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  Torstar the patience tester

BENJ GALLANDER and BEN STADELMANN

Friday, June 14, 2013

In even the most illustrious families, with long histories of success and accomplishment, there is the odd black sheep. So it is with investment portfolios. The Contra the Heard President's portfolio has been on a tear since 2009, and it's up 21 percent so far this year, but nonetheless we have our “problem children” who sorely test our patience.

Some investment managers espouse a discipline of “cut your losers early and let your winners run”. It's a methodology which makes sense from a defensive point of view, the problem however is it assumes that the marketplace will fairly value stocks. In our experience, the market is far more fickle than that, price volatility frequently has little to do with company fundamentals. Even when there are good reasons for price weakness, sentiment can be so exaggerated that it makes little sense to sell.

That said, we still need to play defence. If an idea isn't working out very well, it is necessary to re-evaluate our thesis and check if a point has been reached where it would be prudent to dump the position and move on. When the Contra Guys gather at a local establishment for a couple of pints, this can lead to some interesting discussions.

Which brings us to Torstar (TSX-TS.B). Purchased at $6.21, the media giant currently trades at about that level, so technically it isn't a loser, especially when the excellent dividend is thrown in. But given that it was bought in the dark days of 2009, your average monkey could have chosen better. Of course, more evolved simians were afraid to buy anything at all at that juncture! The company had a lovely rebound to $15 two years ago. Since then those paper gains have been steadily whittled down.

Like all publishers, Torstar is working mightily to adapt to the digital age. If this was simply a matter of format, replacing paper with electrons lighting up a pretty screen, it wouldn't be such a big deal. Unfortunately the revolution goes far deeper than that, the old model where advertising funded the superstructure of a news gathering organization has been obliterated. Competition, which used to mainly mean the cross town dailies, is now a cloud-based Hydra, from news aggregators such as the Huffington Post, to classified ad killers like Kijiji and Craig's List. Torstar's Harlequin division, the leading romance publisher, was a reliable cash cow, but its novels have been undercut by changing tastes crystallized by the astounding popularity of Fifty Shades of Grey.

So shouldn't we kick this ne're-do-well out of the house? Much of our reluctance stems from the fact that CEO David Holland is doing exactly the things we like to see in a turnaround. Costs have been cut broadly and the sale of television assets sharpened focus and reduced debt substantially. The restructuring allowed the dividend to be raised — twice. The company's “Metro” franchise has been successful at enticing younger readers. Harlequin continues to expand overseas and allows local managers a great deal of latitude in choosing product appropriate for their market.

All well and fine, but the recently announced results for the first quarter were about as welcome as finding your passed-out teenager on the front lawn. Earnings were walloped and top line sales are shrinking. The company seems to be losing ground in the evolutionary race. Management understands that new revenue streams are the top priority, but erecting pay walls that bring in cash, rather than customer wrath, is technically difficult and it's hard to get the price points right.

For the time being we are willing to let this one play out for a while longer. Torstar's network of over 100 community newspapers is an asset that cannot be replicated easily and Harlequin is still a huge brand name. But this position will be kept on a short leash. If Holland cannot pick up the pace in adaptation and the bottom line doesn't tangibly improve, this one will get the boot.


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