The Small Cap Power Expert Interview featuring Michael Sprung.
SmallCapPower: Welcome, Michael. For the benefit of new viewers, can you give us a brief description of your company, as well as your role there?
Michael: I founded the company 10 years ago. Our clients are primarily high net worth or private clients, some corporate, but mainly family trusts, foundations, endowments, and personal accounts.
SmallCapPower: North American markets have been in positive territory for some time now. Do you have any concerns going forward?
Michael: Well, yes. Generally speaking, North American markets have been pretty positive since the financial crisis in ’08, ’09. In that period, we’ve seen a lot of dynamics around the world changing to some extent. We’ve seen China become more of an economic powerhouse where their growth, although it is slowing, is still a very enviable rate of growth relative to the developed economies. We’ve seen Europe continue to struggle with their problems, primarily dealing with the debts of countries like Greece and Spain and Portugal and so on. In that time, the U.S. economy has been relatively strong and actually it has performed relatively well compared with the rest.
It’s been helped by their so-called Quantitative Easing, which has now been pulled back a little bit as the economy has gotten stronger. But at the same time, we see Europe now going into that program in a heavier way. Then all of a sudden we’ve seen the oil price suddenly collapse. That has really caused some concern amongst oil exporters, not only in Canada, but countries like Russia and Venezuela as well. So recently, what are we beginning to see? The world has built up a mountain of debt, some $57 trillion over that period of time to the middle of last year, even greater today.
The bond market is beginning to retaliate. They’re beginning to ask for higher rates of return ahead of what the central banks appear ready to give them given that the economies still appear quite fragile in many areas. So this conflict, I think, is going to continue to have higher volatility in the markets. I think this could be a real blow to Canada with the debt situation that our consumers are in. So I think one has to be very careful and very choosy about the investments they look at in today’s market.
SmallCapPower: We’ve seen some recent positive direction in oil prices. What are your thoughts on investing in this sector?
Michael: I feel that it’s still a very uncertain period for oil. We just saw Goldman Sachs come out recently with a report saying that oil, over the next five years, is going to go to $55 and stay in that area for quite some time. That would be quite disadvantageous to a number of the new technologies which have been used to get oil out of the ground in North America, not only in our oil sands but also to some extent the fracking mechanisms that have made the U.S. more oil independent over the last number of years, but still their marginal cost of production tends to be around that level or higher. So I think that investors in oil today have to take a very long term view.
Oil is a cyclical industry. We have seen these cycles before. So you want to pick the companies that are going to survive, and not only survive, but possibly prosper as a result of weaker companies finding themselves in more trouble. So you’re looking for companies that have strong balance sheets, good management of gain, companies such as Suncor Energy Inc. (TSX: SU), Canadian Natural Resources Limited (TSX: CNQ), even companies like Cenovus Energy Inc. (TSX: CVE), which had been very proactive in cutting back capital expenditures going forward. Companies like Vermilion Energy Inc. (TSX: VET), which have more international operations or companies like ARC Resources Ltd. (TSX: ARX) that are just well-managed. In the smaller areas, you want to pick those companies that are very well-managed, companies like Bonavista Energy Corporation (TSX: BNP) and so on.
SmallCapPower: Aside from the energy sector, what do you think will affect Canadian markets?
Michael: I think we have a few unknowns in the Canadian markets, particularly with the recent election of an NDP government in Alberta. I don’t think anybody really knows what the consequences of that are going to play out to be. But generally speaking, I don’t think that business is looking for an overly positive environment to come out of that. At the same time, we still have a Liberal government in Ontario. Ontario has found itself in a great deal of debt over the last 10 years since the Liberals have been in power and our hydro rates have gone up significantly.
Our labour rates are relatively high and so as a base for manufacturing we are finding it harder and harder to compete. So with higher taxes, higher labour cost and so on, and now the prospect of a federal election, which again, could change from a more business-friendly government to one that may be less so, I think that there are some uncertainties in Canada. So again, you want to invest in firms that are going to be well-positioned to go through a period where maybe the environment is not quite as robust as it has been.
SmallCapPower: Can you mention some examples of where you might look to invest today?
Michael: Sure. I think there’s a few areas in companies that we see positioning themselves rather well to compete not only in the Canadian market, but also in Canada and the U.S. and in some cases even beyond that. One of them would be AGT Food and Ingredients Inc. (TSX: AGT). That’s a company that we have been invested in for some time. They’re one of the leaders in pulses, pulses which included things like lentils, chickpeas, beans, canary seeds, and so on, as well as some pasta and rice.
That company, over the last number of years, has transformed itself from not just a provider of these pulses, but a manufacturer of ingredients from those pulses. There is growing demand globally for these kinds of products. As a matter of fact, next year, the United Nations has called 2016 the Year of the Pulses. So that should give them the company some further benefit as well as that becomes better known. As one of the leaders, they have been expanding capacity. We expect that their earnings can go up fairly significantly over the next number of years.
So for a company with a market capitalization that’s currently around $670 million, we think that it can prosper in this sort of environment. Another company that we might look to would be New Flyer Industries (TSX: NFI), which is North America’s largest manufacturer of heavy-duty transit buses. It has operations both in the U.S. and Canada. Just recently, as a sign of confidence, management has slightly increased their dividend. Here we’re dealing with a company with a market capitalization of around $850 million that is expanding not only in the manufacture of buses, but also in aftermarket parts and services.
There are fewer and fewer competitors in this industry. As I was saying earlier with the U.S. economy doing better, a number of users of buses, whether they’re municipalities or other transport companies that utilize buses, are getting into a better position to buy more buses. So again, we would be looking there. Maybe thirdly, another company that we would be looking at would be HudBay Minerals Inc. (TSX: HBM). HudBay has got operations primarily in copper and zinc through Canada, Peru, and some exposures in Arizona as well.
But besides making improvements at their current mines, the big story with them of course, is they have this Constancia mine in Peru, which has just come on stream and it has just achieved commercial production. So that’s going to really increase their production profile over the next few years. After that, we will see perhaps Rosemont coming on stream, which will then increase their production profile. So when we’re looking for mining companies, particularly cyclical, we’re looking for those that have got a good strong growth in production that are efficiently managed.
A few years back, it was questionable whether HudBay would have the wherewithal to finance and get Constancia going. They have done that, so we’re past that. We’re going to see capital expenditures perhaps drop down a little bit and the company should prosper as a result. Again though, you’re playing the commodity cycle with a company like HudBay just as you are buying oil company in the oil market. So one has to be wary of the cycle and the fact that profitability comes and goes along with the commodity cycle too.
SmallCapPower: Thanks for taking the time for today’s interview, Michael.
Michael: Thank you.
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