It was back in the Fall of 2020 that I became a GH shareholder. Before I lay out my reasons for buying, I’ll first explain my basic investment philosophy.
I own between six and twelve stocks. Never less and never more. The reason that I don’t own more is that I can’t know a ton about a lot of companies – it’s a lot of work.
All of my equity investments fall into one of two categories. The first category, which when fully invested represents 90% to 95% of my equity portfolio, is what I call compounders. They must have a strong and durable competitive advantage, excellent management, strong margins, long runway of growth ahead, generate strong and growing free cash flow, and where I can pay a price that will allow for a high compound rate of return over 15 years or more. An example of the type of compounder that I invest in would be GIB.A, which I bought in 2005 and sold in 2022.
The second category, which when fully invested represents 5% to 10% of my portfolio, is what I call special situations. They must also have a strong competitive advantage, good management (exceptional management is not required), generate high levels of free cash flow (growth in free cash flow is not necessary), and that the company’s stock price has been hit excessively hard due to a very specific reason and where the market has blown this out of proportion – as it often does. I usually hold this type of investment for much shorter periods of time – usually a few years but sometimes much shorter in the case of risk arbitrage. An example of a special situation holding is HCG that I purchased in 2017 and sold in 2019.
The first category, compounders, is where I make the bulk of my gains and therefore where I spend the most of my time – by far – analyzing the businesses and their competitors. I require growth (in operations and free cash flow generation) for these investments. Growth is a part of value and has always been the source of my highest compounded rate of returns. I rarely sell one of these stocks.
My special situation holdings come about as a result of having cash available or become available at a time when adding to my existing compounders does not make sense because prices are too high or where I cannot find any other compounders that meet my criteria or that I already have the maximum number of stocks in my portfolio.
My special situation holdings allow me to make a higher rate of return that holding cash equivalents. If the investment works out rapidly, then I make an exceptional gain in relation to the time held. If the investment does not work out at all – as can occur in risk arbitrage – or takes too long to work out, then it hurts my returns. Over all, the net record has been good for my special situation holdings.
Knowing the above, I’ll explain my interest in GH. In the Fall of 2020, the decline in GH stock price had been material. The dividend was cut. My first purchase was at $5.90 and the bulk of my purchases were in the $6.00 to $6.50 range. I had known about the Company for years and years but I was never tempted to buy as the stock price was either overvalued or only slightly undervalued. I would never have been interested in it as a compounder and it was never cheap enough as a special situation.
The intrinsic value of the Company was substantially higher relative to my average purchase price and it made sense as a special situation play. In my mind, the catalyst would be the eventual permanent ending of the COVID lock-downs and a reinstatement of the dividend. I would sell at a slight discount to my intrinsic value estimate – which was lower then than it is now – and make a very nice percentage return over an expected 2 – 3 year hold. It was not a large investment at all and never would be.
Over time, my friends – who also became shareholders later on – and I started to discuss its operations and potential in more detail. The 4 of us discuss stocks like some people discuss sports. Our wives and kids all know each other and we all meet socially a lot and so we talk “shop” all of the time given that we don’t really enjoy talking about sports anymore. We all have / had worked in the industry – they still do and I have left and consider myself retired now and a private investor. It was in these talks that we threw out the growth idea. If GH could actually somehow grow then its perpetual discount – on which we all strongly agreed was permanent – would actually disappear and a larger gain could be made over time.
Make no mistake, the idea was still to sell at a slight discount to intrinsic value but if we could see signs from management that they would take growth seriously, then a longer-term hold would be in order.
What is the end game for GH? - GH could continue to operate like it currently has been operating for all of its existence.
- GH could sell itself.
- GH could privatize itself.
- GH could start acquiring other casinos and grow.
These are really the only possibilities. Let’s look at each one.
Keep operating the way it always has This is the easiest course of action or lack of action. Nothing to do differently – cruise control. Increase the dividend to a high level and periodically buy back small amounts of stock. Shareholders will get a higher dividend yield and a one-time bump up in stock price allowing TLV to sell. For longer-term shareholders, the stock price will very likely start to trickle down. Why? Because there currently are a lot of stocks that are perceived to be solid blue-chip companies that are paying a yield of close to 8% and some even higher. These companies offer the possibility of yearly increases in dividends and some capital appreciation to boot. They are highly liquid and some have never cut dividends in their history. They would generally be considered more attractive to dividend investors. BCE: 7.6% - BNS: 7.7% - IGM: 7.6% - ENB: 8.1% - TRP: 7.9% - T: 6.6% - POW: 6.5%, etc. Hard to compete with a blue chip that yield’s the above and increases their dividend every year. The list goes on and on. GH will trickle down after an initial bump up.
GH could sell itself This would be a good outcome. Value would be realized in a sale. If you had a strategic review of operations by the board, for sure you would be able to find buyers. However, the Company is controlled by the insiders and if they don’t want to sell, then there is no sale. Nothing other shareholders can really do about that. So, waiting for a sale may take many, many, many years. It also may never happen. Only the Board would have any idea if this will eventually be on the table or not.
GH could privatize itself - LBO This also would be a good outcome. While we would not get as much as in an outright sale to an independent party, we would get much more than the current price. Why would we get less than in an outright sale? Well, if you were selling to another company, you would ask for top dollar. If you were buying out your shareholders, it is only human nature that you would want to negotiate a better deal for yourself and this would mean paying somewhat less than top dollar. Still, a win for shareholders.
GH could start to acquire other casinos and grow GH’s knowledge is in operating hotels and casinos. Nothing else. While building restaurants (not owned by GH but rented out to collect rent money and to funnel more people into our casinos) is a great idea, management does not seem interested in pursuing it. Maybe this means management is content with operations remaining the same, maybe not. There is another way to achieve growth while remaining true to your strong suit (casinos) and I’ll lay the idea out below.
- Pay down all debt. Even thought finance textbooks will say otherwise, this is the best way to be financially strong and to not only survive but take advantage of any opportunities that come along, over time, as a result of economic shocks that may force a competitor to sell.
- Once debt is paid down, all future capital allocation should be split 40% to dividends and 60% to the purchase of solid stocks, that can be held for very long periods of time and that have the same characteristics as the “compounders” described at the beginning of this post. This should not be managed by current management but by a very knowledgeable investor, not myself as nobody would want me and nor would I have any interest in doing so.
- Keep eyes and ears open and when a casino becomes available, pounce. We can buy or we can build. We should diversify outside of Alberta and strive to become the largest player in Canada, over time. Slowly and methodically.
This is what option 3 could look like. Let’s assume we make $22M a year in free cash flow after debt is paid down. $8.8M would go to dividends. With the current shares outstanding, this would equal a dividend of $0.41 per share, so let’s say a $0.42 cent dividend would be paid out at first. This would increase with higher free cash flow generation and with share repurchases.
The remaining $13.2M would be used to buy stock in above average companies while paying below average prices – a good recipe for making money.
If at the end of year 1, GH invested $13.2M in good solid equities and earned a 10% return, that $13.2M would be worth $14.52M. Then add another $13.2M at the end of the second year and now your stock portfolio is worth $27.72M. Keep doing this and by the end of year 11, GH now has a portfolio of $231.4M. Now the market does not go up in a straight line and maybe we make less than 10% compounded a year.
However, we would be buying superior businesses with a runway of growth ahead of them and not overpaying for the stock and so the long-term compounded result can be quite good (more than 10%). If we compound at 12% instead of 10%, our portfolio would be worth $259.4M. You get the picture. Now the goal is not to sell after year 11 but only when there is an opportunity to buy a casino – growth – or by building a casino ourselves – growth. The portfolio is a source of funds.
Even if no casino is purchased or built, The Street would see this portfolio and attribute a higher valuation to GH’s stock as it would assume the portfolio will be eventually used to buy operations and even if not, the portfolio is still a source of growth that will compound as it represents partial ownership of businesses. Either way, The Street would see growth.
Now this is not something I came up with myself. It has been done before. I’m not referring to companies like Berkshire Hathaway or Markel or Fairfax Financial. Those are insurance companies. They get float in advance and must invest this interest free money until the day a claim is made. A very good business model if you are a great investor that has access to insurance premiums paid up front. Being a great investor allows Warren Buffett or Tom Gayner of Prem Watsa to earn superior equity returns over their peers who earn almost 100% fixed income returns.
The model I’m referring to has been done by a Quebec based company called Groupe BMTC and that business model was started in the late 1990’s.
BMTC is an acronym that stands for Brault & Martineau, Tanguay, Colonial. Groupe BMTC was and still is a furniture retailer and only in the province of Quebec – kind of like GH is a casino operator and only in Alberta. By the late 1990’s its growth was largely terminated. It was relegated to organic growth only and once again only in the province of Quebec. Quebec’s population growth from 2000 to 2010 was less than 1% per year and so you really were not selling more furniture because of exploding population growth.
Group BMTC was founded by its CEO, Yves Desgroseillers. He was a very smart CEO. He was what has to be described as a capital allocation genius.
He had paid off all company debt. He bought shares with Groupe BMTC funds in strong and growing Canadian and American stocks. He was very strict not to overpay for these stocks and he held them for extremely long periods of time. Every year he added more free cash flow to the stock portfolio. The portfolio was a source of funds to expand his current retailing centres and to buy back stock and buy back stock he did. The Street took notice and we where all talking about it at the time.
The stock started the year 2000 at about $19.50 per share and ended 2010 at $20.50 per share while paying a modest dividend that he increased annually (the payout ration was probably about 15% or so). Now you will immediately point out to me that the above is not a great return. The story is not ended:
You see, from the beginning of 2000 until April 2010, Yves Desgroseillers split his stock on 4 separate occasions. Each time on a basis of 2:1. That $19.50 beginning stock price in year 2000 is really $1.22 adjusted for stock splits. A very regional Quebec furniture retailer’s stock, one with limited growth prospects, saw its stock rise from about $1.22 to $19.50, excluding dividends, in 11 years.
Adjusted for splits, Groupe BMTC had the equivalent of 528M shares outstanding in 2000 and in 2013 it had 46 million shares outstanding (I’m not sure how many at the end of 2010). In that 13 year period it had repurchased and amazing 91% of all of its shares – made possible by its investment portfolio. Groupe BMTC found a way to grow its free cash flow per share – buy back stock. This growth was permitted as a result of its investment portfolio. And The Steet recognized that. Value was unlocked. Today, Yves Desgroseillers is long retired. I believe his daughter may be running the show. Groupe BMTC’s stock portfolio today pales by comparison to what it was in the early 2000’s.
You can consider for yourselves which of the 4 options you feel will most likely happen.
For myself, I’ll be selling if a large increase in dividend is announced and put the funds to work elsewhere unless I see sings of life from management and a willingness to grow. As I’ve outlined above there are ways to grow but management has to want to do it and not just keep on sailing along – that will only lead to a perpetual large discount to intrinsic value that will most likely not change.