Mawer partner picks small caps - with a caution

(Every week, Business Edge columnist Gyle Konotopetz profiles the top three stock picks of one of Canada’s most accomplished investment pros.)

FEATURED PRO: Martin Ferguson is a partner and portfolio manager at Calgary-based Mawer Investment Management (www.mawer.com). The featured stocks are held in the small-cap New Canada Fund that is managed by Ferguson.

The fund boasts a return of 32.9 per cent over the past 12 months (through May 31). Over the same period, the Nesbitt Burns Small Cap Index has returned 7.7 per cent. Year to date in the six months through June 30, the New Canada Fund is up 24.5 per cent compared to 8.7 per cent for the Nesbitt Burns Small Cap Index.

Ferguson’s Perspective: “We don’t know the direction of the economy with any certainty, but so far the economy has remained on track and, if it remains so, that would be positive for the equity markets. But the equity markets have been going down despite basically benign economic conditions.

“As long as the market remains on track, I think on a relative basis the small caps have a good propensity to outperform.

“However, should the economy derail, I believe that, if you go by history, small caps tend to have a bit of volatility.

“Small caps remain less expensive than the general markets but, in times of recession or peril or nervousness, there tends to be a flight to safety which have historically been the blue chips and bigger names or, beyond that, the bond market.

“I’m concerned about investor sentiment. If we continue to get hit after hit, with new companies reporting problems (with accounting), maybe confidence will continue to flag.”

FIRST STAR
* CCS Income Trust, formerly Canadian Crude Separators (CCR.UN-TSX).
* Recent Price: $17.85.
* 12-Month Range: $5.30-$18.40.
* Snapshot: CCS was recently restructured into an income trust from the original company, Canadian Crude Separators, which provides oilfield treatment, recovery and disposal services through two divisions, Concord Well Services and CCS Energy Services. The trust recently announced an initial cash distribution of 18 cents per unit and will then pay a monthly distribution of 14 cents per unit.
* CEO: David Werklund.
* Head Office: Calgary (235 employees).
* Vital Stats: Revenue (last 12 mos), $119.7 million; Profit (last 12 mos), $22.1 million; Market Cap, $227.6 million; Shares Outstanding, 12.7 million.
* Ferguson’s Comment: “CCS is the largest third-party provider of the services they offer and they are trading at a very low value. A lot of the negatives that a lot of income trusts have are not relevant to this company. It doesn’t have short-life assets, it’s running off free cash flow and there are great (profit) margins. It became a more efficient company by becoming an income trust.”
* Ferguson’s Risk Rating (relative to small-cap sector): Low.
* Web watch: www.cdncrude.com

SECOND STAR
* Menu Foods Income Fund (MEW.UN-TSX).
* Recent Price: $13.45.
* 12-Month Range: $10.40-$13.80.
* Snapshot: Menu Foods is a manufacturer of wet pet food, producing more than 800 million containers of wet pet food per year. It recently announced a distribution of 12.95 cents per unit for the 40-day period ending June 30.
That represents an 11.75-per-cent return on the IPO price of $10 and reflects a planned distribution of 9.79 cents per month per unit.
* President: Robert Bras.
* Head Office: Mississauga, Ont.
* Vital Stats: Market Cap, $173.6 million; Shares Outstanding, 12.9 million.
* Ferguson’s Comment: “It’s the North American leader in private-label wet pet food products and it is a company that is a free cash flow generator. The business is fairly stable and it is not economically sensitive. It has been able to grow its top line, its bottom line and its market share for the past 25 years that it has been in business. Its management is aligned with unit holders, holding about 50 per cent of the stock.”
* Ferguson’s Risk Rating (relative to small-cap sector): Low.

THIRD STAR
* Caribbean Utilities Company (CUP.U-TSX)
* Recent Price: $11.95.
* 12-Month Range: $11-$12.75.
* Snapshot: Caribbean is the sole provider of electricity to Grand Cayman in the Cayman Islands. Its system is comprised of 18 generating units and five major transformer substations. n CEO: Peter Thomson.
* Head Office: Grand Cayman, Cayman Islands.
* Vital Stats (US dollars): Price/Earnings Ratio, 8.7; Revenue (last 12 mos), $148.2 million; Profit (last 12 mos), $32.5 million; Market Cap, $289 million; Shares Outstanding, 24.2 million; Dividend Yield, 0.62.
* Ferguson’s Comment: “As the full provider of electricity to the Grand Cayman Islands, Caribbean operates under a 25-year exclusive licence that is renewable for the year 2011. Under this licence, it has the ability to earn a 15-per-cent return on its capital. That’s a great rate in today’s market and the stock is reasonably valued.”
* Ferguson’s Risk Rating (relative to small-cap sector): Low.
* Web watch: www.cuc-cayman.com
* Ferguson’s Edge Record (with Jan. 17 and April 4 picks): +24% (CHC Helicopter +77%, Wittke +27%, Mullen Transportation +18%, Russel Metals +17%, Uni-Select +8%, Premium Brands -4%).
* Disclosure: Mawer partners are restricted from owning individual stocks in their funds, but may hold the stocks indirectly in their funds.