ECN Capital (ECN.TO) – Tender Offer + Interesting Spin-off – 10%-55% upside

Current Price – $3.56

Tender Price – $3.90 (Intrinsic Value – $5.6)

Upside – 10%-55%

Expiration Date – TBD

No proration for odd lot holders

Tender Announcement

 

All figures in Canadian dollars.

ECN Capital announced intention to launch dutch tender offer in order to purchase c. 8% of the outstanding stock. There is also odd lot provision which would result in $34 return if the offer is priced at the upper limit – and I think upper limit pricing is very likely in this case (few arguments below).

However, I find ECN Capital interesting form a longer term holding perspective. Currently I am still in the research process, but a few bullets on why I like the situation so far:

- ECN Capital is specialty financing and loan servicing company. It operates in areas of Home Improvement Finance, Manufactured Housing Finance, Rail Finance and Aviation Finance.

- The company was spun-off from Element Fleet Management in Oct 2016. Most interestingly Element’s founder and CEO Steve Hudson has moved to ECN after the spin-off. His story of building Element from start-up to $5bn company in a few years is fascinating. As this article puts it:

Element Financial has emerged as a darling of institutional investors. In just five years, through a rapid series of financings and acquisitions, it has emerged out of nowhere to become a $5 billion financial services company and one of the largest vehicle fleet operators in the world.”

- 2017 has been a transformational year for ECN. Besides being spun-out from Element, the newly established company has completely revamped it’s portfolio through 5 strategic asset sales and two acquisitions (see slide 10).  Basically out of the four current divisions two (Home Improvement and Manufactured Housing) have been newly acquired, 65% of Rail assets have been sold down and Aviation division is in wind-down mode. Company is transitioning from balance sheet lender towards manager of the assets/loans. And going forward its main exposure will be to US housing cycle.

- Hudson is using similar growth-through-acquisitions playbook that he has already successfully implemented with Element.

- ECNs performance during 2017 (which is the only reference year available so far) is not indicative of its true earnings power due to ongoing restructurings as well as fully revamped asset portfolio. 2018 guidance is EPS of $0.22. (see slide 22).

- Management calculates intrinsic value at $5.61/share which is comprised of earnings from Manufactured Housing and Home Improvement divisions at 12x multiple ($2.4/share in total) and book value per share of the remaining businesses ($3.21/share total). See slide 23 for details.

- Insiders own 11% of stock and keep on buying at prices higher than the current one. Insiders will not participate in the tender offer. (see slide 14)

- Company already bought back 7% of the outstanding shares since July 2017 through normal course issuer bid at average price of $3.8. Another 10m shares (c. 3% of all outstanding) remain under this buyback authorization.

- Counting previous buyback, remaining buyback authorization and the intended tender, company will have purchased 17.5% of outstanding shares since 3Q 2017.

 

Bottom line

I like the setup here – experienced jockey with a proven track record and proven growth-through-acquisition playbook, has left a far larger entity he himself built in order to start launch a smaller spin-off. In one year since the spin-off portfolio has been completely revamped through disposals and acquisitions, so things are moving very fast. Management values the company at 55% premium to current prices and both company and insiders are actively buying stock below the intrinsic value.

I still have very limited understanding about the business and prospects of each of the division, so take my thoughts with a grain of salt and do your own due diligence. But it looks like there is a reasonable margin of safety at buying ECN at current prices and strong potential upside if CEO executes as well as he has done with the previous company.

Very interested in hearing other opinions.

23 COMMENTS

  1. M G

    the stock is trading at 3.52 and the firm saying that they will do buyback at 5 cent increments starting at price 3.49.

    My question is if it drops below 3.49, wouldn’t it be a direct arb? So limit orders to buy below that should guarantee a profit right? Since the firm can buy below their specified lower band.

    1. dt

      Guaranteed profit would only be for odd-lot amounts. All larger tendering position would be subject to proration in case tender is oversubscribed.

  2. Vincent

    Any idea why it’s not yet visible in the IB corporate action tool?

    1. dt

      Still days left till the tender. It is quite common for IB not to have corp action option at this time frame.
      You can also check with IB support.

      1. Alex15

        dt, you will be in the stock for longer, right. Or do you tender your shares?

        1. dt

          Currently I am intending not to tender, but I still have couple weeks to make up my mind. It will also depend on market share price at the time.
          However, this should in no way influence your own decision.

          1. bill papa

            Maybe not exactly on this stock but a general question about odd-lot tendering in a situation such as this. If one holds odd lots in accounts with two different brokers and tenders both is he effectively circumventing the odd-lot rule?

            1. FM W

              Someone tried this before and succeeded. But not sure about other cases.

            2. Sean McMahon

              My experience:

              Did this a few dozen times in both my general brokerage account and Roth IRA account, both with IBKR. Always tendering 99 shares in each account, it worked fantastically, until it didn’t, and I missed out BIG on 2016′s PG/COTY RMT exchange. My shares were treated as 198, and proration actually turned this deal into a small loss (though a larger paper loss when considering the missed upside of $600+). https://www.specialsituationinvestments.com/2016/09/procter-gamble-pg-exchange-transaction-650-upside/

              Anyway, my current understanding, and I am testing this now with both WHR and ABBV, is that it can still be done as long as it is through different clearing firms. So, I’m giving this a shot tendering 99 shares through both IBKR (clearing agent: IBKR) and Ally Invest (Apex). I will update with the result of this effort.

              Based on my own investigation, here is a list of discount brokerages that do not charge larcenous voluntary corporate action fees. Also included is clearing agent and cost per trade of 99 shares:
              IBKR; IBKR; $1.00
              Ally Invest; Apex; $4.95
              Lightspeed; Wedbush; $4.50
              optionsXpress; Schwab; $8.95
              USAA (military service required); National Financial Services; $8.95
              Vanguard; Vanguard; $7.00

  3. bill papa

    IB lists three options (other than no action). 1. tender at no specific price, 2. tender at bid price (3.55 to 3.90 CAD) and 3. tender at 3.49. Which is the best choice and why? Does it matter if you have an odd lot or not?

  4. M

    I think it means the following:

    1. your shares will be tendered at the price the auction sets. As you haven’t selected a price (see #3 below) your vote won’t affect the auction pricing
    2. you chose the price within the range that you want to tender. If the price the auction sets is equal to or above the price you selected within the range your shares will be tendered at the price the auction sets. However, if your tender price is above the auction price no shares will be tendered
    3. you chose to tender shares at the base $3.49 price at the bottom of the range. Unlike #1 this means your votes affect the pricing of the auction

    All of the above might be subject to proration if you are not an odd-lot holder. Which option you choose is up to your personal choice and goals.

  5. dt

    Tender results are out. Final price $3.6. Majority of tender participants tendered above this price.

    “In accordance with the terms and conditions of the Offer and based on the preliminary count by Computershare Trust Company of Canada, as depositary for the Offer (the “Depositary”), the Company expects to take up and purchase for cancellation approximately 31,944,444 Shares at a purchase price of $3.60 per Share (the “Purchase Price”). The Shares expected to be purchased under the Offer represent approximately 8.82% of the Shares issued and outstanding before giving effect to the Offer. After giving effect to the Offer, approximately 330,149,996 Shares are expected to be issued and outstanding.

    Based on the preliminary count by the Depositary, approximately 96,883,148 Shares (including those delivered pursuant to notice of guaranteed delivery) were properly tendered to the Offer and not withdraw at the Purchase Price, of which approximately 36.5 million were tendered at prices of $3.80 per Share or above in the range. As the Offer was oversubscribed, the Company will purchase the successfully tendered Shares on a pro-rata basis following determination of the final results of the Offer, except that “odd lot” tenders (of holders beneficially owning fewer than 100 Shares) will not be subject to pro-ration. The Company expects that tendering shareholders subject to pro-ration will have approximately 84.57% of their tendered Shares purchased by the Company under the Offer.”

    http://ecncapitalcorp.com/wp-content/uploads/2018/04/2018-04-11-ECN-Capital-Announces-Preliminary-Results-of-SIB-1.pdf

  6. Ben

    Quick tax question for any Americans on the board who invest in foreign ordinary stocks like this one, do you file a Canadian tax return at the end of the year?

    1. ATRIYA BHATTACHARYA

      Being a Canadian and punching hundreds of derivative trades in the US in a year, I can say that all my US profits only reported in Canadian tax return. Never need to file a US tax return, same might be applicable to you (though not sure).
      You can find more details in US-Canada tax treaty available in the internet.

      Also since this is tender offer, not sure how this will be treated, but may be tax free in IRA etc.

      Because all my US trades are tax free in RRSP, TFSA (Canadian equivalents of IRA, Roth IRA I assume).
      Only US dividends are dinged with a 15% non-resident US withholding in TFSA, not in RRSP.

      1. Ben

        Thanks for sharing. As an update to others who might be interested, I called the Canadian Revenue Agency and asked and they confirmed that there is no need for Americans to file a tax return assuming our broker knows we are based in the US (i.e. they signal to the tender party to withhold taxes when appropiate etc.) and so we don’t have to do anything further.

  7. over2u

    On proven track record in Element: last year the share went down from $13.35 to $3.87 being one of the worst stock on the market. Found an interesting article: http://business.financialpost.com/news/fp-street/what-explains-element-fleets-dramatic-fall-from-grace
    I understand that businesses are different: Element Fleet is railcar financing and ECN is specialized equipment financing, but without going into much of details at the first glance it seems that operational missteps can destroy this business very quick. Need more time to study the situation, but at least we have the other side of medal too.

  8. Korak

    I am a new subscriber, see this post only today. Can anyone help me understanding: If I buy 99 shares today, at what price the shares will be tendered….if I do not select any option in IB.
    Thanks.

    1. YVRtrader

      I’d love to see another SIB, rather than NCIB. At least this shows they’re still keen to buy back shares.

  9. dt

    Q2 results are out. All segments are performing in line with expectations and integration of newly acquired businesses seems to be going well.

    http://ecncapitalcorp.com/wp-content/uploads/2018/08/ECN-Capital-Q2-2018-Financial-Results.pdf

    Company is actively buying back shares – so far during July/August 1.1m shares have been repurchased at C$3.5/share. 30m shares are still remaining under the current buyback plan.

    I am moving this away from Active ideas, as currently this is no longer special situation, but rather a value type investment.

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