Stephen Takacsy, president, CEO and chief investment officer at Lester Asset Management
Focus: Canadian equities

MARKET OUTLOOK

After rebounding strongly this year as fears of an impending recession faded and central banks cut interest rates, equity markets have starting getting volatile again as the U.S.-China trade war drags out and corporations start feeling the impact. Large caps have become extremely expensive as a result of passive ETF investing to the detriment of small- and mid-cap stocks which have gotten even cheaper. Michael Burry of The Big Short fame recently called this phenomenon an index bubble and he’s investing heavily in small-cap value stocks. We also see many good long-term opportunities in the neglected and mispriced Canadian small- and mid-cap sector at valuations well below private market values. IPOs such as Uber priced at ridiculously high valuations signal a market top for money-losing tech stocks, which are now starting to deflate, with the WeWork IPO valuation to be priced nearly 50 per cent lower than the last private equity round.

TOP PICKS

DIAMOND ESTATES WINES (DWS:CV)
Core holding.

Diamond is the only publicly traded wine company in Canada besides Andrew Peller and the third-largest VQA producer in Ontario. The stock has been weak due to a drop in exports due to trade tensions with China and the loss of two customers at its agency business one year ago, although both businesses are growing again.

The big news is that Diamond recently announced in July that Lassonde Industries (one of North America’s largest juice companies) has taken a 2-per-cent stake in it. This is a game changer, providing Diamond with capital to grow its newly acquired B.C. operations and a strategic partner to increase wine distribution in grocery stores across Canada and agency sales in Quebec. We also expect Lassonde to acquire the entire company at a significant premium to the current share price within a few years. We recently bought another 3.1 million shares and increased our ownership up to 9.9-per cent at an average cost of 19 cents.

GOODFOOD MARKET (FOOD:CT)
Core holding.

One of the fastest growing companies on the TSX, Goodfood is Canada’s largest meal kit provider, with an estimated 45-per-cent share of the fast-growing market. Sales have more than quintupled since we first mentioned Goodfood on BNN less than two years ago. Goodfood now has 200,000 active subscribers and gross sales run rate of over $250 million per year.

 Goodfood now describes itself as an online grocery company, delivery fresh food from farm to kitchen. Goodfood is now a disruptor with a more efficient business model than traditional grocery stores since there is no inventory, no wastage and minimal handling, thus is generating higher gross margins. Enterprise value is under 0.5-times gross sales run-rate, while grocery chains in the U.S. like Kroger and Albertsons have been acquiring meal kit companies for 1.5 to 2 times sales. Goodfood can grow its sales to $500 million within a few years and become an attractive acquisition target. Stock is worth $5 to $6 based on 1-times forward gross sales.

BAYLIN TECHNOLOGIES (BYL:CT)
Core holding.

One of our largest holdings, Baylin is a world leader in wireless antenna design for mobile, network and infrastructure applications. It will benefit from huge infrastructure spending next 25 years with increasing Wi-Fi coverage (DAS), wireless network densification using small cell systems and new antennae/components needed for 5G for connected devices. It should benefit from backlash against Huawei since Baylin deals with Samsung, Erickson and Nokia. Made several transformational acquisitions in 2018 (Advantech and Alga) to add complementary RF/microwave components for satellite and wireless base stations. Baylin is currently seeing a significant increase in sales with 2019 revenues expected to reach $170 million and EBITDA of $23 million. At $3, Baylin is only trading at an EV/EBITDA of 7 times. Our target price is $5 to $6 within 12 to 18 months based on 9 to 10 times 2020 EBITDA similar to peer group.

PAST PICKS: SEP. 24, 2018

CENTRIC HEALTH (CHH:CT)

• Then: $0.36
• Now: $0.12
• Return: -68%
• Total return: -68%

GRANDE WEST TRANSPORTATION (BUS:CV)

• Then: $1.33
• Now: $0.45
• Return: -66%
• Total return: -66%

BADGER DAYLIGHTING (BAD:CT)

• Then: $27.92
• Now: $41.61
• Return: 49%
• Total return: 51%

Total return average: -28%

FUND PROFILE

Lester Canadian Equity Fund
Performance as of: Aug. 31, 2019

• 1 year: -2.1% index, fund 4.3%
• 5 years: 19.6% index, 22.3% fund
• 10 years: 185.4% index, 102.9% fund

Index: TSX Composite Total Return.
Fund returns include reinvested dividends and are net of all fees and expenses.

TOP 5 HOLDINGS AND WEIGHTINGS

1. CN Railway: 3.7%
2. Pembina Pipeline: 3.7%
3. Algonquin Power & Utilities: 3.4%
4. Boralex: 3.3%
5. Altus Group: 3.3%

www.lesterasset.com