Mr. Geiger is Managing Partner at MJG Capital, a limited partnership specializing in long-term natural resource investments. The partnership adheres to bottom-up security analysis and maintain a long-only portfolio of resource equities. Holdings include explorers, developers, and producers of energy metals, industrial metals, precious metals, and agricultural minerals. Mr. Geiger is also co-founder of a venture-backed technology business recently valued at $100m.
This week I caught up with Matt Geiger and we talked about what investors should look for in a PEA/PFS/FS study, the royalty space within the junior sector, and what opportunities he is looking at within the resource space.
Hi Matt, welcome back to The Next Bull Market Move. Let’s begin with a question about value and how to asses value within the resource space.
Many investors and speculators determine value in many different ways, so how do you determine value when investing in a resource company? Is it the undervalued assets a company may have? Or an out of favour Market? Or simply a management team with a proven track record?
Kerem, it’s great to be joining you again. In short, value must be determined through quantitative means. The company’s target commodity, the background of the management team, the existing shareholder base, the company’s exposure to geopolitical risk, the company’s balance sheet, upcoming catalysts, etc are all qualitative factors that need to be heavily considered. However, none of these qualitative factors directly help you determine an actual fair value for the company in question.
Depending on the stage of the company, there are different ways to quantitatively assess value. Generally I’ll classify resource companies into one of five different categories and then evaluate them appropriately.
These five different categories are (1) producers, (2) royalty companies, (3) development stories, (4) prospect generators, and (5) “cash boxes”.
For producers, I will generally look for value on an absolute basis using a simple EBIT/EV comparison. This comparison is also known as a “cap rate”, and I want to see a cap rate of at least 15%. I will also occasionally look at the total replacement value of the company’s fixed assets, though I need a discount of at least 75% to get interested.
For royalty companies, I generally look for value on a relative basis using a P/CF multiple. In normal market conditions, the “big boys” such as Franco Nevada trade at P/CF multiples above 20x.
The mid tiers such as Osisko generally receive P/CF multiples between 15-20x. And juniors such as Maverix generally trade at P/CF multiples of around 10x. Whenever I see a significant disparity between a company’s P/CF multiple and that of its peers, I get interested.
For development stories, I do risk-adjusted valuations using the NPV of the company’s most recent economic study. Out of conservatism, I’ll typically discount PEA’s by 90%, PFS’s by 80%, Feasibility studies by 70%, and projects under construction by 50%. If I see a large disparity between the risk-adjusted valuation and the company’s current enterprise value, then I dig deeper.
For development stage stories that have not seen a recent economic study, I’ll sometimes look at the replacement value of the past work conducted at the project. However I again need to see a 75% discount or more to get excited.
For prospect generators, I will typically look for value on a relative basis using the following metrics: (1) working capital position versus fully-diluted market capitalization, (2) partner expenditures over next 12 months versus enterprise value, and (3) G&A versus “in the ground” expenditures. A good exercise is to rank the prospect generators for each of these metrics and then see who comes out with the highest equally-weighted composite score.
“Cash boxes” are companies that trade at a discount to their net working capital position. As Ben Graham taught us in Security Analysis: “Use net current asset value as the minimum value for a given company.” I use a 30% margin of safety in these situations which means that a company valued at less than 70% of its net working capital position gets very interesting.
Before the interview you briefly mentioned the attractiveness of the royalty space within the junior sector, could you explain why?
The royalty model is undoubtedly the best business model in the natural resource space. However this is no longer a contrarian view. Investors need to be careful because the beauty of the royalty model is increasingly well understood by the investment community.
This is particularly true in regards to precious metals where we see the major royalty names trading at healthy P/CF multiples north of 20x. Additionally, there is intense competition between these “big boys” in the precious royalty space. These companies now have immense market caps and are priced out of all but the largest deals.
To make matters worse, they are seeing increased competition for the same royalties from private equity and other non-traditional sources of capital. These phenomena help explain Wheaton Precious Metals recently announcing its foray into cobalt streaming and the willingness of Osisko Gold Royalties to break the royalty model by investing directly into junior miners.
Due to these healthy valuations and the increasingly intense competition, I’m avoiding the big precious metal royalty companies entirely. Instead I’m interested in royalty companies that fit into one of the following three descriptions:
(1) Non-precious metal royalty companies focused on becoming the best of breed name in their particular niche. Examples include Altius in the base metal space, Lucara with diamonds, Cobalt27 with cobalt (click here for a recent interview with Collin Kettell and Cobalt 27 CEO Anthony Milewski), URC with uranium, and Input Capital with canola oil.
As the investment community falls increasingly in love with the royalty model, I think we could see some of these companies approach the 20x multiples we see with the major precious metal royalty names.
(2) Precious metal-focused junior royalty companies with low P/CF multiples relative to their peers offer potential upside. Junior companies producing less than 25k ounces of attributable gold production per year generally are valued around 10x future cashflow; therefore if a well-managed junior is trading at a P/CF multiple well below 10x then there may be an opportunity.
Same goes for the mid-tier names (50-100k ounces of attributable gold production per year) which generally trade at a 15x multiple. If you see a well-managed royalty company nearing 50k ounces of annual production trading well below a 15x multiple, give it a closer look.
(3) Overlooked companies holding significant NSRs on projects coming online within the next 18 months. First royalty cashflow can be a transformational event for a junior company.
There’s no better example than the share price outperformance of Abitibi Royalties in the years since the first royalty payment from the Canadian Malartic’s Gouldie Zone was received in early 2015.
Many investors within the resource space are aware of certain successful players within the space (Lukas Lundin, Robert Friedland, Rick Rule) and like to follow what they are invested in.
So do you have any ideas on who will be the next generation of successful financiers or management teams within the resource space?
I will first say that mining is an old-fashioned, unsexy business. And it shows in the dearth of industry leaders under the age of 50. This will be a long-term problem for the natural resource industry. But it’s also an opportunity for those select few young faces who are already making an impact.
I’m not going to speculate on who the next generation will be as the jury is still out. Success in this industry is ultimately about longevity. The names making headlines today that are still making headlines a decade from now will naturally become the next generation of leaders.
What markets or commodities are you currently looking at that look attractive to you?
In the hard asset space, I continue to be drawn to uranium for the same reasons we discussed last time. The ag minerals are even more contrarian, though it is difficult to find quality investment opportunities amongst the junior names.
For those seeking exposure to electric vehicles, my preferred metal is battery-grade nickel which can be produced from nickel sulphide deposits and some laterites (click here for a recent article Matt wrote about Nickel). There’s still money to be made in lithium but the narrative has undoubtedly become mainstream, as evidenced by the proliferation of new lithium stories in both North America and Australia. I haven’t yet seen this manic enthusiasm for battery-grade nickel but believe it will come.
Investors with longer time horizons should also look closely at agriculture. The ag space has been mired in a five year bear market which has seen net profits for US farmers fall by more than half. Just like mining, agriculture is a cyclical business and the worst of this bear market seems to be over. For those expecting elevated inflation over the coming years, farmland is a very nice complement to mining in a portfolio.
Before the interview you also briefly touched upon the six numbers you first look at when evaluating a PEA/PFS/FS study. Can you share these six numbers and their importance?
Sure, but I need to start with the caveat that no economic study should be taken at face value. Before making an investment decision based on a PEA/PFS/FS, one should always verify the veracity of the document and preferably build an independent model to double check the results.
However as investors we have limited time and can’t dig into the nuts and bolts of every single economic study that is thrown our way. To cut through the clutter, I first focus on the six numbers before deciding whether it’s worth digging deeper.
The first is the initial capex. Investors need to ask themselves whether initial capex is fundable given (a) the company’s market cap and (b) the current market environment.
Investors then need to consider the initial capex relative to post-tax NPV.The mine will not be built at current metal prices unless the post-tax NPV exceeds initial capex by a healthy margin. You also want to make sure that the NPV is a big enough reward to be worth the risk.
Before getting too excited about the post-tax NPV, investors should check that the metal price assumption and discount rate used in the NPV calculation are conservative. With few exceptions, I’ll want to see the company use an aggressive 10% discount rate and metal price assumptions at/below spot prices.
The final two numbers to look at are the post-tax IRR and post-tax payback. Unless the project is exceptionally large, an IRR of at least 25% and a payback below 3 years will be needed for the mine to have any chance of being built at current metal prices.
If I like what I see with these six numbers, I then discount the company’s NPV based on the project’s stage and compare that to the company’s enterprise value. If the discrepancy is significant, only then is it worth digging deeper into the study.
Give us some details about your fund and what you invest in?
MJG Capital Fund, LP is an open-ended investment partnership specializing in natural resource investments. We are long-only and hold a portfolio of 15-25 positions. Holdings include explorers, developers, and producers of energy metals, industrial metals, precious metals, and ag minerals. We also invest in agriculture, forestry, water, and protein.
Investments are selected on a bottom-up basis with a particular emphasis on serially successful management teams and near-term catalysts. Roughly half of our positions are initiated through private placements directly with the company. These placements almost always include full warrants.
All MJG limited partners have agreed to a ten year lock up on their investment. To build wealth in natural resources, it’s essential to have an exceptionally long-term time horizon. I’m fortunate enough to have some very patient investors and look forward to rewarding their commitment over the coming years.
And finally, where can readers reach out to you to find more information about your fund?
I’m always happy to chat about the fund and our investments. For those interested, my contact information can be found at www.mjgcapital.com.
Great joining you again, Kerem. Keep up the good work.
Many thanks Matt.
The Next Bull Market Move
Disclaimer - Interviews are conducted in the name of research and learning from the best. Only you can decide what makes a good speculation/investment.