Despite the recent falls in iron ore, nickel, and coal prices, many other commodities are likely to see increased demand — including oil and gas, copper, and gold.
Oil supply is struggling to keep up with demand, and that demand is rapidly increasing as emerging nations look to fuel (sorry!) their growth. Major discoveries of oil are few and far between, and The Economist magazine has suggested that, “just as the 20th century was the age of oil, the 21st could prove to be the century of gas.” Importantly, gas is one of the few energy sources that is relatively easy to use as an oil substitute.
Copper is another commodity forecast to see a significant jump in demand as more people around the world move up the economic ladder into middle class. Demand for cars, white goods, and consumer electronics, amongst other products, is set to dramatically increase. Many of these products require copper as a raw material, and supplies of copper are currently failing to meet this growing demand. There could even be a shortage within the next few years.
Gold, for its part, is seen by many as a hedge against inflation and “economic stimulus.” As currencies are devalued, gold becomes more valuable to investors as a store of wealth. With the U.S. continuing its third round of quantitative easing – without an end date – and Europe still struggling with its debt issues, gold continues to be popular especially with with Asian consumers, retail investors and central banks.
Here’s a look at three companies exposed to each of those commodities.
Please note: Before we get to the “blue sky” potential, we want you to read these reviews with open eyes. We think the companies below have a good chance of delivering strong returns. But they’re not risk-free. In fact, they carry a greater than average risk. In part, that’s why they offer the chance of great returns.
Risk-tolerant investors might like to have a nibble at these three companies – or even buy them all as a “basket” to spread that risk further. Just make sure you know what you’re getting yourself in for. The ride will be exciting, and likely stomach churning at times. One or more of these companies might end up doing badly. We hope one or two (at least!) will do very well. That’s what “high-risk/high-return” is all about.
One Play for the Century of Gas
Sundance Energy Australia Limited (ASX: SEA)
Demand for oil is expected to grow as developing nations expand their economies. But the oil industry is finding it harder and more expensive to keep supply in pace with demand. The result? Higher oil prices over time.
Sundance Energy is an oil and gas explorer and producer focused on the United States. The company has a premier position in three of the leading U.S. shale oil and gas resource regions, and is targeting a 24-month organic growth target of 5,000 barrels of oil equivalent per day (boepd), or around 1.8 million barrels of oil equivalent (boe) annually.
In 2012, Sundance achieved oil and gas sales of US$29.8 million (compared to US$18.2 million in 2011). That was based on producing 424,000 boe, of which 338,000 was oil. Net income came in at US$6 million.
Sundance announced early in 2012 that it had sold its South Antelope Field for US$172.4 million (generating a profit of US$150 million, which will be reflected in financial year 2013. The company still retains three other holdings in the Williston basin Bakken oil and gas region. The proceeds of the South Antelope sale were used to pay off US$25 million in debt, while US$40 million is being redeployed into existing projects. In November 2012, Sundance announced that it was merging with Texon Petroleum, with Texon’s Eagle Ford project and several producing wells being taken over by Sundance, while Texon’s other assets are being rolled into a newly listed company.
Gas in the Tank
Additionally, the company has interests in five other prospective oil and gas regions, with three of those already producing oil and gas. These include:
- 41,000 acres in the Anadarko basin – Mississippian region
- 5,500 acres in the Denver-Julesburg – Wattenberg region, producing 208 boepd
- 9,000 acres in the Denver-Julesburg – Niobrara region, producing 41 boepd
- 5,600 acres in the North Park – Niobrara region
- Over 7,300 acres in the Eagle Ford (following the merger with Texon)
Recent sales of land in US gas and oil regions suggest those acres could be worth much more than the market currently assumes.
The majority of Sundance’s production and revenues come from oil, while the remainder mostly consists of wet gas, which is much higher value than normal ‘dry’ gas. Wet gas contains methane as well as other compounds such as ethane, propane, butane and oil, which can be separated and sold off separately; dry gas is simply methane by itself. In the quarter ending in March 2013, Sundance received $4.73/mcf (thousand standard cubic feet) for its liquids-rich gas, compared to the current dry gas price of around US$3.70.
The company’s reserves are estimated to be 77% oil. Proven reserves stood at 10.3 million barrels of oil equivalent as at December 2012. By comparison, Drillsearch Energy (ASX: DLS) last reported 8.9 mmboe of proven reserves, while Maverick Drilling & Exploration (ASX: MAD) has reported proven reserves of over 100 million barrels of oil. Sundance also reports total proved, probable and possible reserves at 57.8 million boe.
Despite the sale of the Sundance’s South Antelope Field in 2012, its largest producing field, production has increased to an average of 2,605 barrels of oil equivalent per day (boepd) this calendar year.Sundance is aiming to produce between 4,000 and 4,800 boepd by the end of the 2013 year. If the company can hit its target of 5,000 barrels of oil equivalent per day within a couple of years, that works out to around $150 to $180 million in annual revenue at current oil prices
Foolish Bottom Line
The company currently has around $145 million in cash with $30 million in debt on its balance sheet – its market cap is around $470 million, suggesting the market has ascribed a value of around $350 million for the rest of its assets.
Situated in some of the most lucrative U.S. oil and gas regions, and with plenty of cash available to fund drilling programs and wells, Sundance looks well placed to deliver strong production gains in the future.
A Copper Tiger in Congo
Tiger Resources Limited (ASX: TGS)
Tiger Resources is a copper producer and explorer focused on the “Copperbelt” region of Africa, primarily in the Democratic Republic of Congo (DRC). The country’s Katanga province, the locus of copper-producing efforts, is renowned as one of the richest mineral regions in the world.
The company has two projects there: Kipoi, in which it holds a 60% stake, and Lupoto, which is 100% owned by Tiger. Kipoi started production in 2012, while Lupoto has yet to start any development.
The company plans to gradually expand Kipoi to increase copper recovery and production, and reduce operating costs. Kipoi was aiming for 35,000 tonnes per annum, but up to June 2012, the plant achieved annualised production of 46,000 tonnes of copper in concentrate, at a cash cost of around US$0.59 a pound, making it one of the world’s lowest cost copper projects. The company expects to improve on that, with cash costs to come in around US$0.48/lb in 2013. Copper currently trades at around US$3.13/lb, giving Tiger a healthy margin.
The second stage involves a 50,000-tonnes-per-annum processing plant at a capital cost of US$161 million, which is expected to be funded from existing cash flows. Stage 2 is targeted to come online in mid-2014 and production is expected to last for at least nine years from that time. Apart from the two copper projects in the DRC, Tiger also has a strategic alliance with Chrysallis Resources (ASX: CYS) and has acquired 19.9% of the company. Chrysallis holds copper tenements in the Zambian Copperbelt, not far from the DRC. This gives Tiger an opportunity to move into that region. Tiger also gains exposure to the Doolgunna West copper-gold project in Western Australia, adjacent to Sandfire Resources (ASX: SFR) high-grade DeGrussa project.
In 2012, Kipoi produced 37,000 tonnes of copper in concentrate, and Tiger received US$146 million in revenues from its share of production. 2013 production is estimated at between 41,000 and 43,000 tonnes of copper in concentrate.
The company’s maiden profit for the full year was US$12.6 million, representing earnings per share of US 0.28 cents. Consensus estimates suggest Tiger will see revenues of around US$174 million for the full 2013 year and a net profit of ~US$30 million, with revenues of US$240 million and a net profit of ~US$45 million in 2014. That puts the company at a prospective P/E ratio of just over 2 for 2013, and an EV/EBITDA ratio of just 1 in 2014.
Potential Takeover Target
Given all the mergers and acquisitions that have gone on in the Copperbelt, Tiger is a potential takeover target. The problem for any acquirer is that the acquirer only gets 60% of the Kipoi project. The remaining 40% is owned by Gécamines, a DRC state-controlled company, which would be unlikely to sell its stake.
Operating in Africa of course is not without its risks. Ghana is looking to lift corporate taxes and introduce a windfall tax, and that could prompt other African nations to adopt a similar policy. Recent media reports have suggested that the DRC was looking to increase its stake in mineral projects to 35% from 5%, and raise royalties to 4% on mineral exports. If the DRC remains true to its announced plans, it should have little or no impact on Tiger, given the DRC already owns 40% of the Kipoi copper project through state-owned Gécamines, and Tiger already pays a 4.5% royalty to Gécamines and the DRC government. Of course, this is what ‘sovereign risk’ is all about. DRC can change its own legislation in the blink of an eye, and that’s one reason Tiger is a high risk / high return company.
Foolish Bottom Line
Interestingly, Tiger has approximately three years’ feed of stockpiled ore, so could stop mining at Kipoi for two years, and just process the existing stockpiles. If Tiger doesn’t get picked up by a major resources company, it appears to have a very bright future ahead.
As one of the world’s lowest cost producers with significant reserves of copper, Tiger is one company you might want to grab by the tail.
All That Glisters Is Gold
Northern Star Resources Limited (ASX: NST)
Northern Star Resources has a short but remarkable history. The company acquired the Paulsens mine in Western Australia from Intrepid Mines for $40 million in July 2010. At the time, the Paulsens mine had an expected eight-month life; after paying for eight months of cash flow, the mine asset was basically free. (Replacement value now runs to $100 million. The company paid back the $40 million acquisition from cash flow within seven months.)
The Paulsens mine has been producing at an average rate of 70,000 to 80,000 ounces per year. Hardly any additional exploration had been undertaken in recent years, and the mine is considered to have a five-year-plus life. In 2011, Paulsens produced 87,000 ounces of gold at a cash cost of $588 an ounce, including royalties.
Northern Star also got rid of its contract miners, taking the work in-house, which resulted in lower costs and higher tonnes mined. The company says it now has opportunities within its mining services division to expand beyond the Paulsens mine.
In February 2012, the company discovered a new lode, which runs at a rich 1,250 to 2,000 ounces of gold per vertical metre. Drilling at this zone returned results of up to 2,330 grams per tonne.
A new high-grade discovery
Additionally, the company appears to have found another exceptional lode (called Voyager 2), which runs next to its currently producing area. Drilling results have delivered stunning results up to 12,178 grams per tonne — believed to be one of the highest grades ever recorded in Australian gold mining history.
The results highlight the potential for mine life to be extended well beyond current expectations. Resources are currently estimated at just over 400,000 ounces, but this is likely to increase as drilling results from the additional lodes are analysed.
The truly great thing about the Paulsens mine is that the prospective gold grades are quite high compared to other gold mines, suggesting the company can process the same amount of ore for a much higher output of gold.
With substantial cash flows, it’s unlikely that Northern Star will need to raise more capital. And as its mine is currently producing, there’s none of the usual risk associated with a gold prospector turned producer.
Of course, Northern Star also carries some risks, apart from being a one-mine operation. Mining at Paulsens is currently an underground operation, and the new high-grade intercepts are between 300 and 800 metres below the surface. As the depth increases, so does the complexity of mining, and costs usually increase. The company also faces commodity-price risk and exchange-rate risks.
The company is partway through a $20 million exploration program and also has its Ashburton project, a short distance from Paulsens, which was acquired at no cost, but for which Northern Star has to pay royalties once production increases over 250,000 ounces. The company considers this to be a 100,000-ounces-per-year standalone operation, but the project has been delayed due to the falling gold price.
In 2012, Northern Star reported a profit of $22 million, up from $16 million in 2011. During the year, the company produced 67,206 ounces of gold at a cash cost of $713 an ounce, including royalties, and received an average price of $1,613 an ounce.
In fiscal 2013, Northern Star has reported that it produced 103,566 ounces, selling 92,800 of those ounces, up 50% compared to the previous year. Revenues were $144.1 million, 45% more than the 2012 fiscal year. As a result, at the end of June 2013 Northern Star had amassed cash, bullion and investments of $61 million.
Foolish Bottom Line
Northern Star is currently trading at a trailing P/E ratio of 11.8 – but that is deceptive. The company is expected to lift its profit in 2013 by 30% to around $27 million, which would equate to a prospective P/E ratio of 9, based on the current share price of ~84 cents. That appears cheap, but if the company can also convert some of its “blue sky” at Paulsens and Ashburton into dollars, then the current share price could be seriously cheap indeed.
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