Lawrence Asset Management has released its Dec. 31/06 Financials for this split-share. This is a small-ish split-share corporation in which I take an inordinate amount of interest, which I can only attempt to justify by its unusual structure and my feeling that DBRS has got the credit rating on it wrong. Really wrong, as I argued in my previous post on the topic. So .. let’s have a quick look at some simplified financials:
High Income Preferred Share Corp
Financials as of Dec. 31, 2006 |
| Assets (thousands, CAD) |
|
| Pledged Portfolio |
26,198 |
| Other Assets |
26,315 |
| Total Assets |
52,513 |
| |
| Liabilities (thousands, CAD) |
|
| Misc. |
922 |
| Senior Pfd |
33,068 |
| Junior Pfd |
18,523 |
| Equity |
Nil, Nada, Zip, Zilch |
| Total Liabilities and Equity |
52,513 |
Note the balance sheet value of the Junior Prefs. 18,523 (thousand). This is less than the redemption value of 1,322,726 (shares) x $14.70 (per share) = 19,444,072, because they don’t have the money. However, it has improved a little since last time!
Looking at the income statement, we simplify it to:
| Six Months to 2006-12-31 (thousands) |
| Item |
Gain (Loss) |
| Investment Income |
1,243 |
| Management Fee |
(273) |
| Other Expenses |
(247) |
| Net Investment Gain (Loss) |
520 |
| Distributions |
(1,672) |
| Increase in Carrying Value of Junior Prefs |
286 |
| Realized & Unrealized Gain on Investments |
1,236 |
| Net Gain (Loss) |
0 |
Note that the “Increase in Carrying Value of Junior Prefs” is a bookkeeping identity: All profit and loss that would otherwise accrue to equity holders will be charged or credited to the Junior Prefs’ carrying value until such time as this carrying value (i) is equal to the redemption value, or (ii) is wiped out.
So there’s some good news in the above to the Junior Pref Holders! Their carrying value increased, since the company was able to make more money from investments than it paid out in distributions.
In fact, distributions + change = $1,958M on total assets (at June 30, 2005) of $52,085M, so we can ballpark the investment return as +3.8% over the six month period. Which isn’t bad, until you look at their investment mandate:
To provide the Company with the means to meet its investment objectives with respect to the Series 2 Shares and the Equity Shares, the proceeds of the Offering, net of Offering expenses and the amount used to acquire the Series 1 Repayment Portfolio, will be invested in a diversified portfolio (the ‘‘Managed Portfolio’’) consisting of shares of American companies that have a market capitalization of greater than U.S.$2 billion or companies which form part of the S&P 500 Index, and shares of Canadian public companies which form part of the S&P/TSX 60 Index. The direct holding of shares of American companies is limited so that the Offered Shares will not be foreign property under the Tax Act. Up to 25% of the Managed Portfolio may be invested in units or similar equity securities of Income Funds as the Investment Manager deems appropriate. In addition, up to 15% of the Managed Portfolio may be invested in debt securities which are rated to be at least investment grade.
Over the same six month period, the S&P/TSX composite increased by 12.54% and the S&P 500 increased by 12.74% (in USD) or 17.88% (in CAD). You make the call as to whether these guys had a good six months or not!
When we look at asset coverage in the DBRS manner, we just cross off the pledged portfolio against the senior prefs (and completely ignore the fact that dividends have to be paid on the seniors in the interim) to get an asset coverage ratio changing over the last six months from 1.37:1 to 1.30:1. In other words, there is some reason to deprecate the apparent improvement in asset coverage as meaningless, because of the $1,236M in Gains over the period, $1,556M occurred in the Series 1 Repayment Portfolio, which is guaranteed anyway! The Managed Portfolio, which is supposed to pay off the Junior Prefs, took a loss of $320M!
Looking at the asset coverage in a more usual fashion, we find that (Total Assets) – (Misc Liabilities) – (Senior Prefs) = $18,523M which is supposed to cover the $19,444M Junior Pref Redemption Value, for coverage of 0.95:1, which is an improvement over the Jun 05 value … until, of course, one remembers the Forward Agreement, which kills off any such change since the increase in value was derived from the wrong pigeonhole.
According to me, this investment is just getting worse every time it’s looked at. And, according to Lawrence Asset, the NAVPS of the Juniors is $13.67, a coverage of 0.93:1 as of March 2 … although they report a coverage of 1.27x presumably due to incorporation of the Forward Agreement.
Which leads to a funny thought … say the pattern set by the last six months continues, and they make so much money in the Repayment Portfolio that it covers the Senior Prefs exactly, while the Managed Portfolio doesn’t move. In such a case, their reported asset coverage will go down, since the forward won’t be worth anything! Now, that would be funny!
HPF.PR.B closed today at $15.25-35, 112×14 – a nice sized bid! Not a bid I understand very well, though.