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The Gazette (Montreal)
December 13, 2008

Quebec red ink
Many of our former high flyers have suffered a severe beating in the market meltdown

By Paul Delean

Quebec's economy supposedly is weathering current financial turbulence better than other parts of the country, but you'd never know it from the stock listings.

Several publicly traded Quebec-based companies that used to have significant share valuations have plummeted below, or near, the dreaded dollar mark, in some cases becoming penny stocks.

The 2008 Dollarama portfolio includes familiar names like AbitibiBowater, Quebecor World, Mega Brands, Garda World, Shermag, Hart Stores and Bikini Village.

What happens from here is anybody's guess.

Once stocks start descending to these levels, getting back to past peaks really isn't the issue anymore. Survival is.

Institutional investors are leery. Several actually have a rule against buying shares priced below $5.

"What matters are a corporation's fundamentals, not the stock price. But often, they're really bad when a company's stock goes way down in price, and leave you wondering if it's worth anything at all," said Benj Gallander, co-author of information newsletter Contra the Heard, who's been investing in out-of-favour stocks for 15 years with partner Ben Stadelmann.

While takeovers are always a possibility, Gallander said companies that really get beaten up usually are not prime targets.

"Companies are more likely to buy companies that are going really well, at ridiculous prices, than the ones that are struggling," he said.

What's making this downturn especially challenging is the tightness of credit, Gallander said. Cash-strapped companies in need of fresh funds are having a harder time with lenders, and investors have cooled to new stock issues.

"It used to be a lot easier (for companies) to go to the well and get cash. These days, the competition for funds is so fierce, and not as many people are willing to invest. Investors are more selective. They want to see clean balance sheets, and preferably dividends and distributions, not a lot of debt and a history of losses. Ongoing losses are very dangerous if you don't have the cash to support it." Montreal portfolio manager Sebastian van Berkom of van Berkom & Associates, a small-cap specialist, said there are decent stocks in the dollar range, but there are also an awful lot of highly speculative ones.

"If someone had the intestinal fortitude to put together the best of these Dollarama stocks into a diversified portfolio of maybe 50-70 names, you'd probably end up doing pretty well. Ten per cent would go bust, 10 per cent would be 10-baggers (grow by tenfold), and the other 80 per cent would do better than the overall market," he said.

But since even the largest and strongest global companies have been battered by this year's downdraft in equity markets, investors are understandably gravitating to those names, some now at prices unseen in decades.

"In this kind of environment, why speculate at the low end when you can buy quality companies at the lowest price they've traded at in years? You don't need to speculate, so why take the risk? That's why some of the fallen angels have come down so much," Van Berkom said.

Some of the deeply discounted companies undoubtedly won't survive their current woes, Gallander said. The biotech sector, constantly in need of cash tranfusions, is especially vulnerable.

"They may have great products in the pipeline," he said, "but who'll finance them?" While there is potential upside in some of the names, he considers it a bit early to start bargain-hunting. "I'd be wary of redeploying cash at this point. Even if you pay more (for stocks) in a year, there could be less downside risk if the economy's in better shape. Personally, I don't see things coming back for years. There'll be lots of bargains for a long time." Here are some of the downtrodden, and the challenges they face.

AbitibiBowater Inc.: A $35 stock in 2007, AbitibiBowater is now trading around 50 cents. The heavily-indebted newsprint manufacturer recently reported a third-quarter loss of $302 million ($5.23 a share) on flat revenue. Demand is plunging around the world as the newspaper industry contracts in the face of competition from the Internet -- in the U.S. alone, it's fallen 20 per cent this year.

Gallander is one of its unhappy shareholders; his purchase price, prior to the merger with Bowater, was $56.24. "We looked at getting out a few times, didn't, and got absolutely killed," he said. "At the current price, there's huge potential upside, or the possibility in six months that it could be worthless."

Garda World: Investors did not take kindly to the global security firm's surprise second-quarter loss of $1 million (3 cents a share) and revenue decline of 5.5 per cent. After years of rapid growth by acquisition, Garda -- which reports third-quarter results Monday -- is talking about selling off part of its business to repay its sizable debt.

At about $1.20 a share (down from $26.40 in 2006), "it's extremely speculative," Van Berkom said. "Rather than offering to buy parts of the business now, competitors may wait to see if it survives and then buy."

Mega Brands: The Montreal-based toy company had a prosperous business until it took over Rose Art Industries of Livingston, N.J., in a $350 million deal in 2005. Since then, it's taken a huge hit from lawsuits and recalls of the Magnetix toy line it acquired in the Rose Art deal, and the stock has plunged from $29.74 a share in 2006 to about 50 cents this week.

The company lost $122 million in the third quarter (after writing down $150 million for "goodwill impairment"), just had its credit rating downgraded by Moody's (which described 2009 prospects as "grim"), and now has to cope with a sharp decline in consumer spending for its peak selling season. Revenue has nonetheless held up relatively well so far, Gallander said, so this one could still be a turnaround candidate.

Hart Stores: The smallish department store chain keeps adding to its 89-store Hart and Bargain Giant network in eastern Canada, but same-store sales have been slipping as consumers retrench. Profit in the last quarter was $757,000, down from $1.7 million the previous year. The stock's dropped even more, closing this week around $1, down from $6.55 in 2006. But Gallander, who bought in at $3.46, still likes the company, which pays a dividend of 10 cents a year.

"They're facing a slowdown, which could hurt the bottom line and the distribution, but so's everyone else. Few companies can be resilient in this kind of economy."

Groupe Bikini Village: All that remains of the former Boutiques San Francisco and Les Ailes de la Mode empire is 59 swimsuit stores generating quarterly sales of about $13 million and net earnings of less than $1 million. "Our company has come through some challenging times," president Yves Simard said earlier this year, "and today, we are a stronger company for it." You wouldn't know it from the price of the 172 million outstanding shares. Friday, it was 3 cents. The 2008 range has been 10 to 2.5 cents. Boutiques San Francisco was a $32 stock in 2000.

Kangaroo Media: It's had plenty of media coverage for its handheld audio/video devices that allow spectators at NASCAR and Formula One auto races to follow and hear the action more closely, but only one profitable quarter since it went public four years ago. The company generated $2.2 million in sales and rentals in its most recent quarter, but lost $3.4 million (10 cents a share). Loss of Montreal's Grand Prix race in 2009 won't help. Shares got as high as $8.19 in 2006 but traded at 5 cents yesterday.

Victhom Human Bionics: Outstanding technology -- a prosthetic leg that remarkably replicates human movement -- but no significant sales yet spells trouble for the Quebec City company. It had revenue of $531,997 in its most recent quarter, most of it royalty advances, but a net loss of $3.3 million. Investors are losing patience. The stock, which traded at $2 in 2004, has tumbled to 3 cents.

Quebecor World: One of the world's largest commercial printers, it entered creditor protection in Canada and the U.S. last January and seems unlikely to emerge. It lost $63.6 million (35 cents a share) in the most recent quarter on revenue of $1 billion, which pushed the total loss after nine months to $289 million. The stock, as high as $46.09 in 2002, traded yesterday at 4 cents. Unless you buy for a nickel in the hope of getting out at 7 or 8 cents a share, this is probably one to avoid, said Gallander, who prefers to steer clear of companies in creditor protection.

Shermag: Asian imports, a contracting U.S. housing market and rapid appreciation of the Canadian dollar pulled the rug out from under the Sherbrooke-based furniture maker, which experienced a 40 per cent drop in sales in the past year, has lost money for the last 11 quarters and entered creditor protection in May. (It was extended this week to April).

A $16 stock in 2003, it was down to 7 cents yesterday. "We looked at Shermag closely before (credit protection), but backed off. they're good operators, but the way things are now in their business, they just can't compete," Gallander said.

Railpower Technologies: The manufacturer of hydrid railway locomotives and cranes has a lot of expenses and not many customers, and the economic slowdown won't help. It lost $7.1 million in the most recent quarter on sales of just $2.9 million. A $6.69 stock in 2005, it traded at 14 cents this week.

Mitec Telecom: Revenue has been rising for the designer and manufacturer of components for the wireless telecommunications industry, but it's still having trouble turning a profit. Through the first half of its current fiscal year, sales grew 63 per cent to $25 million, for a net loss of $1.1 million. The company, which went public in 1996 at $6.50 a share, traded yesterday at 6 cents.

Management is doing a commendable job of trying to turn around the company, said Gallander, who has owned the stock for several years. "They seem to be doing the right things, but they're not out of the woods yet. In normal times, they'd be doing better than now. But the telecom sector, too, will be hit."

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