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Stock to watch: Leon’s Furniture, at 52-week high, has further to rally

Terry Leon, president and CEO of Leon’s Furniture, relaxes in his flagship Toronto store after announcing the purchase of the Brick.


Leon's Furniture Ltd.

Monday's close: $13.63, up 8 cents, or 0.6 per cent

52-week trading range: $10.55 to $13.67 a share

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Annual dividend: 40 cents a share for a yield of 3 per cent

Analysts' ratings: There were no buys, 2 holds and no sells, according to Bloomberg data. The only target price was $12 a share.

Recent history: Shares of the Canadian furniture retailer, which hit a 52-week high on Monday, have gained 12 per cent over the past year. The stock tumbled to a yearly low last June after the company reported a drop in first-quarter profit and lower same-store sales amid tough competition and a slower economy. But the stock surged late last year when Leon's announced a takeover deal to buy its Edmonton-based rival The Brick Ltd. for $700-million. Both banners will be maintained after the deal closes in the first quarter.

Outlook: Investors are now starting to wake up to Leon's stock, but it is barely covered by the Street because it has never issued debt or stock to raise money, said Paul Gardner, a portfolio manager with Avenue Investment Management Inc. and a holder of its shares since 2003. "It has nearly a $1-billion market cap, and yet there is only one Canadian analyst from BMO covering it." The only other analyst to cover it is an American.

"That's the evil part of the financial world," he said. "They only cover you because they want you to issue debt and equity, and that helps pay for research and coverage. So, it has become a cult stock in a way [among some portfolio managers]."

With its century-old roots in Ontario, Leon's move to buy The Brick is a "brilliant transaction," Mr. Gardner said. "They just took out their biggest competitor…What The Brick has compared with Leon's is bigger presence in Western Canada, where there is growth in population."

Until this deal, Leon's was debt free with cash on the balance sheet, with about half of the value of its stock coming from the real estate beneath its corporate stores, he said. On the other hand, The Brick has struggled since the financial crisis when it got caught with an overleveraged balance sheet, and had to get emergency lending agreements with hefty interest rates from investors like Prema Watsa's Fairfax Financial Holdings Ltd. When the transaction is complete, the combined entity will benefit from Leon's cheaper loan rates, and will have a 25 per cent debt-to-capital ratio when most companies are at 40 to 50 per cent, he said.

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Leon's will have earnings of around 70 cents a share this year, but "what is amazing is that its earnings are going to pop to at least $1.15 a share because The Brick still made money," Mr. Gardner added. "And I haven't even talked about synergies. The power of buying furniture is going to be twice as big, and you are going to save some money on the media buy. If you include synergies, you are probably talking about an extra 20 cents...So Leon's is probably worth $17 a share plus the dividend."

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