December 21, 2015

On Monday, the S&P 500 was up 0.8% and Toronto was up 0.1%.

Canadian Western Bank was up 1.6% after announcing an acquisition of an commercial and equipment finance company that it believes will be quite accretive although not for several years. The initial payment is $30 million in shares and $19.5 million of cash. In addition another $70.5 million will be paid in future over the next three years contingent on performance of the business.

The great majority of the target company’s existing loans are off-balance sheet as they have been securitised and are not being acquired. It appears that what CWB is purchasing in the management team and its ongoing ability to generate new loans and also the renewals of existing loans which CWB will now fund. It appears that the majority of the purchase price is for goodwill although that is not entirely clear yet. If so, this is in contrast to CWB  which is trading not much over book value.

Up to 50% of the total contingent consideration may be settled with CWB shares, provided the share price at the time of issuance exceeds $30, with the remainder to be paid in cash.

I view this transaction as a positive event and something that suggests that CWB is confident about its finances and continues not to expect to run into a problematic level of loan losses.

The initial addition to CWB’s share count will be about 1.6%.

The market continues to value Canadian Western Bank’s rate reset preferred shares at what appears to be a low price and also to value Boston Pizza Royalties Income fund at a low price. I added to both these positions today.

The fear appears to be that Boston Pizza Royalties franchise revenue per share could decline. In its history since inception in 2002 this fund has only cut its distribution once and that was when Income Trusts lost their income-tax free status in 2011 at which time it also became eligible for the dividend tax credit. History suggests that the current distribution which generates a yield of over 7.6% will increase slowly over the years. However, it is true that a severe recession leading to sustained lower same-store sales could cause a decrease in the distribution. And if the recession led to restaurant closures exceeding restaurant openings then a distribution cut would be likely. The fund is currently not at risk for store closures as long as openings exceed closing since BP International receives new units for new restaurants net of closed restaurants. Anything is possible but I continue to think that this 7.6% yield is attractive.

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