Although performance benefitted from an unexpected bid for one of our significant holdings, it was also tempered by the poor market reaction to the results announced by a couple of investee companies.
Minority investors in Canfor Corporation, the Canadian lumber yard, received a bid from its major shareholder of CAD16.00 to acquire the 49.1% it doesn’t own. We sold at a slight discount to the bid (CAD15.22). We view this as an opportunistic bid for a cyclical company priced at its rock bottom (it was trading at CAD8.80 at the time of the bid). The deal requires various approvals. For us, the pragmatic decision was to sell on market at a slight discount rather than hold and possibly receive the full bid, or maybe even a higher price, or perhaps see the bid rejected and the share price revert. As the price we achieved was 43.2%5 higher than its overly depressed share price at the start of the quarter, the position contributed 1.3% to the Fund’s quarterly return. This was merely a reversal of prior suffering – our realised gain was nothing to be proud of, at only 4.2%.
We wrote in the last quarterly that Dick’s Sporting share price fell 5.1% and that we were not concerned. This most recent quarter it returned 18.7%, more than reversing the June quarter losses. Dick’s reported strong same store sales growth, and management slightly increased their earnings expectations for the current year. Perhaps that explains it.
LyondellBasell ended up contributing more meaningfully than its 5.4% stock return would suggest, as a result of us increasing our position at attractive prices when the shares were “on sale” in mid August. Having the confidence to increase our already sizable position in the face of contrary market feedback is an important part of our process. We elaborate on some of LyondellBasell’s attributes that provide us with this confidence later in this report.
Brinker International, the owner of Chili’s restaurants in the US, returned 10.1% during the period we owned it over the quarter. It announced full year earnings and held an investment update in August. The investment initiatives management described make sense, but in our view these are required to simply maintain existing earnings, and are unlikely to materially grow them. Accordingly, our expectations of the free cash flow accruing to the business’s owners over time are reduced – as is our valuation. We realised a small capital gain and some dividends over our holding period.
To the negative side of the ledger. H&R Block, the tax agents, was down 19.4% over the quarter. In late August it announced results consistent with our expectations and provided an outlook consistent with its previous guidance. This incorporates lower margins as it invests in its systems and integrates its acquisition of Wave, the small business accounting software. All as expected, and yet the share price immediately fell 9.3%. We are surprised but not perturbed by the market’s reaction.
On the other hand, we are a little more circumspect when it comes to L Brands, which also announced results and provided an update on its troubled Victoria’s Secret business. Margins and earnings are declining. The share price being down 24.9% appears to encapsulate investor uncertainty regarding its turnaround potential – and rightly so. Unfortunately the troubles at Victoria’s Secret seem to dominate perceptions of L Brands, with far less attention on its strongly growing Bath & Body Works business – which is rapidly approaching half of its revenue.
Lear Corporation continues to struggle. During September, light vehicle production forecasts were revised down substantially, partly a consequence of the United Automobile Workers strike at General Motors. We remain comfortable with our holding, but unfortunately we do not see any short term respite. The share price was down 15.3% over the quarter. And rounding out the poor performers – our Canadian timber company that wasn’t bid for, Western Forest, was down 19.7%. And Franklin, the US Fund Manager, was down 17.0%.
And finally, we note some trading in Japan, where we replaced our position in KDDI Corporation with what we consider to be a better investment in the telecommunications sector, T-Gaia. Whereas KDDI operates a network, T-Gaia is a reseller and distributor. We held KDDI for a few months and realised a 21.7% return.