Tuesday, April 26, 2011

Comparing Net Present Values to Market Values of Alberta Conventional and Oil Shale Plays

Several Canadian Royalty trusts have converted to corporate status over the past two to three years, including Equal Energy (EQU), Penn West (PWE) and Pengrowth (PGH). Many newly converted Canadian Royalty Trust have significant unexplored and undeveloped land holdings, which they did not develop due to capital restraints -- in so far that the royalty trust legal structure required that most net income earned to be paid as dividends.

How can these firms be analyzed for potential value? Canadian firms are required to publish after tax, forecasted discounted net revenue from proven and probable oil and natural gas reserves with SEDAR (the Canadian equivalent of the SEC).

The oil and gas companies selling below future net discounted oil revenues will be undervalued, all other factors equal. The forecasted value is listed as the "PV-10" value below (Present Value of oil and gas reserves, discounted at 10% per year, minus income taxes, development and transport cots, not taking out corporate costs and interest expense).

Table 1: Disclosed Future Value of Proven and Probable Oil and Natural Gas Reserves, year end 2010 Reserves Data, Selected Canadian Oil Firms (and Exco, US based Oil Shale Development Company):
PV-10 Value (proved)($C1000's) PV-10 (Proved + Probable)($C1,000's) Enterprise Value EV/PV-10 (proved) EV/PV-10 (prov+prob)
Equal Energy (EQU.TO) 318.7 374.7 375 1.18 1.00
Pace Oil & Gas (PCE.TO) 515.9 681.9 574 1.11 0.84
Penn West (PWE) 7401 9205 14580 1.97 1.58
Pengrowth (PGH) 3218 4028 5670 1.76 1.41
Enerplus (ERF) 2914 3683 6340 2.18 1.72
Baytex (BTE.TO) 2478 3327 7410 2.99 2.23
Bonavista (BNP.TO) 3012 3780 5316 1.76 1.41
Can Natural Res (CNQ) 38892 54302 59140 1.52 1.09
Encana (ECA) 18083 23566 30940 1.71 1.31
Exco Resources (XCO) 1223 na 5940 4.86 na
Legacy Oil&Gas (LEG.TO) 815.2 1192 2230 2.74 1.87
Imperial Oil (IMO) 21295 na 44950 2.11 na

Note in Table 1, the ratio of the PV-10 values for both proven and probable reserves are placed in bold font, and the lower, the more potentially undervalued, all other factors equal.

From table 1, it appears that most of the Albertan oil and gas corporations are trading a bit above their PV-10 values. PV-10 to market capitalization plus debt is between 1 to 2x for most of the firms listed. Pace Oil and Gas is the sole exception, while Equal Energy and Canadian Natural Resources are trading very close to their PV-10 values, on a combined proven and probable basis.

Most US based Oil and Gas Firms trade well above their PV-10 values, as the market assumes (probably correctly) that these firms will discover significant new reserves going forward -- and also possibly on the assumption that energy prices will rise going forward. An example of this is Exco Resources, which is US-based (included in Table 1), which is typical of US firms in so far that it sells at 4.86x its PV-10 value.

Summing up, overall the Albertan energy industry appears to be selling at a discount compared to its US based counterpart for PV-10 values, and may have good expansion potential. This means that the newly converted Albertan Royalty trusts may be undervalued. Future questions include the relative land holdings of the firms compared to the current market valuation, and the ability of these firms to execute on expansion plans, now that they are organized as corporate entities.

Thursday, April 21, 2011

Imperial Metals, Duluth Metals and Amerigo Resources

In Canada mining companies are required to publish their best estimates of the net present value of their mines. In the US, only oil companies are required to do this. The value of a mining company should equal the future net discounted profits from mining operations, so this is really a great resource.

So I've been spending some serious time going through the filings. I found 3 very interesting firms. First:

Imperial Metals:

Imperial Metals is listed in Canada ticker: III.TO but also has a US OTC listing. III mines copper and gold -- have two main mines now that generate around $C40M at $3.40 copper and $1000 gold -- stock is at a market value of $781M -- the net present value of a new project, Red Chris, is $C2.5Bn, at $3 copper (current copper is at $4.10 per pound) and $1000 gold (currently gold is at $1500 ou). Revenues will be about 70-30% copper gold. Red Chris is starting up at Dec 2013.

Present value of the current projects are around the current market value, so once the market anticipates the Red Chris, the market value should appreciate to around $C2.5Bn. This is a gain of 210% by the end of 2013, so in 2 and a half years (we'll see if we get this, but do expect Imperial to sell close to net present value). I've checked many other mining firms and they sell close to the market value of the mines. This one is unusual since they don't highlight the Red Chris project very much in their investor presentations, I had to dig to find it.

The Red Chris project in British Columbia is really large -- has about 2 M tons of copper at a cutoff of 0.3% grade and 5.5M ou gold at a cut off rate of 0.55 g ton. To put this in perspective, the largest copper co in the world is Codelco (Chile) which has 77 M tons of copper (albeit at a cut-off grade of 1%), and Barrick is the world's largest gold producer, with 130 M ou gold -- Red Chris is smaller, but still isn't too small.

Environmental issues have been settled at the supreme court of British Columbia so the mine is moving forward with high probability.

Duluth Metals:

Duluth (DM.TO) has a 50% concession of the Nokomis reserve in Northern Minnesota, which is 48% Nickel, 36% copper and approx 8% palladium. The future value of this reserve is $800M (for Duluth's share) albeit starting in 2017, while Duluth's current market value is $269M, so a gain of 200% by 2017. The present value of the income is calculated based on $7 nickel (currently nickel is at $11) and $1.75 copper (Copper is currently $4.10) -- so really the net present value should be significantly higher.

Duluth has a major mining partner, Antofagasta, so the project is likely going through. The main issue is the 6 year wait to production, but note Duluth has a net cash position of $26M so won't go bankrupt and Antofagasta will pick up the majority of the development costs. In anticipation of the production, the share price should rise -- or the co can sell itself.

Last firm: Amerigo Resources:

Interesting company, Amerigo (ARG.TO) treats the tailings (the waste rock and sludge) from Codelco's largest mine, El Teniente -- which is the world's largest underground copper mine and also a major producer of Molybdenum. Interestingly, the tailings have an average grade of 0.125% copper -- probably due to the fact that the El Teniente mine has very high grade reserves, in excess of 2.0% copper. Many new mines are coming online with around 0.3% copper, since new high grade copper deposits are very, very rare -- Amerigo has all the infrastructure set up and electricity etc, so margins are ok.

Amerigo produces a lot of copper, in excess of 1M pounds per year -- also produces a lot of Molybdenum by treating the tailings (I don't know the split between copper and Moly revenues -- need to research). They have forecast production of over 1 M tons of copper to 2021, which is a lot.

The co was selling at around $C2-$C3 before the financial crisis, now it's at $C1.20 , market cap of $C200M -- back in 2007 they earned $30M, in 2007 they earned $40M (but with a $8M one time gain). They paid dividends of $7M in 2006 and $11.2M in 2007 so should have record earnings this year, as copper prices are at an all time high.

I found a research report here: http://www.baystreet.ca/articles/research_reports/fundamental_research/Amerigo041511.pdf Fair value is estimated at $2.00 per share, approximately, according to this report.

NPV is not given in the technical reports since the mine isn't fully owned by them but projections are given, production is expected to remain steady to at least 2025.

One issue, is that they have the contract with Codelco until 2021. They have renewed it twice in the past so shouldn't be a problem but there is still risk.

The El Teniente mine is set to produce for several more decades.

Sunday, April 17, 2011

Which Country is the World's Largest Food Producer?

In 1890, the United States' 'non-farm' GDP surpassed 'farm' GDP for the first time. Currently in most industrialized countries GDP from agriculture accounts for less than 5% of GDP (according to the CIA World Factbook the US derives less than 2% of its GDP from agriculture). Despite its low 'ranking' in GDP methodology, agriculture forms the base of an economy on which other economic activities stand, in so far that workers cannot work if they don't have food.

It is interesting to ask which country is the world's largest food producer. There are overall two main methods to show which country is the world's largest producer of food. First, by food production by total calorie content (one could say this is a way to judge if the country has sufficient resources to feed its population) and second, by monetary value of the food categories produced. Interestingly, the monetary value appears to get more attention from statisticians and economists -- actually the author is unaware of calculations showing total calorie production by country by food category.

Below in Figure 1 this information is presented -- utilizing USDA production numbers across grain, protein, dairy and selected fruit categories and then taking the average calorie content per ton per food item.

Source: author's calculations, USDA for production, NutritionData for calorie Content, total calories in 1000's Note a limitation of the above chart is that it does not account for all food categories, such as marine food, nuts, oats and other grains and vegetables.

According to calculations presented in Figure 1, China is clearly the world's largest producer of food by calories. The largest percentage of calories produced in China came from rice at 34% of the total (China accounts for approximately 26% of world production of rice), and wheat at 32% of the total. India, in second place, narrowly beating the total calorie production of the US, derives 37% of its total from rice. The United States is slightly behind India, but ahead of the EU-27 -- the US is unusual due to its relatively large production of corn -- 39% of total calories are produced from corn across the major grain, meat, dairy and fruit categories in the US.

One would expect countries which comparative advantages in land, sun and water to be the food's largest agricultural producers, according to economic theory from Ricardo and Heckscher-Ohlin's theories. However, necessity appears to play an equally important (if not more important role). China and India with the world's two largest populations of citizens, requires high food production for domestic food self-sufficiency. Further, labor also may play a high role in certain crops, such as rice and fruit, which are highly labor intensive.

Taking into account the value in monetary terms, China also appears to be the world's largest agricultural producer, although more narrowly beating out the US. India falls to the bottom of the 5 countries surveyed by monetary value of food produced. The US is a relatively larger producer of protein -- beef, pork and poultry account for 9% of all calories produced in the US (although note that China is a much larger producer of pork than the US, with more than 4x the production of pork in 2010). Meat tends to sell for a significantly higher price than grains. India produces a relatively low level of meat, with poultry, beef and pork only accounting for approximately 2% of the total calories consumed in India in 2010.

Source: author's calculations, USDA, Moneycnn for commodity price data

Monday, April 11, 2011

BRIC Banks, verses EU and US Banks, by Assets, Market Capitalization and Asset Growth Rates

As economies grow, their banking assets by institution also grow in lock step. The following charts show banking assets at the largest of the banks in the BRIC countries (Brazil, Russia, India and China) compared to assets and growth rates in the largest banks in the US and the EU (plus Switzerland).

Note that all of the US and EU banking institutions have seen very low asset growth over the past three years -- due to a large degree to the Global Financial Crisis in Oct 2008 which forced these countries to cut bank on problem assets and shore up financial ratios.

It is interesting to note that asset growth all the selected BRIC banking institutions was relatively unaffected by the GFC -- BRIC banks on average saw annual average total asset growth in the mid to high teens.

From a total asset level, the largest US and EU based banks still hold the lead in overall assets. Interestingly, Industrial and Commerical Bank of China is the largest bank in China by total assets and market capitalization, and has been growing at an average annual rate of 13.9% per annum over the past three years. This means it will be as large as the largest EU and US bank by assets -- Deutsche Bank -- within the next three years (if growth rates continue).

From the perspective of market capitalization to net tangible assets, it appears the market has more than priced in growth at the BRIC banks, with market capitalization/tangible book value averaging 2.5x for the BRIC banks on average, compared to 1.3x for the EU & US banks, on average.