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A liquor store sign in New Westminster, B.C. (Richard Lam/Canadian Press)
A liquor store sign in New Westminster, B.C. (Richard Lam/Canadian Press)

STRATEGY LAB

Budding value investors find Liquor Stores NA is no bargain Add to ...

Norman Rothery is the value investor for Globe Investor’s Strategy Lab. Follow his contributions here and view his model portfolio here.

Alcohol beverages represent one of the joys of university life. But three teams of savvy business students didn’t show Liquor Stores NA Ltd. much love when they evaluated it this month.

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The Alberta-based company was studied in the finals of the Ben Graham Centre’s International Stock Picking Competition. It was organized by Dr. George Athanassakos from Western University and endeavoured to bring the virtues of value investing to the next generation of investors.

The finalists from Carnegie Mellon, the University of Toronto, and Western University had only a few days to research Liquor Stores NA as an prospective investment. On April 7 they presented their findings – and defended them – in front of a panel of respected value investors that included money managers Kim Shannon, Wayne Peters, and Jeffrey Stacey. The top team would get the lion’s share of a $17,500 prize pool that was made possible by a donation from Fairfax Financial.

Liquor Stores NA proved to be a good test case. On the surface, the company has several potentially interesting investment characteristics.

Currently the liquor retailer’s stock trades near $12 per share and that’s well below a high of $20.36 per share in 2012. The low price suggests that it could be a relative bargain. It also trades at roughly 90 per cent of book value (including a load of goodwill) and pays a rich dividend yield of 9 per cent, according to S&P Capital IQ.

The firm’s management changed in 2013, which could represent a potential catalyst. Stephen Bebis -- who comes with a load of retail experience -- was installed as the company’s new president and CEO.

However, all three teams recommended taking a pass on the stock and expressed a variety of concerns.

They thought the firm’s immediate earnings and growth prospects were less than stellar. Simply put, they considered the company to be in a highly-competitive and low-margin business. They also feared that evolving regulations might complicate its prospects.

About that dividend
In addition, the firm’s dividend policy was the subject of a great deal of discussion. Liquor Stores NA paid $1.08 per share to shareholders over the last year (in monthly instalments) while only earning $0.49 per share. As a result, its dividend may be on shaky ground. Thankfully, the firm generated more than enough cash flow from operations to pay for it this year.

But weak earnings, a big dividend, and a good dollop of debt all combine to constrain the company. Ultimately, there isn’t much left over for Mr. Bebis’ expansion and growth plans.

Reducing the dividend would go a long way to improving the firm’s flexibility. But it would likely enrage shareholders and depress the firm’s share price in the short term.

While the students didn’t reject the idea of buying Liquor Stores NA entirely, they wanted to do so at a much lower price.

The judges were impressed with at the quality of the presentations, as was I. The students held up under questioning far better than I would have at their age.

A hearty congratulations go to the winners Catherine Yi, Omid Ameri, and Matt Vines. They were the best of a strong field. I raise my glass to all those who participated.

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