Kobex Capital: A pile of cash, trading at a discount, with an impending catalyst

(KXM is an illiquid Canadian stock with a market cap of $26M.)

Kobex’s liquidation value is in the ballpark of 70 cents/share and currently trades at 55 cents/share.

Kingsway Financial Services is going activist on Kobex Capital.  This makes me like the stock a little more as the catalyst of activism should raise the internal rate of return on a position in the stock.  However, I’m a little wary of activist investing mainly because management teams often like to fight activists with shareholder money. The legal fees and any severance payments will likely reduce the value that’s left for shareholders.

To a small degree, this is happening.  Kobex has scheduled the shareholder meeting that Kingsway has asked for but it seems like shareholder money will be used to pay for professional services.  From the press release:

In addition to retaining Stikeman Elliott LLP as its legal advisors in connection with the requisition, Kobex has retained D.F. King & Co., Inc. as its proxy solicitation agent.

Other comments

What Kobex hasn’t done is issue a press release defending themselves and explaining why their current strategy is a good one.  I’m not sure why they haven’t done that, though I would not assume that it’s a red flag.

That Kingsway is going activist in the first place says something about Kobex’s management.  Presumably, Kingsway has brought its concerns to Kobex’s CEO (Phil du Toit).  Presumably, the CEO did not reach an agreement with Kobex, triggering its current activism.  This could imply that management is not focused on creating shareholder value.

What I would do if I ran Kobex

Firstly, I agree with Kingsway that corporate overhead is too high.  This is likely due to Kobex’s origins as your typical junior exploration company / “management employment agency”.  Some of the old deals will roll off, such as Kobex paying too much for an office lease.  From the annual financial statements:

The Company is party to an office sub-lease agreement, which expires February 2, 2016, with Copper Mountain Mining Corporation who had a director in common until June 14, 2013, for premises it has vacated.

Kobex is currently subletting its office space for $15/sqft while paying $25/sqft because it is stuck in its lease.

Kobex might be overpaying somewhat for services from Ionic.  Given that the company’s main assets are cash and a single stock, the CFO’s job shouldn’t be that complicated.

Effective July 9, 2013, the Company entered into a corporate service agreement with Ionic Management Corp. (“Ionic”), whereby Ionic will provide to the Company various administrative and corporate services, including the services of the Company’s Chief Financial Officer and Corporate Secretary. Under the terms of the agreement, the Company pays Ionic a fee of $10,000 per month effective January 1, 2013. Ionic is also reimbursed for all reasonable expenses incurred in the performance of its services. During the year ended December 31, 2014, the Company incurred $120,000 (2013 – $71,370) of such costs to Ionic. As at December 31, 2014, $10,556 (December 31, 2013 – $27,215) owing to Ionic was included in the accounts payable and accrued liabilities.

Directors’ fees total $172,750.  I agree with Kingsway that Kobex can lower the board of directors’ fees to $50k/year.  For example, MTY Food Group (market cap $613M versus Kobex’s $26M) pays $40k for its 3 outside directors and saves money by having its employees fill the other board seats for free.

Tax assets

Kobex has $38.5M in deferred tax assets that can be used to reduce future taxes.  There is a temptation to invest Kobex’s cash and have the profits shielded from taxes for a long time.  These tax assets currently are not recognized on the balance sheet.

Deferred tax assets have not been recognized in respect of these items because there is no objective evidence that it is more likely than not that the Company will generate sufficient taxable income to utilize tax losses and other deductible items

Share repurchases

In the past, Kobex did buy back some of its shares but has currently stopped even though shares continue to trade at a discount to NAV.  In general, junior mining companies tend to do this because:

  1. They buy back shares to promote the stock and/or to avoid attention from activists.
  2. They stop buying back shares because they realize that (A) less cash at the company means lower salaries and (B) excessive corporate overhead is very onerous for small companies.

One path that Kobex could take is to repurchase shares and later liquidate the company, avoiding the effects of onerous corporate overhead.  Doing so would throw away the value of the tax assets.  However, shareholders would see a nice short-term return on their investment.

Mountain Province Diamonds

This is the only stock that Kobex owns.  I do not like MPD because:

  1. It’s junior mining.  Junior miners are destroyers of shareholder capital.  At one point in time, I had a limit order to short JNUG but it did not fill (I wanted to bet against an index of junior miners).  I really do not like junior miners.
  2. They pay for stock promotion in the form of magazine advertisements.
  3. Their technical report is a huge red flag.  My post “Why redo a technical report?” explains my skepticism.

On the other hand, MPD’s mine may have very high chances of becoming a profitable mine.  Still, I am not excited by Kobex’s portfolio of cash and a junior mining stock.

Altius Minerals, Brian Dalton, and Paul van Eeden

Originally, Altius Minerals hired Paul van Eeden to manage some of Altius’ money alongside van Eeden’s (in hindsight, this looks like a mistake by Dalton).  Later on, the two parties went their own ways.  As part of their separation, Altius held onto Kobex Capital shares.  I’m guessing that Dalton preferred cash over junior mining shares with excessive insider salaries (which is how one could characterize everything else than van Eeden invested in).  I would characterize Kobex Capital’s current CEO as van Eeden’s protege given than Phil du Toit used to work for van Eeden.

Altius decided to sell the majority of its Kobex position to Kingsway for 65 cents/share.  In my opinion, Altius is the smart money and its CEO (Brian Dalton) is the best mining CEO I have ever come across.  However, Altius may be disadvantaged in this situation.  Its prospect generation business requires it to do deals with junior mining companies with terrible corporate governance (e.g. Alderon when it was a Stan Bharti vehicle).  Taking away cushy insider salaries would not endear Brian Dalton with the junior mining companies that Dalton wants to make deals with.  So I can see why Altius didn’t push for changes at Kobex, despite being a major shareholder in the past.  If Altius held onto its shares at 65 cents/share, I don’t believe it would have achieved a great rate of return on Kobex shares versus alternative opportunities.

The bottom line

This stock is fairly easy to analyze.  It trades at a small discount to cash and the share price could go up a little with the impending shareholder activism.

Links

My original writeup on Kobex

“Kobex Capital: Insider buying continues” – Originally, I thought/hoped that Kobex would continue to repurchase shares and liquidate.  That clearly did not happen.  But if you had bought the dips on Kobex, you would have done reasonably well with your purchases.

Press releases

*Disclosure:  I owned Kobex in the past and my limit sell orders filled before I was aware of Kingsway taking a position in the stock.  I currently have no position and may re-buy shares in the future.  Not having a position could be a mistake on my part.

Advertisements

5 thoughts on “Kobex Capital: A pile of cash, trading at a discount, with an impending catalyst

  1. Hi Glenn,

    I wrote up a very similar set of notes this morning as well on Kobex when I saw the Kingsway activist letter and reached similar conclusions. Good work catching the NOLs, I’d missed those.

    Do you know if Altius sold all their shares to Kingsway, or only half of them? I was looking at some institutional holdings (below) and trying to decide if they were double counting or not. I’d like the chances of getting some traction at the Nov meeting better if the institutional holdings were at 40-45% instead of lower.

    Hope your investing is going well,

    Robert

    Sent from my iPad

    >

  2. Hi Glenn,

    I know that you did work on Altius. I just started looking at it and it seems like a good portion of the value is in the Prairie Royalties LPs. They own own 52% of these, but do not consolidate them. Do you know why?

    Thanks.

  3. Pingback: Kingsway Financial’s activist battle with Kobex Capital | Glenn Chan's Random Notes on Investing

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out / Change )

Twitter picture

You are commenting using your Twitter account. Log Out / Change )

Facebook photo

You are commenting using your Facebook account. Log Out / Change )

Google+ photo

You are commenting using your Google+ account. Log Out / Change )

Connecting to %s