The other day I had a pretty good idea. It is similar to the thesis for investing in spin-offs and re-organization securities.
The government of Canada recently implemented a tax law that removes the preferential tax treatment of income trusts, which were previously untaxed at the corporate level. Without the preferential tax treatment, financially, these "businesses" are better off under the corporate structure. And as of 2011 they must all be converted to the corporate structure.
These trusts were typically held because of their high annual cash distributions yields. When these trusts convert to the corporate structure they will either cut the dividend drastically in order to keep cash in the business or change to growth oriented model in which the dividend is cut completely. What happens here is that all the pension funds, insurance companies and dividend mutual funds that had owned units in these trusts are forced to dump the units because they must hold income paying securities. The forced selling causes downwards price pressure and the price becomes disconnected from the underlying value of the company. This is an attractive purchasing opportunity; eventually the market will weigh the proper value of the company and will be reflected in the per unit price.
SG
Saturday, June 6, 2009
Friday, June 5, 2009
Being right for the wrong reasons -- XTENT Inc. (XTNT)
On May 15 XTENT Inc filed a preliminary proxy form stating the company's intention to liquidate and distribute all remaining assets to shareholders. The estimated liquidating distribution was 0.11 to 0.40, quite a wide margin. I bought this stock on May 17 for 0.30.
A look at the table stating how these numbers were estimated showed that the only major divergence was in a category called "Total estimated liabilites and reserves". A footnote stated that this category "Includes (i) approximately $0.7 million and $0.9 million in the high and low estimates, respectively, in accounts payable and accrued liabilities, (ii) approximately $0.5 million and $5.3 million in the high and low estimates, respectively, reserved in connection with resolution of pending and potential litigation, claims, assessments and related obligations and liabilities." Reading this I proceeded to attempt to find what the 5.3M liabilities consisted of in order to weigh the probability of these 2 estimates. The balance sheet showed only 1.76M total liability, plus a reference to commitments and contingencies.
A look at commitments and contingencies showed that most of the liabilities were based on payments that XTENT would have to make IF CERTAIN MILESTONES WERE MET. Since the company was liquidating these milestones were not likely to be met. There were also license agreements for minimum royalty payments, none of which added up to 5.3M. I could not find a scenario under which the company would be required to pay out that much in liabilities. Therefore, I thought the distributions were likely to come in at the higher end of the range, and I purchased the stock.
The estimated distributions did not include sale of any intellectual property rights, which I thought was also a highly likely scenario because they had recently received CE Mark approval for a system in March 2009. I figured that I was paying absolutely nothing for this option, since the normal distributions were likely to come in higher then 0.30.
On June 4th the company announced that it had received FDA approval for its stent system and the stock jumped up to 1.60 and then to 2.10. I averaged somewhere in between for a total return of 490%
In this instance I was right but for the wrong reasons. I'll gladly take the earnings.... but it is unlikely to be repeated.
SG
A look at the table stating how these numbers were estimated showed that the only major divergence was in a category called "Total estimated liabilites and reserves". A footnote stated that this category "Includes (i) approximately $0.7 million and $0.9 million in the high and low estimates, respectively, in accounts payable and accrued liabilities, (ii) approximately $0.5 million and $5.3 million in the high and low estimates, respectively, reserved in connection with resolution of pending and potential litigation, claims, assessments and related obligations and liabilities." Reading this I proceeded to attempt to find what the 5.3M liabilities consisted of in order to weigh the probability of these 2 estimates. The balance sheet showed only 1.76M total liability, plus a reference to commitments and contingencies.
A look at commitments and contingencies showed that most of the liabilities were based on payments that XTENT would have to make IF CERTAIN MILESTONES WERE MET. Since the company was liquidating these milestones were not likely to be met. There were also license agreements for minimum royalty payments, none of which added up to 5.3M. I could not find a scenario under which the company would be required to pay out that much in liabilities. Therefore, I thought the distributions were likely to come in at the higher end of the range, and I purchased the stock.
The estimated distributions did not include sale of any intellectual property rights, which I thought was also a highly likely scenario because they had recently received CE Mark approval for a system in March 2009. I figured that I was paying absolutely nothing for this option, since the normal distributions were likely to come in higher then 0.30.
On June 4th the company announced that it had received FDA approval for its stent system and the stock jumped up to 1.60 and then to 2.10. I averaged somewhere in between for a total return of 490%
In this instance I was right but for the wrong reasons. I'll gladly take the earnings.... but it is unlikely to be repeated.
SG
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