Description
Westaim is listed on the TSX-V as WED and trades in USD OTC as WEDXF. I have found trading in material volumes available both on the TSX-V and OTC. Currency is generally listed in USD except that Westaim share prices are listed in CAD.
An investment in Westaim Corporation represents a straightforward opportunity to purchase near-cash assets at a significant discount with short-term catalysts on hand to erase the discount. Monday morning (May 6), Westaim announced a secondary offering of up to 5M of its owned common shares in Skyward Specialty (SKWD) which would bring Westaim under 5% SH status, and I expect Westaim to sell its remaining 1.98M shares in the market by late June. Westaim will shortly have about $335M cash (and no debt) as compared to a current market cap of about $374M. Adding in $150M of portfolio investments managed by its 51%-owned credit-focused investment manager Arena Investor Group Holdings (Arena) and $27M for the investment in Arena ($24M of which is a loan to Arena), I calculate adjusted shareholders equity of about $4.85 CAD per share versus a share price of $3.86 CAD. Management has stated that the discount is “unacceptable”, and it will have the ability to not only close the discount but to add significant per-share value through a Substantial Issuer Bid.
The Company has a history of returning capital and management is incentivised to do so through its shareholdings and share-based compensation. With near-term catalysts including the closing of the secondary offering, follow-up sale of remaining shares, AGM/investor day meeting on May 16th and the ability to implement a large-scale and meaningfully accretive tax-efficient capital return, Westaim offers a near-term opportunity for 20%-30% upside with very low risk of loss.
As this opportunity may be recognized quickly and the situation is relatively straightforward, I will lay out the material factors briefly. I am happy to discuss further in the Q&A. If you are interested in the idea, please vote on my re-activation bid. Thumbs up or down is fine but please vote as 12 votes are needed!
Discussion
Westaim is a Canadian-domiciled holding corporation with two major U.S.-based investments made over the past decade.
Its larger investment is Skyward Specialty Insurance Group. Westaim’s COO Robert Kittel and CEO Cam MacDonald were directors of Skyward (they resigned November 30, 2023) and had a major influence on the company’s direction since inception. Skyward went public in January 2023 and has had very strong financial results since going public. Skyward forecast adjusted net income growth above 30% for 2024 to $2.68 per share and its Q1 results remained strong with a combined ratio of 90%, gross written premiums increase of 27%, annualized ROE of 22% and adjusted net income of $0.75 per share. SKWD shares currently trade at about $37.60 per share.
While management has indicated it is very happy with Skyward’s direction and prospects, it had also let shareholders know that it would look to harvest this investment. The somewhat desultory sale process was speeded up by a change in Canadian tax law announced April 16. Effective June 25, the effective capital gains rates for Canadian corporations will be increased from 13% to 26% (the same rate as ordinary income - in line with U.S. corporate taxation). This Monday morning, Westaim announced a secondary offering of up to 5M of its remaining SKWD shares which will take its ownership below 5% if fully taken up. In such event, it will be able to sell its remaining 1.98M shares over the market without restrictions. Assuming no major decline to Skyward’s share price, I expect Westaim to sell all of its shares prior to June 25.
With an estimated public offering price of $33.50 (and a 4.5% underwriting fee) and a subsequent market sale average price of $35.00, Westaim would retain $200M after tax and associated bonus payments.
Note that the major difference between my estimate of Westaim’s fair value and the Company’s higher calculation of book value is my deduction of estimated capital gain tax and sale-related special bonuses. I am happy to discuss in the Q&A.
Westaim will continue to own a significant interest in Arena. Arena is a credit-focused alternative investment manager led by Dan Zwirn. Arena has built a team of 180 professionals, has fee-paying AUM of $2.5B, and is cash-flow positive. While Arena has the potential to provide material incremental value based on future performance, I view this as a free option and simply use the balance sheet value of $27M. Note that the Arena investment includes a $24M loan Westaim has made to Arena so little value is ascribed to the equity.
The final major component of Westaim’s value is $150M of Westaim’s proprietary capital invested by Arena and represented on the balance sheet as Investment in Arena FINCOs and Investment in ASOF LP.
Valuation – for purposes of simplicity, I have used balance sheet values as of December 31, 2023 (other than for SKWD shares) including for shares outstanding. I do not believe net changes YTD are material.
In the valuation below, I have treated all options as exercised (average exercise price of CAD $3.05) with the cash exercise price added to adjusted SH Equity and all RSUs as exchanged for common shares (with associated liability deducted) resulting in 142.9M shares outstanding.
Capital Returns
Management has been direct and explicit in maintaining that its shares trade at a material discount to their value and that it will seek to erase that discount through share buybacks. While management continues to seek new investments, it has repeatedly stated that such investments would compete with the easy accretion provided by buybacks. To date, the Company has been consistently buying back shares through its NCIB which allows for the annual purchase of 10% of the public float.
In a discussion with the Company a few months back, management indicated it favored the NCIB over a Substantial Issuer Bid (SIB) as it allowed for purchases at the market price rather than a premium typically associated with an SIB. Despite that, I expect the announcement of an SIB as it seems overwhelmingly favorable for Westaim shareholders in achieving near-term, meaningful accretion while providing a very tax efficient return for selling shareholders. See the example set out below. Additionally, the option value of the Arena investment is multiplied for remaining shareholders.
Canadian tax rules regarding SIBs can be very punitive to taxable selling shareholders, particularly non-Canadian shareholders. I am happy to discuss details in the Q&A but will simply state that such harmful effects would be largely avoided due to idiosyncratic factors relating to Westaim.
While large-scale participation in an SIB would be very accretive to per-share value, even smaller-scale participation would move the share price to fair value and allow for a strong return through market sales or a large shareholder distribution. Notably, following the 2012 sale of a prior portfolio company for $530M CAD, this same management group returned nearly all of the Company’s funds in a tax-efficient special distribution.
I do not hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise hold a material investment in the issuer's securities.
Catalyst