Value Library

The following is an excerpt from the ABC Perspective - October 2010 - Pg. 1

Analysis, Commitment and Patience …the Fortress Paper Ltd. Story

I know that I have talked and written about fundamental analysis, deep commitment and extreme patience numerous times over the years. But unfortunately, due to the fact that most fundamentally-undervalued common stocks did not protect investors from the serious market downturn of 2007 – 2009, many have become quite skeptical of the market and deep-value, in particular. It is my view, however, that analysis, commitment and patience remain of primary importance to investment success. Consequently, I believe that it is a worthwhile exercise to review the dynamics of a fundamental stock-picking experience.

In the summer of 2007 we were introduced to an initial public offering of Fortress Paper Ltd. and its CEO Chad Wasilenkoff. Initially, we passed on this investment, feeling that a Vancouver-based company with geographically diverse operations—a printing company in Landquart, Switzerland and a wallpaper manufacturing facility in Dresden, Germany would be both difficult to track and manage. Encouraged, however, to take a second look we discovered that Fortress’ recently purchased printing and wallpaper assets were insured for at least three times their balance sheet valuation. Upon further scrutiny we concluded that Fortress Paper was an extraordinarily cheap net asset value story and, as a result, we bought the stock.

While subsequent earnings results appeared to support our deep-value thesis, the stock, post IPO, was thinly traded, very volatile and quite disappointing. Moreover, as we entered 2008, investors appeared to abandon small capitalization, under-followed, deep-value securities such as Fortress Paper, and its share price plummeted below our cost of $8.00. Nonetheless, we stuck to our original thesis that Fortress was dirt cheap with a 12 – 18 month target of $12 – $15. Unfortunately, despite our fundamental optimism, by March 2008, the stock had fallen to $5.30 where we added to our holdings. In re-examining our analysis we concluded that Fortress, with its proprietary printing technology, solid balance sheet, astute management and excellent prospects, offered investors a unique growth stock at a deep-value price.

With the stock market collapse in the fall of 2008, Fortress hit a new low bottoming in the spring of 2009 at $4.62. Regardless of the share price disappointment, we clung to our optimistic investment outlook.

Later in 2009, an aggressive plan to rebuild and quadruple its PM1 banknote printing machine’s capacity at the Landquart mill was initiated, but more importantly, investors anxiously awaited an accretive corporate acquisition. This was promised with the 2007 IPO. True, management had not disappointed investors with the company’s significant progress, however, it had been a very frustrating two years since going public. Then, quite unexpectedly, in early spring 2010, Fortress announced a major transformative acquisition of an NBHK pulp mill in Thurso, Quebec. In effect, the Company planned to convert this facility into a low cost specialty cellulose producer whose products will be used to manufacture rayon, a substitute for cotton. Interestingly, this transformation would incrementally increase revenue per ton by over $600 or 60%. Moreover, with an attractive Quebec government loan and a separate debenture financing convertible at $20 per share, the necessary investment catalyst was finally at hand. A subsequent bought-deal financing at $23.50 and two forward sales contracts of dissolving pulp further augmented Fortress’ share price to over $42.

Looking back over the past three years, while we are gratified with Fortress Paper’s share price performance, it should be noted that it has not been a straight line appreciation. During this period we faced numerous obstacles and attribute our success to serious fundamental analytical efforts, deep professional commitment and extraordinary patience.

Irwin A. Michael, CFA