August 15, 2017

Manager’s Quarterly Commentary – David Barr – Q2 2017

Written by David Barr

We are well into summer now, our favourite time of year for taking a step back and reading about bigger picture topics that deepen our investing skill set. Halfway through the year we can assess how a couple of trends we have discussed in the recent past are either playing out as we anticipated or have continued on their merry way. We think it would be useful to revisit our last two manager’s commentaries to provide an update on current situations.

First, we talked about seeing a strengthening M&A market based on seeing both willing and able buyers and willing sellers. There were a couple of portfolio companies at that time with announced acquisition bids, but then we benefitted from an embarrassment of riches. Panera, Whole Foods, Sandvine and EnerNOC were all subject to takeover offers in the quarter, which clearly gave us a nice tail wind. Our view on the M&A cycle hasn’t changed. It is still a very frothy market so this may continue to be a source of positive performance over the coming quarters. The recent announcement of a $25 Billion takeover fund reinforces this thesis.

We also mentioned seeing tail winds in our US small cap portfolio. We have continued to see strength there and we have been building several new positions across our funds which we will be able to talk about in a future note. Our focus in our US small cap universe has been to identify potential compounders. When the price exceeds our estimate of intrinsic value, the potential IRR drops well below our hurdle rate and we put the company on our watchlist with a price target which will trigger a revisit. If we find the company is fairly valued, we will initiate a small position as we are quite happy to let the economics of the business drive the returns. We get even more excited when we can find a compounder at a bargain price, as we then have the opportunity to participate in the upside through both the economics of the business and Mr. Market closing the discount. With a long-in-the-tooth bull market, finding these opportunities tends to lead us to watchlist companies or small entry positions. However, looking in parts of the market that are unloved or companies that have specific short term issues can lead us to full weightings in some companies.

 

It is important to highlight the role of currency in our portfolios. The Canadian Dollar appreciated 2.47% in the quarter vs the USD. In the Pender Value Fund we currently have 51%* USD exposure so this resulted in a 1.26% decline due to currency. We have benefitted from currency moves in the past, though this quarter the bank error wasn’t in our favour. As we have said before, we only look at currencies when they are at extremes and right now we are in the fair zone. For a more fulsome discussion on our currency practices, I’ll draw your attention to Felix Narhi’s Q1 2017 Commentary, “To Hedge or Not to Hedge”.

We’ve also talked about our conservative approach to these markets and we are maintaining the status quo. We are quite happy to sit on cash and “near cash” when we think valuations of companies on our watchlist are rich. We have been holding on to positions that have been acquired to get the final few pennies which can represent IRR’s in the mid-single digits as we have cash readily available. If this market persists, you will probably see us being a bit more active in shorter term opportunities such as suitable risk arbitrage opportunities and short term credits, driven from our fixed income team.

David Barr
August 15, 2017

* As of July 31, 2017

For full standard performance information, please visit: http://penderfund.azurewebsites.net/funds-and-performance/