Investment memos

Gencan Capital Inc (GCA CN) – Smash & Grab 1.85x MoM – SELL above CAD$ 0.043

Our relationship with Gencan was even shorter than with it parent and listed predecessor Genterra Capital Inc (original memos can be found here & here). We exited our entire position at CAD$ 0.14 on the 11th November 2015

A quick potted history of the situation as a reminder for those who have not read all the previous posts:

  • Genterra Capital Inc was a Canadian Venture listed company which owned real estate, a solar park and some listed securities
  • On the 10th July 2015 the controlling shareholder made an offer to take Genterra private in the form of cash consideration of CAD$ 1.96 per share and two shares in Gencan Capital Inc an entity being spun out of Genterra which would own the solar asset
  • We exited our Genterra position in the market on the 4th August 2015 at an implied price for Gencan shares of CAD$ 0.195 which implied the market was paying a premium to the undiscounted cash flow streams of the solar park which is mad
  • We then got the opportunity to re-enter Genterra with a view to creating the Gencan spin-off cheap and acquired shares at an all in effective price of CAD$ 0.745 between the 14 & 16th of August 2015
  • The Gencan spin-off became effective on 28th October 2015 and the shares were listed to trade on the Canadian Securities Exchange as of the 30th October 2015

At the time we initiated the trade there was imperfect information on Gencan which had previously been a subsidiary of Genterra and therefore did not have separate reporting as well as having only limited trading history given it only recently started generating electricity as of August 2014. At the time of trade the majority of our information came from the Genterra takeover prospectus and the accompanying valuation report. Since then there has been additional disclosure specific to Gencan Capital Inc on sedar which revealed the following:

  • Rent – confirmed that Gencan has to pay rent to Genterra for the lease of the rooftop which equates to CAD$ 60,000 per year for 20 years (the life of the FiT). They also have a 10 year extension option in their favour (we assume to capture repowering opportunities)
  • Administrative Services Agreement – revealed that on top of the CAD$ 60,000 management fee Gencan would pay to Genterra it would also pay an annual CAD$ 6,000 administrative services fee
  • Overall Operating Expenses – the company is estimating CAD$ 270,000 of annual operating expenses (including interest)
  • Results – on the 5th November 2015 Gencan released its June 2015 9 month results which showed that if Q4 produced a similar amount of electricity as Q3 which would seem sensible given it covers the summer months of July – September then the company would likely hit its revenue target
  • Debt – nasty surprise here that the debt is due on 1st August 2019. Our assumption had come from page E-2 of the Genterra information circular where the independent valuer stated that “A loan from Genterra was used to finance the installation which bears interest at 4% and is assumed to be paid in five instalments of $511,594 on 30 September for the years 2030 to 2034.” On closer examination of the same document on page G-20 they state “Pursuant to an Amending Agreement made on July 16, 2015, the loan has been converted into a 5-year term loan repayable on August 1, 2019, with interest at a rate of 4% per annum calculated and payable monthly in arrears.” Why the valuer was using a different assumption from reality we have no idea but more fool us for not reading the document more carefully

Incorporating all this new information into our model we come to two key conclusions that you need to draw when valuing Gencan today:

  1. The total cumulative net cash flow to equity is likely to be in the range of CAD$ 2,677,286 (depending on your debt repayment assumptions)
  2. Given the 2019 debt maturity it is unlikely that Gencan will make any distributions to the equity until after the maturity as the business looks to build up cash to delever

In terms of valuing Gencan we have changed our base case to reflect the changes above and also show a build-up of cash until 2019 and then a repayment of the debt via a 100% free cash flow sweep. Only once the debt is repaid can you expect equity distributions. This is in-line with project financing agreements for similar solar park ventures that we have seen elsewhere.

We would sell our position in Gencan at an Equity Free Cash Flow (“EFCF”) yield below 10% (implied price of CAD$ 0.043) and start adding if the EFCF got above 15% (implied price of CAD$ 0.024). As a result we exited our position at a price of CAD$ 0.14 for a 1.85x MoM and a 413,575% IRR.

Updated model below

Gencan Capital Inc Memo (2015.11.15)

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