When it comes to the S&P/TSX composite index benchmark, all income trusts are not created equal.
The rally in trusts that started a few hours before Finance Minister Ralph Goodale kiboshed the notion of tax on the sector has favoured the country's largest, most liquid names.
Market leaders such as Canadian Oil Sands, Pengrowth, Fording Coal, Bell Nordiq and especially Yellow Pages Group have seen their units rise further and faster than their small-capitalization brethren.
This trend reflects the fact that the hedge fund crowd is loading up on large-cap trusts in anticipation of their debut in the S&P/TSX composite index on Friday. The trusts join the club after years of lobbying and debate. However, not every trust is invited.
S&P's selection standards that focus on size and trading volumes will mean about 54 of the 175 trusts listed on the Toronto Stock Exchange become part of the benchmark, according to research done by TD Securities. The debut is a two-stage process, with half the trust weighting reflected this week, and the remainder added in March.
The moment even a portion of the trusts are included, they've got to be bought by passive investors like the index funds. The demand coming at week's end is expected to mean a pop in price; hence the hedge fund crowd's interest.
For companies such as Yellow Pages, membership in the equity benchmark and the resulting rally in the unit price couldn't come at a better time.
The uncertainty that surrounded Mr. Goodale's review of the sector knocked Yellow Pages units from $15 to $13 in the space of three weeks. Once the Finance Minister cleared the air, the index-related buying began. The units came charging back, closing last week at $15.85 each. That set the stage for chief executive Marc Tellier to launch a new strategic thrust.
Armed with units that once again command a premium valuation, Yellow Pages yesterday used its paper to make an acquisition, purchasing Trader Media for $436-million. This takeover follows on the well-received $2.55-billion takeover of the Western Canadian SuperPages phone directories earlier this year.
Trader Media was founded by the Francis family in 1975 and has a lucrative niche as publisher of 65 advertising-dominated magazines, such as the Auto Trader and various real estate books. CEO John Francis and his crew will continue to run Trader Media, and the family is getting $135-million in cash and 19 million exchangeable Yellow Pages units, priced at $15.85 each. Becoming long-term stakeholders in Yellow Pages gives the new recruits all sorts of motivation to make this acquisition work.
Though the Auto Trader and other publications are cruising along, the new ownership team can likely find ways to turbocharge the business. For example, the new alliance with Yellow Pages will speed a move into Internet-based sales.
Trader Media kicked off $133-million in sales last year, and the all-important earnings before interest, taxes, depreciation and amortization (or EBITDA) were $43-million. That means the EBITDA margin was 32 per cent.
Yellow Pages cruises along with EBITDA at an impressive 58 per cent of sales.
To the extent Mr. Tellier and his colleagues can help the Francis clan wring more cash from this business, cash distributions can rise, which in turn should lift the unit price.
Yesterday, Yellow Pages units closed at $16.38 on the TSX.
National Bank Financial advised Yellow Pages on this purchase, with an assist from CIBC World Markets. Blair Franklin Capital Partners worked with the Fraser family and Trader Media, the latest in a string of deals for the newly created advisory firm.
There are other potential acquisitions on the horizon for Yellow Pages. At some point, Manitoba Tel, Saskatchewan Tel or Aliant, the East Coast phone company, may decide to sell their directories. Successful integration of Trader Media will open up new fields.
And as Yellow Pages keeps growing, it's going to occupy a large place in the S&P/TSX index, which means even more support from the passive investing crowd.
© The Globe and Mail
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