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A View From Here September 2010

September 7, 2010 • Print This Article

The More Things Change...

"The US economy remains almost comatose. The slump already ranks as the longest period of sustained weakness since the depression. The economy is staggering under many 'structural' burdens as opposed to familiar 'cyclical' problems. The structural faults represent once-in-a-lifetime dislocations that will take years to work out. Among them: the job drought; the debt hangover; the banking collapse; the real estate depression; the health care cost explosion and the runaway federal deficit." Time Magazine - September 1992

What Economic Recovery?

"From plunging home sales and spiking jobless claims to diving orders for durable goods, mounting evidence that the US economic recovery has stalled is sending Democratic strategists into fits of anxiety. The economy is being choked by a crisis of confidence, increasing the odds of another recession after a stellar start to the year." - Globe & Mail - August 26, 2010

What if there hasn't been an economic recovery, but rather increased activity caused by consumer spending of US government incentivized stimulus programs? By stimulus, we refer to the many rebates and incentives given to consumers for homes, cars and appliances. With those programs now ended, consumer confidence seems to have weakened, reinforced by recent reports of jobless claims, durable good's orders and plunging home and retail sales. As Canadians, it is incumbent upon us to follow the US economy as they are our biggest trading partner and it has been said that when the US coughs, Canada catches a cold.

This fear has put pressure on the North American stock markets since April 2010 which has been superseded by a spectacular one-year rise from its apocalyptic 2009 low. There has been an argument that the rise in the markets occurred off the backs of exhausted sellers more than it was from motivated buyers as many investors have felt the pressure to take less risk and stay out of the market entirely. As such, there has been a concerted effort to pay down debt resulting in record levels of fixed- income deposits earning little or no interest. So perhaps we should not talk of a double-dip recession, but rather the possibility that the so-called recovery was spurred by incentives. In other words, maybe there hasn't been a recovery at all.

But that might not be a bad thing. It may even be better then the viewpoint that the economy did indeed recover, but is now heading back into another recession. That the real economy is still scraping along a bottom brings hope that at some point, it will begin a real recovery. That could come quicker than having to survive another dip into recession and another fear-filled wait for that recession to reverse into recovery. Maybe the economy is now shaking the artificial recovery out of the economic reports, showing us where the real economy lies. The stock market has always been viewed as a leading indicator of the future value of earnings and often begins to increase well before a recession has ended.

I point you back to the quote from Time Magazine in September 1992 and ask that you consider if there's anything in that text that says "this time it's different." Or rather, "the more things change, the more they stay the same." Something else to consider is just how strong the stock market performed in the years that followed. In last month's "A View from Here", we quoted Mark Twain who said; "History doesn't repeat itself, but it rhymes a lot"

Either Way...it's the Investments We Hold that Matter

I believe the market angst has helped keep valuations at reduced levels and our history suggests that we are in an enviable position. By this I refer to our investment holdings with increasing earnings against a backdrop of apathy and low valuation. If earnings continue to increase, eventually the valuation of our positions should be reflected, especially if they are well below their historical assessments. If not, I am pretty sure that a strategic purchaser will take notice. The more research that we do, the more strongly we feel about our investment commitments and our long-standing track record of success suggests that the current course of action is to recognize that we have the lever of time for our investments to mature.

Our Investments Are Doing well...but have generally gone nowhere for months.

While 2010 has been a very good year for the performance of our holdings, particularly on the earnings front, we have still seen our investment accounts consolidate more than 10% from its interim peak in April of this year. It's as if investors have spent more time outside, enjoying the sunshine and paid little attention to the markets. We have found that market apathy generally leads to subtle weakness when little attention is paid to valuation despite evidence of strong earnings performance.

Having said this, during the month of August, there has been a couple of interesting developments to highlight; Softchoice reported their all important 2nd quarter earnings on August 10th which I would categorize as good, but not great. Maybe it is because I wanted them to report something so ahead of expectations instead of merely meeting them, that it receives this designation. But in this market environment, would anyone have noticed? After spending some time with senior management, it appears that a lot of potential may have been deferred into the current quarter. This should bode well for upcoming earnings releases as operating earnings continues to show a double-digit increase. Softchoice is now valued at less than half of its peer group despite having better profit margins and almost 20% of its share price in cash. The industry has been in consolidation for some time through the amalgamations and take-overs and Softchoice's management has indicated that they are looking to participate. This is one of the reasons why they want to hold on to their growing cash balance. However, it is quite possible that based on its current valuation that they could be purchased as well. As long as earnings continue to increase and margins remain at industry highs, this investment will remain one that we will have a great deal of passion for.

Evertz Technology has re-awoken of late. At first, nobody seemed to notice that their 4th quarter earnings exceeded expectations which is a first in the last 6 quarters. The company, which has a history of staying away from shareholder relations actually put out a news release in early August that they have received a major contract. Maybe they are trying to tell us something. The share price has begun to increase, which given this static environment, leadings us to believe that this is probably not a false start. Evertz is a very unique investment and like so many of our holdings, has no debt and over $1.50/share of cash. The company pay's a small but noticeable dividend and management owns almost 80% of the company. If one were to survey their annual pay packages, we can take comfort in knowing that they believe their wealth will be created by increased valuation as well. First Quarter earnings will be released in early September.

My contact at the LCBO told me that beer sales in Ontario are up over 13% this summer. This should bode well for our modest investment in Brick Brewing. The Company announced a co-packing agreement which with a third party in early August which should only augment and already improving earnings picture. However, it is now a make-or-break time for management as they have done an excellent job increasing earnings over the past two years as a result of sensible cost containment. They have taken steps to expand and improve revenue and we should see the fruits of these actions when earnings are released next month. At this point we have a very modest profit on the position but are looking for the right signs before we look to commit more capital.

Lastly, we continue to scour for investments and have found that there is so much value out there that it is hard to decipher what, if any changes to make. However all roads have led us back to our existing investments. We hope to have something new shortly.

All Good Things,


Filed under: Uncategorized

The opinions, estimates and projections contained herein are those of the author as of the date hereof and are subject to change without notice and may not reflect those of Mackie Research Capital Corporation ("MRCC"). The information and opinions contained herein have been compiled and derived from sources believed to be reliable, but no representation or warranty, expressed or implied, is made as to their accuracy or completeness. Neither the author nor MRCC accepts liability whatsoever for any loss arising from any use of this report or its contents. Information may be available to MRCC which is not reflected herein. This report is not to be construed as an offer to sell or a solicitation for an offer to buy any securities. Member-Canadian Investor Protection Fund / member-fonds canadien de protection des ├ępargnants.

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