Canada’s Business News Network picked up on my recent blog on Agrium (AGU) and the company’s plan to pay Canadian financial advisers who vote their clients’ shares in favor of management’s slate of Board nominees. Here’s a brief spot I did earlier today.

Who thought that Canadian equity markets operated with shareholder protections that would bring even a developing country’s regulator to shame? Here’s the story: Agrium (AGU), a poorly managed producer and distributor of agricultural products in Calgary, is engaged in a proxy fight with Jana Partners, an activist investor with some very good ideas on how AGU could improve its performance. Jana has proposed its own slate of five nominees for the Board of Directors, people who it believes will improve the Board’s ability to run its retail business. AGU hasn’t welcomed Jana’s interest, and in the upcoming vote it transpires that AGU will be paying Canadian financial advisers who vote their clients’ shares in favor of AGU’s nominees.

It’d be bad enough to pay individual shareholders to vote a certain way, but paying their advisers? Are the Canadian managers of client assets really up for sale? Are they really the world’s oldest profession?

It’s a quite extraordinary set of circumstances, surely not a way of doing business that Canadian regulators can defend. We are invested in AGU. Jana’s interest piqued ours. AGU’s vote-buying makes it a more attractive investment, since it confirms the poor judgment of current management. Their continued tenure is surely now more tenuous.

My thanks to Joshua Rogers, a contributor to Forbes, for wading in to the debate on hedge funds. You can read his post here, and scroll down to see my comment in response.

Here’s a brief spot I did earlier today.

The EU has come up with a novel way of trampling over depositors’ rights in Cyprus with their proposed “tax” on depositors of Cypriot banks. So far through the Eurozone crisis depositors have been left whole, but the news on Saturday suggests they’ll be unwilling participants in the latest bailout. One might expect senior and subordinated debtholders to be taking a loss as well before depositors. That would be the more appropriate treatment of their capital structure. However, their €19BN economy supports a banking system with €68BN in customer deposits, and this highly leveraged system has hardly any senior debt outstanding. So finding the €5.8BN needed requires going after the depositors.

Even more amazing is the reporting that the tiered haircut (latest proposal of 3.3% on deposits below €100,000, 9.9% from €100,000-500,000 and 15% above) is designed to grab a significant amount of Russian investors’ money. The Cypriot President Nicos Anastasiades is a brave man.

One would think that a logical consequence of this move would be for Greek depositors to pull their cash from the Greek banking system. It’s probably a stretch to assume a run on Italian and Spanish banks,  but it must be a good bet now that the next Greek bailout will place their depositors at risk. This particular genie is out of the bottle. It’s frankly amazing that anybody ever held more than €100,000 in Cypriot deposits to begin with, but it must be that the days of large, unsecured deposits being held in southern European banks are numbered.

We haven’t changed any positions on the back of this news. The US$ should benefit but we’re not yet short the Euro. We still like being long US$ versus the Yen. America’s respect for property rights rests on a more solid foundation than in some other countries. The biggest positions we own (CXW, BRK, MSFT) are not overly exposed to such turmoil. But this news does potentially complicate the investment outlook.

 

I’m sure many found this riveting today. I worked with Ina Drew for many years and I’m sure like everybody who knows her was amazed at the losses last year. I grew to have enormous respect for Ina’s ability and can only imagine how difficult the past 15 months has been for her.

Master Limited Partnerships (MLPs) are one of the more tax efficient income generating investments around, given that investors can deduct depreciation from their distributions and thereby defer portions of their tax liability until they sell. We’ve been running an MLP strategy for many years, directly invested in a portfolio of partnerships. This is the best way to own MLPs for high net worth clients.

Recently I’ve noticed a couple of articles discussing how much tax revenue the IRS forgoes through this treatment. A recent estimate from the non-partisan Joint Committee on Taxation put the figure at $1.2 billion annually.  It’s not much in the context of a $3.5 trillion budget, but still worth noting in case tax reform renders this a source of new revenue.

Another interesting development has been the strong growth of various funds (closed end funds, ETFs, ETNs) to hold MLPs for those investors unwilling to deal with K-1s. These vehicles give you a 1099, but the price you pay is a complete loss of the tax efficiency MLPs provide. 1099s come at a considerable cost. Nonetheless, these vehicles are growing strongly. Barrons noted their growth and listed funds that held in aggregate $22BN in MLPs, which is about 10% of the float adjusted market cap of the Alerian MLP index.

Although all these vehicles are only appropriate for smaller investors, their growth is performing a great service to people who continue to invest directly in MLPs and receive K-1s. Because the indirect investors are receiving their returns after tax, the tax loss to the U.S. Treasury is less than would otherwise be the case. Let’s hope that all these funds continue to grow, funded by smaller and less tax sensitive investors.

Nice piece today on BBBY. We’ve liked this stock for a while, strong balance sheet, reasonably priced and exposed to the improving housing market. Barrons probably goes a little overboard in speculating that it’s the kind of name Berkshire (BRK) might choose to acquire, but we think it’s a good investment with plenty of opportunity to generate an attractive return.

Cincinnati Bell (CBB) will celebrate 140 years since its founding this July. It has long provided phone and data communications to residents and businesses in Ohio, Kentucky and Indiana. We have been invested in them for the tiniest sliver of their history, and today endured our very first quarterly earnings release. We were lambs to the slaughter.

The bull case on CBB is that they own a data center (Cyrusone; NYSE:CONE) which represents an undervalued asset. Although their fixed line business is in decline, they have been investing in the data center and in January sold 31% of the company in an IPO. The 69% of CONE that CBB retains is itself worth $975MM, more than the market cap of CBB itself.

The genius in the CONE IPO was that it relieved CBB of the need to continue funding CONE’s CAPEX allowing CBB to pay out excess cash flow as dividends while raising enough capital for the independent datastorage business to self fund growth.  The $390MM of EBITDA that CBB expects to generate in 2013 should need to cover even less capex than 2012 for its legacy business and even after interest and pension fund contributions ought to provide for $100MM to be distributed to shareholders. Since CBB doesn’t pay a dividend, even a $0.25 cent annual dividend ($50MM) on a $4.25 stock would provide almost a 6% yield and draw in dividend investors to drive the stock higher. The once ophan stock of the legacy telco that pays no dividend while investing in datastorage becomes appealing to income seeking investors while their investment in CONE is rewarded in the market by REIT investors seeking growth.

But instead, the company disclosed in its earnings release that it projects 2013 capex at $180-190MM for the non-CONE businesses. The equivalent number in 2012 was $140MM, so they’re increasing their investment into a declining business. The value creation they promised with one hand through the CONE IPO is being hijacked by management with the other. In addition to which, they’re paying certain employees $40-50MM in “IPO success payments”. So far, those are the only people who have made any money out of the IPO.

Fortunately we were not bold and our investment was very small (indeed, smaller after today’s rout). The good news is that the equity in CBB’s remaining business excluding the 69% of CONE they retain is valued at negative $320MM. That’s how the market assesses their decision to quicken the pace of fiber-optic investments and the odds that they’ll generate a return above their cost of capital.

So now it’s over to the activists to impose a taste of corporate democracy on a management team that’s lost the plot. As of December 31 holders included Marcato Capital Management, Gabelli and Lonestar Capital Management. Assuming they retain an investment they can’t be happy with today’s developments. The IPO Success Fee especially grates. We’re holding our small position in the knowledge that more value exists than the company’s current valuation implies while we await a 13-D filing. It might well be an interesting story to follow.

Barron‘s has a decent overview of MLPs today. They could have been more critical of the various funds, exchange traded notes and ETFs that offer MLP exposure. None of these pass through the tax benefits to clients as effectively as a portfolio of direct holdings – although the managers being interviewed run such funds themselves. We also shy away from the E&P names where distributions are more volatile. Low volatility, “low beta” MLPs are better in our opinion.