Ryaz Shariff, CFA, based in Vancouver, B.C., is president of Primevest Capital Corp. and Portfolio Manager for the Asset Logics Special Situations Fund, which has returned 41.78% year to date (as of 11/30/07), and 133% since inception (7/05). The general theme of the fund is to exploit inefficiencies in the small cap market with a focus on strength of management of growth companies and catalyst driven investing. Although the focus is on the Canadian small capitalization market, the fund can invest in a spectrum of companies encompassing junior mining to large cap merger arbitrage, in any world market. We recently caught up with Ryaz to get his thoughts on the metals market and specific companies he likes.TGR: Tell us a little about the Asset Logics Special Situations Fund. How does it differ from other funds?
RS: The Asset Logics Special Situations Fund was founded about two-and-a-half years ago. It specializes in small-cap companies listed on the Canadian exchange. However, we are capable of applying the same analytic tools and techniques that we use in this specialized area to other international markets, and other market capitalizations.
TGR: Can you give us an example of other international markets that the fund is involved in?
RS: Well, for example, on the resource side, we have had significant successes with a number of names that we’ve invested in on the Australian market.
TGR: Let's talk about the commodity markets. What is your current thinking on these markets in general?
RS: Based on what I’ve seen of the emerging middle class worldwide, I’m very bullish on the commodity cycle, at least long-term. I’ve done a lot of traveling, and it’s clear to me that the middle class population is growing significantly on a worldwide scale. I’ve seen firsthand what’s happening in China, the individual mentality and drive that the Chinese people have. I’ve visited areas like Dubai where 20 percent of the world’s cranes are. However, I also believe there’s going to be extreme volatility over a number of years, so the short-term picture is more difficult to predict than the long-term story.
TGR: So the Asset Logics Special Situations Fund is focused on the commodity markets long term?
RS: Yes, the resource focus for us in the fund gives us a significant advantage because being based in Vancouver, we’re literally half a block away from some of the best talent and technical expertise for finding and developing assets as well as raising money or just participating in the area. So we’re right in the heart of some of the best management teams in the world for developing resource assets on the mining side in particular.
TGR: What’s your current thinking on gold?
RS: Because I’m bearish on the US dollar, I think gold is a great place to be invested. Typically, we’re very concentrated in our approach to investing. We usually have 35 stocks in the portfolio, and our top five holdings represent up to 40 percent of our portfolio. We don’t usually use a basket approach. However, we’ve made an exception when it comes to gold. We use a basket approach to investing in gold because we have some interesting, diverse opportunities on the gold side.
Our strategy is to get close with the management teams that we invest with. These are management teams that have significant stakes in the game and participate alongside the other investors in their companies or in their financing. They’re the first guys to write a check as well, and typically these management teams have long-term successful track records in building assets and in building companies.
TGR: What other criteria do you use when you evaluate gold companies?
RS: Our major focus is in the consolidation sector of the mining business. When I say consolidation, I mean those companies that have already developed some sort of a resource asset that is large enough and has some competitive advantage that will actually be of interest to major mining companies. We prefer this segment because we believe the risk to reward ratio is very high. You’re not dealing with production issues. You’re not dealing with high-risk exploration issues. And the rewards can be quite handsome because the multiple that you can get on a take-out on these transactions is significant. For us, this year, for example, we have probably seen six take-outs in our portfolio of our major holdings, and that’s why our returns have been so strong as well.
TGR: What types of gold companies do you avoid?
RS: We typically don’t invest in grassroots exploration stories.
TGR: Where do mining stocks fit into your portfolio as a whole?
RS: The mining sector represents today probably about 60 percent of our portfolio.
TGR: Let’s talk about some specific companies. What gold companies do you like right now?
RS: We have a few companies that we’ve held for a long time and are happy to continue holding. One story that we’ve talked about before is St. Barbara (SBM.AX), a company that trades only in Australia. St. Barbara operates the Sons of Gwalia mine, which was formerly a producing asset in Australia. It is producing about 175,000 ounces of gold today, and its goal is to become a million-ounce producer after 2010. Plans call for about 450,000 ounces in production by the end of next year, and 600,000 ounces by 2010. To reach the million-ounce goal, the company plans further exploration activities on its own assets and is researching potential acquisition opportunities.
So, the valuation is fairly reasonable and I think there’s opportunity for growth. What we’ve seen in the past with some of these Australian companies that have some decent clout in their markets is that they get listed in the North American market. And usually there’s a bump-up in the valuations in North America. Generally speaking, North American listings are higher in terms of multiples than the Australian market. So just by the revaluation coming into the market with a pretty active investor base, we could see an increase from the standpoint of the company’s growth profile.
TGR: Does St. Barbara have an operations base in North America?
RS: No, but I believe the company is looking into the possibility of listing in Canada sometime next year.
TGR: So most of St. Barbara’s appreciation would come from the increase in gold production or getting listed in North America?
RS: Well, I think it’s a combination. I believe the multiple will be higher when the company is listed in Canada. But there will also be an increase in production growth as well as exploration assets, and that will justify the company’s re-evaluation.
TGR: What other gold companies do you like?
RS: I like Osisko Exploration (OSK.TO). There are not a lot of 5 million-plus ounce assets in the world, and there are even fewer in politically safe jurisdictions. Osisko has about 8 ½ million ounces of gold in Quebec. Quebec is a great jurisdiction for mining, and, in fact, 40 percent of Osisko's exploration in Quebec actually gets rebated back to the company in cash by the Quebec government.
Osisko has outlined a resource that is growing. With further exploration, the company may be able to get 10 million ounces. The management team itself owns 25 to 30 percent of the company, which shows that they have a stake in the game here and also that they can fight off any unfriendly cheap takeover attempts. This is a very proactive management team. The company recently hired several very qualified mine builders, men who have been able to get mines at other companies into production.
I think Osisko’s valuation is quite reasonable, especially given its politically safe jurisdiction. It’s a great jurisdiction from a power standpoint, from an infrastructure standpoint. The big issue with this company is that it has to move about 200 homes in order get its Malartic mine into production. When I first heard that it threw me off, so I didn’t look closely at the company. But after meeting with the management team and getting the whole story, I think there’s a real significant opportunity here because people don’t understand what’s involved.
TGR: Would this be an open pit mine?
RS: Yes.
TGR: So what is going to lift Osisko off its plateau of $6? Is it going into production? Is that the next milestone?
RS: I think there are a few milestones that need to be met. First of all, the company is aggressively drilling the property. We should have some preliminary indication by the end of the year as to the size of the resource. I think by the second quarter of 2008 we’ll see a full resource estimate, and then a feasibility study by the end of next year.
I think the more important milestone here is to understand the issue about moving the town. The 200 houses are in an area that has not experienced an increase in real estate values the way other markets have. A lot of these homes are built on an old mine. Osisko has bought some land to the north, which is a much more stable ground, and the company is looking at reassigning lots on a pro rata basis in that area. Or, it will buy out some of these homes at premiums to the assessed value. So if you’re a homeowner in this area, it’s almost like a windfall. At the end of the day, if Osisko gets 80 percent of the homeowners to convert, either by buying or taking the new lot assignments, it can by law force conversion on the remaining 20 percent. Of course, Osisko hopes to avoid going that route, but the potential provides a little bit of risk reduction for investors. All in all, the management team is making steady progress on the home relocation project, and at some point, I think the company will become a very strong acquisition candidate. However, the offer will have to come in at the right value because management controls the company, and has assembled a team to go into production.
Another company we like right now is Northern Peru Copper (NOC.TO). The company’s primary asset is the Galeno Deposit in Northern Peru. I’ve actually visited the asset, which is run by Ross Beaty, someone who has a long successful track record in developing assets in the resource side and then selling them off to major mining companies.
TGR: Isn’t this company a spin-off?
RS: You are absolutely right. This company started out as Lumina Resources. When the stock was selling at about $1, Lumina was split into four different companies. For every share they owned in Lumina investors received one share in each of the four new companies. Those four companies were Regalito Copper, Lumina Copper, Northern Peru Copper, and Global Copper. If you were a shareholder at that time, you would have been rewarded very handsomely because Aregalito Copper sold for $7 and Lumina Copper sold for a $1. Today, Northern Peru Copper is at $10, and Global Copper is at $4. So, you’ve got a total value of about $14 to $22. And it’s not over yet. [Editor's note: On 12/6/07, China Minmetals Nonferrous Metals Co. and Jiangxi Copper Company signed an agreement with NOC whereby they offered to acquire all of the NOC's outstanding shares for C$13.75 per share in cash.]
TGR: Why is that?
RS: I think the company’s Galeno Asset is one of the largest undeveloped copper deposits in the world today, that’s not under the control of a major. The asset actually includes copper, gold, silver and moly credits. Northern Peru Copper has completed pre-feasibility studies, and will complete the final feasibility study sometime next year. This deposit has almost a billion tons of resource. And I believe this is a classic case of a potential buyout.
TGR: So you like the company for its potential as an acquisition?
RS: Yes, but we also like the story because the management team participates aggressively in the story. It continues to participate at each financing the company has done. And, again, it’s not a story that is terribly well known throughout the mining space, but I think it could be a potential take-out in the next go-round.
TGR: What are your thoughts on the copper market in general?
RS: Well, copper is typically called the PhD of an economy.
TGR: Dr. Copper—that’s correct, and this goes back to my original theme about the emerging middle-class population. Copper is utilized in electricity, but it’s also used in cars. It will be a heavy component in alternative-energy type cars, like the hybrids. So you have increasing demand from the emerging middle class population. Also, all of the easy copper deposits in the world have been found. When I say easy deposits, I’m talking about high grade deposits that are the 1%-plus copper grades and in politically safe jurisdictions in the world.
Chile is the top copper producer in the world. However, all of the easy deposits and all of the oxides or near-surface deposits in that country have essentially been mined out, so we’re starting to look at more expensive sulfide deposits. So, costs have increased. I suspect we’re in a different world today where we have an environment where .5 percent copper deposits are going to be the rule. There are still some areas where you can get rich deposits, nearer to 5 percent in terms of grade. The Congo, for instance, is one. However, even though the copper is still relatively easy to mine in these areas, you have to deal with a lot of political uncertainty.
We like copper long-term. We have a substantial holding in Northern Dynasty Minerals (NDM.TO). This is another under-followed company, even though it’s the largest undeveloped copper-gold asset in the world. I believe it even supersedes Oyu Tolgoi, Robert Friedland’s asset in Mongolia now.
We’ve been buying Northern Dynasty for anywhere between $4 to $10. Also, AngloGold Ashanti (NYSE:AU) announced recently that it is buying 50 percent of the actual deposit, which is called the Pebble deposit, for approximately $1.5 billion in expenditures and feasibility studies as well as equity contributions to the capital of developing this mine.
Again, these assets are reasonably cheap; they’ve got validation, and in an environment where we are very bullish, long-term, these are assets that I think will get consolidated at some point by a major mining company. So those are the type of companies that we like quite a bit.
TGR: So to sum up your view of copper, in the short run, you see some continued weakness in the copper price. However, in the long term, the third-world countries are creating a middle class, and they need copper, and there’s no substitute product. So, copper is it; they’ve got to buy more.
RS: That’s right. I think in the short term you’re going to see some volatility, largely as a result of fears about a slowdown in the US economy. You may have short-term issues based on inventory levels, but I think if you have a long-term view here and you can be comfortable with the short-term volatility, we are going to see some significant gains in this sector.
TGR: Would you say the same thing about gold?
RS: Yes, I think so. The major mining companies will experience a significant reduction in reserves and production sometime after 2010 or 2011, so they have to replace production. And the cost structure in all of these assets in all of the resource markets has changed significantly. The major mining companies are going to have to add to their reserve base, and the easiest way to do that is to make acquisitions so that they can get there quicker.
TGR: Are there any other companies on your radar these days that you’d like to mention?
RS: We’re excited about deal in the zinc space that is just in the process of going public. The company, Trevali Resources Corp., will probably go public sometime the first quarter of 2008. It will produce zinc, with lead by-products, and some silver by-products. Trevali is based in Peru at a silver-producing mine. We expect its annualized cash flow next year, once it begins production, to be somewhere in the range of $50 to 75 million. So we’re keeping an eye on this one.
TGR: We appreciate your taking the time to speak with us today. Thanks for your insights.
