Canadian Growth Equity Strategy – Q3 Portfolio Commentary
The Pembroke Canadian Growth Fund is a Pooled Fund. This is a prospectus-exempt product that is only offered to investors who meet the definition of an “accredited investor” under securities legislation.
During the third quarter of 2020 Pembroke’s Canadian equity portfolios continued to rebound from the spring’s COVID-19 driven selloff. The economic recovery from the initial outbreak has been notably uneven, with some businesses benefiting from shifts in consumer and corporate behaviour while others face daunting challenges to their outlooks. Moreover, a high degree of uncertainty remains about the severity of the second wave of the outbreak and the nature of the “new normal” that will eventually emerge. Still, the decisive actions taken by monetary and fiscal authorities to counteract potential fallout from the pandemic have calmed investor fears and stoked a powerful market rally.
The performance of Pembroke’s Canadian equity mandates was strong on both an absolute and relative basis in the third quarter. Gains outpaced those posted by the S&P/TSX Composite, Completion, and Small Cap Indices. From an industry group perspective, the portfolios benefited from outperformance by investments in the consumer discretionary, industrial, real estate, financial, and materials sectors. The fund’s minimal weighting in the energy sector also added to relative returns.
Two stocks made positive contributions to returns in the third quarter.
Shares in Goodfood (“FOOD”), a Canadian meal-kit solutions and online grocery company, gained in the third quarter as COVID-19 restrictions drove new customers to adopt the company’s meal-kit services while spurring existing subscribers to increase the frequency and size of their orders. This heightened demand resulted in the company generating positive earnings for the first time in its history, an important milestone and a catalyst for valuation expansion. The pandemic also appears to have accelerated consumer adoption of online grocery shopping, a fast-growing business in which Goodfood is well positioned to capture outsized market share due to its investment in dedicated online fulfillment centres and its launch of a same-day online grocery delivery service. With a strengthened balance sheet following its recent equity financing and enduring industry tailwinds, Goodfood is well-positioned in the market.
Shares in Richards Packaging (“RPI-U”), a distributor of plastic and glass containers to small and medium sized businesses and a distributor of healthcare packaging and dispensing systems to pharmacies, performed well in the third quarter, adding to gains from earlier in the year. The company has benefited from a surge in demand for sanitizer and disinfectant products, as well as the pumps, sprays, and nozzles used to dispense them. We believe it is likely that demand will remain elevated compared to pre-pandemic levels as more stringent sanitization and disinfection protocols become the norm in a post-pandemic world. Moreover, the company bolstered its growth profile with the sizable acquisition of a complementary business in the healthcare distribution space.
Two stocks made negative contributions to returns in the third quarter.
Shares in Parex Resources (“PXT”), a company engaged in the exploration, development and production of oil and gas assets in Colombia, slid in the third quarter with a difficult commodity price environment and amidst investor malaise towards the industry. The COVID-19 pandemic has induced a negative near-term shock to the demand for oil, while longer-term demand dynamics are challenged by substitution by renewables and evolving government policies. Despite these headwinds, Parex has a low-cost production profile, a pristine balance sheet, and a significant inventory of assets. The company generates significant levels of free cash flow even in the prevailing pricing environment, and its management team is committed to directing this capital into share buybacks and high rate of return investment opportunities.
Shares in Aritzia (“ATZ”), a women’s fashion brand selling through retail locations and online, lagged in the third quarter after posting strong gains in the prior period. Like many retailers that closed their stores during the lockdown, Aritzia gradually reopened its locations in the May-June timeframe. As their stores are progressively regaining some of the lost sales, the Company’s eCommerce initiatives continue to bear fruit with accelerated volumes. The Company has retained most of its employees and continues to take advantage of various governmental support programs. While many of its competitors are closing stores or seeking bankruptcy protection, Aritzia’s solid financial footing is allowing it not only to survive the turmoil, but to emerge as a stronger company by attracting new customers and securing attractive real estate opportunities for new stores.
Pembroke Dividend Fund Commentary
The Pembroke Dividend Growth Fund is a Pooled Fund. This is a prospectus-exempt product that is only available to investors who meet the definition of an “accredited investor” under securities legislation.
The Pembroke Dividend Growth Fund reported strong gains in the third quarter of 2020, continuing the rebound of the second quarter from market lows in April. While significant uncertainty remains regarding the ultimate path to economic recovery, the actions taken by central banks and governments worldwide have provided near-term support for both economic growth and equity markets.
On a relative performance basis, the fund outperformed the S&P/TSX Composite, Completion, Small Cap, and Dividend Aristocrats Index during the quarter. The fund also outperformed these indices on a year-to-date basis.
Industry group performance reflected the broad-based nature of the third quarter rally, with all sectors represented in the portfolio gaining during the period. Investments in the real estate, industrial, consumer discretionary, technology, and materials sectors were all contributors to performance for the quarter.
Two stocks made positive contributions to performance in the third quarter.
Shares of Collectors Universe (“CLCT”), a leading provider of third-party authentication and grading services for high-value collectibles such as coins and trading cards, reached new all-time highs during the third quarter. The company has been facing unprecedented demand for its services from consumers, who are embracing the collectibles hobby during the pandemic. While management has made great strides in increasing processing capacity by hiring additional staff and incorporating process improvement initiatives, demand has overwhelmed capacity and backlogs are growing. The company’s financial performance has been strong, with cash generation well in excess of dividend obligations. Longer-term, the company may have opportunities to enhance its position in the transactional portion of the collecting industry, either through internal investment or via acquisition.
Shares in Richards Packaging (“RPI.UN”), a distributor of plastic and glass containers to small and medium sized businesses and a distributor of healthcare packaging and dispensing systems to pharmacies, performed well in the third quarter. The company has been the beneficiary of a surge in demand for sanitizer and disinfectant products, as well as the pumps, sprays, and nozzles used to dispense them. We believe it is likely that demand will remain elevated compared to pre-pandemic levels as more stringent sanitization and disinfection protocols become the norm in a post-pandemic world. Moreover, the company bolstered its growth profile with the sizable acquisition of a complementary business in the healthcare distribution space.
Two stocks made negative contributions to performance in the third quarter.
Shares in Morneau Shepell (“MSI”), a leading provider of technology-enabled human resources services to 24,000 employers across North America, were weak in the period. While the company has proven to be resilient in a variety of macroeconomic climates and has high levels of recurring revenues, stable margins, and low capital intensity, the near-term growth headwinds from the COVID-19 outbreak have tempered investor expectations. Specifically, an extended period of elevated unemployment levels would have a negative impact on the company’s revenue base, and the selloff in its shares is reflecting this concern. Despite the weakness in Morneau shares, we continue to believe the company has attractive opportunities to drive organic growth by increasing its penetration in the US market and by rolling out its technology-driven platform to more customers.
Shares in Canaccord Genuity Group, (“CF”), a global provider of investment banking and wealth management services, pulled back in the third quarter following gains posted in the first half of the year. The company has been a beneficiary of strong gold, technology, and healthcare sector activity, which has driven investment banking revenues. Moreover, Canaccord’s wealth management division continues to grow its assets under administration worldwide. Management’s confidence in the outlook for both businesses was reflected in a boost to the dividend in August, following a similar increase in 2019 and complementing a history of special dividends as well. Shares of Canaccord are attractively valued particularly relative to publicly traded wealth management and investment banking peers.
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Disclaimer
This report is for the purpose of providing some insight into Pembroke and the Pembroke funds. Past performance is not indicative of future returns. Any securities listed herein, are for informational purposes only and are not intended and should not be construed as investment advice nor is it a recommendation to buy or sell any particular security. Factual information has been taken from sources we believe to be reliable, but its accuracy, completeness or interpretation cannot be guaranteed. Pembroke seeks to ensure that the content of this document is correct and up to date but does not guarantee that the content is accurate and complete and does not assume any responsibility for this. Pembroke is not responsible for decisions or actions taken or made on the basis of information contained in this document.
