Ticker Trax is equity specific research (Canadian Listed and Market Cap < $300 million) published every Monday to paid subscribers but we also want to provide a free publication that is more educational in nature. Stockhouse visitors love reading the Bullboards but many are uncomfortable asking questions. Here you can email Danny in full confidence as origin is never disclosed. You may wish to share insight with others or ask questions that either Danny can answer or Roundtable readers can. We cannot answer questions like “why is ABC company doing so poorly” but most everything else should be fair game. If you are an expert or retired in your field or occupation we hope you visit each week in case you can provide insight others cannot. This column is new Oct 1/11 so it will evolve over time. To ask questions, provide feedback or share expertise please email Danny.Deadlock@stockhouse.comand I will try to include your (nameless) inquiry or feedback in the next Friday Roundtable discussion
Discussion topics this week
I. Interesting stuff
II. Important (but negative) development for the rare earth sector
II. Early but disturbing trend in junior gold financing (along with some venting)
I. The interesting stuff section
Risk consultant and author Satyajit Das has some very interesting insight on China. No immediate-term implications but good food for thought in the years ahead.
https://www.minyanville.com/businessmarkets/articles/satyajit-das-china-economy-emerging-market/9/23/2011/id/37041
Mark Hulbert with Marketwatch has an interesting story on a market indicator that has been extremely accurate for several decades and recently turned bullish. Whether it’s a crystal ball or not remains to be seen but this is worth noting.
https://www.marketwatch.com/story/indicator-with-great-record-turns-bullish-2011-10-18?link=MW_story_popular
And from a Wall St Journal blog (not to mention all over the Internet this week) take a look at this little tidbit of information. It discusses $79 trillion in derivative contracts – my lord, who has 79 trillion of anything??!! Let alone having it tied to our monetary system.
https://blogs.wsj.com/marketbeat/2011/09/30/morgan-stanley-more-on-its-derivatives-exposure/
II. Important development in the rare earth sector
Almost all juniors began a correction by April but prior to this, the rare earth stocks had been one of the best performing exploration sectors because of the control China has over supply. Tuesday news out of Beijing is important if you hold rare earth investments. The belief has been that China will continue to drive high prices and huge demand.
This is good news for manufacturers but not so much for the junior exploration companies. The risk still remains that China will control global price and supply. However, it is price volatility and associated risk that makes it difficult to finance a mine and this can really hurt the junior exploration companies. It is not a large blow to the juniors but it doesn’t help at a time when risk aversion is running high across the board.
“BEIJING-China's largest rare-earth producer said Tuesday that it would suspend smelting and separation work for a month starting Wednesday to use its market power to rally falling rare earth prices.
Inner Mongolia Baotou Steel Rare-Earth (Group) Hi-Tech, which accounts for nearly half of the world's light rare-earth production, said in a filing with the Shanghai Stock Exchange that the move was aimed at "balancing supply and demand."
"We would expect a month long shutdown from the largest producer in the world to impact prices reasonably quickly," said RBS rare earth analyst Sam Berridge. "Rare earth production is quite consolidated and the market is quite small, so one of the majors could influence the supply-demand balance quite easily."
III. Early but disturbing trend in junior gold financing
This past week I have seen two big financings on junior gold companies and they were both done after the stocks hit 52-week lows. It is very disturbing (and a slap in the face to their smaller retail shareholders) that these companies with significant gold deposits waited until their stocks hit rock bottom to finance large amounts of cheap paper.
Hopefully this is not an emerging trend because in my opinion it throws previous investors who supported them in the open market, under the bus. In particular the small retail crowd who often don't hear about these financings until they close. They also miss out on the warrants – which in 2011 have been a significant contributing factor to the destruction of share prices. The warrants are typically attached to a financing and entitle the holder to buy the stock at a set price in the future. For years these have been very common in the Canadian financing scene.
The problem is, a huge majority of investors who participated in previous financings during Q4/10 and Q1/11, started dumping their stock in April and were content to sit on the warrants. In many cases they broke even or took losses to free up their cash because they could hold warrants valid for two or three years (an insurance policy unavailable to those who buy in the market).
Now we are seeing companies finance again but this time they are doing so near the bottom of their chart. Whether it is because they are afraid of the future, I am not sure. Whatever the reason, this is a rotten approach because it creates major dilution for existing shareholders when, if nothing else, they could stage a financing with part now and part as the markets recover. If they are making good use of their capital, the company’s fundamentals should only get better along with the share price.
Rockwell Diamonds (TSX: T.RDI, Stock Forum; 55 cents) is the textbook example of how it “should” be done – and that it “can” be done. www.rockwelldiamonds.com
Rockwell is a little known TSX listed diamond company I follow from South Africa with tremendous growth potential, not only because of its low valuation in relation to its asset base, but because the new CEO runs this company like a blue chip.
Rockwell this summer while trading near its low, wanted to raise up to $30 million for diamond plant expansion. They made it known that instead of exposing their shareholders to unnecessary dilution, they would scale back short-term capital requirements and sell some under-utilized equipment. When the smoke settled they raised $7.8 million at a 50% premium to market with NO warrants and sold $6.5 million worth of equipment.
Rockwell’s belief was that they could put the money to efficient use such that the market would eventually recognize its true underlying value and the share price would rise to a point they could then stage another financing. Sometimes that happens, and sometimes it doesn’t. Either way, this is the mentality and professional approach that we should expect from someone else managing our investments. I wish most smaller public companies should follow this approach but sadly few do.
Compare Rockwell’s philosophy to that of Carpathian and Victoria Gold – maybe this is also why gold valuations on the juniors continue to struggle at dramatic lows because few have trust in them.
a) Carpathian (TSX: T.CPN, Stock Forum; 41 cents)
In July CPN did a $20 million financing with Barrick at 52 cents.
On October 13, the company announced a $40 million financing at 50 cents while the stock was at 52 cents. Three days ago they announced that environmental authorities in Brazil halted work on their RDM gold project. This in itself is a major red flag for the region as it screams of risk in Brazil – and is similar to what we are seeing in parts of Argentina.
Before this announcement CPN closed at 50 cents. That same day the company announced they are pushing ahead with this $40 million financing but instead will increase it to 100 million shares at 40 cents vs. the 50 cents announced only five days earlier. Plus they will throw in an additional 15% for the underwriters.
Carpathian has plenty of cash and said themselves they were working closely with government to resolve the problem. If they don’t expect it to be resolved, then they write off a massive piece of their overall valuation. If they do expect it to be resolved, why would they quickly agree to massively dilute existing shareholders near the low within a day or two of this announcement – it seems ridiculous and as I stated above, a huge slap in the face to existing shareholders.
This is a company that has some excellent gold deposits but even with 430 million shares already outstanding, they have no problem issuing another 115 million only two cents off their 52-week low.
If this is management's approach to financing with complete disregard to the retail shareholders who supported them in the past, then (in my opinion) it reflects poorly upon the CEO and the board of directors as a whole. It is not the type of company I would ever be interested in owning.
b) Victoria Gold (TSX: V.VIT, Stock Forum; 52 cents)
Victoria is another company with a lot of stock outstanding but with good gold deposits. They also hit their 52-week low only two weeks ago but the stock recovered above 50 cents this past week.
On Thursday, they announced a $30 million financing at 46 cents. This was a "bought deal" financing, which means the company has a guarantee from the underwriters (brokers) to place it all. These bought deal financings don't happen overnight, which means that very close to the stock hitting the 52-week low management thought it was a good idea to do such a large financing.
Once again, grossly diluting all the previous investors and doing so while the stock was trading rock bottom.
There is just something about this approach that really annoys me. If the senior management had any solid faith in their company, why would they need to raise such large amounts near the 52-week low? Talk about kicking the existing shareholders while they are down.
All I can say is that I sure hope this isn’t an emerging trend amongst the junior exploration companies. If it is, the stocks are going to struggle for a long time because investors will have little faith in them. Rockwell Diamonds might be ignored by 99% of the investing public but at least they are a blue-print for how these companies “should” be managed to ensure they have the best interest of existing shareholders at heart.
Disclosure: Danny Deadlock does not own shares of Carpathian or Victoria Gold and does own 50,000 shares of Rockwell Diamonds. He owns no shares of rare earth companies.