Creating Opportunities

Timbercreek REIT sold to private equity investors

Newport Partners — Thu, 02 Sep 2010 07:41:11 -0500

In the midst of gloomy economic data and mid-summer market doldrums, it’s nice to spread some good news.

Timbercreek Real Estate Investment Trust, a private portfolio of 62 apartment buildings in Canada, in which we had a $40 million investment, was sold to Greystone Managed Investments in late August for $182 million – a 15% premium over the recent unit price.

We owned Timbercreek REIT for several years through two of our private funds and it’s been a terrific steady performer generating both predictable cash flows and modest capital gains. Over the past ten years, Timbercreek REIT has delivered an average annual return of 13%, versus the flat performance of the TSX over the same time period.

In some respects, the sale is a mixed blessing because it’s always a challenge to reinvest at that level of return – particularly in this environment! But as someone once said, ‘you never go broke taking profits’.

We have re-invested a portion of our sale proceeds in other Timbercreek apartment investment funds, additional select real property projects as well as a portfolio of quality Canadian commercial mortgages.

Congratulations to the Timbercreek management team, led by Blair Tamblyn and Ugo Bizzari for delivering outstanding shareholder value. We look forward to continuing to invest behind them in additional opportunities.

You can read more about the story in this Globe & Mail article, "Timbercreek REIT sold to private equity investors".

Top 10 Reasons for Entrepreneurial Success

Newport Partners — Tue, 31 Aug 2010 13:09:56 -0500

The New York Times Small Business section is usually a worthwhile read.

Today's piece by Jay Goltz, entrepreneur and small business columnist, on what he views to be the Top 10 Reasons for Entrepreneurial Success is especially good and, I thought, worth sharing.

"The (Hot) IPO Market" or "Do Profits Matter?"

Newport Partners — Mon, 09 Aug 2010 10:30:05 -0500

With the apparent resurgence in the IPO market, it seemed timely to revisit my last blog What to know before you IPO and ask, “what’s changed?”

After doing a little digging, it seemed to me there are several points worth making, which haven’t really been front and centre in the popular press. Namely:

Yes, the IPO market has recovered from the depressed levels of past years, but it’s still at low levels;
The markets appear to be primarily focused on revenues and less so on earnings;
High valuation levels being accorded IPOs is at least one of the driving factors of this resurgence and there is a growing gap between valuation of revenues and profits that should provide a cautionary note for investors.

First, the facts: Presumably you’ve read about the hot IPO markets, with successes like the $200mm offering of RealD (riders of the 3D wave and makers of those clunky glasses you use to watch these movies), Smart Technologies ($660 mm - makers of “whiteboards”) and MEG Energy ($675mm – an oil sands producer). Even Skype, the internet phone service, owned by a consortium including our very own CPP, has filed today to access the markets.

The number of IPOs to date in the US (the world’s most active market) is 81 for the first six months of 2010 vs. 18 for the same period a year ago. This is 4.5X higher, and above the entire amount for 2009.

However, if you look at 2010’s performance over a longer time frame, the volumes are still historically low. Have a look at the website of Renaissance Capital, which provides a convenient source for IPO data and trends.

What is the reason for this flurry of activity? Particularly against a backdrop of an uncertain economic environment?

Well, first of all, according to some market observers, profits don’t matter. As David Milstead of the Globe & Mail wrote last week, Forget profits, it’s all about revenues.

This applies to existing companies, i.e. whether or not Apple beat the “Street” estimate for revenues, without regard to EBITDA (earnings before interest taxes depreciation and amortization), or that number you hardly ever see in research reports – net income. It also applies, especially, to new companies. In fact of the three high profile IPOs noted above, only one (Smart Technologies) has a positive EBITDA.

Against a backdrop of the market’s focus on revenues vs. profits, the valuation levels being applied to these revenues is also expanding. An example of this is the pricing outlined in an IPO for Intralinks today. The pricing was 4.6X expected revenues (or rather the most recent quarter’s revenues, annualized) for a company that had accumulated net losses of $65mm+ in the three years that it had been owned by its private equity buyers.

Perhaps the graph below can explain some of the interest in issuers accessing the IPO market. This is for a peer group of “Software as a Service” or “On Demand” software companies. That is, those companies that provide their software product over the internet, rather than as a shrink-wrapped disk sold to their customers.

Valuation vs. revenue multiples are up 43% over the past 12 months, whereas valuation vs. EBITDA multiples are only up 5% - making it an ideal time for these types of issuers to access the markets – and a time for investors to be cautious.

Good article on selling your business

Newport Partners — Wed, 09 Jun 2010 10:35:07 -0500

PROFIT magazine is a favourite read of mine. They do a great job of profiling the entrepreneurial sector in this country and every issue is chock full of lessons, success stories and business ideas.

Selling Your Baby is an in-depth article published by PROFIT about the trials and tribulations some entrepreneurs face in selling their businesses. It's shocking and sad when you think about the economic value that is destroyed - not to mention the many people affected - when businesses fall into the wrong hands.

Although the article was published in March, it just won Gold at the National Magazine Awards last week. Which I thought made it worth repeating. Read through it and you'll also notice we added our two cents to the subject.

IPPs: a better way for entrepreneurs to build retirement capital?

Newport Partners — Tue, 08 Jun 2010 15:06:56 -0500

A few weeks ago, my colleague David Lloyd wrote about how much money is needed for retirement. Most people have a number in their head. Maybe it’s sufficient. The next question is, how do you make sure you meet this number?

As a business owner, you have a unique savings opportunity you may not even know about. It’s called an Individual Pension Plan.

Imagine for a moment, the federal government gave you the opportunity to create a corporate pension plan, just for you. A plan that would provide you with dependable income in retirement – much like that enjoyed by teachers or civil servants – funded by your corporation.

How would you design the plan? Maybe something like this?...

Your company would make annual contributions on your behalf – fully tax deductible to your business. And, because you’re successful and you want to continue your standard of living in retirement, you’d want to make larger contributions – say, up to 65% larger - than what your RRSP allows.

Higher contributions. Bigger tax deductions. More retirement capital.

You’d also want the contributions to grow tax free while they’re invested – just as your RRSP contributions currently do. But, wouldn’t it also be nice if the management fees for investing your contributions were also tax deductible. After all, these fees add up and this you could save potentially hundreds of thousands of dollars over time.

No more wild market movements

Naturally, you wouldn’t want your pension plan to suffer the wild gyrations of the stock market like an RRSP often does. After all, this is your retirement money. Instead, you’d want your plan be managed conservatively, earning, say, a steady 7.5% return each year.

But let’s say for some reason you didn’t quite earn the 7.5% each year, you’d probably like a ‘catch-up’ opportunity. You’d like to be able to make up any losses by making additional contributions – and receiving additional tax deductions of course.

Certainty about retirement income

Finally, when you retire, you’d want your pension plan to pay you a set monthly income. Because it would be nice to have some predictability to how much you’ll have to live on during your retirement. And perhaps not be so dependent on the sale of your business or other assets to fund your golden years.

Reducing the taxable gain when you sell the business

But if you did sell your business, wouldn’t it be nice if you could somehow use your pension to reduce the taxable gain on the sale?

Sound pretty good?

That, in essence, is how an Individual Pension Plan (IPP) works.

By way of example, let’s look at the impact of an IPP for a hypothetical client who is 55 years old, incorporated his company in 1991 and has been earning six figure T4 income since that time.
The client would be able open an IPP by having his company contribute $256,998 which is fully tax deductible to an IPP (contribution amount is based on an actuarial calculation and can be made at once or over time). He would roll an additional $367,950 from his existing RRSP into the IPP in order to meet the requirements of Canada Revenue Agency.

The following year, the company would be able to contribute an additional $33,591, again fully tax deductible, to the IPP as compared to the RRSP maximum of $22,000 plus inflation. This amount continues to grow over time.

Assuming both plans are able to achieve a rate of return of 7.5%, by the time the client turns 65, he will have accumulated $1,942,000 in an IPP versus $1,147,250 in an RRSP – 69% more capital!

Pretty attractive numbers to be sure. Still, IPPs aren’t for everyone. They’re best suited for high-income earning business owners over the age of 40, whose businesses have been incorporated for more than five years, generate free cash flow for contributions and would benefit from additional tax deductions. If you meet those qualifications, then they are at least worth a close look and may be a ‘no brainer’ for some.

Next week, my colleague, Peter Churchill Smith will look at some of the factors driving the rapid growth in IPPs.

Art: for love and money

Newport Partners — Tue, 01 Jun 2010 14:45:22 -0500

Last week, we hosted another of our Inside the Tent events (a series of evenings where we invite some of our clients and special guests to hear from other successful entrepreneurs and thought leaders from our network on topics of mutual interest).

Our theme for the evening was art appreciation and insight from the perspective of three different entrepreneurs in the art world: gallery owner, art consultant and artist.

The event was held at the fabulous gallery of our friend and neighbour, Nicholas Metivier. Art consultant, Robin Anthony offered advice on how to start building a collection. And special guest of the evening, John Hartman, one of Canada’s best known contemporary artists, thrilled us with an advance look at his new works (the official exhibit opened Thursday May 27th and runs until June 19).

Listening to all three speakers, what struck me was just how similar the role of the artist is to the role of the entrepreneur, (see earlier posts about how entrepreneurs really succeed).

Said Hartman: “I knew early on that I enjoyed landscape painting. So I studied all of the great landscape painters. And I learned to handle the materials and tools for landscape painting. But beyond that, I really needed to think about, ‘how am I going to bring an original idea to landscape painting?’ Because as an artist, how you see the world and how this is different from how others see it is what your contribution is.”

Hartman also said, “Your original idea may not always be successful in the beginning. You need a belief that it’s the right thing. But when you find your way of working, it can seem too easy, too obvious. Why hasn’t someone thought of this before?”

Ultimately, Hartman says, “the best way to measure feedback about the quality of your original idea is: have you sold any paintings?”

Hard work, vision and original thinking, unshakable belief in the opportunity, taking your offer to market… so many parallels with the entrepreneur.

The panel also had some words of advice for those interested in collecting or investing in art.

It’s the wild, wild west. Unlike stock market investing, for example, art collecting is a totally unregulated industry. The art world is complicated and you need to spend the time and energy to educate yourself and work with people you trust.
Getting started. A good first question to ask yourself is, ‘what do I enjoy looking at?’ This could lead you in several directions you might want to explore. The Internet is a good source for research. As are art fairs, auctions and galleries in your own city and places you travel. If you want to circumvent some of this work, finding your own art consultant or reputable dealer whose expertise you trust might be one answer.
Trying to pick ‘the next….’ is unlikely to be successful. Both Metivier and Anthony agreed one of the most common questions they are asked by would-be investors is, ‘where do I find the next emerging artist?' It’s also one of the most difficult to achieve. There are so many variables that impact art value: historical reference, scarcity, recognizability, fad and fashion, that a casual collector is unlikely to have sufficient information to correctly predict value. Their best advice is to buy what you love. Investing will not likely bring the most pleasure you will derive from your art buying experience.

If you want to know more about the subject, you can also check out the CFA Institute website which has a webcast presentation The Art Market: A Finance Perspective from Jeffrey Horvitz, well known art collector and vice chairman of the Morleand Management Company, a U.S.-based family office. Although some of it relates to U.S. tax treatment, he gives a good presentation on valuing art and making wise investment decisions in this beautiful asset class.

Yearning for Yuan, China's inflation problem

Newport Partners — Wed, 26 May 2010 14:45:32 -0500

As markets get whipsawed by news coming out of Europe and the Far East, we often get asked by our clients, “How does this affect me?” Last week, my colleague, Peter Churchill-Smith wrote about the effect that Greece can have on business owners in Canada. This week, we turn our attention to China.

As investment managers, we have no shortage of pundits willing to tell us their views on the economic landscape. One of the advantages of working with entrepreneurs is being able to speak to people who are on the ground and experiencing firsthand the massive build up in production and pent up demand for goods in China.

David Colfer, Vice-President Sales and Marketing of Coranco Corporation, a company that has been licensing, sourcing, importing and distributing premium quality cookware into Canada for the past 40 years, recently came back from China and spoke with me about the effect of China’s emergence from recession is having on his company.

China’s recession was GDP growth of 6%. The country needs to grow at 8% simply to keep pace with its population growth. GDP is now growing at nearly 11% per year and industrial production has recovered to pre-recessionary levels, leading the world out of recession. All of this occurred despite the fact that many factories were shuttered during the recession, taking capacity out of the system.

“During the recession, we saw a lot of factories being closed. Now, with excess capacity completely used up, the problem is worse and it’s difficult to schedule production,” says Colfer. “There are even labour shortages in the factories because workers didn’t return to the factories after the Chinese New Year.”

A centralized government means China has the ability to affect massive fiscal policy with almost no lag effect. A decision to stop subsidizing the cost of power to heavy industrial users goes into effect almost immediately, which is in turn passed on right away to the purchasers of goods. Combined with power shortages that are closing many factories for one day a week, again puts pricing pressure on the goods being manufactured. China is “ticking at a pace that is unheard of,” says Colfer. “Capacity shortages, shutdowns and labour shortages are affecting our ability to get goods produced and increasing the cost to do so.”

As its economy matures, Chinese policy has been to increase domestic demand for its own goods, rather than simply being an exporter to the world. “One of the things I noticed was that many Chinese consumers were receiving rebates on Chinese produced goods of up to 30% of the cost. I’ve never seen retail sales like what is happening right now,” indicates Colfer.

With an increasing middle class demanding the luxuries of their newfound economic status, production capability seemingly maxed out and raw material prices rising, the pressure on prices to importers like David Colfer and ultimately any manufacturer, importer or consumer of goods around the world will be incredible.

The lesson is this: whatever you consume today, part of it is directly or indirectly sourced from China. With the cost of goods rising, manufacturers, importers and retailers of goods are going to have to pass these costs on to their customers. And that’s going to mean inflationary pressure. Whether that inflation becomes real, or not, depends largely on Chinese policy going forward. Will they attempt to reign in growth? Or continue on the path of accelerated expansion. It will be interesting to watch the dynamics and undoubtedly much will be written before we get to the end of the story.

The european rescue plan and greece bailout - how does it impact you?

Newport Partners — Fri, 14 May 2010 08:42:11 -0500

At Newport Partners, our perspective is always the same – how does an issue affect the personal and business affairs of our entrepreneur clients and their families?

It was very evident last week that investors were looking past Greece’s debt woes to the much larger fiscal problems in Europe. Bold measures were needed to calm the waters ...and fast! The authorities sent a forceful message to the market – “we will do what has to be done”.

Quickly, here is a summary of what happened:

The European Union (EU) and the International Monetary Fund (IMF) combined to make credit available of 750 billion Euros to EU member countries;
This new plan was in addition to the loan to Greece of 110 billion Euros to Greece to allow it to meet upcoming debt payments and avoid bankruptcy;
This is the first bailout by the EU since it was established in 1999;

These steps will only be successful over the long term if the culprits are brave enough to follow through with tax increases, reduced wage and spending cuts.

So, the panic is over …for the moment. But let’s look out a little further and discuss what the longer term implications might be.

Problems of this nature mostly affect the cost of money and the currency.

The Euro, now at US 1.265, is at its lowest level in a year. Six months ago, it was US$1.50. How things change. Only 12 months ago, we were all wondering how low the US dollar would go! Now, the USD is regaining its status as the “safe haven” currency.

There has been a similar flight to quality in terms of the cost of money. We have all been expecting interest rates to rise, especially short term rates. Yet, 10 year US bond yields have fallen from 4% to 3.59% in the last six weeks. The European turmoil has contributed to this trend, both in Canada and the U.S. Our bond rates fell 0.15% last week which inspired local lenders to reduce mortgage rates by a similar amount.

It is easy to forget that we have faced these situations in the past. – the Mexican peso crisis of 1994, the economic meltdown in Asia in 1997 and the Russian financial crisis of 1998. In each case, there were financial rescues, devalued currencies and a “flight to safety” by international investors.

But we did learn that the flight to safety is somewhat short-lived. As the clouds clear, the more important factors start to drive the markets. In a few months, the markets will be focused on what is more important – earnings in the case of stocks and inflation in the case of interest rates.

So how does the Greece turmoil affect you? We identified three possible items of consequence to you:

Cost of Borrowing Money – The troubles might slow the inevitable climb in interest rates. But, we believe that it will only be temporary. The general trend is up as the authorities move away from the emergency levels and put short term interest rates into “neutral”.

Currencies – Do you do business in Euros? If so, we believe there are long term consequences here. About 25% of US corporate revenues are derived from Europe. Certainly, these economies are going to be weakened by the events of the last week. And do not expect the Euro to recover. The troubles in the EU have reversed the momentum that carried the Euro to US1.50.

European Economy – Does your portfolio include European investments? If so, make sure that they are global companies as domestic companies will be facing a very sluggish economy. The austerity measures to be implemented in Greece, Spain and Portugal (and others) are going to have a material impact on economic growth.

A winemaker reminds us of the importance of passion

Newport Partners — Wed, 05 May 2010 14:31:31 -0500

What does it take to succeed as an entrepreneur?

It’s a question that one third of Canadians are contemplating apparently.

That’s how many dream of running their own business according to a recent Angus Reid poll.

What’s the appeal? The main reason, according to the survey, is so they’ll have greater control over their own destiny. Other reasons include not having to work for someone else, and being able to make more money than working on a salary.

But what about passion?...

At Newport Partners, we have a fantastic network of high achiever entrepreneurs we’re fortunate to work with. They’re in different businesses in different parts of the country, but to my mind, what they have in common is an intense desire to innovate, create, design or change what is.

Their success is a by-product of pursuing their passion.

This point hit home last night as we listened to our friend, Moray Tawse talk about his wine making business, Tawse Winery. Moray is a highly successful entrepreneur who has built several successful companies, the largest of which is First National Financial (TSX: FN.UN), Canada’s largest non-bank mortgage lender with $48 billion of assets under management. In 2005, Moray launched Tawse Winery in Niagara and set out to make ultra-premium wines.

Last night, Moray took us and some of our wine enthusiast clients on a tasting and talk about his business. It was an absolutely fascinating evening and everyone I spoke to afterward had the same response:

“What passion!” If he could bottle it, he’d have another successful company.

As Moray explained, “There are stacks of wine books on my bedside table and they are my nighttime reading. I think about wine. I dream about wine.”

How does this passion translate into a successful business?

Well for one, Tawse strives for excellence, producing only ‘cool climate’ varietals that his winery can really excel at i.e. Riesling, Chardonnay, Pinor Noir. The ‘terroir’ – the combination of shale, limestone and unique soil conditions of the Niagara Escarpment allow them to produce interesting wines of subtle complexity.

He has exacting standards for his wine making processes and equipment. The winery uses no pesticides or herbicides in its vineyards, preferring organic and bio-dynamic methods of farming. For instance, they’ve planted stinging nettle and assorted grasses around their grapes as these are not tolerated by pests. They let chickens and lambs run loose in the vineyards to cull other pests and eat the leaves that block sunlight from the grapes. Ingeniously simple. Who knew?

Next week, Tawse is off to London, England where he’ll be pouring his wines for international wine critics and oenophiles at Canada House. He’s already won the accolades of sommeliers here in Canada: Tawse Winery was named Best Ontario Winery at the Canadian Wine Awards last year and walked away with 14 medals. And this isn’t even his full time gig!

So if you’re thinking of launching your own business, you’ll need lots of capabilities. Skills, discipline, intense desire and hard work to name a few. But if you haven’t got passion, you likely won’t have the sustained energy to practice those other qualities -- let alone inspire any investors, bankers, customers or employees to take a chance on your vision.

How much is enough to retire on?

Newport Partners — Wed, 28 Apr 2010 08:50:20 -0500

One of the most common questions we hear from people is, “how much do I need to retire comfortably?” And from those who are already retired, “do I have enough to support my spending for the rest of my life?”

It’s our job as wealth advisors to run the sophisticated and detailed analysis that provides the assurance -- or occasionally, the cold water dousing that says savings and spending habits need to be changed.

But for those who may be approaching retirement and wondering ‘how much is enough’, here is a very – and I'll stress very – rudimentary illustration of the amount of capital you'll need.

You’ll see there are different scenarios based on spending levels at age of retirement, ranging from $100,000 to $200,000 per year, amounts that are typical for our clients. Other assumptions are listed below.

Assumptions:
Inflation @ 2%
Investment Return 5%
Investment income split between spouses
No RRSPs or pension (except CPP/OAS)
Investment capital consumed at age 90

Investment Capital: (in millions)

It’s interesting to note the impact of inflation. For every percentage increase in inflation, one has to amass an additional $400,000 of retirement capital.

Another, somewhat obvious, observation is that early retirement is costly. You can only spend about 3%-4% of your capital. Whereas, if you retire at age 65, you can spend about 6%-7%.

The science of better selling

Newport Partners — Tue, 13 Apr 2010 12:59:43 -0500

Together with 120 other entrepreneurs from CEO Global (a Toronto-based CEO coaching organization), I spent a morning two weeks ago listening to Christophe Morin, marketing guru and author of Neuromarketing: Understanding the Buy Buttons in Your Customer's Brain

The premise of the book – and the talk – was that we can use the latest brain research to redefine our sales messages and deliver them with more impact by better understanding how people make buying decisions.

Candidly, I was not sure what I was in for. But with low expectations, I was more than pleasantly surprised and left the session with a number of good ideas that I thought were worth sharing.

Chris Morin's main point was surprisingly simple!

All decisions are made by what he calls the "Old Brain". The Old Brain takes in inputs from the New Brain (which thinks) and the Middle Brain (which feels) and then ultimately decides. The Old Brain is self-centered: it pays attention only to it's own selfish needs and benefits. So if we want to make sales and shorten our sales cycle, we have to make our presentations appeal directly to the Old Brain.

This means:

get focused on your prospect as quickly as possible. The customer’s Old Brain has little patience for how good your company is, what your mission statement is and what your values are;

the Old Brain does not get excited by claims that "our firm is one of the best in our industry". The Old Brain much prefers comments like "We are the only provider of ..."

Chris reminded us to make sure that our key points are made at the 'beginning" and the "end". What do most of us do at the beginning? We make the mistake of telling them all about us – our company, our products, our value, our people etc. By the time we are finally ready to tell them why they should do business with us, they are barely listening. The Old Brain is in idle mode.

He suggests 4 steps to appeal to the Old Brain.

Diagnose the Pain - be ready with questions that will uncover your prospect's pain. If you are selling drills, for example, the prospect’s Old Brain will not be interested in the features of your drill. Instead, he will be interested in the holes he has to make;

Differentiate your Claims – the claims are what you offer to relieve the pain. Choose the customer’s top 3 pains. Present the claims to show that your solution is unique and different from what the competition offers;

Demonstrate the Gain - the Old Brain prefers concrete information so be ready to prove out your claim in tangible terms. To illustrate the point, Chris chose an example from the investment business: if an extra 2% return per year would result in enough money to buy a house over 20 years, show your prospect a house;

Deliver to the Old Brain – At this point, fewer words is usually more. Remove everything of no value and subject each claim to the “So What’ test. Instead, focus on impact and emotion. The Old Brain loves carefully selected stories. Want proof? Just think of the television ads for charities seeking money for poverty in the undeveloped world.

In summary, the Old Brain is your decision maker and you need to speak its language if you want to make a sale. You can learn more at www.salesbrain.net

The prosperity gap

Newport Partners — Tue, 13 Apr 2010 10:30:37 -0500

We had our quarterly visit from Maureen Farrow last week. (Maureen is a highly-respected Canadian economist whom we retain to provide us with economic analysis and briefings.)

All things being equal given the tough economy, she's feeling relatively bullish about Canada’s prospects these days. There is an unusual amount of global investor interest in our country and with good reason.

After all, it’s no secret that Canada has survived the financial crisis better than almost all other major industrialized nations of the world.

The contrasts, particularly with the United States, are quite startling:

Our authorities are trying to slow down our real estate market while the US market is having trouble finding a bottom.
Our government debt is estimated by 2014 to only have risen to about 65% of GDP, versus almost 100% for the US and over 200% for Japan.
Our banks are among the healthiest in the world.
Our dollar is climbing.
Perhaps the most striking difference Maureen pointed to was the rate of comparative job loss during the recession. In Canada, from ‘peak to trough’, about 400,000 jobs were lost, compared with 8.4 million jobs lost in the United States. Their unemployment rate appears to be stuck at 9.7% ,whereas Canadian unemployment peaked in August 2009 at 8.7% and currently stands at 8.2%. In March the U.S. created 162,000 new jobs. But even at this rate, it will be a long time getting back to pre-recession employment levels and that will be a real drag on consumer spending – which represents about 75% of the U.S. economy.

It is no wonder that the Bank of Canada will likely start raising interest rates this summer ahead of the US. as they start to move the monetary dial back to a neutral position

If so, this will be the first rate increase for Canada ahead of the U.S. Federal Reserve Board. But Maureen is suggesting that this “gap of prosperity” is likely to last for quite a number of years.

She is now calling Canada a “Related Beneficiary” - together with Australia and Brazil- of the global growth being led by Asia, specifically China and India. As a producer of natural resources and commodities, Canada will benefit from this growth.

She also warned us to be ready for a pickup in merger & acquisition activity in Canada as buyers from Asia look to become direct owners in our resources.

It did not take long for her prophecy to come true with the announcement this past weekend that China Petroleum & Chemical Corp., Asia’s biggest refiner, will spend $4-billion for a 9 per cent stake in Syncrude Canada Ltd.

This M&A activity benefits not only the resource-rich provinces but Ontario as well, as it is home to many of the legal and financial services providers who are suppliers to these deals.

Group RRSPs: Do you know your liability?

Newport Partners — Tue, 06 Apr 2010 13:23:24 -0500

I just finished reviewing the annual reports for a Group RRSP and Deferred Profit Sharing Plan (DPSP) on behalf of a client who has one in place for his employees. On paper everything seems just fine. The investment climate is improving and on average every employee seems to be doing much better this year than last. But once I got beyond the glossy graphs certain issues started to become apparent.

Many employees hadn’t yet chosen an investment plan and were defaulting to the option chosen by their employer. A significant number of employees were withdrawing funds from their plans, presumably to supplement their current income. Most employees weren’t on track to meet their retirement savings goals. An education program for his employees wasn’t in place.

That’s not good for employees – and it’s not good for employers, who have a liability they may not be aware of. In 2004, the Canadian Association of Pension Supervisory Authorities issued guidelines for Capital Accumulation Plans (CAP) which refers to “a tax assisted investment or savings plan that permits the members of the CAP to make investment decisions among two or more options”.

While the guidelines haven’t been legislated, they nevertheless establish a standard to which employers who sponsor Group RRSPs and DPSPs are held to.

The bottom line is that an employer must provide a certain amount of support and guidance to an employee who is making decisions about his or her retirement savings.

Failing to do so can open the employer to liability should an employee decide to take legal action against the employer for failing to communicate the options or provide sufficient warning that withdrawing from RRSPs now may jeopardize retirement later.

At a minimum the employer is responsible for:
• Ensuring that the CAP offers a wide range of investment options, and that guidelines for selecting funds are followed.
• Providing members with sufficient information about the funds available to them and the decision-making tools needed to make educated decisions.
• Monitoring service providers, investment options and funds.

Simply writing a cheque and forgetting about it isn’t an option. If your company has a Group RRSP or DPSP ask your service provider or agent if they can help you with CAP compliance. Make sure you delegate this responsibility to the service provider in writing and monitor them to ensure that they are delivering. Failure to do so could be very costly for you down the road.

Moosehead: brewing success through six generations

Newport Partners — Mon, 29 Mar 2010 15:20:27 -0500

The Canadian Association of Family Enterprise GTA held its annual Family Business of the Year awards dinner on Thursday. What an inspiring evening of success stories from families who have overcome not only the usual host of market and competitive challenges, but real adversity and often personal tragedy to achieve prosperity and longevity for their companies. It was just the inspiration we all needed on a cold grey night at the end of winter at the end of a recession.

There were three presentations from award nominees (more about this in a future blog) and keynote address from Derek Oland, Executive Chairman and fifth generation owner of Moosehead Breweries Limited.

Now I have to confess to not being much of a beer drinker (other than the occasional Creemore Springs, the ‘town beer’ close to our weekend place south of Creemore) so I was largely ignorant about the Moosehead brand – and certainly its business story. But what a fascinating story it is!

Based in Saint John, New Brunswick, Moosehead is the largest privately owned independent brewer in the country. Its product is distributed in all Canadian provinces and U.S. states, and it also provides contract brewing for three global brewing giants.

The company’s history reads like a Hollywood film script: Its roots date back to the early 1860s in Halifax when the business was started, remarkably, by a woman, Susannah Oland. Her recipe for ‘Brown October Ale’ was a local hit and led her to open of the Army & Navy Brewery with a business partner. When her partner died just three years later, she took over the business, with help from her sons, bought controlling interest and renamed the business S. Oland Sons & Company.

In 1878, the brewery and family home were destroyed by fire. A brick brewery built in its place was destroyed by the 1917 explosion in Halifax harbour and one family member was killed, another injured. At one point, the family lost control of the business due to financial troubles – only to regain it in a future generation. One branch of the family went into direct competition. And, like most family businesses, Moosehead faced repeated struggles with inter-generational succession that threatened to derail the company.

It was on the subject of succession planning that Derek spoke particularly passionately and with authority. He’s clearly given the subject a lot of thought, having himself experienced a difficult transition from his father’s ownership and management of the company to his own. Derek bought out his sibling shareholders in 2007 and is preparing the business for its sixth generation of family ownership, with two of his four children now working at Moosehead.

With his permission, I am passing along Derek’s philosophy of succession planning which is very well thought out:

• Family members must have solid education
• They must work outside Moosehead beforehand
• They must express a desire to work at Moosehead
• A position will be found, if available
• They must be capable and hard working and willing to learn the business
• They must be willing to work with professionals in the company
• They must be willing to compete with professional managers for promotions
• Professional managers must believe they have an opportunity to lead the company – there is no such thing as ‘automatic’ ascension

On the last point, Derek was particularly adamant. Moosehead’s success depends on attracting top talent and that can only be achieved if non-family managers can see opportunities for progression.

Given 75% of family businesses do not survive to the third generation, learning from the lessons of one that’s prospered through six generations may be instructive for us all.

What to know before you IPO

Newport Partners — Mon, 29 Mar 2010 02:04:00 -0500

Last weekend, I finished reading Rod McQueen's “BlackBerry: The Inside Story of Research in Motion” and thoroughly enjoyed it. It got me thinking about one area devoted relatively little space in the book – the entrepreneur’s decision to go public.

Now, in 300 pages recounting the 25 year history of perhaps Canada’s most successful technology company, you may figure 20 pages is sufficient to devote to the issue of going public. For the record, Research In Motion (RIM) completed a private placement of $34 million to institutional investors in June 1996 (12 years after Mike Lazaridis had started the company) and then completed a full blown IPO in October 1997.

RIM’s revenue at that time was approximately $18 million and the value placed on the firm prior to the offering ( the “pre-money value”) was $350 million. That’s almost 20 times revenue for those of you with a mathematical bent. The rest, of course is history. From a $1.21 split adjusted IPO price the shares rose to a current price of $76 – a healthy return over 12 years.

The book did not indicate whether RIM spent a lot of time considering whether to go public or not. RIM needed the money to fund its growth, they accessed some capital through a strategic investor and government programs, however the banks weren’t there to support the ongoing growth (sounds familiar even today) and RIM went public to access capital.

It has been my experience that that there is (or should be) considerable weighing of the pros and cons before taking the significant step of going public. The advantages of going public are well documented and can be convincingly put forth by legions of investment bankers - greater access to capital, liquidity for investors, a higher valuation for your company which could be used as acquisition currency (private companies tend to trade at a “liquidity discount” versus their public peers), greater credibility with customers, employees and suppliers (including suppliers of capital), etc.

There are, however, a number of disadvantages (lets call them “issues”) to consider before making the leap to the public markets.

These typically include initial and ongoing legal, accounting costs, increased governance responsibilities and introduction of a new, sometimes shortsighted shareholder into the decision making process. The TSX website suggests $600,000 in initial costs, plus underwriters’ fees of 4% to 6% (I’m not sure where you find IPO underwriters at 4% these days). That’s going public. The cost of being public is likely as much as $1 to $2 million per year.

But there’s one other issue that doesn’t get a lot of press. In some situations, when the afterglow of the IPO has faded and the Lucite tombstones are gathering dust, the stock may languish in a “no mans land” – too small, lackluster growth, limited profitability, stretched capital structure or failure to meet expectations – some or all of these have occurred and there is no interest from investors or analysts.

Your laundry is out in open for competitors, suppliers and customers and it's of no real benefit to you. Case in point: there are more than 100 companies listed on the TSX in this situation with a market capitalization less than $100 million and trading less than 20,000 shares per day. It's hard to imagine they enjoy a lower cost of capital.

I don’t want to dissuade business owners from going public. I was taught early on in my career that the markets are fickle and when the IPO market’s moon is in alignment with the issuing company’s stars, you access the market, since you don’t know when it will be open again.The problem with some IPOs has been that only part of the equation was working (the IPO market was open) and the company was not really ready for an IPO.

We tell entrepreneurs to ask themselves (at least) three questions before they entertain visions of ringing the opening bell at the TSX:

1. Why do you want to go public? (i.e. does it support your long-term business plan or is it an opportunistic response to market timing?)

2. Where do you expect your stock will be trading in the medium to longer term?

3. How committed are you to managing the demands and expectations of your new business partner, the public?

It's been our experience that companies that take the time to think about these questions are always glad they did.

Winning the lottery - a dream for all; a nightmare for some

Newport Partners — Mon, 22 Mar 2010 13:52:52 -0500

I was given a lottery ticket as birthday gift at a dinner with friends on the weekend. The condition was that we would all share the pot. It was great value to dream for even a few hours of how life could change with $41 million.

Sudden wealth via the lottery, inheritance or selling a business can be life changing. In our business we see this first hand nearly every day. Unfortunately, for some people, the dream of financial freedom can actually turn into a nightmare.

Search the internet and you’ll find story after story of cash windfalls turning into personal downfalls, with some estimates that one third of all lottery winners are in serious financial difficulty or bankruptcy within just five years of winning!

Sadly, I watched this happen earlier in my career when one of my clients won several million at the age of 18. He promptly quit school and despite my and others’ urging, went on a wreckless spree of unbridled spending. Gambling trips to Las Vegas for all his friends. Undisciplined investments in every new idea that came along. In an attempt to curb his spending, we even took the step of setting up a trust that made it more difficult for him to get at his own money, but ultimately his money ran out within five years.

The reality is the amount of money you have is somewhat irrelevant, if you have bad financial habits you’re likely not going to do well.

So what should you do should you find yourself the beneficiary of a jackpot?

Clean up your balance sheet – This recession was a costly lesson for those who lived beyond their means and accumulated debts beyond a manageable level. Sudden wealth can be a “get out of jail free” card allowing them to eliminate debts, catch up on retirement savings and, in the case of an inheritance, thank their parents for bailing them out, once again.

Take time to develop a plan – Pause and allow it all to sink in. Define new objectives: early retirement; recreational properties; renovations; philanthropy travel, etc. Then get help from a financial advisor that can do detailed financial projections to “crash test” the plan.

Understand the relationship between the capital and income - The value of an asset is in its ability to generate income. Impairment of capital results is an erosion of the future income. Avoid extravagant or unnecessary purchases that have no permanent value as it impairs future income. What seem like a large amount of money may only be able to generate a modest amount of annual income, especially in today’s low interest environment.

Big money means more sophisticated planning – Significant wealth opens the door to many planning ideas; an estate freeze, private charitable foundation, income splitting with family members, an individual pension plan for a business owner all come to mind. Professional help is needed to wade through the possibilities.

It’s Monday morning, and I’ve awakened from the dream and, no, I didn’t win the jackpot.

First aid for employee benefits plans

Newport Partners — Thu, 18 Mar 2010 09:08:49 -0500

This week, as reported in Investment Executive magazine, the Conference Board of Canada released results of a nationwide survey confirming what entrepreneurs have known for some time: the cost of providing employee benefit programs is rising unsustainably -- 10% in the past year, roughly three to five times the rate of inflation.

What’s more, most businesses are wondering if they’re getting what they’re paying for. While 78% of survey participants said they have well developed benefits strategies, only 14% said they believe their programs are effective at meeting the objectives of the strategies.

We’ve felt that pain. Two years ago, we educated ourselves about employee benefits out of necessity. We had investments in 20 private companies all with individual benefit plans. Bob Clark, Managing Director and our insurance expert here at Newport Partners researched the market exhaustively to see if he could decode the black box and uncover cost savings across the portfolio. What he learned resulted in $400,000 of annual premium reductions and a new business line where we now help other companies wring the excess costs out of their plans.

I asked Bob to provide some perspective to our blog readers.

KW: Bob, why are costs rising so quickly?
BC: One reason is simple demographics. As the population ages, there is a higher utilization of drug and disability benefits. Higher utilization drives up costs.

Second, the average cost of drugs is rising. This is a factor of recent developments of very high cost specialty drugs – those drugs that treat such illnesses as cancer and rheumatoid arthritis for example. In such cases, annual drug costs can range from $20,000 and $130,000 per patient.

KW: So what can companies do to control their costs in the face of these seemingly uncontrollable factors?
BC: There are basically five areas that companies should think about targeting for reduction. These are relatively pain free reductions -- what I call the low hanging fruit. They are:
stop paying for features you don’t need; introduce a cost management plan; negotiate lower costs for administration; uncover hidden costs and commissions; and work on the tax efficiency of the plan.

KW: That’s quite a list. Can you give us a couple of quick examples?
BC: Sure. Here’s a real life example of a 180-person transport business that had been paying $10,000 for a benefit they couldn’t use. They had a $15,000 expense cap on their drug plan. They also had an insured arrangement for expenses over $15,000. When we looked inside their plan, we saw it was highly unlikely that total costs would exceed $15,000. So it was a moot point, but it was costing them more than $10,000 per year. It was unnecessary.

Drug claims are also a significant and rising cost of most plans. If a company does not have a drug management plan, then many prescriptions are filled using expensive brand name drugs when a generic equivalent would have done the job at a fraction of the cost. You need to have one in place.

Administrative costs are another target for spending cuts. On average, for small to medium sized businesses, 25 cents of every dollar spent on benefits premiums goes to paying for the administration of the plan. By considering alternate funding models and through more aggressive negotiating, companies can often reduce that cost to 12 to 15 per cent.

And finally, there is a lot of margin built into the premiums charged by the insurers. Assumptions about inflation and usage trends are typically built into these margins. And what we’ve found is that these assumptions generally are higher than the actual figures and work in favour of the insurer and not the buyer. Again a savvy employer can often reduce these premiums simply by being better informed.

KW: So how does a company go about making these changes to its plan?
BC: Two things you need to do: One, take a good look inside your plan on a line by line basis and two, make sure you’re working with a qualified and like-minded advisor who will help you negotiate the plan you need rather than sell you the plan you don’t.

Many employers will do a routine assessment of their benefits coverage, or they may offer the plan out for tender to satisfy themselves they’ve taken a competitive approach. But it’s not until you conduct a line by line review of the plan that you truly understand what you’re paying for and how much. That’s your starting point.

Second, employers should choose advisors who have specialized expertise in employee benefit plans. With so many factors impacting the cost of the plan, there are many fine points of negotiation and unless your advisor has the knowledge that comes from specialization, there may be a tendency to just go with the status quo and not challenge a lot of the built-in assumptions.

Cost transparency is another key element of the advisor’s effectiveness. When fees and commissions aren’t fully disclosed you don’t have a complete picture of the cost structure and therefore are handicapped in making improvements. Not to mention the fact that you have to wonder if you’re working with the right people.

It’s not rocket science but you do have to know what to look for and have the ambition to negotiate aggressively. It's well worth doing because you can often save between 10% and 20% of total premium costs. Given companies generally spend between $2,500 to $5,000 per employee per year, that equates to about $25,000 to $100,000 of savings for a 100-person company.

A window of tax savings opportunity -- for how long?

Newport Partners — Fri, 12 Mar 2010 10:29:53 -0500

CRA announced this week that it will maintain its 1% prescribed rate through to June 30th.

While that news didn’t make headlines, from a tax point of view it should have.

After RRSPs and tax deductibility of interest, I think a prescribed rate income splitting loan is the most effective way for wealthy high income earners to reduce their tax bill.

And a 1% interest rate offers an unprecedented window of opportunity.

Here’s how it works:

A high income earning individual may loan funds for investment to a family member with no or little income – such as a spouse, child or grandchild (note: indirectly through a trust if minors are involved) .

Canada Revenue Agency stipulates the borrowing family member must pay the prescribed interest rate of 1% annually on the loan amount.

The family member invests the funds earning, say, 6% per year. Income and capital gains earned on the funds, net of the interest paid on the loan, are then taxed in the hands of the lower-tax rate family member – thus reducing the total family tax bill.

Borrow at 1% and invest at 6%. On a $1 million loan, that's net income of $50,000, annually, that can be taxed at lower rates.

What's more, the 1% interest rate is ‘locked in’ so it stays in place for the entire life of the loan – regardless of how much interest rates fluctuate. Given rates are expected to rise mid-year, you can bet the 1% won't last much longer.

Some of our clients use this strategy to fund private school education for their children or grandchildren. Others to assist family members in funding business interests. It's a low-risk planning option that offers a lot of possibilities -- if potentially not a lot of time before the rate increases.

Mike Rose: positioned to profit from the great recession

Newport Partners — Mon, 08 Mar 2010 14:52:21 -0500

I blogged a couple of weeks ago about the entrepreneurial thinking of money manager, Tye Bousada in my post, How entrepreneurs -- and smart investors - really succeed. I was inspired by a New Yorker article written by Malcolm Gladwell, entitled The Sure Thing.

The premise of the article being that successful entrepreneurs are not really risk takers, as the conventional view suggests. Rather, an entrepreneur's strength is in "occupying a ‘structural hole'”, a niche that gives him a unique perspective on a particular market” and acting decisively to take advantage of it.

Here’s a related story of a seasoned entrepreneur who stands to profit from this great recession – not in spite of challenging economic times, but rather because of the turmoil and his ability to take advantage of it.

His name is Mike Rose and his company is Tourmaline Oil Corp., a private investment we hold in our Canadian equity fund.

Mike Rose is a serial entrepreneur whose past successes include Berkley Petroleum (which he founded in 1993 and sold in 2001 to Anadarko Petroleum for $1.6 billion) and Duvernay Oil Corp. (started in 2001 and sold to Shell Canada for $5.9 billion in 2008).

Tourmaline Oil Corp is his latest venture. A private oil and gas company that he and his former management team founded after they’d sold Duvernay in 2008 – a time when, you’ll remember, stock prices were sinking and capital for new ventures was scarce.

Yet, Rose and his team invested $150 million and were able to raise a further $150 million of seed capital amid the market shock waves of October 2008.

Where Rose is poised to profit, as Gladwell’s premise suggests, is through his unique positioning in a particular market:

1. The entrepreneur and his management team have an extraordinary track record;

2. They have re-entered an industry they know well and, in fact, a geographic area very close to where they operated in their previous successful ventures;

3. Because of their track record, they have been able to access financing at a time when capital has been seriously constrained for many of their competitors. Assets and capital flow to the most efficient operator;

4. Well supplied with capital, they have been able to acquire approximately 700,000 gross acres of property in the Western Sedimentary Basin in just over a year, at a time when values for these assets were reduced. Rose is viewed as one of the top explorationists in the oil patch and with many junior exploration and production companies in financial distress, he was able to exploit his advantage in a buyer’s market. Thus adding to Tourmaline’s asset base efficiently.

While it’s still early days, clearly what Rose and his team have achieved to date has been impressive. Today, they have $1 billion invested - including $250 million of their own money - have made five acquisitions since start up, now have 1950 drilling locations and are on a path for continued growth just as oil patch activity is increasing and capital markets have opened up.

As Gladwell’s article would suggest, this is the fortuitous combination of skill and analysis, capital availability and market timing – which is of course the advantage of the successful entrepreneur. And among Canada's oil patch entrepreneurs, Mike Rose is among the best. We look forward to watching the rest of this story unfold.

Interest rates - confused?

Newport Partners — Mon, 08 Mar 2010 09:24:53 -0500

You are to be forgiven if you are having a hard time trying to sort out all the conflicting news about interest rates and inflation. You’re not alone. Even the experts frequently disagree.

This is an important issue for entrepreneurs and investors as many of us borrow money - either personally or corporately (likely both!).

We’ll try to clear up the confusion and offer some perspective on what the future holds for the balance of 2010.

Last week, the Bank of Canada sent out signals that rates may rise this summer. Yet south of the border, Ben Bernanke, Chairman of the US Federal Reserve, said last week that "record-low interest rates are still needed to ensure that the economic recovery will last and to help ease the sting of high unemployment".

Remember that interest rates on both of sides of the border are at “emergency” levels. Increases, if any, are much less about inflation and more about taking the foot off the accelerator and putting the car in “neutral” before putting the brakes on.

The Bank of Canada pledged last spring not to increase interest rates until June, 2010. Therefore, there is more pressure than usual for them to signal to what lies ahead between now and June. This week, the Bank said that “Canadians should prepare for higher rates”. This news came as no surprise to the market including our bond manager Addenda Capital, who reminded us that they expected rates “to be normalized” and this latest news did not change their view “on the timing of rate hikes after June”.

Canada has never started to increase rates before the US. But it will likely happen this time. Circumstances are different in Canada. Our housing market is almost too hot and our recovery looks stronger.

Now to the next issue – which rates and by how much? The increases will be small and slow and they will mostly affect the short term rates i.e. those between 30 days to 2 years. The increases will likely come in 0.25% increments, to a maximum of 0.75%.

How will you be affected? You will see matching increases if you have loans based on the Prime rate. There will be fewer 0% loans from car dealers and variable rate mortgages will be more expensive. Fixed rate mortgages and bond portfolios will be less affected, at least in the short term.

Have you been debating switching from variable to fixed rate debt? This may be the time to make this move.

Further increases in 2010 are unlikely – for a host of reasons. Firstly, there is little inflation. Secondly, it will put us more out of step with the US, with whom one-fifth of our economy depends. And lastly, higher rates will put upward pressure on the Canadian dollar and damage our export trade.

Did you notice that our dollar has climbed almost 2 cents since the Bank of Canada spoke out? This will not go unnoticed by them!

Inflation will determine rates beyond 2010. If it is held in the 2% range, it is reasonable to expect rates to hold at these levels.

So in summary, expect modest increases in short term interest rates in Canada, starting this summer. Beyond that, keep your eye on inflation for the magnitude and direction of further changes.