Price – $0.60
NAV – $1.15
Li Lu’s Four Basic Principles of Value Investing
Li Lu is undoubtedly one of the most under-appreciated investors. The founder and Chairman of Himalaya Capital Management established his firm in 1997 based on the principles laid out by Benjamin Graham. Lu is a close friend of Charlie Munger and was once thought to be in-line to succeed Warren Buffett as the chief investment Read More
Discount to NAV- 48%
Shareholder Equity – $1.31
Discount to Shareholder Equity – 54%
Market Cap – $51.8m
Shares Outstanding – 86.2m
Aberdeen seeks to acquire equity participation in pre-IPO and early stage public resource companies with undeveloped or undervalued high-quality resources. Aberdeen focuses on companies that: (i) are in need of managerial, technical and financial resources to realize their full potential; (ii) are undervalued in foreign capital markets; and, (iii) operate in jurisdictions with low to moderate local political risk.
Aberdeen is essentially a vehicle through which director Stan Bharti and CEO George Fauth invest in publicly traded and occasionally private resource companies. Both individuals are also involved in running the privately-owned Forbes & Manhattan (“F&M”) investment banking group which was founded by Mr Bharti. They leverage the existing infrastructure and expertise within F&M as needed in helping with the investment portfolio. That infrastructure includes the expertise of 25 geologists, 25 engineers, 6 lawyers, 30 bankers and capital market professionals and finally 15 administration and accounts staff.
Because of its focus on the “seed stage” Aberdeen provides something akin to “Venture Capital for mining companies.” Like a VC, it typically takes board seats and gets involved with management, corporate finance, marketing and infrastructure. It usually holds investments for 2-3 years. Since inception 4.5 years ago they have an IRR of 67% on their investments – does that sound like it deserves a discount to NAV?
- Aberdeen now trades at just less than half of its investment portfolio NAV of $1.15 as of 10/31/2011
- This NAV is liquid, tangible and easy to calculate: it is cash and listed equities although admittedly the equities are small caps and fairly thinly traded.
- This NAV is supplemented by additional valuable assets such as their 2 gold royalties in South Africa and some “performance shares” as explained below.
Stan Bharti, the CEO describes Aberdeen International as follows…..
“Many people on The Street, so to speak, and many funds in the financial sector find a lot of the juniors that Forbes invests in—or that I invest in personally—too small. Raising $5 million to $10 million isn’t enough for big funds to come in. So we created Aberdeen International Inc. (TSX.V:AAB), and raised $100 million or so in Aberdeen. The model for Aberdeen is that any time I invest in a junior company at the seed level, Aberdeen co-invests with me. This gives investors indirect exposure to all of Forbes companies.”
The portfolio of equities that Aberdeen owns is reasonably well diversified. Just less than half is Gold Mining equities. Near 2/3rds are public equities.
The Top 5 holdings:
1. Sulliden Gold (TSE: SUE). This is a gold & silver exploration company developing a mine in Peru which is expected to start production in 2013H2. The stock is covered by seven analysts, all of whom recommend it as a buy, with an average PT of $3.42 vs. a current price of $1.50 per share.
2. Temujin Mining Corp is a private company for the moment and carried at cost. World class licenses covering two of the most exciting advanced projects on Oyu Tolgoi copper-gold belt in Mongolia
3.Crocodile Gold (TSE: CRK) acquires, explores and develops gold fields in the northern territories of Australia. This stock has been subject of a Value Investors Club write up and this is linked to in the appendix. That write up suggests it is worth $1.15 relative to a current share price $0.56.
4. Forbes & Manhattan Coal Corp. (TSE: FMC) FMC is a coal miner, with mines in South Africa. The stock is covered by five analysts, all of whom recommend it as a buy, with an average PT of $4.08 vs. current price $1.85 per share.
5. Black Iron Inc. (TSE: BKI), which is developing an iron-ore mine in Ukraine, expected to start production in 2016. The stock is covered by seven analysts: 6 buys and 1 hold, with an average PT of CAD 1.56 vs. a current price of CAD 0.70.
The Top 5 holdings are 32% of the portfolio and there are 20 other holdings of smaller sizes. The Portfolio contains other names that I have seen other value investors involved with too in Dacha Strategic Metals (itself at a huge discount to NAV of rare earth metals) and Alderon Resources.
Stan Bharti describing Avion Gold Corp (TSE: AVR) to illustrate his point around what an investment of theirs should be like:
“We acquired the assets about three years ago for $20 million. It had a fully permitted plant, all the infrastructure at the site and three to four million ounces in gold resources. Then we hired President and CEO John Begeman, who was with Goldcorp Inc and with him and with a top-notch management team, we worked the asset. Today, the mine is producing almost 100,000 ounces per year, it has a market cap of close to $400 million and we think that in the next two or three years that this stock has the potential to double.”
Dealing with the Discount
Since inception Aberdeen’s portfolio included some of the biggest home runs in resource investing over the past few years: Black Iron, Sulliden and Avion Gold. F&M under Mr Bharti’s guidance seeded Desert Sun Mining and Consolidated Thomson leading to spectacular returns.
Aberdeen International management is well aware of the discount and are being proactive about it. Combined they own 15% of the shares outstanding. Aberdeen’s President and COO, David Stein, exercised 1.6m options in 2011Q2, more than doubling his stake to 2.8m shares, 3.2% of outstanding. In 2008-10, Aberdeen bought back 7-8m shares per year, contributing to shrinkage in shares outstanding from 103m in Jan 2008 to 87m in Jan 2011 (there were some options issued, too). This has declined further to 86.2m as of 1st February.
Quoting from Alon Bochman @ SC Fundamental Value Fund….
“In 2011, they bought back just 2.5m shares. Aberdeen’s COO told me that they are buying back as many shares as TSX rules allow. TSX restricts buybacks to a certain number of shares per day, a certain percentage of the daily volume, etc. The purpose of the rules is to prevent a company from manipulating the price of its stock. The only exception is if Aberdeen is able to find a block to buy. In 2008-10, they were able to buy plenty of blocks from the same counterparties that bought CAD60m in Aberdeen stock in 2007 (see below). However, in 2011 that supply dried up and Aberdeen has been restricted to the open market. “If you find a block, please let us know,” the COO told me. “We would love to buy it.” Unable to buy back as much stock as it wished, Aberdeen recently declared its first ever dividend in March. The current yield is 3.4%.”
Given the level of the insider ownership and the vast wealth of Mr Bharti, there really is no reason for this company to trade on the public markets if it’s going to trade at such a substantial discount to intrinsic value or even NAV.
Why is it Cheap?
No sell-side research and this won’t ever change. Sell side coverage is very self serving, they only cover something when they might get something in return. Aberdeen will never provide IB business because they will always have F&M on hand to do all their corporate finance or capital markets work.
Aberdeen International is tiny, at only $50m it is way below the radar of almost every institution that runs more than say $100m maximum.
Aberdeen’s share price may have suffered because of a longwinded legal battle: As Alon Bochman describes it….“In 2006, Aberdeen loaned USD10m in seed capital to a South African mining company called Simmer and Jack Mines. The loan came with a 1% net smelter royalty (“NSR”) for the life of the mine. Through a complicated and bizarre set of events the loan became disputed with Simmers claiming no principal was due back. Aberdeen sued for about $13m. The suit was settled in October 2011, for $9m in cash plus the 1% NSR in perpetuity. The $9m in cash is spread into five payments ending February 2012.”
The value of the royalty is tricky. Aberdeen have attempted to value it by capitalizing it with the following assumptions:
(1) Life of mines and gold production estimates as per Simmer and First Uranium
(2) $850 gold price through fiscal 2010, and $700 long term
(3) 5% discount rate.
This comes to a total net value of $33.3 million
Now looking at today’s gold price of around $1700 we can see that the value of this royalty is potentially much higher because it will make more of the mines economic and therefore extend the life of the mine and it will obviously increase cash flow.
It has been suggested that royalty companies like Royal Gold or Franco Nevada trade at 10-20x cash flow. The company presentation from Feb 2012 states that they expect to receive $2.2m net over the next 12 months. The resources behind the royalty are very large and therefore the royalty is expected to last for many years to come.It doesn’t seem unreasonable to value that at $22m or $0.25 per share.
Management has a stated desire to sell the royalty and I would imagine this will be around the lowest figure they have in mind. When/if they receive that cash it can be used for further investments or to buyback further stock at this discount.
Aberdeen has the stated goal of eventually taking its private investments public as a way of monetizing their investment. Clearly the team has historically done this very well with Avion Gold and with F&M via Desert Sun Mining. Performance Shares are shares in now listed companies that accrue to Aberdeen based upon the achievement of certain pre-determined operational or investment milestones.
In his presentation given in June 2011 at the Richmond Club, David Stein suggested that they would achieve milestones both in the near term and hopefully over the next few years where they would receive extra shares for free, which would of course increase the NAV further.
Currently all performance shares that are not vested or earned are carried on the book at zero value so any upside regarding these would be free. Tim Eriksen of Eriksen Capital Management has suggested that the performance shares for just Aquia and Forbes & Manhattan Coal could be worth around $0.10 per share or just over $10m.
He quotes that in a conference call in early 2011 they mention performance shares (non-listed) which they own. They say these could deliver “huge upside over next 2 years”.
Junior Miners – Risky Ventures?
Absolutely! For many reasons but here is Mr Bharti on how these risks can be turned into great returns for investors…
“It’s different in the sense that we actively manage our assets (at Forbes & Manhattan/Aberdeen). There’s a lot of leverage in junior companies. If you can get in early on, with what we call the seed stock—$0.10, $0.20, $0.30 cents—you see these seed stocks grow. Five key elements drive junior companies. One is a good asset. Second is management. Third is the ability to raise capital. Fourth is telling the story, promoting the stock. Fifth is good capital structure.
The difficulty with a lot of the junior companies is that they just don’t have the management depth, the ability to raise capital to take these stocks to a level where they belong. We believe that by taking a junior company with a good asset—a good asset is key—and surrounding it with a lot of depth in terms of management, access to brainpower and capital, and working the asset over four to five years, the rewards can be phenomenal for our shareholders.
We bring all the companies that we invest in into our shop. We surround them with our own lawyers, accountants, IR people, investment bankers, analysts. We have all of them in-house so that a junior company can operate like a major without the overhead of a major.”
Because of the nature of the junior mining industry is of course quite possible that some of the Aberdeen Investments will go to zero, although you would hope their expertise will minimize the chances of this. On the other side, there is the chance for extremely good, but lumpy, returns.
Management has indicated that they would see their ideal size as $250-500m and therefore they would like to increase their AUM. They have been quite specific that they have no desire to do this when the stock is trading at a discount as it would damage existing shareholders.
http://video.cnbc.com/gallery/?video=3000045289 (5min interview with Bharti)
http://www.youtube.com/watch?v=2jkmlaMy4Qg (40min interview with Bharti)
(presentation made by President and COO David Stein)
http://www.valueinvestorsclub.com/value2/Idea/ViewIdea/60250 (write up on Crocodile Gold)