MDS board adds hedge fund manager

Date: Friday, July 8, 2005
Author: Derek DeCloet- Globe & Mail

Hedge fund manager Jim MacDonald is ready to draw blood at Canada's largest listed health company.

The chairman and managing partner of Enterprise Capital Management Inc. has joined the board of MDS Inc. with the support of some large shareholders, a move analysts say foreshadows a major restructuring for the $2.8-billion company.

Enterprise is known as a catalyst investor that often buys large positions in public companies and pushes them to overhaul their operations. Last year, it fought the management of Manitoba Telecom Services Inc. over that company's acquisition of Allstream Inc. and led a group of investors who tried, unsuccessfully, to force a vote on turning it into an income trust.

MDS is considered a prime candidate for a shakeup under new CEO Stephen DeFalco, appointed last month.

The company has been a chronic disappointment for investors, and its stock hit a five-year low in January after the U.S. Food and Drug Administration criticized MDS for the quality of its work at a Montreal facility that tests drugs for pharmaceutical makers.

“It looks like the company is responding to shareholder pressure,” said Brian Bapty, an analyst with brokerage firm Raymond James Ltd. “The old guard is clearly being changed, which is something that has to be done for this company.”

Richard McCoy, a retired investment banker from TD Securities, was also appointed, but won't become a voting director until vice-chairman and former CEO John Rogers leaves in October.

“I think it's good. We've encouraged them to get new blood on the board,” said Len Racioppo, president of Jarislowsky Fraser Ltd., one of MDS's largest shareholders which owns over 10 per cent.

“It's truly what's needed here. You've got some good businesses. It's just some very bad deals have been done.... So to get two fellows that understand deals and deal making is a great strength.”

Of MDS's several divisions, more than half of its $1.76-billion in revenue last year came from two: pharmaceutical research which works on drug development projects; and diagnostics, which operates medical labs in Quebec, Ontario and Western Canada.

But the unwieldiness of MDS's structure and its subpar financial results have led some to conclude the company would be worth more if broken up, perhaps by turning some divisions into income trusts — an area of expertise for Mr. MacDonald. In addition to his work on Manitoba Tel, he is a director of Rogers Sugar Income Fund and Superior Plus Income Fund.

Steven Salamon, an analyst at Infinium Capital Corp. in Toronto, said there is now an 80-per-cent chance that parts of the company will be sold or made independent.

“The fact that Jim MacDonald's on the board says to me there's an openness to change,” said Mr. Salamon, who upgraded his rating on the shares to “outperform” because of the announcement.

The diagnostics unit is thought to be the most likely to split from the parent company, since its main competitor, CML Healthcare, became an income trust last year. But Mr. Salamon said it could also try to spin off MDS Nordion, a division that makes medical isotopes that are used in the diagnosis and treatment of some diseases.

Nordion is responsible for one of the company's most troubled projects, the building of two small nuclear reactors in Chalk River, Ont., that will produce molybdenum-99, a radioisotope used to take high-resolution images of major organs and bones. The reactors were supposed to cost $140-million and begin operating in 1999. But MDS has spent nearly $350-million and neither reactor is ready.

In a research note, Mr. Salamon said the company's divisions could be worth a total of $28 a share if valued separately. MDS shares closed Thursday at $19.70, and have risen 80 cents, or 4.2 per cent, since the new directors were introduced Wednesday morning.

Enterprise Capital is not the only activist investment firm to get involved in MDS. Ontario Teachers Pension Plan Board, the province's largest pension fund, has bought over five million shares recently and owned about 4.5 per cent of the company at the end of March, according to regulatory filings.

Robert Bertram, Teachers' executive vice-president, would not talk about the investment. But he said Mr. MacDonald and Mr. McCoy “will be good directors.”

Mr. MacDonald refused to comment on his plans.