In-depth analysis of The Westaim Corporation (TSE:WED) by Tobias Shute.

A few years after graduating from Rice University with a degree in cultural relativism, Toby initially parlayed his budding passion for investing into a contractor role with The Motley Fool. He penned over 1,000 articles for fool.com over the course of several years. He also contributed investment ideas for a period of time to Motley Fool Special Ops, a special situations-focused newsletter helmed by Tom Jacobs, the Mentor of Marfa. Toby left the Fool in early 2011 to consult for Zeke Ashton at Centaur Capital Partners, the investment advisor to a long/short hedge fund as well as a total return-oriented mutual fund. He wrapped up his stint with Centaur in mid-2014, and has since performed contract research for a variety of funds and newsletters while seeking a new analyst/PM opportunity. He and his family currently reside in Washington, DC.

Price: C$3.05. Shares out: 70.3M. Potentially dilutive securities: 5K deeply OTM options and 2.375M recently granted RSUs payable when vested in cash or shares. Market Cap (basic): C$214.4M. Net Cash: C$94.9M. Non-capital losses (expiring 2026-2034): C$45.6M. IFRS Book Value: C$185.9M. Adj. BV (HIIG marked at 1.0x BV at 9/30/14 FX rate): C$191.6M. P/Adj. BV: 1.12x (All per-share figures are presented on a split- adjusted basis to reflect the 50:1 share consolidation effected 10/1/13, and all dollar figures are in USD unless denoted otherwise.)

Tobias Shute – Westaim: Summary Thesis

Westaim is a Canadian investment company that partners with management teams by providing capital and strategic expertise to businesses, primarily within the financial services industry. Its goal is to maximize intrinsic value per share over the long term.

Book value is split ~50/50 between cash and a 37.7% interest in Houston International Insurance Group (HIIG), a private U.S. specialty insurer run by Stephen L. Way, the founder and former CEO of HCC Insurance. Way skillfully ran HCC for over three decades before leaving in the wake of an options backdating probe. HIIG is his second act. Westaim already hit one homerun with Canadian specialty insurer Jevco, achieving a ~29% unlevered IRR on the investment. Given its discounted purchase price (~87% of book value) and Stephen Way’s track record, I believe Westaim’s HIIG investment will also compound at a very high rate. The firm is cashed up and on the hunt for opportunistic investments.

Following Jevco and HIIG, I am excited to see management’s third act. Cameron MacDonald led value-oriented investment firm Goodwood as CEO for a dozen years before dedicating his full energies to Westaim. He and other insiders own 15.9% of the company, making for strong alignment with outside shareholders. Importantly, Cam purchased the vast majority of his stake, as did Chairman Ian Delaney. I believe the opportunity to partner with this management team (and, indirectly, HIIG’s) at a modest premium to adjusted book value is a very attractive one.

Tobias Shute – Westaim: Inauspicious Origins

Originally an advanced industrial materials R&D shop, Westaim was capitalized with ~C$180 million of cash and spun out of Viridian (f/k/a Sherritt Inc.) in 1996. Ten years later, the company had largely narrowed its focus to two majority-owned businesses, iFire Technology and Nucryst Pharmaceuticals. Though their divestiture would yield nearly C$40M in cash in the 2008-2009 period, these ventures were essentially failures, and investor aversion was understandably high. Still, Westaim had a strong balance sheet and tax assets, leaving it deeply undervalued during the crisis.

Tobias Shute – Westaim: Enter Goodwood

In December 2008, Toronto value shop Goodwood filed a 13D (Westaim was then dual-listed on the NASDAQ) indicating a 19.8% ownership stake, acquired for a whopping $4.4 million. Two Goodwood officers, Chairman Peter Puccetti and then-CEO Cameron MacDonald, were promptly invited to join Westaim’s Board, which they did.

In its 2008 annual report, Goodwood outlined Westaim’s straightforward appeal: at an average cost below C$12/share, Goodwood was paying less than net cash. The fund managers laid out their go-forward plan as well:

We are looking forward to working with the Board of Westaim (of which we are members) in finding opportunistic situations in which to invest Westaim’s capital and grow shareholders’ equity at a meaningful pace. There are high-return transactions that can be pursued in a concentrated manner through Westaim given its capital base is permanent. Ultimately, the shareholders of Westaim and the unitholders of the Goodwood Funds will best be served by maximizing Westaim’s non-cash holdings (in particular, its tax loss carry forwards and 75% interest in Nucryst Pharmaceuticals) and finding new avenues of long-term, profitable growth.

There is a lot to salivate over in that one paragraph! Cameron MacDonald became CEO of Westaim in April 2009, and he has been pursuing the strategy laid out above ever since. Cam ended his 12-year engagement as President and CEO of Goodwood Inc. in December 2012, leaving Westaim as his principal focus. To be clear, he was not a portfolio manager at Goodwood, so that firm’s track record largely belongs to founder Peter Puccetti, and is not especially relevant to the thesis here. Here’s a snapshot of the inception-to-date performance anyway:

Tobias Shute - Westaim Goodwood

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