GFL Environmental, Inc.
After conducting a forensic financial and accounting review (inc. multiple former employees interviews), Spruce Point believes shares of GFL Environmental (TSX/NYSE: GFL), a cash degenerative North American roll-up of environmental service companies, are worthless. We find GFL’s CEO Patrick Dovigi has obfuscated connections to what some observers have dubbed “organized crime” – if true, making the stock uninvestable to institutional shareholders and putting its two deals to acquire Waste Management assets and WCA Waste at risk of not receiving Dept. of Justice approval in our opinion. GFL’s executive Joy Grahek fails to disclose her role advising Philip Services (NYSE/TSX: PVH), a dual-listed roll-up of metal and industrial services that collapsed, was pursued by the OSC regulators, settled $80m of shareholder claims, and was described as “one of the great unprosecuted frauds in Canadian business history”. In our opinion, GFL’s leverage is understated by aggressive reporting of revenue and EBITDA, and free cash flow burn is understated by ~60%; this is evidenced by financial restatements without explanation, and by minimizing a material weaknesses of financial controls. We believe GFL’s debt is understated by at least C$460m. We believe its staggering C$5.6bn total debt load, and financial losses make it reliant on new capital to sustain itself, nevermind its desire to grow via increasingly expensive acquisitions. With a meaningful portion of the stock pledged as collateral for loans, we believe there is a real risk that the stock collapses and the auditor fails to sign off on GFL’s financials after reviewing the evidence we’ve amassed.
CEO And Other Executive With Obscured Connections To Controversial People; Some Internet Sources Speculate As “Organized Crime” GFL’s CEO Patrick Dovigi has scrubbed his biography in SEC and SEDAR filings connecting him to multiple individuals that have had regulatory infractions, legal challenges, and allegations of securities fraud in the U.S. Notably, Dovigi was a Director of NGTV, a company whose financials were overseen by an individual associated with Simon Marketing, the Company involved in the mob-linked McDonald’s Monopoly scandal. In addition, NGTV involved Andy DeFrancesco (tied to Aphria and Fareport Capital scandals), Romeo DiBattista Jr (tied to Fareport Capital), Frank Mersch (settled with the Canadian securities regulators for misleading statements) and Hunter World Markets (SEC charged with stock manipulation). In addition, Dovigi has been associated with Rob Ford, and his brother Doug Ford, influential Canadian politicians that the local media has suggested are connected to organized crime, and patronage controversies. GFL also obscures the role of Paul (Paolo) Borrelli, a former executive and current employee, who is connected on social media to Antonio Borrelli. Antonio went to prison for attempted murder that paralyzed an innocent bystander. Peter Scarcella, who police say “is one of Toronto’s top mob figures”, is Antonio’s uncle.
Another Poorly Organized and Opaque Canadian Roll-Up That We Expect Will Fail To Meet Lofty Goals. Multiple Examples of Questionable Deals: We believe GFL is an aggressive roll-up, having acquired 143 companies since 2007, that overpays for assets and failed three times to IPO. In one case, GFL bought a company that itself acquired 60 companies, making GFL a roll-up of roll-ups. We believe GFL is simply a financial motivated investment scheme that failed multiple times to IPO, and has parallels to Philip Services Corp, a scandalous U.S./Canadian roll-up that went bankrupt. We find examples of GFL touting deals, but through poor post-acquisition execution, have operational or financial challenges. In an extreme case, GFL bought Rizzo Environmental before U.S. authorities indicted its founder for fraud. We also have concerns about the financial guidance issued in the recent Waste Management deal. We heard from an industry observer familiar with GFL’s Canadian business that 50% of its deals are estimated to have under-performed post acquisition. GFL gives limited deal terms and post-acquisition performance, leaving investors to “trust” it when talking about its ability to drive organic growth and margin expansion. Our analysis shows no evidence of operating leverage: GFL has grown sales at the same rate as its two largest operating expenses, employee wages and hauling fees per employee.
Evidence of Aggressive Revenue, EBITDA, Free Cash Flow, Adj. EPS, Capex And Asset Accounting Pointing To Financial Control Issues Being Minimized / Leverage Also Understated: GFL’s first IPO prospectus discussed a material weakness of financial controls, a troubling fact for a Company founded 12+ years ago. GFL removed the material weakness statement before its IPO suggesting it was remediated. Yet, Spruce Point finds evidence that GFL has restated both revenue and EBITDA, without explanation, by pulling from “intercompany” revenues. This maneuver, which flatters its U.S. EBITDA margin, a key part of the growth story, is suspicious. When we spoke with a former employee about GFL’s practices, we heard an opinion that GFL was particularly aggressive, and didn’t have the right operational structure in place to succeed. The SEC questioned GFL’s use of “Run Rate EBITDA”, and based on the fine language in the prospectus, we believe it provides GFL significant discretion to inflate EBITDA. We believe GFL presents a potentially misleading view of its “Total Gross Debt” which ignores capital leases, loans to CEO Dovigi, and the debt portion of the Tangible Equity Units (“TEU”) issued in March 2020. In total, we believe GFL understates debt by at least C$460m, and potentially more if post-closure landfill liabilities aren’t accurately modeled. We estimate current Net Debt/EBITDA is 4.7x (5.2x pro forma for WM/WCA). GFL carries a deep junk credit rating of B+/B1 with S&P and Moody’s. In Q2 2020, GFL made an accounting maneuver that inflated its operating cash flow by 2x, understated capex by 19% and H1 2020 free cash flow burn was ~60% more than reported. Our analysis shows GFL is struggling more than investors believe, which may explain why it rushed an expensive deal to buy WCA Waste despite not closing on WM.
Evidence of Undisclosed Related-Party Transactions With The CEO And Spending With “Friends” That Could Be Adverse To Shareholders’ Interest: CEO Dovigi has increased loans to GFL recently, which caused us to investigate his related party dealings. We find evidence that through his real estate holding company PJD Properties, he leases office space to GFL, and this fact was not properly disclosed to investors. In addition, we find that GFL leases a mansion in British Columbia from an employee that was acquired in an acquisition. We also heard from sources to “follow GFL’s green trucks” for clues as to where GFL might be spending in ways adverse to shareholders. This led us to Interior Motives Custom Upholstery where we found that GFL has commissioned fancy interior design work for its vehicles. These vanity projects add costs to shareholders with no addition to profits. In addition, we are concerned by GFL sending truck and heavy equipment refurbishment work to Campus Auto Collision, where Mr. Dovigi’s partner at Earthworx landed after pleading guilty to soil contamination, while charges were dropped against GFL. Campus Auto associates itself with individuals that appear to have had past legal issues.
CEO Lives A Large Life With A Side Hobby That Could Distract Him From Running GFL In Our View: CEO Dovigi is not shy about flaunting the wealth created from building GFL via aggressive acquisitions. He claims to buy a new car every 6 months, and the Company provides him a generous annual auto stipend and use of a Company jet. In addition, he has multiple vanity homes all across North America, and a super yacht we believe is named Lady Jorgia. CEO Dovigi is also known to develop properties as a side-venture, but these property development activities have in the past created lawsuits and community push back, notably in Muskoka. He also does not disclose his role at PJD Properties on his SEC-filed biography. Spruce Point believes shareholders would be better served if CEO Dovigi focused all his attention and effort on GFL
Poor Board Composition; Two Audit Members Hide Connections To Controlling Shareholders Compromising Independence
In Our View: Spruce Point believes the current slate of “Independent” Directors are suspect. Mr. Nayar fails to include on his biography that he has received fees from BC Partners as an advisor, GFL’s largest control shareholder. Also, board member Mr. Guindi’s law firm received fees from BC Partners and Ontario Teachers’ Pension Plan. GFL does not compensate its directors with cash, they own no stock, and have an immaterial number of legacy options. More importantly, in our opinion, none of the current Independent Directors have any full-time operational experience in the waste management or environmentally sensitive industries critical to overseeing GFL’s business. As a result, we believe the Board is ill-equipped to best serve new shareholders and ensure that GFL is operating in compliance with stringent rules and regulations – a challenge for GFL historically.
Stock Pledged For Risky Margin Loan / Significant Stock Could Be Sold Soon: Dovigi and others have used margin loans tied to the value of GFL’s stock. Best corporate governance practices generally dictate that executives and directors not pledge stock. This presents undue risks to investors should the stock come under pressure, and forced selling be required. GFL’s IPO lock-up expires in late August 2020, giving insiders the ability to cash out, and repay the margin loan with stock sales.
Financial Targets Unlikely To Be Achieved. Premium Valuation Based On Financials We Believe Are Dubious And Fail To Account For The TEUs.
Delisting Risk Is High: Based on our research and conversations with former GFL employees, we believe it will be unlikely that GFL stems its cash burn and turns a profit any time soon while it continues its torrid acquisition pace. Yet, stock promoters take GFL’s word that it is growing organically (with little data to verify), can continue to acquire (yet overpay for acquisitions), and improve margins (despite evidence of wasteful spending and operational mishaps). Collectively, analysts see 17% upside to GFL’s share price, and argue it’s stock is cheap to peers, yet ignore GFL’s financial control issues of unexplained revenue restatements, aggressive accounting that inflated recent cash flow by 2x, and understated debt burdens. We believe GFL is more expensive that it appears: its enterprise is not correctly modeled for the impact of TEUs, and its market cap to intangible assets and goodwill is industry leading at 98%. We believe GFL is uninvestable to institutions given these financial control issues, and the CEO’s documented relationships with many controversial parties. We believe GFL’s audit committee needs to engage an independent expert to review any related-party dealings between GFL and its CEO, along with dealings among his associates. Given that GFL is dependent on capital to sustain itself and grow, we believe the stock could be worthless absent new funding.