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Lessons we learned from a catastrophic stock purchase

BENJ GALLANDER, BEN STADELMANN, and PHILIP MACKELLAR


Wednesday, December 18, 2019

Sometimes we wonder where expressions come from. For example, “a lump of coal in the stocking.” Though we knew that it was negative, we had no idea that it was from 16th-century Holland.

Back in the days before stockings, children would put their clogs by the fireplace. The good little ones would find cookies and candies in the shoes, while the naughties would find lumps of coal. What a letdown.

Benj purchased a moderate position in Pengrowth Energy Corp. at $4.16 almost exactly five years ago. Fortunately, it was not a pick for our readers at Contra the Heard, as it has been a catastrophe, currently in the midst of being taken over by Cona Resources at a nickel a share, with the possibility of a contingent value payment if litigation goes the company’s way.

The deal was proposed at a 75 percent discount to the trading price the day before it was announced. This kind of transaction is unusual, as most takeovers are at a premium. This humongous loss has caused more pain than Santa being stuck in a chimney.

Whenever we have a loss, and certainly one of this significance, the best we can do besides cashing a few “pennies” at the end of the day is to learn from the experience and apply the lessons. In this case, there were many.

On a macro level, the price of oil and gas was spinning downward, making profitability exceedingly difficult. At the same time, on a micro level, Pengrowth had a huge debt load, and with revenues being pinched and profitability virtually impossible, the pressure was on.

The company worked hard to reduce debt, which on the one hand made the numbers look better, but they achieved it by selling properties and scalding revenues. At the end of the day, it was like sledding in place.

The moral here was that if debt is declining but accompanied by fading revenues, the corporation is not necessarily farther ahead.

As it turns out, Benj had very good company in seeing potential in Pengrowth. Seymour Schulich was buying shares hand over fist. He continued his acquisitions as late as July of this year, when he added another two million shares, bringing his tally to more than 30 percent of the enterprise.

Schulich is one of Canada’s great investors, and when he sent Benj an email years ago, listing the reasons why PGF was going to turn around, well, it appeared to make sense.

Another draw for Benj was that president and chief executive Derek Evans always sounded quite optimistic on the webcasts. It seemed like the about-face towards the good days was not far away. Evans left the company in March 2018, after spending seven years at the helm.

In August of that year, he became CEO of Meg Energy. When he was hired, the company wrote that the new CEO “brings extensive experience in the Canadian oil and gas industry with a proven track record of successful resource development and disciplined capital allocation.”

Schulich still seems to have confidence in Evans. In his most recent email to Benj, he wrote that he had bought some Meg stock.

Schulich may be correct this time, but after looking through the financial statements and examining the corporate ratios, we won’t touch Meg, a debt-laden company that has been burning cash. In fairness, it should be noted that while it has lost sacks of money in five of the past six years, the bottom line was black to the tune of $24 million this past quarter.

Many investors, especially those like us, who write an investment letter, would bury their Pengrowth cataclysm rather than publicize it in an article. But we’re not afraid to learn from our mistakes and hope that other people can as well.

We do feel much better about the sale of part of our position in Alacer Gold last month, purchased at around $2 a share and sold around $6.50.

At this time, we would like to wish you wonderful holidays and a healthy, prosperous 2020 — without any lumps of coal in the stocking!

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