A Graham-like Awesome Investment or a Mismanaged Mess?
While I am open to investing in many types of special situations, the core of my investment portfolio has become smallish stocks that pay shareholders sustainable dividends that are significantly larger than other companies in its sector with potential future catalysts that will eventually cause Mr. Market to realize the error of its ways and cause the stock to rise. This event-driven income strategy pays you to wait for stocks to provide significant capital gains and theoretically it should provide some downside protection in the event of a drop in the overall market.
I've written extensively about this sort of stock over the past several months. Two Canadian companies that fit this mold that I've mentioned and have huge positions in are Extendicare (EXETF) and Canexus (CXUSF). Lately I've been hearing the siren's song of another company that has some Canadian assets...Atlantic Power Corporation (AT).
Atlantic Power is a non-regulated owner of facilities that generate electricity from a number of different sources, including wind, hydro, biomass, coal, but mainly natural gas. I can't say that I'm completely surprised that a debt-laden independent producer of natural gas saw its stock get crushed. I've seen that happen to other companies in the past.
I've seen AT mentioned a number of times in passing over the past year or so after it got absolutely destroyed, both missing earnings significantly and cutting its dividend in early 2013. It fell all the way from around $15 to $2 and change. Ouch. It has since recovered to $3.93.
This stock definitely has many of the attributes that I'm looking for:
- It's relatively small with a market cap of less than $500 million.
- It is absolutely hated by the market, much like Warren Buffet's timely investments in American Express (AXP) and GEICO (now BRK-A) back in the day.
- It pays a huge dividend of 10%. The question is whether this dividend is sustainable? I have just started looking into this matter. So far it looks as though it actually might be.
The missing element here is a catalyst. That's the thing that I really need to grab a hold of a stock like this with both hands. Extendicare had the potential divestment of its under-performing U.S. operations. Canexus has the start-up of its expanded tail terminal and a potential sale of part or all of it. Calumet (CLMT) has some significant new projects coming on-line in the near future. New Castle (NCT) is spinning off its senior living properties into a separate company later this year. AdCare (ADK) is leasing out its under-performing senior living facilities and is going to begin paying a massive dividend. Catalysts, catalysts, catalysts. I haven't found one yet with Atlantic Power. The company's terrible management that got it into this mess is still in place. It does not appear to be considering selling any of its assets. It did retain Golden Sack, I mean Goldman Sachs to advise it on potential strategic opportunities, but nothing has come of it yet and that might be management just trying to cover its asp more than anything.
Atlantic Power is currently trading for less than book value. This currently looks more like a Benjamin Graham, cigar butt type of investment. It's not like the ones that were available back in his prime that were trading for less than the value of cash and securities on the books, but it does appear to be pretty cheap at this level. Is it so cheap that you can buy it and eventually something good will happen? At this point this doesn't look like my favorite event-driven type of investment. I suppose that if AT was cheap enough it might be worth some slight style-drift. Things that are cheap enough eventually tend to have catalysts magically appear. On one hand, buying now would get me in before that happened. On the other hand, I could be buying into a terribly-managed stock that continues to languish or even worse given its still significant level of debt.
So let's take a look at AT's recent performance. In Q2, the company saw its cash flow from operations increase significantly, from $7.2 million to $34 million, year-over-year. Having said that, its free cash flow actually decreased over the same period from -$7.5 million to -$15.1 million. Ouch. The question is why? The answer is that the company paid off a loan worth $37.5 million. I can live with that. The company definitely has to get its debt, particularly its near-term maturities under control. AT is on pace to reduce its debt by $80 million by the end of the year. That's heading in the right direction.
While one can question whether Atlantic Power's management is to be trusted, they claim that they expect the company to be free cash flow positive in the second half of 2014.
I'm still in the early innings of looking at this one, but rather than being the Wizard of Oz behind the curtain pretending to have all of the answers I prefer to open up investment ideas to feedback from as many other intelligent investors as possible. I'd love to hear everyone's thoughts on Atlantic Power.
Thanks. Have a great day!