If anyone was in danger of forgetting the “Chaffee Royalties” teaser ad for Chris Mayer’s Special Situations newsletter, the marketers have saved you from that precarious perch — I’ve seen this ad more in the past week than in the last several months combined, so it must be taking hold once more.
Why? Well, the ad is all about mining royalty companies — the firms that invest in mines by putting cash up front, and getting a percentage of the output in return without having to deal with the hassle of operating a mine. And the world is abuzz with panic these days, which makes everyone think of silver and gold, which spurs some interest in mining companies. Or at least, that’s the only logic I can come up with for the sudden resurgence of this ad — and maybe it’s just that it’s a very well-written letter that is persuasive and effective. If you want to see my original writeup from way back in the merry month of May, click here for that and a taste of the hard sell for this teaser company.
I’m sure most of you have seen this ad, and many of you probably remember my previous comments about the ad and the company Chris teases in the ad. He says he’ll send a special report to you entitled Big Mining Money Without the Big Risks: How to Build Resource Royalty Wealth While You Sleep, and he talks about his key discovery/recommendation being the company that he believes is the “next Franco-Nevada.”
So let’s take a little look at where both of those companies are now, and what the potential might be.
Just to recap: Franco-Nevada pioneered the mining royalty business, and built a huge stream of royalty income from hundreds of mines and fields (they invest in gas and oil royalties, too) — they were taken over in 2002 by Newmont, which is why the teaser is accurate in saying that they were out of reach of ordinary investors for a while, but they went public again just about exactly a year ago. During that past year, the shares have actually held up extremely well, especially when compared to many other companies in the mining business — they went public at about $15, and you can buy shares today for $16.50 (both Canadian — the current US price is closer to $13 on the pink sheets).
That stability is probably due to a pretty diversified portfolio of assets, and the good operational performance of several of the mines that they participate in — output volume improved as commodity prices fell, so revenues didn’t collapse as they have for some other commodity producers. The company has no debt and pays a tiny dividend of about 1.5%, and it’s capital requirements are pretty much limited to whatever they choose to buy in the way of more royalty streams (they do have some expenses for a few working interest ownerships, and for taxes on mine output).
It’s not cheap, but the company is very well respected and stable, which clearly attracts some investors. If you annualize their current earnings, you’d get 40 cents a year and a PE ratio of about 30, which is arguably not a good way to think about a royalty company — they like to use EBITDA, which gives them 34 cents per share in the last quarter.
Franco-Nevada effectively gets a bit less than half of its royalty income from precious metals in recent quarters, and the same amount from oil and gas — both have been beaten up, certainly, particularly over the last several months, but they haven’t performed as poorly as some commodities. There are other royalty streams from other commodities, but those two sectors dominate, with the Goldstrike mine that got Franco-Nevada started still playing a major role in their income.
And interestingly for the other stock that was teased in these ads, Franco-Nevada announced in their last quarterly earnings filing that one of their mines had closed production due to low prices.
Why interesting? Because that mine was Falcondo, a nickel mine.
And the “next Franco-Nevada”, which is what Chris Mayer calls International Royalty Corp (ROY) when he’s teasing it as his next great investment idea, is currently very heavily leveraged to a massive nickel mine.
International Royalty Corp has had a much worse year than Franco-Nevada — it was trading for over $6 during the winter, was just a shade lower in the $5 range when I first saw this teaser ad, and is now down to a dollar and change ($1.18 as I type this). A far cry from the steady performance of Franco-Nevada, in part because ROY is a much smaller firm, but largely because ROY’s current performance is tied completely to one mine: the Voisey’s Bay nickel (and copper and cobalt) mine in Newfoundland.
While Franco-Nevada has big royalty participation in a slew of gold and oil projects, International Royalty has only a few royalties that are actually producing right now. They have invested in several exploratory projects, which are inexpensive and may be great long-term investments if the mines pan out, and they have a few mines in development right now that could produce royalties in the coming years, but there are only a half dozen or so that are currently producing — and none of them are hitting the bottom line nearly as hard as Voisey’s Bay.
Last quarter, International Royalty reported that they had revenues (meaning, incoming cash from those producing royalties) of about $13.8 million. Of that there were a few projects that each pulled in more than $100,000, including a new thermal coal royalty and a couple gold projects, but more than 90% of the revenue came from Voisey’s Bay, which provided royalty revenue of $12.9 million in the quarter.
That revenue from Voisey’s Bay is based largely on their production of nickel, the major product of the mine (they also have significant Copper production, which currently provides little comfort). And the major reason that the royalty dropped a bit this quarter, down a couple hundred thousand dollars even as production went up significantly (produced tonnage was up close to 50% year over year), is that nickel prices have collapsed.
A year ago, Voisey’s Bay recorded selling prices of about $15 a pound for nickel — not bad, even though prices were then falling from the highs of near $25 earlier in 2007. This year in the third quarter, the royalty went down a bit because the average realized price had dropped to near $9 a pound.
But that’s not the really bad news for ROY. Since the third quarter, nickel has continued to fall — and it now commands just about $4.25 a pound. Nickel prices have not been this low in at least five years, and that has to mean that the income from Voisey’s Bay should fall dramatically.
Is International Royalty going to turn into the next Franco-Nevada? Well, it so it might take a while — they’ll have to get a better diversified group of mines in operation and feeding them royalties first, because if they continue to count on Voisey’s Bay and nickel and copper prices don’t recover significantly, it will be hard for ROY to break even, or to reinvest in any new royalties. They have added more gold royalties to their holdings in the last couple months, and they do say that about half of their royalties (in number, not in dollar amounts) are in precious metals, with several of them ramping up now — but they’re still nowhere near the size of their nickel portfolio (which also includes a second project, in Australia, that is so far much smaller).
Their net profit was a bit less than half a million dollars in the last quarter, and unless Voisey’s Bay is seeing massive volume increases right now, which seems unlikely with nickel prices falling, ROY will see much lower revenues in the quarters ahead. They don’t carry too much debt, as far as I can tell, and they may be able to just sit on some of these royalties and cut costs elsewhere to wait for better commodity prices, but I’d beware of thinking of ROY right now as a bargain at $1 unless you think nickel is a bargain at $4.
So nothing new and exciting today, but I’ve seen so much of these Chaffee Royalty ads that I thought a refresh might be in order — Franco-Nevada has continued to leave the “next Franco-Nevada” in the dust, even as both are living through some weak performance from the falling prices of gold, oil, and industrial metals over the last six months.
So … are you tempted by the long term leveraging potential of royalty income? Or are you taking your own chances and trying to build a personal royalty stream from income-producing commodity owners like the Canadian and American trusts and the high yield miners? Or are you happy just to sit on the sideline? Let us know …