Kingsferry Capital Management Group Limited Issues Letter to Home Capital Group Inc. Outlining Why It Should Implement a Share Repurchase Program Now

Beverly Hills, California, UNITED STATES

LOS ANGELES, Aug. 21, 2018 (GLOBE NEWSWIRE) -- Kingsferry Capital Management Group Limited (together with its affiliates, “Kingsferry Capital”) today sent a letter to the President and Chief Executive Officer of Home Capital Group Inc. (“Home Capital”).  In the letter, Kingsferry Capital outlines why it believes Home Capital should implement a share repurchase program now.

The full text of the letter from Kingsferry Capital follows:

August 21, 2018

Home Capital Group Inc.
145 King St. West,
Suite 2300,
Toronto, ON, M5H 1J8
Attention: Yousry Bissada, President and Chief Executive Officer

Dear Yousry,

As you may be aware, the accounts that Kingsferry Capital Management Group Limited (together with its affiliates, “Kingsferry Capital”) manage has a beneficial ownership interest of approximately 2.9% of the outstanding common stock of Home Capital Group Inc. (“Home Capital” or the “Company”).  We first became a shareholder of Home Capital shortly after last year’s liquidity crisis and have continued to hold our shares of Home Capital since then. 

We appreciate and applaud you and your team for successfully turning Home Capital around since last year’s liquidity crisis.  It is truly impressive that, despite evolving regulatory changes to mortgage rules, the Company has delivered four consecutive quarters of robust financial results.  While the Company’s financial results have been strong, we cannot say the same for the Company’s share price performance.  Since the beginning of 2018 and as of August 17th, Home Capital’s share price has declined 17.2% while the S&P/TSX Capped Financial Index has gained 0.6%.  In fact, Home Capital was the third worst performer out of the 27 constituents in the index.  In light of this underperformance, we felt it would be helpful and important for us to outline for you and your team our current views on Home Capital and an opportunity to enhance shareholder value.

It is our belief that Home Capital’s current market valuation has been irrationally discounted, providing the Company an attractive opportunity to implement a share repurchase program.  As of August 17th, Home Capital’s share price closed at C$14.34, representing a 39% discount to Q2 book value.  As a comparison, your main competitor is trading at an 8% discount to book value.  We are not the only ones that believe Home Capital’s current market valuation is grossly undervalued.  The average target price provided by brokers is currently at approximately C$18/share. Although we consider this target price to be low, it still represents a 26% premium to the August 17th closing share price.

In our opinion, there are primarily two factors that caused Home Capital’s market valuation to stay irrationally discounted:

  1. Balance sheet is over-capitalized, resulting in low return-on-assets and return-on-equity.  The Company’s capital ratios are well above its main competitor and regulatory minimum.  For example, Home Capital’s CET 1 ratio was 23.2% as of June 30th whereas your main competitor had 14.3% and regulatory minimum was 7.0%.  While it is important to ensure Home Capital is well-capitalized to absorb unexpected losses, the Company seems to be retaining too much capital, especially after the C$153 million raised via new share issuance to Berkshire Hathaway last year and over C$120 million of net income generated from the past four quarters.  As Home Capital has now secured stable and asset-matching funding sources, there is no need for the Company to retain excessive earnings in its balance sheet as other funding sources are far more cost-effective;
  2. Low market liquidity for Home Capital’s shares.  Based on our analysis, the 30-day average daily share turnover ratio has declined close to 30% compared to the beginning of this year.  After last year’s liquidity crisis, market activity for Home Capital shares has been structurally declining.  One possible explanation to this trend is the lack of a dividend policy, which has limited Home Capital’s investor universe and resulted in declining market activity.  A study has found that repurchase trading for companies that have sufficient public float may enhance market liquidity through narrower bid-ask spreads and increased market depth.   While implementing a dividend policy would be a more sustainable long-term solution for this problem, a share repurchase should be prioritized over dividends due to the current discounted market valuation, easier implementation and tax efficiency;

According to Warren Buffett, “when companies with outstanding businesses and comfortable financial positions find their shares selling far below intrinsic value in the marketplace, no alternative action can benefit shareholders as surely as repurchases.”  With the stock trading at current valuations, we believe THIS IS THE TIME for share repurchases.  We suggest, as a first step, Home Capital to allocate approximately 48% of its past four quarters earnings or C$60 million for this share repurchase program.  This size of repurchase is completely manageable given Home Capital’s robust financial strength and it is meant to work in tandem with the eventual dividend policy. 

Best Regards,

Hugo Chan
Chief Investment Officer
Kingsferry Capital 


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