Thinking Big About Small Companies

Glentel Part 2: The Problems Facing The Company

August 5th, 2014 | Posted by Torin in GLN

It seems germane to start with an overview of how Glentel got to where it is today.

For a brief moment, Glentel was actually a favorite among micro-cap value managers. Guy Gottfried, portfolio manager of Rational Investors and previously an analyst at value giant Fairholme, pitched the company at the Value Investing Congress in 2013, and the share price subsequently rose almost to $16.

But the value gods have not seen it fit to reward GLN investors with sustained gains. Instead, Glentel has been punished with successive blows of bad luck. Three problems in particular have driven GLN’s earnings sideways after years of growth: 

1. The Canadian Wireless “Code of Conduct”:

In June of 2013, Canadian regulators changed the country’s “wireless code of conduct” to require wireless carriers to reduce their maximum voice/data contract lengths from three years to two. This meant Canada’s carriers would incur phone subsidy losses (typically $300-400 per smart phone) every two years, rather than every three. Without any new revenues to offset this change, the carriers’ profits would have been reduced. So the carriers responded as they could rationally have been expected to: they raised prices, by about $5 per month on voice and data plans.

This change has hurt Glentel. As a result of the increased prices on new wireless contracts, many Canadians are holding onto their older, cheaper plans for as long as they can. In doing so, they are also putting off upgrading their existing phones or activating new ones. This dynamic has driven down upgrades and activations by about 15% year over year, and since Glentel earns the majority of its revenue through commissions for upgrades and activations, it has seen ~15% same-store revenue declines at its Canadian locations.

I believe this decline will prove to be temporary, because I think Canadian consumers will eventually return to their old upgrade and activation patterns. If they do, I estimate Glentel’s EPS will increase by roughly $0.35. I will discuss the reasoning behind this assumption in the next post.

2. Target Stores:

Glentel has a strong track record running cell phone kiosks for other retailers. When Target decided recently to expand into Canada, it asked Glentel to operate the in-store cell phone kiosks in its Canadian stores. This was good: a large new contract from a marquee customer.

But Target’s roll-out into Canada has not gone well, and foot traffic in Target Canada stores has been weak. As a result, Glentel’s Target locations are currently losing money. Since the Target Canada locations make up almost 10% of Glentel’s total store base, their effect on revenue and profits has been significant. 

There is a silver lining though: the situation can only get better (for Glentel at least). Either Target turns things around in Canada, enabling Glentel’s kiosks to earn a decent profit, or Target doesn’t turn things around, in which case Glentel will close the kiosks at minimal cost, and thereafter cease incurring the ongoing losses it is suffering through right now.

Glentel’s profitability will increase in either scenario. If the stores remain open and become successful, I believe Glentel will see a $0.15-0.25 improvement in EPS. If the stores are closed, I believe Glentel should still see a $0.05 improvement in EPS.

3. Lost Business in Australia:

Lastly, at the end of 2012 Glentel acquired a majority stake in AMT/Allphones, a company which operates independent multi-carrier cell phone stores in Australia, for $67 million. Shortly after the acquisition, Optus, Australia’s second-largest wireless carrier and a 70% customer of AMT, chose to pull its phones from all independent retailers in Australia.

This was arguably unwise—as a result of this decision Optus has lost market share and its CEO has resigned. Regardless, the contract termination is a reality, and it has sliced Glentel’s Australian profits to zero.

Given the financial consequences of the decision for Optus, it seems possible to me that the new management team may consider reinstating its contract with Glentel. But that is pure speculation, and since I have no solid grounds to believe it will happen, my basic investment case and profit forecasts do not assume that it will.

Looking at things in total, this is a rough sketch of what I see:


This table is packed with assumptions. The goal of the coming posts will be to unpack them.

I also plan to explain Glentel’s individual businesses and their unit-level economics, offer my analyses of the three problems discussed above, and then end with valuation and my conclusions.

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