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Investing in Small & Micro-Cap Companies for Superior Returns

Investing in Small & Micro-Cap Companies for Superior Returns. Brent Todd Investment Advisor. TODAY’S PRESENTATION. Risk – Why? Fundamental Analysis – Why? Small & Micro-cap Strategy – Why? Brent Todd – Why?. 2005 Recommendations. Perception of RISK. High. Medium. Low.

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Investing in Small & Micro-Cap Companies for Superior Returns

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  1. Investing in Small & Micro-Cap Companies for Superior Returns Brent Todd Investment Advisor

  2. TODAY’S PRESENTATION • Risk – Why? • Fundamental Analysis – Why? • Small & Micro-cap Strategy – Why? • Brent Todd – Why?

  3. 2005 Recommendations

  4. Perception of RISK High Medium Low

  5. “IT’S ALL ABOUT YOU” Reward Risk

  6. Goal For the Next Half Hour

  7. RISK- WHY? • Guaranteed returns currently net 3.8% • $100,000 invested will net $3,800

  8. WHY IS RISK IMPORTANT? Due to the effect of compounding over time, the difference in one’s ultimate returns can be dramatically impacted by the over all rate of return.

  9. 3.8% vs 5.0% vs 15.0% Couple (age 40) - $100,000 to Invest • No risk – • 3.8% for 15 years = $174,969 • Low – Med Risk • 5.0% for 15 years = $207,893 • Med. – High Risk 15% for 15 years = $813,706 !!!

  10. (3) Fundamental Analysis – Why? Cornerstone of My Investment Philosophy • The surest way for a company’s share price to appreciate is to produce an ever-increasing stream of profits that shareholders may participate in.

  11. Fundamental Analysis – Why? If you were to buy a business, you would want to know: • The price. • The net value of the assets (taking into account the debt). • How much the business made last year, and previous years. • How the company compares to other similar businesses and what they are selling for.

  12. Fundamental Analysis – Why? • We need to use tools that will allow us to monitor, not only the assets of a company (what are we buying), but also we must be able to measure our share of their income, currently, and going forward. • Fundamental Analysis is a set of measurements and ratios that allow us to do this. • By no means the only tool – other tools include: • technical analysis (not effective with thinly traded stocks). • growth and sector analysis.

  13. Fundamental Analysis – Why? Ratios: • Market Capitalization • Price Earnings Ratio (P/E Ratio) • Earnings Per Share (EPS) • Book Value Per Share

  14. Fundamental Analysis – Why? Market Capitalization: share price x shares outstanding Examples: • Company A has 20,000,000 shares outstanding and is trading at $1.00 per share • (20,000,000 shares x $1.00) • Market Capitalization = $20 million • Company B has 5,000,000 shares outstanding and is trading at $1.00 per share • (5,000,000 shares x $1.00) • Market Capitalization = $5 million

  15. Fundamental Analysis – Why? Market Capitalization: changes with the share price Example: in 36 months Nortel’s share price fluctuated between $124 per share (Cdn) and $0.70 per share (Cdn). • Nortel has over 3 billion shares outstanding. • At their high, their capitalization was approximately $372 billion. • At their low, their capitalization was below $5 billion.

  16. Fundamental Analysis – Why? Earnings Per Share (EPS): net earnings ÷ number of shares outstanding • *Net earnings is determined after giving effect to all taxes and expenses. • Analysts look at these each quarter and annually.

  17. Fundamental Analysis – Why? Earnings Per Share (EPS): Example: • Company A’s net earnings were $20,000,000 and they have 10,000,000 shares outstanding • ($20,000,000 ÷ 10,000,000 shares) • EPS = $2.00 • Company B’s net earning were $20,000,000 and they have 20,000,000 shares outstanding • ($20,000,000 ÷ 20,000,000 shares) • EPS = $1.00

  18. Fundamental Analysis – Why? Price Earnings Ratio (P/E Ratio): price per share ÷ EPS • Determined by dividing the price of a stock by the earnings per share over the past 12 months. • The P/E for a given stock varies based on changes in price (which happen every day) and changes in earnings (which happen once per quarter).

  19. Fundamental Analysis – Why? Price Earnings Ratio (P/E Ratio): • Company A has earnings per share of $0.50 and trades at a price of $5.00 per share: $5.00 ÷ $0.50 P/E = 10 times Company A trades at 10 times earnings • Company B has earnings per share of $0.50 and trades at a price of $20.00 per share. $20.00 ÷ $0.50 P/E = 40 times Company B trades at 40 times earnings

  20. Fundamental Analysis – Why? Price Earnings Ratio (P/E Ratio): • The P/E need not correspond between stocks. • Some stocks may be considered under priced at 40 times earnings whereas others may be grossly overpriced at 15 times. • It is important to determine historical P/E averages for each individual company and it’s industry sector. *Generally, I consider the lower the p/e, the better.

  21. Fundamental Analysis – Why? Book Value Per Share: Assets - Liabilities = Shareholders Equity Shareholders Equity ÷ Shares O/S = Book Value

  22. Fundamental Analysis – Why? • Middlefield Bancorp Ltd. • Shares outstanding 9,000,000 • Cash in treasury $20,000,000 • EPS for the 9 months $0.20/share

  23. Small & Micro-Cap Investment Strategy – Why?

  24. Small & Micro-Cap Investment Strategy – Why? Computer Modelling

  25. Computer Modeling – Fundamental Analysis Year 2000 • 8 million shares o/s trading at $0.50 • Market Capitalization = $4 million • Book Value $4 million – No debt • $4 million ÷ 8 million shares = $0.50 per share Book Value

  26. Small & Micro-Cap Investment Strategy – Why? • By the end of 2002, the B/V per share was $0.90 • EPS $0.23 • P/E $1.00 ÷ $0.23 = 4.34 P/E ratio

  27. Fundamental Analysis – Why? Conclusion • Useful tool in determining underlying values. • Can give good clues as to a company’s growth. • Limited in that the “snapshot in time” can be stale-dated or provides too brief a period in time to tell the whole story. • Should not be relied on solely.

  28. Cornerstone of My Investment Philosophy • The surest way for a company’s share price to appreciate is to produce an ever-increasing stream of profits that shareholders may participate in.

  29. (4) Small & Micro-Cap Investment Strategy Which Companies Are Considered? • Ones with proven assets, real businesses, cash flow or all of the above. • Ones that, generally, trade for less than $100 million in market cap.

  30. Small & Micro-Cap Investment Strategy – Why? • Don’t try and time or “trade” the market. • Invest in companies that have been ignored or fallen under the radar screen of the general populace. • In particular, look for situations where there is a positive turn in fundamentals. • “Pick the low hanging fruit” and wait for the market to unlock their value.

  31. Philosophy & Tenets of Small & Micro-Cap Investing (1) Diversification • Most important tenet of all. • Mainly due to the illiquidity of small & micro-cap stocks. • This also increases your chances of success. • Ideally, put no more than 10% into any one position.

  32. Philosophy & Tenets of Small & Micro-Cap Investing (2) Small & Micro-cap Stocks Are More Reasonably Valued Than Large-caps • They trade at multiples that are a fraction of their large-cap or “blue chip” counterparts. • The average P/E multiple on the S&P 500 is currently 17x. • We often find companies trading as low as 5 or 6 x this year’s estimated earnings. • Some small-caps trade at a significant discount to their book value.

  33. Philosophy & Tenets of Small & Micro-Cap Investing (3) Financial Statements are More Transparent and Easy to Follow • Extremely complicated nature of large-cap company’s financial statements, increase their ability to hide important financial information. • Micro-cap companies generally have, at most, two or three revenue streams so their ability to hide information is greatly reduced. • Transparency is critical because it makes it easier to invest with confidence if one feels they have an accurate barometer of the company’s business.

  34. Philosophy & Tenets of Small & Micro-Cap Investing (4) Individual Equities Offer the Greatest Potential for Portfolio Performance • Within traditional investment products a truly “portfolio changing experience” can only come from individual equities.

  35. KOBEQUID (KQR.T)1997 – 2000 Return 1,600% Philosophy & Tenets of Small & Micro-Cap Investing

  36. COMPUTER MODELING (CMG.T)2000 – 2005 Return 1,500% (includes dividends) Philosophy & Tenets of Small & Micro-Cap Investing

  37. TUSK ENERGY(TKE.T) 2001 – 2004 Return 700% Philosophy & Tenets of Small & Micro-Cap Investing

  38. TUSK ENERGY(TKE.UN.T) 2001 – 2005 Return 2,100 % (includes payouts) Philosophy & Tenets of Small & Micro-Cap Investing

  39. MDI TECHNOLOGIES (MDD.U.V) 2002 – 2005 Return 1,400 % Philosophy & Tenets of Small & Micro-Cap Investing

  40. Philosophy & Tenets of Small & Micro-Cap Investing PORTFOLIO EXAMPLE $10,000 Investment - One winner, one loser Company A - $5,000 invested Shares appreciate 1,000% Total $50,000 Company B - $5,000 invested Goes bankrupt Total = $0.00 Portfolio Value $50,000 Initial Investment $10,000 Total Return = 400% return

  41. Philosophy & Tenets of Small & Micro-Cap Investing (5) Invest Large Amounts in Fewer Companies in Order to Properly Focus on the Individual Companies • This means monitoring the quarterly updates, news releases, talking to the C.E.O. and making site visits. • I research 60 to 70 companies on an ongoing basis but invest, or concentrate on, approximately, 20. • This gives greater insight into their trading patterns and, ultimately, this knowledge benefits my client’s returns.

  42. Philosophy & Tenets of Small & Micro-Cap Investing (6) I Rely on Regular Dialogue With C.E.O’s to Attain Greater Insight Into the North American Economy. • The C.E.O’s, whom are current clients, represent companies that are doing a combined $600 million worth of business in North America. • It’s imperative these head decision makers stay on top of their business environment and trends in the economy. • They are not passing on “insider information” but are giving me their insight as to the current economic environment.

  43. Philosophy & Tenets of Small & Micro-Cap Investing (7) Hang on to Your Winners as Long as Possible! • … and perhaps even add to your position (if they are still undervalued). • If management has been able to position the company and its product/services correctly, quite often the growth curve is steep and dramatic. • Experience has taught me that often your winners remain your winners.

  44. Philosophy & Tenets of Small & Micro-Cap Investing (8) I Invest Alongside My Clients. • The companies I recommend, I buy myself. • Naturally, I follow them closely.

  45. Conclusion • Buy a basket of businesses. • Eliminate some of the risk through diversification. • Use fundamental analysis to assist in finding undervalued businesses. • Look for companies that have been in existence for over 10 years and ones that provide a great deal of data to assess. • The companies trade at much lower multiples than their larger counterparts. • Focus on their businesses to ensure your continued investment is on track. • Buy companies that are at the steep end of the growth curve.

  46. Conclusion

  47. (5) Brent Todd – Why Brent Todd Investment Advisor Canaccord Capital Inc. Email: brent_todd@canaccord.com Tel: 604-643-0106 Toll Free: 1-877-643-0200

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