In this interview with The Gold Report, Sprott Resource Corp. President and CEO Kevin Bambrough—who is also Market Strategist for Sprott Asset Management Inc. —talks about the signs of decoupling he sees, commodity price fundamentals he doesn’t see, and a catalyst to reignite the markets he hopes to see. He also talks about once-in-a-lifetime opportunities in the resource sector on the horizon for investors. He’s proven his mettle in this market as well as his eye for excellence in investments. In a feat worthy of any alchemist, the company managed to turn a $55-million investment (in PBS Coals) into about $240 million. Kevin readily admits, “We’ve done—in this market—phenomenal things.”
The Gold Report: Your website says that Sprott Resource Corp. (TSX: T.SCP, Stock Forum) enables individual investors to gain access to private investments in the natural resource sector by partnering with companies on projects that require funding and development. Given current capital constraints in the marketplace, either you are exceptionally well positioned or there’s a delay in how you allocate capital. Can you speak to what you’re doing in the short term here and then about your long-term plans?
Kevin Bambrough: Short term we’re basically sitting on a pile of cash that we’ve built up in a number of ways. This summer we had a warrant incentive program that brought in close to $90 million and we spent little of it because we saw the market turning. When we took control of the Resource Corp. last September with about $66 million in cash, we invested most of that money in PBS Coals (TSX: T.PBS, Stock Forum). We then sold our stake in PBS Coals in two stages this year—first to the public on a secondary offering and most recently we sold our remaining stake to OAO Severstal out of Russia on its takeover of PBS Coals for total proceeds of around $240 million.
So a substantial amount of cash came in this year and we’re in fantastic shape. We put a bit of that money to work—a little bit of a gold ETF and a silver ETF, along with a small portion, probably about 5%, in some public securities. As for the precious metal ETFs, we plan to convert them into actual physical gold and silver as a sort of long-term cash alternative. We view gold as cash.
TGR: How about partnering with companies on projects that require funding and development? Have you put that on hold for the time being?
KB: No. We recently funded an oil and gas company, Waseca Energy Inc., with about $27 million and we own almost 80% of that company. It is essentially cash at this point, but it is looking to begin drilling some of its existing properties this fall and will also be looking to make other acquisitions.
Essentially, we’re all cash and a bit of gold. The companies in our public portfolio that are not non-gold stock related or actual metals consist mainly of cash as well. I just think we’re in the best position that we could be in considering what’s happened in the market. Having a quarter of a billion dollars available to put to work now is like having a billion dollars or more last summer.
Ironically, when we first took control of the company last fall, our stock traded up to around $3 a share. We had only about $1.50 in book value, so it was trading at two times book, which was almost all cash, in a very frothy market without a lot of great opportunities to put money to work. I guess it’s a sign of how optimistic people were then. We’ve done—in this market—phenomenal things. We basically started the year with $66 million and realized a gain of over $180 million on PBS alone.
TGR: Unheard of in this market.
KB: We’re very pleased at the gains we’ve made but it’s a shame that the market is rewarding us by trading us close to 60 cents on the dollar relative to book value and we think we should be trading at a significant premium to book. The long-term track record of Sprott Asset Management and in turn Sprott Consulting justifies that. People are getting a great opportunity to purchase our stock at such a discount to its value. In fact, the opportunities opening up to us in the next six to 12 months are once-in-a-lifetime opportunities in the resource sector.
TGR: Before you tell us more about those once-in-a-lifetime opportunities, could you put on your market strategist hat and give us your thoughts about the timeframe in which the market will turn around and start rewarding companies like yours—well-situated companies that are trading even below cash now—with an appreciation of stock prices?
KB: I hope to close this valuation gap in our stock in the next few months. Part of the reason I think we’ll be able to do that is that we’ve basically been in a quiet period. I’ve been avoiding interviews since about mid-May when PBS, our main asset, was going public and then engaging in negotiations to be sold to Severstal and right up to getting that deal closed.
Our earnings just came out. When people look at our balance sheet and see what we’ve done and the word gets out about our strategy going forward and the fact that we’ve been successful—extremely successful—in implementing our strategy, hopefully they should be optimistic enough to trade us close to book value. Ultimately, as the market turns and we announce where we’ve put money to work, I expect people to become very optimistic about our prospects of delivering profit and value growth for shareholders over the next few years.
TGR: Could you segment your views on those once-in-a-lifetime opportunities into two areas? First, when do you see the natural resources sector turning around, and will that be sooner or later than other sectors? Secondly, what are specific companies in the sector will provide these opportunities?
KB: One of the reasons I first started the Resource Corp. is that I didn’t find much value in the public markets last year and I was looking for opportunities to arbitrage between private and public markets. The world’s changed so much since then; there are now just unbelievable values in the public markets. A number of companies out there have spent considerable amounts of money over the last number of years—vast, vast sums—building infrastructure, mines and mills, making huge capital investments. Now they’re trading at pennies on the dollar to what they’ve spent and the assets they’ve accumulated. In the current metal pricing market, they’re cash burners and uneconomical because things are so depressed. I’m not concerned that these prices may stay depressed for some time. I’m more concerned about the long term.
There are always cycles in the commodity markets and you get opportunities to buy assets extremely cheaply during the lows. That’s when you want to put your capital to work. So we’re cashed up and ready to put our money to work. If we can buy a company for pennies on the dollar for, say, its mill and I get the ore body and the infrastructure for free and I can let it sit on care-and-maintenance until times improve, I think we may get the chance to make 10 or 20 times our investment over a five- to 10-year period—an absolute killing. This is the market that I’ve been waiting for and hoping for.
I was surprised by how far the first big run in the bull market in commodities went. I’d been very cautious and waiting for a correction for quite some time, and now we’re getting it. Going into this year, I was really only excited about metallurgical coal and agriculture, which is why I focused on PBS and getting our phosphate asset in Peru moved along. I am still very optimistic about the long-term value that’s going to be shown in that asset because the fertilizer market looks very bullish long-term.
TGR: What are some of the other commodities you’re optimistic about?
KB: At this time, I actually like the fundamentals of only a very few commodities in terms of the chances of making money producing them. But I think that things will change over the next year or two. It will take some time, but now is when you have to be smart with your money and accumulate—buy dollars for 10 cents and get a lot of Blue Sky for free. That’s what we intend to do.
TGR: What would you advise investors, our readers? Is it company-specific without looking at the broader sectors? Or do you think some sectors will turn first and then they should be company-specific within those sectors?
KB: I have a lot of trouble giving investors advice because it is such a difficult market. It is a difficult time. It’s really a once-in-100-years situation that’s going on and it is so volatile. There is so much risk in anything you do and you really have to be patient. I think most people should be giving their money to a good money manager with a great long-term track record to take advantage of this market and invest in good companies with strong balance sheets.
I think oil and gas are going to do very, very well over the next five to 10 years. I believe in peak oil and I think the theme will play out. Buying quality operating companies that are reasonably low-cost producers is the way to go in a depressed market. You don’t need to gamble and go for the high-cost producers that give you more torque to the upside.
In these times, you’re better off playing safe, making sure you survive. It’s sort of like avoiding margin. You shouldn’t be buying stocks on margin. You should be buying the lower-cost producers when they’re this beat up and survive this market. Maybe move into some higher-cost producers later, once you can really see that the market’s turning. But there’s not much sign of that yet in any of the commodity markets. I definitely think uranium has been rinsed out; there’s some value there, and we’re starting to look at companies and nibble away. But there are very few prospects that I have a lot of enthusiasm for.
TGR: In the uranium sector?
KB: Even in the uranium sector. In other sectors I have almost no enthusiasm.
TGR: You liked coal as we were moving into this bearish market in ’07. How do you feel now that we’re really in the middle of a bearish market?
KB: I get tempted when the stocks are down 70% or 80%. Again, I would avoid higher-cost producers. They may get into real financial difficulties because it looks as if some settlements for next year’s metallurgical coal prices and even thermal prices will be significantly lower. You just don’t know how long companies are going to be in a position where they’re forced to burn cash. There’s such a dramatic drop in demand that supply hasn’t even begun to be reduced enough to balance out the market. When we were investing in PBS Coals last year, many companies were on the ropes and mines were shutting down. PBS was one that was going to survive no matter what. We got a gift with so many troubles cropping up in the coal market. Problems in Australia, South Africa and China really helped light that coal market on fire and give us a chance to exit with a big win.
In a general sense—you name the commodity—I want to see the market improving before I invest. Unfortunately, there’s almost no commodity market that looks today as if its fundamentals are improving. Our balance sheet and our position show that view. We’re sitting on cash and we’re waiting. There’s a chance of a really sharp rally at year-end, but I don’t think I want to commit a lot of capital because I’m focusing more on being long-term oriented and guaranteeing as much as I can that we will make money and continue to grow and be very profitable going forward.
Please tune in tomorrow for Part II of this interview
Kevin Bambrough earned his stripes as a marketing strategist focused on the coal and uranium mining sectors for Sprott Asset Management—which he joined six years ago as a research analyst. Then he took on the additional roles of President and Chief Executive Officer of Sprott Resource Corp. in September 2007, just after its evolution from General Minerals Corporation. SRC makes direct and indirect investments in the resource sector, including minerals, oil and gas, water, forestry and agriculture. Always on the lookout for new trends and investment opportunities, Kevin also pays close attention to global economic activity, geopolitics and commodity markets. Global Resource Investments founder Rick Rule describes him as a “smart guy…the one guy who didn’t get caught naked when the tide went out.”