KeyStone’s Stock Talk Show Episode 258.
Great to chat with you again on a week where my co-host, Mr. Aaron Dunn was seduced by the sunshine and has abbonded us for Vancouver Island. Never fear, the Killer-B’s have promised to fill in admirably. I will start this week’s episode with a look at how investing in just 2-3 truly great stocks in your life time, can be game-changing for your portfolio. In our YSOT segment Brett answers a viewer question on Sabio Holdings (SBIO:TSXV), an ad-tech company focusing on connected TV and mobile ad monetization. The stock is down 64% over the past year. The viewer ask if Sabio is on sale or more of a falling knife. Finally, Brennan answers a viewer question on Cannara Biotech Inc. (LOVE:TSX-V), a vertically integrated producer of cannabis and cannabis-derivative products for the Canadian markets. Cannara owns two facilities based in Québec spanning over 1.6 million sq. ft. The stock is off 18% YTD, but both revenues and adjusted EBITDA showed solid growth in the last quarter. Brennan will let you know if the situation is improving for Cannara and wether or not the listener may be able to ride the stock to a new high – terrible pun intended.
Let’s get to the show – minus my cohost, Mr. Aaron Dunn – we do have the killer B’s, Brett, and Brennan.
How are you two – Brennan..you were off on another Stagette?
Simple Concept
While it may sound like it is not hyperbole. And in fact, you will find that great stock returns are often found in the most mundane basic, but great businesses.
Unfortunately, you will not hear this from most financial advisors.
And even more unfortunately, the traditional construction of Canadian portfolios inhibits you from building true wealth from great individual stocks.
You can however, make simple changes to the structure of your portfolio to capitalize on great stocks long-term.
But don’t just take my word for it….
In fact, this past year Warren Buffett, perhaps the greatest investor of all time, stated that “In his 58 years of Berkshire management……
“(his) satisfactory results have been the product of about a dozen truly good decisions – that would be about one every five years.”
Let that sink in…
What he is saying is that only 12 great investments (stocks) in his almost hundred years on earth, have made him one of the richest humans on the planet.
It does not take many, and, perhaps most importantly, they do not have to be complicated moon shot businesses that promise to change the world – often the are the most boring, mundane businesses you can imagine – Buffett’s greatest wins include Coca-Cola – a seller of sodapop, Bank of America, and
American Express – all returning 10s of thousand of percent…are a reminder of this. Boring businesses, astonishing returns, with less risk.
I like to give real world examples of these types of boring businesses from our research today – here are 5 actual KeyStone recommendations that have changed the fortunes of our clients portfolios.
I put these returns up because they make us look smart, quite frankly, Aaron (who is not hear today, really needs it.) No, the real reason I highlight these great stocks is to dispel the myth that you have to take undue risk and make bets on speculative moonshot businesses that promise to change the world in order to create true wealth in the stock market. Most often it is profitable, boring businesses that produce astonishing returns.
- Boyd owns automobile repair shops – they fix cars!
- Hammond – makes electrical transformers and has been around for over 100 years.
- XPEL sell automobile paint protection.
- WaterFurnace – makes geothermal heating and cooling systems for homes.
Not sexy, but look at the returns.
Simple example to put things in perspective. This is a $500,000 portfolio – buying 20 stocks / $25,000 in each, so equally weighted. At the recommendation prices. This shows the impact one or two truly great stocks can have on your portfolio in your lifetime.
So your next question or questions should be….either..
#1) How can I find the next XPEL, Boyd, Hammond Power or WaterFurnace – what do these great businesses have in common?
#2) How do you construct a portfolio to capitalize on the next XPEL, Boyd, Hammond Power or WaterFurnace?
Next week, I will address #2. Or how many stock you should own in your portfolio.
As far as the profile of stock you should be looking for – we have created entire 3 hour webinars on this topic, but keeping it simple – look for great cash flowing businesses, with good management, that trade at reasonable prices and have a long-term growth path ahead of them.
Let’s quickly get into how to build your portfolio to capitalize on these type of game changing stocks.
Let’s take a quick look at How many stocks should you hold?
According to modern portfolio theory, you’d come very close to achieving optimal diversity after adding about the twentieth stock to your portfolio (just under 20 stocks).
Diversification makes sense to a point.
Generally, we do not want you buying 2 or 3 stocks – even if we or you have put in all the research in the world – too much company specific risk. As an extreme example of this, if you were to hold stock in Tesla – what would be considered a CEO driven company, if it’s CEO, Elon Musk, heaven forbid, were to pass away, that would likely have a dramatic negative affect on the stock. (funny thing is, since Elon bought Twitter, this example is becoming less and less valid, but I think you get my point) You cannot mitigate this company specific risk if Tesla is one of 2 or 3 stocks you own. If it is one of 20, you can handle it, you can help allay that company specific risk
On the flipside, there is no point in buying 50 or 100+ stocks – and creating a complex, fee heavy portfolio that mirrors the market. This is what we like to call Wait for it….Diworsification.
Building your stock portfolio.
We call it – Focussed Diversification
THIS IS KEY – Build a 15 to 25 stock portfolio, gradually, over a period of 12-24 months – do not buy all 25 stocks in the first, week, month or even year. Traditional advisors will buy 5-15+ funds or ETFs right when you step in the door. This crystallizes your entry point – if you are near a top and face a significant decline, it can take a significant amount of time to recover if you face a significant correction (remember a 50% loss requires a 100% gain to get you back to even).
While no strategy is perfect, building over a 1-2 year period…
- Reduces risk/exposure to short-term market correction – this is a strategy we have had clients employ for decades.
Provides flexibility to add positions as new opportunities become available.
Process:
- Start with 3 to 5 initial positions.
- – Use Recommendations from KeyStone’s Quarterly Cash ETFs report to find where to hold any cash in your portfolio – currently paying 5%+. We update this quarterly with recommendations to get you paid the highest dollar on cash on the sidelines – all clients have access to this report.
- Add 2 to 3 new stocks per quarter as new information/research is released.
- In practice, this is an example of what the structure of a portfolio built with a Focussed Diversification Strategy will look like.
7-10 stocks in deployed into our 3 core areas of research – Canadian Small-Mid Cap growth stocks, Core Canadian Dividend Growth Stocks, and Core US Growth Stocks.
YSOT Cannara Biotech Inc. (LOVE:TSX-V)
Slide 1
Cannara Biotech Inc. (LOVE:TSX-V)
Price: $0.68
Market Cap: $62.1 Million
Description:
Cannara is a vertically integrated producer of cannabis and cannabis-derivative products for the Canadian markets. Cannara owns two facilities based in Québec spanning over 1.6 million sq. ft.
Three Flagship in-house Brands: Tribal, Nugz, and Orchid CBD
And the company currently serves consumers in the provinces of Quebec, Ontario, Saskatchewan, Alberta, British Columbia, and received approval for Manitoba in March 2024, and is expected to be selling by Q3 2024.
Slide 2
Now looking at the stock chart here, the share price is down about 18% YTD. But its important to note that the company did a 10:1 share consolidation in January of 2023, reducing its share count from 877M shares outstanding to 87.7M shares outstanding.
Slide 3
As mentioned, the company has two facilities in Quebec, the Farnham Facility with 170K sqr feet of cultivation room, and the Valleyfield facility which they acquired in 2021 from The Green Organic Dutchman for $27M which has the potential to get the company up to 100,000 KG of cannabis production as it expands the facility.
So as the picture I have on the screen shows (which is from the company’s Q2 2024 slidedeck), as of January 2024 the company has annual run rate capacity of 33,500kg, of Cannabis and is looking to enter FY 2025 with production capacity of 45,000kg.
Slide 4
Looking at the financials for Q2 2024:
Revenue increased 51% Y/Y.
Adjusted EBITDA was up 8.7% to $3.5M.
Net income was a loss of $(3.4M) or $(0.04) per share, compared to a loss of of (618K) or $(0.01) per share in Q2 2023. Now the decrease was primarily due to a decline in operating income as SG&A expenses were up and net finance expense was also up to $1.5M as the company needs to service its debt.
Looking at the balance sheet, the company has cash of $3.1M and Debt and Leases of $49.5M, providing net debt of $46.4M and a trailing net debt to EBITDA multiple of 2.65x. I should also mention that the company sold a parcel of land for $2.1M in April which isn’t accounted for in my numbers shown here and the company is paying a weighted average interest rate of 8.8% on its debt. So generally speaking the net debt to EBITDA multiple is getting to the higher end than what we would like, but at least the company is cash flowing.
Looking at the valuations, Cannara trades with a trailing P/E multiple of 11.3x, an EV/Adj. EBITDA of 6.2x, and a negative Price to Free-Cash-Flow multiple given trailing Free Cash Flow was a loss of $194K.
Slide 5
To conclude, I think that Cannara is an interesting business. And have reviewed the company a few times when we have done our SEDAR sweeps. But even going back to 2023 the company had net debt of over $30M…
- The company has a runway of growth through expanding the Valleyfield Facility and with entering new markets (Manitoba). They have also touted that they are gaining more market share in Alberta.
- The 10:1 Share consolidation has tightened the share count but it would be great to see the company refrain from further diluting shareholders.
- The business is fundamentally strong with good revenue growth and a history of profitability and cash flow.
- Trades at reasonable multiples of 11x earnings and 6x Adj. EBITDA.
- Debt may be a bit of a concern given the high interest rate, and to expand the Valleyfield facility further they will likely need more capital (raise more debt or will future cash flow suffice?).
- For companies in the Cannabis space I think it screens decent, but I would like it more if the balance sheet was in a net cash position.
YSOT Sabio Holdings (SBIO:TSXV)
1)
Sabio Holdings symbol SBIO on the TSX Venture is an ad-tech company focusing on connected TV and mobile ad monetization. Sabios’s platforms reaches 110 million TV devices and 55 million validated TV and mobile households on platforms like Roku, Amazon Fire, Apple TV, Samsung TV, Vizio and LG amongst others.
2)
Looking at share price performance the stock has had a dramatic fall over the past year, falling 64% to $0.27 a share, resulting in a market cap of $13.3 million.
3)
Looking at the financials which are in US dollars total revenue fell 2% to $6.4 million from $6.5 million. Notably, this is due to a fall in mobile ad revenue falling by 50% to $1.25 million from $2.5 million. At the same time, the connected TV and OTT streaming revenue increased by 29% to $4.9 offsetting the majority of the deficit. This is due to the company’s plan to focus on the connected TV segment as the mobile segment requires higher customization and therefore costs.
However, the company’s gross margin also fell to 59% from 62%, management attributes this to a shift due to offering lower rates to secure larger and longer deals which should lower acquisition costs over time. Overall gross profit fell by 6% to $3.8 million.
The company has lowered its operational expenses by 18% to $5.4 million, which bodes well for operational leverage, the ability to keep the same revenue or increase revenue when operational expenses decrease is a positive.
Net loss improved to $2.0 million from a net loss of $2.8 million.
Adjusted EBITDA improved to a deficit of $1.3 million from $2.2 million.
The share count also increased to 50 million from 47 million.
4)
The company is expecting a boost from political ad spending with the US election, with an expected double-digit revenue increase for the year, and a year of positive adjusted EBITDA. So the financials are looking to improve but I would be slightly cautious, as US political ad spending will likely fall off in the following year, and then would likely increase again the year after with the US midterms.
Additionally, the company is benefiting from being a non-cookie-based platform which has been increasingly under regulatory skepticism.
5)
Switching to the balance sheet the company holds:
$2.3 million in cash
$6.4 million in loans
$2.3 million in leases
$6.4 million net debt & lease
As well the company does have a weak current ratio of 0.65, primarily due to the large accounts payable of $9.1 million.
The company does expect to put cash generation towards strengthening its balance sheet.
6)
However, for Q1 We can see the cash weakness is reflected in the cash flows as well, before working capital cash from operations or FFO was a deficit of $1.6 million, which is an improvement from the prior year’s $2.4 million. Cash from operations including working capital was an increase of $2.3 million, due to the significant collection of accounts receivable of $4.9 million. However constant decreases in accounts receivable balance are not a consistent cash flow method, and this is in part due to Q4 being a seasonally stronger quarter so account receivable becomes heightened and then is collected in Q1. This will likely even have more of a seasonal effect due to the US election being in Q4.
7)
The only valuation metric we can look at is price to sales due to not being profitable. Price to sales is only 0.3 times. This does look cheap, but it is that cheap because of the lack of probability and no overall growth over the past year with a weak balance sheet.
8)
The bullish thesis for the company is Sabio is able to successfully transition from its former mobile focus to the current OTT and CTV focus and then have the ability to grow.
2024 is looking to be a stronger year, but that does not completely negate the current issues. The company does have a weak balance sheet and that needs to be repaired as it is currently in a precarious situation and if the company’s current outlook falls apart for whatever reason it may be the company could run into liquidity issues very fast. So before being a serious candidate, the company does need to fix its balance sheet.
Further of course the company needs to prove it can actually be profitable, right now the company is only guiding towards adjusted EBITDA profitability which is a weaker metric than GAAP profitability especially given the weak balance sheet.
So 3 things we need to see before considering the company investable, we need to see the expected growth, profitability leading to a positive cash flow and finally a repaired balance sheet. So for now we will Monitor to see if the company is able to transition its business model and if that transition can lead to a financially appealing company.
