ALS.TO - Altius Minerals

[ap1234]

Gio, it is always interesting to hear your thoughts. You are a very knowledgeable investor and I learn a lot from your thinking. While we both have different approaches to investing, at the core we look for very similar things (management with skin in the game, superior capital allocation track record, etc.). As such, we own several stocks in common (FFH, MKL, ALS, etc.).  I happen to be a bit less optimistic than you about the prospects of these businesses but in general we are attracted to the same sets of companies.

 

That said, I want to make a few clarifications to your post. I am not sure I agree with what you said: The first two points I am making below are NOT specifically related to Altius but investing in general.

 

Gio said: "This not only is “macro” (a downturn in commodities), but it is also “timing” (6 months), and I cannot invest based on “macro” + “timing”."

 

1. I am NOT and have never been a macro investor. I spend 99% of my time looking at individual stocks and understanding their underlying fundamentals. However, when I look at a cyclical company (ex. mining), I believe it is extremely important to understand where we are in the cycle. Some cycles are shorter than others. The most dangerous cycles to understand are secular bull markets because it is hard to understand what a ‘normal’ environment looks like. Parabolic growth makes it harder to interpret historic results. Prem has discussed this in several Fairfax annual reports.

 

You seem to think this is ‘macro’ investing. I do not. When you invest in a business, you are entitled to its future cash flows (not its historic profitability). How can you invest in a cyclical company without understanding the drivers of the underlying business over the next 5 years?

 

Let me illustrate with a few examples. I want to explain why I do NOT think it is either ‘macro’ investing or ‘marketing timing’ to figure out where we are in the cycle when analyzing cyclical businesses. I always worry about how I can lose money and with cyclical industries the chances of permanent impairment is more elevated (i.e. analyzing what happens during a cyclical downturn matters).

 

Example #1: I am going to present you with a business that likely meets ALL of your investing criterion. The company is called Home Capital Group (it trades on the TSX). The company operates in an industry with higher barriers to entry, it is a low cost producer, the CEO has significant skin in the game, they grow market share every year and they have higher returns on capital than all of their major peers.

 

The company has had an ROE above 20% for the past 15 years (and a 25%+ ROE for the past 10 years). The dividend payout ratio is very low so most of the ROE turns into EPS growth.  There are not many companies in the world with this kind of record (ROE was still north of 20% during the 2008/2009 crisis!). And best of all, you can buy this company for less than 10x earnings! In a world where global stock markets seem fairly valued/expensive, you can buy a 25% ROE business at just 10x earnings!!

 

Would you like to buy Home Capital Group?

 

Now what if I were to tell you that Home Capital Group is a Canadian mortgage lender. And Canadian housing hasn’t experienced a meaningful downturn since the early 1990s (i.e. a secular bull market in a cyclical industry). Canadian housing appears expensive on most traditional metrics. Canadian consumers are over indebted and interest rates are at record lows (and could potentially rise over time).

 

Do you still want to buy Home Capital? If your answer is NO, it is because Home Capital is a cyclical company and you don’t want to buy the business at the wrong part of the cycle.

 

Is this ‘macro’ thinking? No! It is understanding that the fundamentals that have helped a business over the past 20 years could potentially be a tailwind over the next several years. This is not macro but bottom-up stock analysis. 

 

Example #2: I believe you are a big fan of David Einhorn (I think you own Greenlight RE). In May 2005, Einhorn pitched MDC Holdings (a US homebuilder). He laid out a compelling case for the business (i.e. why it was better than its peers and why it was undervalued). But he missed one thing: he didn’t appreciate how excessive the US housing cycle had gotten. 5 years later, the company was still down 40%! In a post mortem many years later, he said the following:

 

“I want to revisit this because the loss was not bad luck; it was bad analysis. I down played the importance of what was then an ongoing housing bubble. On the very same day, at the very same conference, a more experienced and wiser investor, Stanley Druckenmiller, explained in gory detail the big picture problem the country faced from a growing housing bubble fueled by a growing debt bubble…Smart investors had been complaining about the housing bubble since atleast 2001. I ignored Stan, rationalizing that even if he were right, there was no way to know when he would be right. This was an expensive error.”

 

Example # 3: Warren Buffett is the world’s most astute investor. And I am not aware of any individual investor with a LONGER time horizon than Buffett. In other words, he is the last investor who should avoid buying something because of ‘macro’ or ‘marketing timing.’ From the 2008 annual report:

 

“Without urging from Charlie or anyone else, I bought a large amount of ConocoPhillips stock when oil and gas prices were near their peak. I in no way anticipated the dramatic fall in energy prices that occurred in the last half of the year. I still believe the odds are good that oil sells far higher in the future than the current $40-$50 price. But so far I have been dead wrong. Even if prices should rise, moreover, the terrible timing of my purchase has cost Berkshire several billion dollars.”

 

In 2009, Buffett sold down his stake in ConocoPhillips (i.e. he experienced permanent impairment from ignoring the cycle of a commodity company).

 

2. As far as I can tell, you spend a lot of time thinking about macro issues (in addition to looking for high quality management teams with long record of superior capital allocation). You are much better versed on macro topics (deflation/inflation, etc.) than I am.  You have posted numerous times on the ‘Macro musings’ thread. And many of your posts on Fairfax are based upon your alignment with Prem’s current macro views.

 

There is nothing wrong with this. Your macro views seem to help you with your investing. However, I am puzzled when you said that you don’t invest based upon ‘macro’ ideas.

 

The final point is specially related to Altius.

 

3. The reason I mentioned a scenario where we see a downturn in 6 months is not a short timing call. I simply chose that arbitrary period because 6 months from now the royalty deal would be finalized (i.e. all the cash would be spent). I could have said 12 months or 18 months. I just used 6 to illustrate a point (not making a ST timing call).

 

You wrote that: “3 years of cash-flow and Altius will have almost the same cash at hand it had 5 months ago…  ”

 

Can you provide the math you are looking at? Just using the 'cash flows' of the business (i.e. you are just looking at the royalty portfolio), how do you get to $125 million (the cash they will use up on the Sherritt deal)?

 

As far as I can tell, the only cash flows the company has is $30 million in pre-tax royalties (Voisey Bay + Sherritt deal). On an after-tax basis, isn’t this $20 million? In 3 years, this only would be $60 million in cash flows? This is less than 50% of the cash they had 5 months ago. And Altius also has to use cash to pay for G&A, ongoing exploration, etc.

 

Are you assuming Kami comes on board exactly on time? Or are you assuming that there is tons of organic growth in the royalty portfolio? I would be interested to hear your thoughts on how the cash flows in 3 years time will replace what was spent. If the cash flows could all be replaced that quickly, I would be more comforted that the company has the flexibility to be an opportunistic buyer over the next several years.

 

 

 

[giofranchi]

Wow! Now you see why someone so knowledgeable as ap1234 has only posted 49 times?! Because each time it loads the boat with so much information!! ;D ;D

 

Now I will try to answer some points of yours:

 

There is a lot of difference between “being affected by market cycles” and “being able to take advantage of market cycles”.

ALS’s royalties are almost not affected by market cycles, because they are not based on commodity prices, instead they are tonnage based. But what I thought we were talking about was their ability to take advantage of a decline in commodity prices. That is why I had talked about macro… Hey! Everybody is complaining about Mr. Watsa’s hedging strategy, dubbing it as “macro”… And what’s different, if you keep a ton of dry powder?

 

I guess you are right! Here “macro” has nothing to do… The fact here is we don’t agree on the business: I don’t think ALS is a cyclical business anymore. I think it has become a cash flow machine, and the more royalties it purchases, the more pronounced the transition will become.

 

About my calculation of the cash ALS will have on hand 3 years from now: $60 million + some cash ALS still has on hand (even if it is not $100 million, like Dazel suggests) + some organic growth in the royalty portfolio + the greatly enhanced ability to borrow a cash flow machine enjoys even in a downturn = (more or less) the buying power of a cyclical company with $125 million in cash. Let's say I try to be "vaguely right"... :)

 

I repeat: there is a mountain of difference between knowing and understanding how market cycles affect your earning power, and keeping a ton of dry power to take advantage of market downturns!

I like to always keep some liquidity, but I will never refuse to buy a cash flow machine, led by astute investors and businessmen with lots of skin in the game, at what I consider is a very good price, because I think a market bottom lies ahead.

 

As an aside, I really don’t think a lot about macro… What I look for is just to get a grasp on how my fellow investors are feeling and therefore behaving. And I currently don’t see much enthusiasm about commodities… I might be wrong! Secular cycles, as you say, are difficult to understand… ;)

 

Gio

 

[Liberty]

ALS’s royalties are almost not affected by market cycles, because they are not based on commodity prices, instead they are tonnage based.

 

Someone correct me if I'm wrong, but that's only the case for the Sherritt coal royalties, no? The Voisey's Bay and the potash royalties are not based on tonnage, and neither would Kami's.

[giofranchi]

Well, but is anyone worried about the potash royalties?! Really?! Not me! Actually, until now my worry was to never find a way of buying potash royalties at a decent price!!

 

Gio

[Liberty]

Well, but is anyone worried about the potash royalties?! Really?! Not me! Actually, until now my worry was to never find a way of buying potash royalties at a decent price!!

 

Gio

 

I'm not saying I'm particularly worried about that, just dotting the i's and crossing the t's.

[tengen]

Capital Power Corporation (CPX) has the right of first refusal on the Genesee royalty. To exercise that right, they would have to pay $251 million (the portion of the PMRL purchase allocated to Genesee). That's well over half the aggregate purchase price of $460 million. From my admittedly superficial perspective, it doesn't seem to make any sense that CPX would do this. To flip this around the other way, if CPX already owned the royalty, I think they would be extremely happy to sell it for $251 million.

 

EliG,

 

To expand on this a little bit, the total Genesee royalty is $12.75 million ($6.5 / .51), or just a hair over 5% of $251 million. Maybe I'm out to lunch but I think CPX would benefit a lot more by investing $251 million to maintain and grow their power generation capacity rather than saving $12.75 million / year (assuming they would gain 100% benefit from the royalty value). CPX  also appears to operating fairly close to their self imposed debt-ceiling and they have recently sold some assets to "lower their risk profile". If people think I'm out to lunch, let's just agree to disagree.

[Guest Dazel]

 

Gio,

 

 

Thanks....I will put TransDigm corp on my radar.

 

Dazel.

 

 

[Guest Dazel]

 

I will post on Potash once the deal is done...I have done a of lot research on it and the operations of the major north American producers. Who are now partners with Altius.

 

I am relieved and very encouraged by the latest Altius purchase of potash royalties...the capex numbers in the producers are tough to grasp...now I can leave Potash alone as I own it in Altius with all of the partners I have researched...

 

Jeremy Grantham who is a Potash bull...predicted a good weather year in the world as we had so many bad ones lately....this what has happened...the timing for Altius is very good in my opinion as Potash prices have dropped...wait for the next drought and see how quickly that changes...the food production numbers globally are just scary.

 

 

 

Dazel.

[Blue Macaw]

Capital Power Corporation (CPX) has the right of first refusal on the Genesee royalty. To exercise that right, they would have to pay $251 million (the portion of the PMRL purchase allocated to Genesee). That's well over half the aggregate purchase price of $460 million. From my admittedly superficial perspective, it doesn't seem to make any sense that CPX would do this. To flip this around the other way, if CPX already owned the royalty, I think they would be extremely happy to sell it for $251 million.

 

EliG,

 

To expand on this a little bit, the total Genesee royalty is $12.75 million ($6.5 / .51), or just a hair over 5% of $251 million. Maybe I'm out to lunch but I think CPX would benefit a lot more by investing $251 million to maintain and grow their power generation capacity rather than saving $12.75 million / year (assuming they would gain 100% benefit from the royalty value). CPX  also appears to operating fairly close to their self imposed debt-ceiling and they have recently sold some assets to "lower their risk profile". If people think I'm out to lunch, let's just agree to disagree.

 

I don´t think they will use their first right refusal. CPX are all in to their new gas plant + wind power park I think it was. It would surprise me if they used it

[giofranchi]

 

Gio,

 

 

Thanks....I will put TransDigm corp on my radar.

 

Dazel.

 

Another company I would keep my radar focused on is Jarden Corp.

Since inception in 2001 its stock has appreciated 2,150%… therefore, this is yet another boat I have somehow managed to miss… :(

Anyway, I view it much like I view TransDigm: Jarden is an $8 billion market cap company with a lot more room to grow in the consumer products industry, led by Martin E. Franklin, who is an astute investor and businessman. He is only 48 and could stay at the helm for the next 30 years.

Should a market correction come, also Jarden Corp. is on my buying list. :)

 

I attach the latest presentation to investors.

 

Gio

JAH_Investor_Presentation_January_2014.pdf

[one-foot-hurdles]

 

Gio,

 

 

Thanks....I will put TransDigm corp on my radar.

 

Dazel.

 

Another company I would keep my radar focused on is Jarden Corp.

Since inception in 2001 its stock has appreciated 2,150%… therefore, this is yet another boat I have somehow managed to miss… :(

Anyway, I view it much like I view TransDigm: Jarden is an $8 billion market cap company with a lot more room to grow in the consumer products industry, led by Martin E. Franklin, who is an astute investor and businessman. He is only 48 and could stay at the helm for the next 30 years.

Should a market correction come, also Jarden Corp. is on my buying list. :)

 

I attach the latest presentation to investors.

 

Gio

 

Just had an aha! moment when i was going thru the jarden presentation and see that they own the Nuk brand - i remember 2 years ago when becoming a dad, i made a mental note to research abt Nuk  because they make the best baby bottles. (Though forgot to follow up on it)

Anyways thanks Gio for bringing jarden to my attention!

[giofranchi]

Anyways thanks Gio for bringing jarden to my attention!

 

My pleasure! :)

 

Gio

[jwfm1985]

Anyways thanks Gio for bringing jarden to my attention!

 

My pleasure! :)

 

Gio

 

Gio, might be interested to check out another venture Franklin is involved in, http://www.platformspecialtyproducts.com/ . I like the opportunity, but not sold on the price. (sorry to hijack the thread)

[giofranchi]

Gio, might be interested to check out another venture Franklin is involved in, http://www.platformspecialtyproducts.com/ . I like the opportunity, but not sold on the price. (sorry to hijack the thread)

 

Yes! Thank you! Actually, I had started a thread on Platform Acquisition Holdings… Very interesting! ;)

 

Gio

 

[Guest Dazel]

 

http://www.anglopacificgroup.com/pdf/131122-AngloPacific-PresentationFINAL.pdf

 

Altius is in their presentation on royalties...I have not seen them with "any" exposure in the royalty sector. In the presentation they have the one producing royalty Voisey Bay. Anglo pacific has 3 producing royalties and $13m in cash.

 

Altius will now have 12 producing royalties and 10 times the cash equivalents of the Anglo Pacific royalty. If anyone feels like doing the numbers on a comparison with and without Kami...I think you will be astonished by the comparison in multiples that the royalty sector commands in comparison to where Altius trades. It is true I am biased so I would rather some one else post it!

 

The reason I am posting this is the valuation metric between when Altius held the huge cash hoard compared to the valuation the market gives producing royalties.

The royalties between two companies are comparable in iron ore and coal....but I would give a higher multiple to the Potash royalties...

 

Dazel.

[Guest Dazel]

 

I will give you hint...the 3 royalties at Anglo Pacific trade at 23.33 PE from last years earnings. They are the only royalty company that trades on the London stock exchange.

 

It would be nice if someone else would do an Altius comparison in multiples post close with and with out Kami....so it does not seem biased coming from me. I know I am repeating myself but I think it would be helpful for those that have doubts about the PMRL deal.

 

 

Dazel.

[hohi]

You are absolutely right, but I still think Anglo Pacific is a very good company. They have also huge growth over the coming 10 years but I have to agree - once you see Altius and compare it to them you don't have to think twice about where to put your money ;).

[giofranchi]

It would be nice if someone else would do an Altius comparison in multiples post close with and with out Kami....so it does not seem biased coming from me.

 

Dazel,

please walk me through the math… I really don’t care if you sound biased!! ;)

Thank you,

 

Gio

 

[investor-man]

why are annual reports unavailable after 2010?

[ap1234]

Thanks Gio. I appreciate your responses. I AGREE with your overall thoughts on the business.

 

I just want to make a few clarifications as I still think there is some confusion on Altius’ business after the merger. If someone has a different opinion, I’m always interested in hearing it!

 

I am going to try and be very CLEAR in my post. I think that the royalty transaction is a good investment. The point of the post is NOT to debate the merits of the transaction (many posts have done a very good job of this). The point is simply to clarify some of the confusion regarding two points: the ‘cyclicality’ of the business and whether Altius really has ‘dry powder.’

 

Point 1: Is Altius still a cyclical company now that they have acquired a royalty company?

 

Gio said: “I don’t think ALS is a cyclical business anymore.”

 

1. I agree that with the royalties the business has become LESS cyclical. Before the acquisition, the company had very lumpy cash flows. After the transaction closes, Altius will have a relatively stable source of cash flows ($25-30 million in pre-tax cash flows). Some of the royalties are not tied to commodity prices (electric coal assets) which make them quite stable. Other royalties are tied to commodity prices which make them more cyclical. But on the whole, the annual royalty stream is VERY stable compared to typical mining companies. 

 

However, while the royalties provide stability, the company still has a part of their business that IS cyclical. I am referring their investment portfolio. Today, they have approx. $130 million in public equities. The portfolio consists of a VERY concentrated portfolio of junior mining/royalty stocks. For example, of the $130 million portfolio, the company has a $60 million stake (45% of their portfolio) in Alderon which has one asset - an iron ore mine that is at least 2 years away from production (i.e. no cash flows).  The company has another $20-25 million in investments with Cranberry which has a mandate to “invest principally in early stage mineral exploration businesses.”

 

In other words, the vast majority of the investment portfolio is invested in early stage mining stocks. IF commodity prices (ex. iron ore) decline, the stocks prices of these companies will decline as well. This is the very definition of cyclicality!

 

At current prices ($15.50-$16/share), investors are a paying a premium to the value of the standalone royalty portfolio. In other words, investors are ascribing some value to the company’s investment portfolio. As such, if there is a movement in commodity prices, the investment portfolio will fluctuate in value. Hence, Altius will likely decline in value as well.

 

Let me be very CLEAR. The fact that the company is cyclical is NOT a bad thing. I would be THRILLED to see Altius’ stock go down in price. But we are not discussing the investment merits of Altius. I am SIMPLY trying to debunk the notion (which some posters have suggested) that the company is NOT cyclical after the royalty transaction. I do not think this is true.

 

Point 2: Altius USED UP most of their ‘dry powder’ after the Sherritt acquisition. Some people seem to have suggested that there is lots of dry powder left. I disagree.

 

Does Altius have any dry powder?

 

Before the acquisition, the company had $130 million in cash, no debt, $100+ million in publicly traded stocks (predominantly junior mining companies), 1 royalty.

 

After the acquisition, the company has $6 million in cash, $130 million in debt, $100+ million in publicly traded stocks (predominantly junior mining companies), a portfolio of royalties. 

 

So what should we count as dry powder? Cash. ST government bonds. My definition of dry powder is any assets you can sell regardless of the investment environment that are both LIQUID and HOLD their value.

 

Altius went from $130 million in cash to $6 million in cash. They just used up $124 million of their dry powder. 

 

Should we view their $100+ million investment portfolio as ‘dry powder’?

 

No. It does NOT meet my definition of dry powder above. The vast majority of the investment portfolio ($60 million in  Alderon + $20-25 million in Cranberry) is NOT liquid. It also will NOT hold its value during a downturn in commodities.

 

It is true that once Altius sells Alderon, the cash received will be dry powder. But it is NOT dry powder today. The company owns 25% of Alderon. They also own a very valuable royalty that only has value if the mine goes into production. They can’t simply bleed the Alderon stock into the market to raise cash if they wanted to. This would be damaging to their royalty investment. They must find a strategic investor to buy their stake (a difficult task).

 

As such, I do not view the Alderon position as ‘dry powder’ that can be used tomorrow to take advantage of distressed assets or consolidate the industry. The same is true for the Cranberry investment, etc.

 

Perhaps the concept of dry powder is easier to explain if I use an analogy. In many respects, Altius is similar to an investment manager. They happen to focus on one sector (mining). And they happen to be very talented. But they still can be considered an investment manager (Brian Dalton and his teams are the PMs in this analogy).

 

Imagine you were speaking to your portfolio manager. He runs a portfolio of global equities. He is currently 100% invested in stocks (let’s say a $100 million equity portfolio with zero cash). During your meeting, you ask the PM whether he has any dry powder to invest if we have a correction in equity markets. His response, “Of course. I have lots of dry powder. I have $100 million of stocks I could choose to sell tomorrow to invest in other stocks.”

 

You would clearly think this is ridiculous. Owning stocks that go down in value to buy other stocks that might go down more in value during a downturn is NOT dry powder. Cash is dry powder. ST bonds are dry powder. A fully invested portfolio of equities is NOT dry powder.

 

Let’s get back to Altius. It is even more extreme than the example above. They don’t have much cash left. And their investment portfolio is NOT only fully invested but they own a concentrated position in a few junior mining stocks. This is even more extreme than the PM above who might own shares in Wal-Mart or JNJ (which are less cyclical). Altius’ investment portfolio does not meet the definition of dry powder.

 

Anyways, I hope my post was reasonably clear. This was NOT mean to debate the merits of the royalty transaction. It was simply to debunk a few notions that have been mentioned by some posters suggesting the company is no longer cyclical and that they still have lots of dry powder. I don't believe this is true.

 

As an aside, my post is WAY too long. But Gio, if you are interested, in a separate post I can walk through the math and explain why they are unlikely to be able to replenish the $125 million in cash they invested in the royalties over the next 3 or even 5 years.

 

[nostradamus]

So royalties of around $30m including sherrit and voisey.

Plus $25m for Kami (at 8mt).

Gets $55m.

Take $5m for operating expenses.

Gets $50m.

 

I still don't really understand the tax rate, but if we say 30%, we get $35m PAT.

 

At a 23.33 multiple you get a market cap of $816m versus current mcap of $430m.

 

Did I get it right Dazel?

 

N.

[giofranchi]

ap1234,

I perfectly agree with you that “a part” of ALS is still cyclical, but please consider:

 

1) First of all in business you always want to “skate where the puck is going”, right? Therefore, I like very much the transition to a royalty business ALS is going through: should I refrain from investing in ALS now, just because that transition is not completed yet? At which cost? If that transition were already completed, wouldn’t it be also discounted by the market in the form of a much higher share price?

 

2) It doesn’t really look like the market is assigning any value to ASL’s stock portfolio: $27 million (assuming $3 million of operating expenses) with a 30% tax rate gets you to $19 million after tax x 23.3 = $440 million, slightly higher than today’s market cap.

 

3) If, like you have said, ALS’s management is very skilled in the mining sector, why do you assume their investment portfolio is not a good one? They should be very well aware of cyclicality, or shouldn't they? I mean, if they are so good, why should we assume they are presently holding overvalued investments?

 

4) I know very well it is not likely they will put together $125 after tax in 3 years… My reasoning wasn’t to mathematically prove something that cannot be proved… It was more a qualitative reasoning: even if in 3 years they have half the cash they had some months ago, and they use it to opportunistically buy more royalties and to enhance further the transaction to a business that is less and less cyclical, I still much prefer this new business to what ALS was before the PMRL deal. I hope now my meaning is clearer.

 

Thank you, ap1234! Always enjoy your posts very much! :)

 

Gio

 

[Guest Dazel]

N. And Gio,

 

Yes the simple math you used puts  us at our current market cap...the PMRL purchase has brought us here.

 

Break down of the purchase of PMRL on a standalone basis

 

$233 purchase price...market multiples at $20m (all the PMRL royalties plus Voisey Bay) brings us to our current market cap. So Altius has created almost two times the purchase price in market cap. They bought at 9X and AngloPacific trades at more than double that multiple. I would argue that Altius portfolio post deal is of much higher quality than Anglo Pacific's...12 world class royalties to 3 at AngloPacific. I will agree the deal is not complete yet so there will be some discount...but not really as you will see below. On the fundamental basis of this example post deal the PMRL and Voisey Bay Royalty should trade at AngloPacific's multiple or better so we get our current market cap.

 

 

A p1234,

 

On those metrics there is very little if any value being priced in for Kami, marketable securities, Julienne lake and the other assets they own. The dry powder question you raise is admirable but clearly the market does not pay for dry powder as AngloPacific only has $13m. That being said I appreciate your thoughts and margin of safety in dry powder. No one has mentioned an upside to commodity prices either.

 

Altius has evolved into a world class royalty company post deal that will command the market multiples associated with that type of company. We are not paying for Kami and the other assets the market is paying for the royalty company transformation.

 

 

 

[SharperDingaan]

You might want to recognize that some shoes are still to drop ....

 

Most seem to be expecting Alderon to get dealt ..... via a cash sale.

Apparently there is no possibility that they may instead be forced to, or opt to, take a mixed & diversified royalty stream as their consideration? No cash involved.

 

Apparently the BS is not going to get restructured now that this deal is done? No..... body finances a low risk diversified royalty stream with prefs & term matched long-term debt anymore - as a royalty company is not in the spread business? WACC, term structure, possible equity injection, etc. is meaningless? 

 

SD

 

 

 

[ap1234]

Gio, thank you for sharing your thesis on the company. Let me try and provide my perspective:

 

1) We both own ALS. My posts have NOT been focused on whether investors should own the stock today or wait until a downturn. The posts have simply been focused on debunking some of the misconceptions about the business (i.e. the company does not still have tons of dry powder, the company still has a cyclical component, etc.).

 

2A) I do NOT believe that Altius’ royalties are worth 22x earnings. I am not a relative value investor. I believe in absolute value. Just because another company’s implied valuation is 20x does not mean that Altius’ portfolio should be worth the same. I can point to many sectors where you can take the valuation of one company and use it to imply the valuation of another stock is cheap. I don’t believe in this. Relative value is a dangerous game.

 

Royalties have private market values. That is what I care about. What would an informed buyer pay for the collection of royalties that Atlius owns? Fortunately for us, the VAST majority of Altius’ royalties (excluding Voisey Bay) were just valued in a private transaction. So we have a peg on what the royalties could be worth.

 

Now just because there is a private market transaction does not mean that the acquisition price is always reasonable. If that was the case, Buffett’s investing track record would be a lot worse. The market is not perfectly efficient all the time. However, I do NOT believe that the Sherritt deal was an example of an inefficient private market transaction.

 

The Sherritt auction was a competitive auction. Altius was NOT the only bidder. It was not a distressed sale. In fact, I have heard some industry observers suggest that Franco may have been a bidder in the Sherritt royalty. If this is true, this provides us with some clues. Franco is an experienced royalty investor, has a lower cost of capital and a larger balance sheet than Altius (i.e. they could afford to pay a higher price). Yet, Altius won the bid.

 

Also, Altius management has stated that the price paid was a ‘fair price.’ The benefit of the transaction was transforming their own company from a lumpy project generation business into a cash generative royalty model. Altius has never stated that they ‘stole the royalties’ or they got a bargain on the deal.

 

To be very clear. I believe the royalty was a good transaction for the business. I just don’t believe they bought the royalty at 50 cents on the dollar.

 

2b) Gio said: “It doesn’t really look like the market is assigning any value to ASL’s stock portfolio: $27 million (assuming $3 million of operating expenses) with a 30% tax rate gets you to $19 million after tax x 23.3 = $440 million, slightly higher than today’s market cap.”

 

I disagree. I believe the market IS ascribing a value to the company’s stock portfolio. I think your $19 million annual cash flows is too high.

 

Here is my back of the envelope math on the cash flows of the business:

 

Sherritt royalties: $25 million EBITDA ($18-20 million after-tax)

Voisey Bay royalties: $3 million EBITDA ($1.8-2million after-tax, there is a 20% royalty tax in NF)

Operating expenses: $5 million ($3 million G&A + $2 million exploration spending)

Interest expense on debt: $8 million (6-7% int. rate on $130 million debt)

Tax savings: $3 million

 

Total after-tax cash flows = 20 + 2 – 5 – 8 + 3 = $11-12 million

 

I arrive at $11-12 million in annual cash flows. You arrive at $19 million. This changes how we think about the valuation of the business.

 

3) Altius’ managers are very skilled. But they did NOT hand pick their entire investment portfolio (although they did hand pick Virginia and Callinan). Recall that Altius’ core business is prospect generation. They put up very little capital upfront to stake various mineral rights. The hope is some of the mineral rights will be valuable in the future. They rely on being able to sell the rights to a larger player who will be interested in the property and is willing to take on the project and invest the capital to bring the project to production.

 

As a result of their project generation model, from to time they will own equity stakes in companies that they would never have acquired themselves (if they had not staked the original land). Altius has a $130 million investment portfolio. Almost 50% of the portfolio is one stock – Alderon. Altius did NOT buy the stock in the open market. They have owned it since Alderon was formed. Alderon is using the original land that Altius had a stake on.

 

If Altius did not own the royalty on Kami, I can NOT imagine they would go into the open market and acquire 25% of Alderon today. They own it because of history not because it is their favorite place to allocate capital. In fact, if Altius could sell their Alderon stock without damaging the value of their royalty, I suspect they would do it. As such, you can’t simply look at their investment portfolio like any other portfolio manager and assume that these represent their favorite ideas.

 

4) Without Alderon coming online or the disposition of one of their investments (ex. Alderon or Virginia), it is very difficult to see how they come even close to the original $130 million in cash over the next several years.  Please see my math above. I arrive at $10-12 million in annual cash flows based upon the cash producing assets. And Altius will probably pay down their debt over time (there are contractual debt repayments on the senior debt). As such, their cash balance could take a while to be replenished if Alderon does not come online.