Sandstorm – streaming cash!

[edited march 8 2012 regarding taxation country]

First of all, I must give credits to Ryan O’Connor from AboveAverageOdds investing for this wonderful idea.  If you are not an RSS Feed member of AboveAverageOdds, you should consider registering here.  His analysis probably is better than mine but I do hope I’ll find some more insightful facts I may report here.  But I do consider you should read his wonderful analysis here.

Description

Company

OVERVIEW

Sandstorm is a growth focused company that seeks to acquire base metal and energy purchase agreements (a “Metal Stream” or an “Energy Stream” or a “Commodity Stream”) from companies that have advanced stage development projects or operating mines. In return for making upfront payments to acquire a Commodity Stream, Sandstorm receives the right to purchase, at a fixed price per unit, a percentage of a project’s production for the life of the project. Sandstorm helps other companies in the resource industry grow their businesses, while acquiring attractive assets in the process. The Company is focused on acquiring Commodity Streams from projects with low production costs, significant exploration potential and strong management teams. The Company currently has nine Commodity Streams.

Management

  • Regarding management I urge you to read AAO analysis.  It is deeper than anything I could write.
  • You could also check this video out.

Financials

Balance sheet

  • Cash and short-term equivalent accounts for 39M dollars.  This cash is planned to be used in future deals and stream acquisition.  Due to the quality of stream acquisition in the previous months, I hope they continue to spend this cash!  Until then, corporate expenses average 2 to 4 millions each quarter.  With planned revenues in 2012, the bottom line should be close to 0 by year-end so I do not expect to burn through this cash shortly expect by stream acquisition.
  • Assets are mostly composed of streams and reserves.  Please consult revenues to get my estimation of stream values.
  • Liabilities are close to 0.  Nothing to worry about.
  • Book value is close to market cap at 137m without any goodwill included.

Revenues

Rarely have we checked so wild revenue streams has we find in this company.  Has we discussed earlier, major streams at SND can be split by resource types.

Natural gas

Thunderbird energy

For a full, almost crazy, analysis of thunderbird energy, you may again check oddball in dept text here.   For many reasons explained in oddball analysis, we could expect natural gas prices to climb backswell over 4$ but for the purpose of this analysis, I’ve used 3$ estimated mcf price.

Year 2014, 50 wells in operation at 500k each.  They will be generating 360mcf/day with a selling price around 3$ and a cost basis of 1$.  We can compute that to 4.6m$ in profit for SND per year.  Guaranteed cash flow of 25m/7year or 3.5m$/year is respected and everyone is happy!

2015-more, we could add 20 wells per year at 350k each so a new investment from SND of around 7m/year will generate additionally 360mcf/day/well or 1.8m in net profit per year (ROIC of 26%) to SND at 3$/mcf.

Regarding future earnings, your natural gas price evaluation is as good as mine.  Here are my thoughts:


You may prefer ths link.

Copper

DONNER METALS  – Bracemac-McLeod Mine

Sandstorm has acquired 17.5% of the life of mine copper produced from the Xstrata operated Bracemac-McLeod Property for an upfront payment of US$20 million plus ongoing per pound payments equal to the lesser of US$0.80 and the then prevailing market price per pound of copper.  The ongoing payments are subject to adjustment if the spot price of copper falls below US$2.75 per pound, in which case the payments will decrease and be equal to the lesser of US$0.55 and the then prevailing market price per pound of copper. The copper purchase agreement was completed with Donner Metals (TSXV:DON), who are the owners of a 35% joint venture interest in Bracemac-McLeod.  In addition to the upfront payment Sandstorm is subscribing for 6,200,000 common shares of Donner at a deemed price of $0.35 per share.  Donner has also agreed to issue US$1.4 million worth of common shares to Sandstorm on June 30, 2012.

This stream is nice and clean.  The mine is already in operation and is extracting ZINC as a base product and copper as a by-product.  This investment will enable the developement of copper has a product in a different part of the mine.  News release are encouraging and production is planned to start in less than 6 months.  Current copper prices are close to the 5 year average. Prices varied from 3.5 to 4.5 in the years but the current rate around 3.8 seems plausible for the long-term run.  In my estimates on the copper stream I used that price has the expected selling price.  This investment has a surprising ROIC close to 45% per year if the copper price stays at those levels.

Here are my estimates.

You may prefer this link.

Metallurgical Coal

NOVADX (TSXV:NDX)

Rosa Mine

Located in Alabama, it is a currently producing auger mine and is expanding its strip mining operations in addition to increased auger mining operations. Construction of the Rosa wash plant was recently completed and is now entering the commissioning phase. Novadx had previously stockpiled a portion of its coal production, in anticipation of the wash plant becoming operational, and has recently begun processing this coal through the new facility for sale to market.

This mine has a planned production around 150k tons of metallurgical coal per year.  Out of this 150k tons, Sandstorm will be able to buy 25% of production per year for the next many years and then 16%.  Our estimates does not cover the 25% years so we’ll use the 25%.

Rex No. 1 Mine i

Located in Tennessee, it is a development asset expected to begin production during the first half of 2012. There is ongoing construction at the mine including surface infrastructure, development of additional mains to support future operations, rehabilitation of access ramps and preparation of underground mining equipment. The Rex seam is known for its high quality metallurgical coal; a high volatile A bituminous coal with very low ash, very low sulphur, and high BTU that is often used in the production of silicon metal.  It is one of the largest single continuous resources of metallurgical coal located in the Central Appalachian coal belt.  There is opportunity to expand the resource by increased drilling and increasing the lease area in the immediate vicinity.  In our estimates, we will not plan for resource expansion.

This mine has a planned production around 500k tons of metallurgical coal per year.  Out of this 500k tons, Sandstorm will be able to buy the same percentage has the Rosa Mine production.  The expected 25% range is close to 6 years.  So we’ll use the 25% in our estimates.

Here are my takes using an average Metallurgical coal price around 180$/tons which is 10% lower than current price (around 200$).

You may prefer this link.

OIL

Terrex Energy (TSXV:TER)

Sandstorm entered into an oil and gas purchase agreement with Terrex Energy Inc. (TSXV:TER) on currently producing oil and natural gas properties located in the Two Creek and Strathmore areas of Alberta, Canada.  The Two Creek Property includes approximately 16 producing wells in two separate oil pools on 4,320 acres of land. Two additional wells are expected to be drilled on the Two Creek Property by the end of 2012, and a chemical flood is expected to be implemented within the next three years. The Strathmore property includes approximately 10 producing wells in one main oil pool on 3,131 acres of land. A chemical flood EOR program is scheduled to be implemented in late 2011.
The properties are characterized by relatively large original oil-in-place reservoirs with comparatively low recoveries to date.  Terrex is conducting optimization and EOR programs at both the Two Creek Property and the Strathmore property and Sandstorm believes that this will significantly increase production and recoverable reserves.   The maximum production for the combined property is 350k bbl per year.  In our estimates, we used 80% production.

Sandstorm has agreed to purchase 25% of all oil, natural gas and natural gas liquids produced for the life of the Two Creek Jurassic A pool and for 5 years of the Two Creek Jurassic B and 15% of all oil, natural gas and natural gas liquids produced from the Strathmore property. Sandstorm has provided an upfront deposit to Terrex in the amount of $14.7 million plus ongoing per-unit payments of $15.00 per barrel of oil delivered, $1.00 per mcf of gas delivered, and $8.00 per barrel of natural gas liquids delivered. Sandstorm will also pay the direct transportation and royalty costs associated with its share of oil, natural gas and natural gas liquids. Terrex has provided with a guarantee that Sandstorm will receive minimum before tax cash flows of C$0.5 million in 2011, C$1.1 million in 2012, C$1.8 million in 2013, C$2.2 million in 2014, C$2.6 million in 2015, C$2.4 million in 2016, C$2.2 million in 2017 and C$1.9 million in 2018.  For our estimates, we will not include anything else than oil production.  Taxes and transportation costs are estimated at 18% and 10% respectively.

Regarding oil price, long-term price probably will be over 100$ per bbl, but in our estimates we used 80$ per bbl to ensure nice downside protection.

You may prefer this link.

Estimates

Sum of parts analysis

To determine the value of the company I added every stream planned revenues in summary picture.  I then removed corporate costs and because this company is based in Bermuda Luxembourg , I did not remove any taxes.  Even with a depressed PE10 calculation, I get a company value over 600m in 2018 with the current streams only!  If this 32M can be put to work at the same ROIC than the previous stream acquisition we could even get a 100M more in value.  And in this scenario I do not even include the actual cash in the price calculation.  The MOS is so huge that I do not even need to.

Here are my calculations.

You may prefer this link.

Future guaranteed cashflow

In Sandstorm presentation (click here to read), you may find out that the guaranteed cashflow back by major assets, for the next 7 including cash on had is equivalent to current book value or 90% of market cap.

Company estimated value

So can we get an estimated value and what are the risks.  Well, I do think that the downside protection is very high with guaranteed cashflow so the downside risk probably is around 10 to 20%.  The upside possibility is major.  Up to 200% on current market price in 5 years or 50% per year roughly.  Even with only one commodity on 2 pushing income has planned, we get 100% upside.

Disclosure : Author is Long SND.

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6 comments on “Sandstorm – streaming cash!
  1. Dominic,

    Appreciate the plug, but your stealing my thunder here (joking)! Nonsensically cheap is it not?

    Best,

    Ryan

  2. Blubba Blubb says:

    No word about bankrupt Royal Coal ?
    They lost their shirt here after just one year, despite the ominous “cash flow guarantees”.
    When it gets tough, you see what these ‘guarantees’ are worth – nothing.

    • Dominic Nadeau says:

      Yes I thought about it and that is why I excluded them from my estimates. But I did not ignored them. I actually wrote to M.Harris at Sandstorm to get clarifications. Here is the communication.

      Hi m. Harris,
       
      I’m Dominic Nadeau from pretoriainvestment.com, a little blog on value investing.  I’ve decided to check out Sandstorm following AboveAverageOdds analysis on your company.  By digging into the results, I’ve found the Thermal coal projects and their cancellation.
       
      I would like to know, if you can, what were the cashflow implication of this cancellation.  Was there any money already invested?  If yes, is there a possibility to recuperate this money back from asset sale?
       
      A last question, your coporate registration being in Luxembourg (confirmed by yourself, in a previous mail, to one of my followers), what do you expect your effective tax rate to be going forward?  I know it is hard to produce based on the fact that you may acquire new streams accross the world. But if you could get us an average rate based on the current streams, it would be greatly appreciated.
       
      I thank you in advance for the time you’ll take to answer those quick ones,
       
      Regards,
      Dominic Nadeau

      ————

      Hello Mr. Nadeau,
       
      I hope that your day is going well so far.
       
      The thermal coal streaming deal that Sandstorm completed was with a company called Royal Coal.  Royal Coal recently announced that they are not able to meet their financial obligations which is due to declines in the thermal coal price and struggles to ramp up production.  Sandstorm is working with Royal Coal and the other secured parties to see to an equitable solution through restructuring.  However, if the situation eventually comes down to liquidation, Sandstorm has senior security on all of Royal Coal’s material assets and we feel like we would be able to recoup a good portion of our initial investment. 
       
      In regards to your question regarding our tax rate, the Sandstorm tax structure is complicated and difficult to break down in an email but with our current tax structure we will be paying little to no tax for the next several years.  Over the next 15-20 years, my sense is that our average tax rate, if you are considering our current asset base, would be between 10-15 percent. 
       
       
      I hope that helps.  Please feel free to contact me by phone or by email if you have any further questions.
       
       
      Best regards,
       
      Denver Harris, Manager – Investor Relations
      Sandstorm Gold Ltd.  |  Sandstorm Metals & Energy Ltd.

  3. xmfconnor says:

    Great analysis.

    One question though: in your analysis of Donner Metals, where are you getting their 21,000,000 lbs of production/ year?

    I must be interpreting this incorrectly– on their website, it says production is expected to be 2,500 tons/ day. This figure seems way to high.. perhaps I am misreading it somehow? (http://www.sandstormmetalsandenergy.com/s/Donner.asp)

    Any clarification on their stated figure from the website and how you reached 21,000/year would be greatly appreciated.

    Thanks,
    Connor

    • Dominic Nadeau says:

      The actual planned production is out of the PDF presentation of Sandstorm that you can find here.
      http://www.sandstormmetalsandenergy.com/i/PDF/SND-Presentation.pdf

      I had an hard time arriving at 21M pounds to assuming 2500 tonnes per day at 2000 pound per tonnes it would have reached a way higher figure so I assumed the 21M. I imagine that only a percentage of the processed tons is actually copper and that is why the figure is lower than 2500tonnes*2000pounds*365days.

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