‘We don’t need Berkshire’s second tranche’
It’s been a great combination: clients of David Taylor, the founder of Taylor Asset Management, and the fortunes of embattled lender Home Capital Group Inc. Over the summer, Taylor made a large, contrarian bet and instead of listening to the doom and gloom, bought about four million shares at prices in the $8 range.
“I stuck my neck out with this company, for what I think was high-risk,” he was quoted as saying a few weeks back.
The seemingly high- risk became low-risk when Berkshire Hathaway Inc. stepped in and provided an equity infusion ( it bought about $ 153 million of equity) and a $ 2- billion credit line to Home Capital. The embattled mortgage lender’s stock jumped and hit a high of $19.
Since then the stock has fallen, in part, according to long- time shareholder Rick Durst, because of the upcoming vote on a second equity infusion from Berkshire Hathaway. In that plan, Home Capital plans to issue about $254 million of shares to Berkshire at $ 10.30 a share. It’s a triple whammy: the price is below current trading price, significantly below the trading price when the deal was announced, and way below net asset value.
Durst won’t be supporting Home Capital on that second investment from Berkshire because he believes it is highly dilutive and Home Capital doesn’t need it, given that it had repaid the $2-billion Berkshire facility.
Reached Friday, Durst added: “I cannot understand why any investor would vote for this deal. Of course, why would management backed by three investment dealers ( paid for, of course, by the shareholders) push me to do this deal? The whole tale including this, reads like a bad novel."
Now Taylor, whose firm is thought to be one of the five largest shareholders of Home Capital, has added his support to the ‘ No’ side. When the deal was being negotiated, giving Berkshire the opportunity to purchase a second tranche was a good idea but circumstances have now changed, Taylor said.
Taylor is happy that Berkshire is an investor with a 19.99- per- cent stake and can understand why management would want to give Berkshire the opportunity to up its stake, “but given how things have improved so significantly and so much faster than we thought, it’s not prudent. Times have changed and we don’t need Berkshire’s second tranche.”
The positive changes include repaying the $2-billion credit facility provided by Berkshire, selling of assets and a rebound in GICs sales. Accordingly, Home Capital is in a better position now than a few months back.
“It’s hard to convince me that we need it,” said Taylor, “other than that was the deal negotiated at the time and it made sense at that time.”
Taylor, who according to reports purchased most of the Home Capital shares in the $ 8 range (with some bought at lower prices) added that “given that shareholders have the opportunity to vote now and given that things have changed so drastically, I don’t see why we need to vote in favour of the deal.”
Taylor’s comments came at the same time as Geoffrey Kwan, an analyst at RBC Capital Markets, issued an update on Home Capital following the release of the circular for the Sep. 12 meeting. Kwan, who has a sector perform rating for the stock, said that “funding risks appear largely resolved and mortgage broker support remains,” noting that “earnings recovery is likely to be gradual.”
If the Berkshire second tranche is approved, Kwan estimates return on equity forecasts would be reduced by 70- 80 basis points with a consequent reduction in earnings per share.
Still, Kwan upped his price target for the company to $ 15 from $ 14, noting that his “forecast does not assume” the second tranche will be approved by shareholders.