Dan Ferris is out with a new ad for his Extreme Value newsletter at Stansberry, and he’s again promising great gains and a realistic shot at a “10-bagger”… in fact, he says it has “more than a dozen” paths to 1,000% gains.
So, naturally, Gumshoe readers are curious… what is this “Next Royalty Company” that he’s teasing?
Stop me if you’ve heard this before.
I know, I know, he has teased this company as the “Next Great Royalty Company” for about a year and a half now, so many of you will have seen those articles here at Stock Gumshoe, or Ferris’ commentary about it over the years… if that’s you, just skip ahead a little and you can see my updated thoughts on the stock, but don’t spoil the surprise for everyone else.
How does Ferris pitch this stock this time around? Here’s a little taste:
Brian Hunt, Ferris’ editor at Stansberry, calls it a “stock market anomaly” and introduces it thusly:
“… anyone with a brokerage account can exploit this anomaly with one simple investment.
“And let me be very clear: There is absolutely nothing illegal or unethical about doing this.
“The anomaly has nothing do with a computer ‘glitch,’ or insider information, or anything like that. And it doesn’t involve any risky, complicated trading strategies either.
“Like I said, anyone can take advantage of it.
“I believe this trade setup gives you the chance to double or triple your money in the next few years with very little downside.
“That’s what I’m comfortable projecting. Of course, as any Stansberry Research editor will tell you… I’m known for being very conservative with these estimates.
“Dan Ferris, the editor of Extreme Value, thinks this anomaly could deliver gains north of 500% — plus a huge stream of annual income.”
He then runs through some examples of “anomaly” stocks that are in the natural resource sector, mostly in gold, but have been much more resilient than the mining stocks over the past several years of falling gold (and other metal) prices. These “anomaly” stocks are pretty clearly Royal Gold (RGLD), Franco-Nevada (FNV), Osisko Gold Royalties (OR.TO, OKSKF OTC in the US)… and one other.
And it turns out, “Anomaly No. 2”, which he compares favorably to the price of the U.S. Mining Index, makes its money from coal and nickel and other stuff… and that happens to actually also be the stock one he’s teasing today as Dan Ferris’ “If I had to pick just one stock to put all my money into… this would be it” investment.
So now do you remember that one? OK, fine, we’ll just spill the beans — yes, Dan Ferris is again teasing Altius Minerals (ALS.TO, ATUSF OTC in the US), a prospect generator-turned-royalty owner that is generating a decent cash flow now, after two substantial royalty acquisitions over the past year and a half (the Sherritt royalties on coal and potash in Western Canada, and the Callinan Royalties on the Hudbay 777 copper/gold complex).
And fine, I’ll stop quoting bits of the ad for you — you can see the whole thing here if you like, it is all very similar to past Dan Ferris teaser ads about Altius, particularly those that have come out since January of 2014, when the company cemented its transformation from a prospect generator with just enough royalty cash flow to cover their overhead into a cash-flowing base metals/diversified mining royalties firm.
I’ve written about Altius many times and have owned it for more than five years (though I’ve bought many times since then, so my cost basis is above the current share price), I think it’s pretty reasonably priced given the current doldrums for commodities prices, maybe even a bit undervalued, and I did buy a few more shares a week or two ago, as noted below… but it’s not going to rise by 1,000% in the next couple years unless animal spirits return to the commodities sector — a sector that most investors are terrified of now. I do agree that the downside should be limited, but to a significant degree that assumes the global economy doesn’t crash from here, and that commodity prices don’t fall another 30-50% to their pre-Chinese-emergence levels of the 1990s.
I don’t want to re-invent the wheel, so I’ll just copy over the update I shared with the Irregulars as part of their Friday File two weeks ago, when I responded to some questions about Altius and updated my thoughts following their most recent quarter — what follows originally appeared in the Friday File on September 12 (yes, I published a day late that week), and has not been updated.
Several readers have asked me about Altius Minerals (ALS.TO, ATUSF) lately, and about whether the drop in shares is a buying opportunity. That obviously depends a lot on when (or whether) the commodity cycle changes and commodities begin to increase in value again, and investors become interested again in commodity stocks… but since we can’t predict the future macro trends, other than to say that there’s no sense in planning on another supercycle boom market anytime soon in gold, copper and the like, let’s look at their most recent quarter, reported this week, and see how things are looking. They aren’t on a typical calendar cycle, so this was actually their first quarter of the fiscal year, and it ended on July 31.
So yes, we should keep in mind, as we go through the numbers, that these numbers reflect the business performance just before the most recent weakness in the markets. The second calendar quarter (Mar-June) was actually not all that bad for most commodities — the average commodity, as represented by most of the broad commodity indices, was fairly flat for the quarter… but then, following that quarter and starting for most commodities in late July, the bottom fell out of the market again and most commodities took another 10%+ bump down. So while this most recent quarter for Altius was certainly a weak quarter for commodities in general, things did get worse for most commodities after the quarter ended. That won’t make a huge immediate difference, since they are diversified across several commodities and there’s quite a bit of lag between mining and royalty payments clearing, but there’s no indication that we should expect this current quarter to be better than the quarter just reported.
For those who are new to Altius Minerals, they started as a prospect developer — staking land, finding deposits, then partnering with others to get those deposits developed… they contribute the discovery, the partner contributes the capital to explore and (maybe) develop, Altius gets a royalty on whatever might be mined in the future and, perhaps, a junior equity stake or other additional exposure. Many years ago they acquired a small royalty on the Voisey’s Bay mine, and that has fueled a lot of their work (as has their huge uranium bubble sale of properties, which created most of the huge cash pile they used to buy up royalties more recently), but they have evolved into a cash-flowing royalty company on the back of two large deals over the last couple years with Sherritt and Callinan Royalties to acquire about a dozen significant royalty streams on potash mines, coal mines, the 777 gold and copper mine, and a few others.
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They have many development projects, most of which require very little cash because they’re partnered out to operators or are just sitting by waiting for a partner to show some interest, and progress is very slow on those right now because no one is excited about investing a lot in exploration or mine development with prices low (and financing, in most cases, very hard to get). Patience will definitely be required, because Altius spends money on acquiring or developing projects when markets are bad and tries to sell or monetize them when markets are great… and that seems unlikely to happen anytime soon.
Their biggest disappointment in recent years has been the mothballing (so far) of the Kami iron ore mine by their spinoff Alderon (AXX) — they still own a chunk of Alderon equity, and a large gross sales royalty on the mine if it is developed, but Alderon has been unable to get construction financing in the weak iron ore environment, which has probably been the primary reason for the weakness in Altius shares over the last year and a half or so as the equity value of their Alderon stake has been written down to almost nothing, creating big non-cash losses on the income statement, and as they’ve lost, or at least significantly delayed, the expectation that they’ll eventually receive substantial royalties from the Kami mine. I value this as being worth essentially nothing for the next five years, but it could turn into something if iron recovers in the future — two years ago, this was by far Altius’ most valuable asset, so the lesson here is that diversification is key. Without the royalties they acquired over the last 18 months, the company would be trading probably down below $6, close to what would be their cash value if they hadn’t bought the royalties, because of the massive loss of value of that Kami mine.
Alderon has lost about $200 million in market capitalization in just the last 18 months (and $300 million since the 2012 peak) as they’ve dwindled to a stub of a penny stock, and Altius started out with a 30%+ stake when they spun Alderon out as a public company, so they’ve been living through close to $100 million in writedowns of that value over the past three years — it hasn’t been a cash cost, but it’s enough to overwhelm the income statement of a little company that, until a year or so ago, didn’t really have much cash flow anyway. Alderon’s market cap now is only about $20 million, and Altius is only carrying a $9 million(ish) valuation on their AXX shares as of the last quarter… the big writedowns are done, though at current prices they could have a few more million to write down next quarter. That comes on top of some other much smaller writedowns of equity stakes in tiny junior mining companies that they’ve built up over the years, mostly as a result of exploration deals.
Did that smaller writedown help with this quarter’s results?
Sort of — but they still report a loss because of some accounting complications and one-time charges. Altius did have an acquisition close in the last quarter (the Callinan one), which came with some one-time charges (like severance for Callinan executives), and they receive a lot of their revenue from joint ventures (most of their royalties are held in a 50/50 JV with Liberty Mutual), so the revenue numbers in their filings don’t reflect all of their actual business. They provide pro forma numbers that more accurately reflect cash flow and cash earnings… but if you’re looking at Yahoo Finance or Capital IQ or something, the numbers they pull down end up looking pretty lousy, dramatically understating the earnings power of their growing royalty portfolio.
Back when they were making projections during the Callinan acquisition, they anticipated $1 in royalty revenue per share for this year, leading to more than 80 cents per share in EBITDA and a little over 50 cents per share in operating cash flow. (All the numbers are Canadian, since Altius is a Canadian company and primarily trades in Toronto.)
This quarter the attributed revenue (which includes the royalty revenue from joint ventures, money that is effectively passed through to Altius at almost no cost, but which isn’t part of revenue as reported) of $9.8 million. Adjusted EBITDA was $7.1 million. That would annualize out, assuming the quarter is fairly average for what the year to come will bring, to $28.5 million in adjusted EBITDA (adjusted mostly for the one-time part of the Callinan acquisition costs, including $1.6 million in severance), and revenue of $39 million. Altius had just over 39 million shares outstanding as of this quarter, so they’re still on track for that general prediction.
The dividend was increased last quarter as well, so now, with the shares down to about C$12, the dividend yield is almost exactly 1%. They have paid down a substantial amount of the debt that they incurred to make the Sherritt royalty acquisition in 2014, so that will help cash flow and help them avoid any balance sheet pressure. They have paid down almost half of the $140 million in debt, and they’re due to pay roughly $10 million a year for the next three years before the balance comes due (about $50 million) in 2019. They continue to have about $20 million in net cash on the books, so they could get through more than a year even if all their royalties shut down (they won’t, in any foreseeable scenario).
So I’ll assume that the loan servicing and principal repayment is roughly $10 million a year, and their general and administrative costs and (very early stage) exploration costs should be in the neighborhood of $6 million a year. What is the revenue picture like, once we ignore the impact of joint ventures and fluctuating value of investments (like Alderon)?
If we keep it simple and just work down from their revenue number, that’s $39 million in revenue minus $10 million in debt service and $6 million in overhead, so you get to $23 million in real cash flow. If we want to be more conservative and use their EBITDA numbers, which include some other variable costs and some non-cash costs, you get $28.5 million in EBITDA minus the $10 million in debt service (taxes are still minimal for them), and that’s $18.5 million in real cash flow — what you’d think of as the cash profit if you were the owner of the business (except when you’re filing your taxes).
Altius has a market cap of C$473 million. So with “real” earnings of $19-23 million you’re currently paying something between 20-25X those earnings for the company. Franco-Nevada (FNV), the granddaddy of the royalty companies, trades for about 25X cash earnings using similar numbers (EBITDA minus taxes — they don’t have net debt like Altius does, so no real interest cost). Franco-Nevada, and its similarly valued (a little cheaper) peer Royal Gold (RGLD) are overwhelmingly gold royalty companies, which have usually traded at a premium valuation — and there aren’t any real strong peers to Altius when it comes to non-precious-metals royalty companies, so it’s left for our judgement (and the judgement of the market) whether Altius should trade at a premium or a discount to the gold royalty firms. I think it should logically trade at a premium, given the steadiness of demand for things like potash and copper and electricity and the much longer-lived mines (some of their Potash royalties have 1,000-year expected lives), but that’s not what the market thinks and base metal royalties have almost always traded at a discount to precious metals royalties.
On a revenue basis, the valuations are also similar — Altius trades at about 12X (real) sales now, Franco-Nevada is at 14X sales, and Royal Gold is at 10X sales.
Is that a fair price to pay? That’s a harder call to make — A few months ago, when I wrote about the Callinan acquisition, I noted that the price seemed fair but not inexpensive — then you were paying 14X revenue, now you’d be paying 12X revenue. That’s a lot for most kinds of companies, but for a royalty company it’s pretty common and reasonable — they have a lot of flexibility to cut expenses to almost nothing, and they have great upside to improving results at their mines but they have no obligation to pay anything to get those better results. That’s the good thing.
The bad thing, of course, is that mines could stop operating, and there’s nothing Altius can do about it as a largely passive royalty holder. That’s why they’ve worked so hard to diversify into high quality, low cost operations and into different commodities.
And though this is controversial among investors it’s very good, I think, that they have a big exposure to Western Canadian power generation even though that’s a coal royalty, and even though Alberta’s economic growth is going to be depressed for a while because of low energy prices. I think the fact that their biggest commodity exposure is to coal has been keeping some investors away from the stock — they are now dependent on coal for almost 40% of their revenue, but it’s important to note that they are not very exposed to coal prices. The royalties are mostly tied to tonnage and indexed to inflation, so they receive a fee per ton and the customer is the mine operator, and they mine the coal so they can burn it in the large power plant right next to the mouth of the mine. This is the cheapest baseload power available, and I don’t think it will disappear, but there are political pressures on coal and it is possible that those power plants could be less active than we expect. They used slightly less coal last quarter than they had a year ago, but the difference was not huge. It’s also possible, as Altius is quick to point out, that their experiments with carbon sequestration in Western Canada, or other advancements, could lead to more use of coal as they can better reduce emissions, and they have optioned out some more coal exploration lands to Westmoreland and other explorers, which would lead to future royalties if those assets are developed.
The other large exposures are to copper at the 777 mine, which is 13% of revenue, and potash in a variety of extremely long-lived mines operated by the majors (Potash Corp, Agrium and Mosaic), at 21% of revenue. So those are their biggest exposures to commodity pricing — if copper (or gold or zinc, which are also produced at that mine) spikes up in value, those 4% net smelter return royalties from 777 will increase and Hudbay will do more drilling to extend the (currently only 8 years or so) expected mine life… if Potash doubles and returns to their highs of a few years ago, those royalties could double. Lately, that’s not what’s been happening — but Potash has been stable and bottoming, it appears to me, and copper could recover more easily than most base metals. I think this portfolio of assets makes a lot of sense, and the one that people probably like the least — the coal royalties — probably has the least exposure to global economic growth and commodity prices. So the real drives are electricity demand in Western Canada, Zinc and Copper prices, which are driven by industrialization and tied pretty closely to global economic growth, and Potash prices, which are, in these post-cartel days, driven largely by food demand, and particularly by rising meat demand (more meat requires more grain, which requires better yields from existing agriculture, which requires more fertilizer).
Altius continues to be cautiously opportunistic, they say, making small acquisitions in the weak commodities market …
“The Corporation is currently taking advantage of the market downturn and is accumulating equity positions in certain non-precious metal royalty companies. These particular companies traditionally pay out a large portion of their free cash flow in distributions to shareholders. Thus, the Corporation expects these acquisitions to contribute additional revenue to the Corporation.
“The Corporation intends to continue evaluating direct royalty acquisition opportunities while balancing capital allocation, including a reasonable return to shareholders via a regular quarterly dividend. The Corporation also intends to continue its low cost and historically profitable prospect generation business with the long term goal
of generating low cost royalties and profits.”
So is it a buy here? I think it is worth nibbling at, but that assumes that we’re not going into a decade-long trough in commodity pricing. If Potash returns to its pre-2006 trend in pricing (it was more controlled by the cartels then, and China wasn’t buying nearly as much), then it could go back below $200/ton (it’s over $300 still, and has been pretty flat for more than a year). Copper is still at roughly twice the price it was before China began really emerging as the world’s commodity buyer starting about a decade ago. Iron Ore is now at $52 after peaking at $180 or so as recently as 2011, but it also traded in the range of $25-30 for 30 years before 2004-2005. The big argument against Altius is that we are losing that “commodity supercycle” pricing for all commodities and most of them could all have another 30-50% to fall, perhaps more if they overshoot, thanks to the slowdown in Chinese (and other developing country) industrialization and of the global economy generally.
I see the logic of the argument, but I don’t think we’re going to put the genie back in the bottle and become less industrial, and consume fewer metals and less electricity and less food in the decades to come, so I expect that although the commodity markets are markedly more volatile than they were 10 and 20 years ago, we’re not done needing them, and we’ll see more surging industrialization and infrastructure growth and population growth in the years to come from India, Brazil and other large countries that, although they have their problems, are probably not done growing and not done trying to improve their economies and the lives and diets of their people. So that’s the sentiment that allows me to still be invested in commodities, albeit on a smaller scale than I have been at some points in the past when I got wrapped up in enthusiasm for a few less conservative ideas, and as long as I’m invested in commodities ex-energy I continue to think Altius is one of the lowest risk ways to participate in the commodities markets… real upside if prices rise, no real cost obligations, manageable balance sheet, and an increasing diversification of income streams that will provide a buffer at times when it’s just a single commodity, like copper or potash, that falls in price.
I have grown to trust the company’s conservative management of costs and their opportunistic investments in royalties and potential royalties, so although it’s not a “no brainer” buy at current prices — it could absolutely fall if commodity prices fall or markets fall, it’s not at an obviously cheap valuation based on even the current financials — it is trading at a fair price and, with my worldview that provides at least a modicum of optimism about the global economic recovery, I think it’s a little bit undervalued now. I already have a full Altius position, and I don’t particularly feel compelled to go big in adding to that position now, but I will place a small limit order in solidarity with those who are interested — so at some point early in the week, if prices remain under C$12/US$9, I’ll be increasing my Altius position very modestly. I think of Altius as my base metals and fertilizer exposure, and believe it will be a steady performer — with real upside if we hit significant inflation at some point, or if commodity prices recover sharply.
And, of course, the recent weakness in the shares has a lot to do with the Canadian dollar. All of those numbers are in Loonies, and they look a lot worse today in US$ terms than they would have six months or a year ago, thanks to the continuing surge in the US dollar and the continuing (partly commodity-inspired) weakness of the Canadian dollar. That provides some leverage, both good and bad, for US investors — when commodities and the Canadian dollar both fall, Altius falls more in US$ terms than it does in C$ terms… and when the Canadian dollar and commodities are on the rise, as they have been for extended periods a few times during the past decade, Altius rises more in US$ terms than it does on its home market in Toronto. That doesn’t impact the long-term fundamentals very much, but it leads to more volatility for US investors.