of competence does. I find it amazing that many value investors don't understand what Buffett means by the circle of competence comment. Personally, I take it to mean more than avoiding technology stocks, but understanding and minimizing your variable/assumptions.

Finally I leave you with a quote from Wells Fargo's 2009 annual report. I highly recommend reading the letter to shareholdes for the last few years if you haven't read them already.

Where does the bank stop and the community begin?

How have we been able to grow earnings and capital internally, and become even stronger, even while building a storehouse for credit losses of almost $25 billion? It’s because our business model doesn’t run on just a few sources of revenue or even 20 or 30 sources of revenue, but on more than 80 different businesses across financial services. It’s because our loan portfolio is diversified across many different industries. It’s because we’re not geographically concentrated in one region, but serve
70 million customers across North America. It’s because of our time-tested credit discipline. It’s because we have the deepest, most talented, most experienced and people-focused team of senior leaders in the industry. It’s because we believe our longterm success depends on our ability to help our customers and communities succeed financially.

And often overlooked, it’s because all banks are not created alike. We’re not a hedge fund disguised as a bank. We’re not a proprietary trader (which produces no customer benefit) disguised as a bank. Nor are we simply a mortgage company or an investment broker or an insurance broker or a credit card company. What we are at our heart is community-based, and relationship-oriented. We serve our customers online, on the phone or at our ATMs, and we welcome them into our 10,000 stores. We greet them on neighborhood sidewalks. We have breakfast with them at the neighborhood diner. We serve alongside them on local chambers, Rotary, nonprofit boards, at community events. We worship with them in churches, synagogues, mosques and temples. Many of our customers know our tellers by their first names, and we know them by theirs. We want our banking stores to be more than just storefronts, but like community centers where neighbors meet.  Call this old-fashioned if you like, but our customers can’t get enough of it. They wouldn’t trade it for all the hedge funds in the world. I could tell you a thousand real-life stories to prove this point. You can read about just a few beginning on page 24 of this Report and in our new Social Responsibility Report.



Management who understand and focus on customer service are the ones who will reap the largest returns.  Meet the needs of your customer in any business and your reputation & profits will follow.

Well if you can't already tell, I absolutely love Wells Fargo.  I plan on owning my shares for several decades.  The recent credit crisis has afforded an opportunity to purchase shares of Wells Fargo at very reasonable levels to book value.  The company can and will earn large profits, around 18% on equity, long, long after ATPG goes broke trying. 


Best Regards,
Kevin

Disclosure:  I own shares in WFC

ATPG - Final Comments

First off, I have made some changes to my Blog. Anonymous comments will not be allowed. If you want to comment you will need an ID. If you don't want your name attached to your comments you won't be able to leave them here.

Comments on Profit

Now, I seemed to have struck a nerve with my comments on profits (or lack thereof). One example is,

You suggested that OracleofMumbia "start your own company and learn the importance of profits." I pretty sure that he does, but he also understands how the industry and profits within it works. This is a skill that you seem to be lacking. Please reread his last post and try and learn something for a change!

Your right I don't understand profits.

Let's keep it simple.

Revenue - Costs = Profit

If revenue and costs are the equal you have not earned a profit. Do you make believe that profits exist in companies you own? Some people think investing is hard or complicated but it isn't. You want to own companies that earn large returns on capital and equity.

There is no such thing as a free lunch. All losses have to be paid for, either out of equity or increasing debt. You cannot defy economic gravity.

The OracleofMumbia said,

That said, your comments about "profits" are a bit strange. Most plays I invest in don't have them - or so low as to be virtually meaningless. The name of the game for early stage plays (juniors) is to reinvest cash flow back into operations and grow production - then comes profits, although they typically like to sell out at that point and repeat the cycle. The TSX Venture is full of guys making millions doing the same thing over and over.

Listen, I understand early startups do not earn a profit as overheads can be large, but you have to overcome that eventually (sooner than later to stay solvent). ATPG has been around for a while now, overpromising and underdelivering. Perhaps management will deliver this time and perhaps they won't. All I raised were red flags that investors can and should understand if investing in ATPG. The longs didn't even take the time to value the assets before making their purchases, they call it value investing.


Attention - Millions to be had over at the TSX-V

According to the OracleofMumbia everyone is making millions on the TSX-V. Whenever you hear comments like that run, don't walk, for the exit. It's almost as bad as the commercials on Sirius/XM 129 (CNBC). Those who listen know exactly what I am talking about.

The only ones making millions on the TSX venture are the promoters and financial engineers who know how to exploit the individual investor.

I really wonder what the Oracle of Omaha would think of your comments?


Asset Valuation

Now you can also own assets that don't generate profits, gold is an example. I know a lot of people who own shares in a non producing diamond mining company based in Saskatchewan (Shore Gold - SGF). I was asked by several people what I thought of it, and my initial reaction was I have any idea what the assets were worth. I have subsequently reviewed their NI 43-101, and the project is marginally economic with an IRR of 12.2%. Using a discount rate of 10% the NAV is $1.15/share. The project is borderline economic. Many people lost a great deal of capital on this investment.

As Buffett says, "the market like the Lord helps those who help themselves, but the market unlike the Lord does not forgive those who know not what they do."

Now here is the funny part. When I shared my findings with a fellow engineer from Edmonton he told me I was missing a whole bunch of their assets. Now doesn't that sound familiar...


Final ATPG Comments

Lastly, I made a mistake (not the first). I said in a comment last night that interest expense was $80 million per day for ATPG. It actually comes out to be $600k per day. Regardless, interest expense was 68% of revenue in the third quarter. Incredible!

I was also forced to amend my article on ATPG as it was disputed by one of the fanatics over there. I had only read the 10-k and the financial covanents had been removed. However many over there were stating that all covanents had been removed, this is simply false. The amendment can be read below.


Best Regards & Go Riders,

Kevin Graham



-------------------------------------------------
All information in the article was taken from the latest 10-K filing for ATPG. On April 20th, 2010 the BP Deepwater Horizon oil rig exploded. Then on April 23rd, 2010 the company refinanced its outstanding debt. Subsequent filings have shown that the financial covenants listed in the article (and the 2009 10-K) have been removed. However, the additional covenants were added and are discussed below. This information is from the latest 10-Q filed November 9, 2010.


The Notes and New Credit Facility contain certain negative covenants, which place limits on the Company’s ability to, among other things:


•incur additional indebtedness;
•pay dividends on the Company’s capital stock or purchase, repurchase, redeem, defease or retire the Company’s capital stock or subordinated indebtedness;
•make investments outside of our normal course of business;
•incur liens;
•create any consensual restriction on the ability of the Company’s restricted subsidiaries to pay dividends, make loans or transfer property to the Company;
•engage in transactions with affiliates;
•sell assets; and
•consolidate, merge or transfer assets.


As of September 30, total long-term debt totaled $1.8 billion compared to $1.2 billion and the end of 2009. The effective annual interest rate on the long-term debt was 12.3% at September 30, 2010. The notes and credit facility also contain some steep provisions for ATPG to repay the notes. The company states the cost of repurchasing up to 35% of the notes on or before May 1, 2013 at 111.9% of face plus accrued interest, if any. The loan shark obviously wants to ensure he gets paid well regardless of whether ATPG pays the debt back early or not.

Saturday, November 13, 2010

Cisco Systems - Big Drop

Wednesday after the closing bell, Cisco Systems announced their results for 2011 Q1. Revenue and earnings were in line with expectations, but projected revenue was down. The result? The stock got nailed with a 16% decline when it open on Thursday and is now down closer to 20%.

Personally, when I hear of a drop like that it gets my attention (similar to Manulife's (MFC) big drop after Q2 that also got my attention). I took a look at Cisco's past ten years and while the drop was large, it wasn't large enough to warrant action. Cisco has averaged 18% ROE over the past 10 years which is decent but the current price is 2.6 estimated year end book value.

I am a book value investor. As Walter Schloss stated, always use book value as the starting point when valuing assets. I don't mind paying a multiple to book value if the company has a consistent operating history. But in the case of Cisco I don't have that faith.

Warren Buffet doesn't invest in technology is because of the constant change that takes place. Change is the enemy of the investor. You cannot make any predictions about the future without some degree or assurance of stability. It is easy to look back over the past few decades and seek the constant change. Cloud computing is the latest paradigm shift and companies are constantly changing areas of focus. Oracle has now shifted into hardware.

Buffett understand how change in the industry makes the investment process very difficult. It adds to the assumptions you have to make. The only way you can pay a huge premium to book is by finding a company with an outstanding competitive advantage and generates high return on equity. This is what Buffett considers paying a reasonable price for an outstanding business with outstanding economics.

Manulife, as compared to Cisco, sells for book value and normally earns 13-14% on equity. Less than a couple weeks ago it was selling for tangible book value. It has a strong franchise in Canada and owns John Hancock in the USA. Their asian insurance business has been growing very fast. They have had some issues with reserving on some variable annuities but the company will get through the problems. I listened to one their Q2 conference call and I wouldn't consider management to be a huge strength, but not terrible either.

Now the insurance industry is a lot more predictable, but does carry some risks. With that said, Manulife appears to be a decent value at current prices and it will again someday sell for two times book value. Or to put it another way it's like buying Manulife for 6 times normalized earnings.


Have a Great Weekend,

Kevin Graham

Disclosure: No position in any stock mentioned.

Wednesday, November 10, 2010

ATPG - Caught the longs with their pants down?

We'll I just received an interesting link to a board over at the motley fool website. (If you posted the link at my blog please send me a quick email, I would like to talk to you.)

To begin I would like to address a few of the statements in ValuePEG's initial post.

ValuePEG states, "In Kevin's opening paragraph he states "I have never read any analyst reports nor have I read any comments by CanadianValue (a blogger was mentioned in the comment by Jason)". This was a bold face lie as he posted the following on his blog on Oct 23rd"

Please read the comment in context. I have never read any analyst's reports on ATPG and I have never read any of CanadianValue's comments on ATPG.

Continuing

1) ATPG hasn't earned a dime in profits as a corporation.

Bold face lie, not only has ATPG earned a profit based on GAAP rules in the past, more importantly they have been cashflow positive the last 9 months on a operating basis, as most investors look for in stocks in the E&P business


Dear ValuePEG, please learn how to read a balance sheet. As of the end of 2009 they had negative cumulative earnings. I'm sure if I looked at the latest quarterly it would be even worse. Secondly, No matter angle you look at the income statement a profit is a profit and a loss is a loss. Go ahead a use Cash Flow if you like but that is what they did with internet stocks back in 1999. Lastly, speak for yourself, but please don't speak on behalf of other investors.

And finally, "To toot my own horn the writer has 22 followers as of this writing here at SA, while I have 31 at MF CAPS"

Congratulations you are my hero, do you pat your own back regularly?

Then we have another commenter named Justmee1 ask Swizzled (Devin Shire aka CanadianValue) the following question.

"Swizzled,

And Morgus will move additional P UD reserves to developed reserves, raising asset values again 1H 2011? How exactly is the asset value calculated? (I presume that developed reserves are higher value, but how much higher?)"


And then we catch Devin with his pants down.

"I don't know enough about the calculation to offer an opinion."

Well finally some honesty out of Devin Shire (CanadianValue). He knows nothing about reserves, how they are valued and walks around telling everyone he's an expert in oil and gas.

And then we catch ValuePEG with his pants down.

"As far as how exactly it is calculated i couldn't state but it is obvious that PDP counts at a much higher rate then P.D.P." (I believe he meant PUD's)

Thanks for attempts to lecture me on ATPG. I am embarrassed I wasted my time discussing the stock with these guys. You both call yourselves value investors, yet you haven't determined what assets the company owns and tried to value them. It appears that these guys are attemping to determine how to calculate a net asset value over at the motley fool boards.

You can follow their ongoing discussion here:

http://boards.fool.com/re-sa-article-quotwhy-id-avoid-atp-oil-and-g-28879719.aspx?sort=whole

Have a great Remembrance/Veterans Day Holiday!


Best Regards,
Kevin

Peyto Energy Q3 Conf. Call Notes

I took the time to listen to the Peyto Conference Call that was today. As a long time shareholder, it was the same old news… working hard to generate maximum returns on every dollar spent.

I took three notes away from this call. The third is another competitive advantage that they focus on.

1) Taxes and converting back to a corporation. Peyto is converting back to a corporation at the end of the year. They have approximately $850mm in tax pools that will shelter income for three years. Obviously they will be spending more capex during that time and they estimate that will further push the tax problem out another 2-3 years.

2) I quote Darren Gee, “when I meet with investors I tell them we don’t want gas prices to go up.” Now that is incredibility ironic. You will never hear another O&G CEO make that statement. Obviously Darren wouldn’t mind the additional cashflow from the higher prices, but it will increase competition. Essentially, the low gas prices have created a monopoly for Peyto. They don’t have to worry about service cost inflation and they are earning very good returns at current prices.

3) Peyto not only wants to earn high return on capital, but they want to turn the capital expenditures around as fast as possible. Now a lot of energy investors could learn something here. Spending huge amount of money on land doesn’t generate any return till the first well starts producing. The strategy of buy up the hottest play (at huge prices), screw around for a few years doesn’t work and is a huge cost. If you can have the shortest turn around from capex to cash generation you minimize the period where capital is not earning but costing you.

Anyway, Peyto should be a case study for Harvard MBA’s. Their clear focus on maximizing returns while continually minimizing costs. What more can you ask from your management team?

As Warren Buffett has said the best management teams don’t show up for work one day and decide to cut costs. It should come naturally to them, just like breathing. At Peyto, they continually strive to cut costs in order to maximize returns.

They also just announced they are also raising $125 million in equity to accelerate their drilling opportunities. While I am not a huge fan of any company I own raising equity (unless grossly overvalued), I have full faith in Darren Gee (CEO) and Don Gray (Chairman & Founder) in managing the business.


Best Regards,
Kevin

Disclosure: Long Pey.un

Sunday, November 7, 2010

Why I'd avoid ATP Oil and Gas

I was asked by a comment on my blog by someone named Jason to comment on what I think of ATP Oil and Gas (ATPG - Nasdaq). I honestly don't know anything about the company other than one of my holdings, General Electric (GE), has had some dealings with them. I have never read any analyst reports nor have I read any comments by CanadianValue (a blogger was mentioned in the comment by Jason). I have read some of Canadianvalue articles but they contain little substance regarding returns on capital.

I took some time reading ATPG's 10-K and here is my quick and dirty.

1) ATPG hasn't earned a dime in profits as a corporation.
2) Their business model is feeding off the leftovers of the majors.
3) They have ran into some major financial difficulty (and the BP issues hurt them big time in GOM hasn't helped).
4) They are hugely leveraged as debt to equity is something like 5:1.
5) They borrow money at 12.75%. If that is what the bankers demand the company is basically up against the wall with a gun to their head.
6) If oil prices fall this company is toast.
7) It doesn't take long to see why short interest in the stock tops 50%.

I personally hate losing money more than I like making it. Now that makes me ultra conservative so I wouldn't touch ATPG with a ten foot pole. If oil prices fall you will lose your entire investment (even if they are hedged). I would never take such a risk.

To be fair I asked an opinion of a fellow blogger who is long and this is what he wrote me in an email.

I'll just bullet a quick rundown of all the positives and negatives for ATP now:

Negatives:

- Very high long-term debt with a high interest rate that gives them high fixed costs, and an even higher rate of future borrowing.
- Management is continually over promising and under delivering. The good news is they have become aware of this finally, and have begun to withold projections. If you say a well will be 7-10K barrels and it's 6.5K the market gets mad. If you say 5-7, that is a surprise; I believe the light bulb went on based on recent conference calls.
- At the mercy of Washington and future regulations. (Their drilling rig the Titan is state of the art, their management spent most of the summer in Washington teaching the politicians things about safety, and new regulations have been based on the Titans structure).
- If one of their wells turns out to be less than desired stock will sell off really quickly (98% success rate in developing their wells).

Positives:

-Daily production started the year at 13.5K barrels per day and it's currently around 30K (will find out more at tmw's conference call at 11 AM).
- A couple smaller wells are expected to be brought on prior to year end.
- When they receive permits to drill their next two Telemark wells that will be a catalyst, and there will be some short covering.
- Have hedged 1/3 of next year's oil production in the low 80s. I expect/hope that they have hedged a lot more since oil has entered the mid 80s.
- They have about a 65-35 mix of oil to natural gas in their wells; natural gas prices are finally rebounding.
- Entrada: They bought this for about 200K which judging by the excitement in management's voice should be a location for future production growth sometime around 2012/2013.
- Their Octabuoy right is already monetized which will give them new production in the North Sea in 2012.
- No financial covenants on their most recent debt.
- Capital expenditures are fully funded for 2011 based on the Titan Monetization: They do not sound as if they will need to take each of the last $50 million draws, but the money is there if they are short on cash.
- I have them cash flow positive with 32K barrles/ day at $80 oil and $4 natural gas; I feel like they are there, and have the production growth to stay there and in 2012 start to pay down that debt.


The only point of Kyle's that I wouldn't agree with is the point on the finacial convenants on the debt. They actually have a number if you read the 10-K. I quote from page 48 of the 10-K.

Covenant Requirement during the
Amendment Period (4)

1. Minimum Current Ratio (1)(5) Greater than 0.8 to 1.0
2. Ratio of Net Debt to EBITDAX (2)(5) Less than 4.0 to 1.0
3. Ratio of EBITDAX to Interest Expense (5) Greater than 2.0 to 1.0
4. Ratio of PV-10 of Total Proved Developed Producing Reserves based
on future prices to Net Debt (3) Greater than 0.5 to 1.0
5. Ratio of PV-10 of Total Proved Reserves plus 50% of Pre-tax Probable
Reserves based on future prices to Net Debt Greater than 2.5 to 1.0


If you read the 10-K it also explains how they are just barely keeping these amended convenants. Secondly, guys like CanadianValue might believe the total proved reserves don't matter but they definitely do to the bankers. To be a successful investor you must think like a banker.

My Summary

Now, I don't understand why so called "value investors" continually go for high risk investments like this. This one has red flags all over it. I have an investment checklist that I use and let me highlight a few on ATPG for the readers.

1) Is the business simple and understandable?

Definitely not. Now it would take significant time to breakdown what ATPG actually owns. They have sold off royalty stakes in all different areas of their business. It is definitely one big mess.

2) Does the business have a consistent operating history? NO

3) Does the business have favorable long term prospects? Not Easily Determined.

4) How much income tax was paid last year?

Now this one is interesting because oil and gas companies can shelter taxable income with drilling tax pools. If you do own an oil and gas company and they have never paid any income tax that is an immediate red flag they aren't earning any returns on capital. Now small startups can shelter income tax if capex continually creates tax pools, but you much be able to read the financial reports accordingly.

As for ATPG, I already mentioned they haven't earned a dime in profits over it's history. Enough said.

5) What is the EBIT/Enterprise value? Zero.

6) How much leverage does the company employ? Way, way too much. Personally I hate debt, both personally and in businesses I own.

Now I could go on but I don't feel it's necessary. Why do investors feel like they have to jump through so many hoops in order to justify an investment? As Warren Buffett has said, "degree of difficultly doesn't matter in investing." If you followed Buffett's policy of 20 spot punchcard for your allowable investments in your lifetime would you waste a punch on ATPG?

This investment can't be explained on the back of a napkin, doesn't earn outstanding return on capital, doesn't have any competitive advantage, and it has a terrible operating history.

I'm sorry I have to stick to my guns and toss this one to the too hard pile (and I would add not worth my time anyway). This is where I scratch my head and ask where are the true value investors?

I previously have posted nine stocks on my blog that should return 10-15% per year for the next 5 years quite easily regardless of factors like where oil price will trade in the next few years. I will add that some have moved up substantially this past week so use your own judgement.

If you feel you are a value investor and take Buffett's investment strategy seriously please comment as I am deperately interested in meeting some fellow value investor over the internet. Comment Below or send me an email.


Best Regards,
Kevin


To read Kyle's Blog Click Here

Friday, November 5, 2010

BAC Warrants - (Huge) Opportunity?

Does anyone else out there believe that the Bank of America (BACP Class A warrants represent a huge opportunity?

Here is the quick and dirty.

The Class A warrants have a strike price of $13.30/share. The warrant expires January 16, 2019, very long dated. These warrants closed today at a price of $7.05/warrant. Each warrant is good for one common share. The strike price is adjusted downward for any dividends above $0.01/share on the BAC common.

Now if I do the math, in order to make a positive return the stock price of Bank of America needs to be above $20.35/share in January 2019 to breakeven. Given that book value is approximately $21.70/share for BAC, this is basically a bet that BAC will trade for the current book value in 2019. Additionally the warrant strike price will be adjusted for dividends above $0.01 between now and then.

Now that is a bet I am more than willing to make.

Today, nobody is willing to purchase BAC, or many other US bank. We could discuss all of the problems with mortgages, loss of revenue due to recent service charge changes, etc. Obviously the problems with mortgages will haunt them for the next couple years, but after that they will do fine. They are a large, profitable bank that is capable of generating a decent ROE, but by purchasing for half of book value you are giving yourself plenty of room for error. Uncle Sam is pumping the liquidity into the system right now, and banks have rallied this past week.

Hats off to Francis Chou for this idea from his semi annual report (link below). He purchased 1,200,000 BAC Class A warrants for $8.54/warrant. Like I mentioned they closed today for $7.05/warrant. I was lucky enough to buy some for much less over the past couple weeks.

Any thoughts?


Best Regards,
Kevin


Disclosure - I own a boat load of these BAC Class A Warrants.

http://www.choufunds.com/pdf/SA10%20pdf.pdf

Original Investment Idea - Peyto Energy (Part 1/Part 2)

In order to make money in any commodity type business there is only one competitive advantage a company can have, and I believe Peyto (TSE – PEY.un) has got it by a mile.


What is that competitive advantage?


To read the rest of the article Click Here for Part 1

To read the second part of this article Click Here for Part 2