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CAL.TO - Caledonia Mining


ukvalueinvestment
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This is a company listed in Canada, London and possibly US.  I think the it's managed out of Canada.

 

It has some great attributes:

 

Trading at big discount to tangible book.

FCF positive.

EV/EBIT is, like, 1.

It's a net net.

In less than a year it should have negative enterprise value.

Dividend is 10%+

 

Looks great, right?  Problem is, the business can't be more horrible.  Cash producing asset is a gold mine in Zimbabwe.  True, they are a low cost producer, and all in cost is around $900 per ounce, so they can remain profitable while many are not.  But Mugabe stole around half the mine in the last couple of years and could do again.

 

The cash is removed from Zimbabwe as soon as it is generated - all cash is held in western bank accounts.

 

So this is basically a bet that Mugabe doesn't take the other half of the mine in the next couple of years.  And that the management do sensible things with all cash, like give it to shareholders.

 

Oh yes, the company owns some other undeveloped mining assets in Southern Africa that might be worth something one day.

 

I guess my question is - would anyone agree that with metrics like Caledonia has, one should just buy the company regardless of the horribleness of the business?  Surely a pending negative EV means that you should always buy assets regardless?  Has anyone pursued a strategy of blindly buying insanely cheap stuff?  My instinct is that on a portfolio basis, it works well?  Is the main risk management?  Thoughts appreciated.

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I own Cal.to.  I do not agree with your assessment that it is a horrible business.

 

To the contrary, its management has proved shareholder friendly, and run the business with great margins.  Its risk is that it is in a horrible country.

 

I've pitched this idea via PM to a few others on this board, nobody seemed very interested.  I was literally just pitching it to another friend of mine in person last night. 

 

To me, its a great business with friendly management at an extremely cheap price in a high-risk area.  I don't mind risk as long as its paid for, which I believe it is in this case.  Furthermore, the risk is almost completely uncorrelated, which is the best kind of risk to take. 

 

 

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Thanks for the reply.  Have you spoken to anyone about the risk that Mugabe takes the other half of the mine?  I would love to have a chat with a Southern African mining expert or similar.

 

Also, how much do you know about the other asset - in Zambia, I believe?

 

How much do you think the company is worth? I'm trying to get a handle on my upside.

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I haven't spoken to anyone at the company.  I didn't really do a deep dive on this (it isn't a huge position).  The extent of my analysis was as follows:

 

-Is the company cheap?  Yes, very.

-Is the company a fraud?  Doubt it, its paying special dividends (and now regular) & has BDO as an auditor.

-Is the company shareholder friendly?  Yes, appears committed to returning capital.  In addition, management conducted a 1-for-10 reverse split to attempt to reduce "penny stock" stigma and legitimize the company.

-Is the price of gold a risk? No, not really, the company is a low-cost producer and if the price of gold declines, it is likely other miners will reduce supply to the market before it becomes unprofitable for Caledonia to mine.

-Is there a known reason the company is cheap? Yes, two: all miners have been sold off, and this miner is in a highly risky country.

-Am I being paid for this risk taken? Yes, I believe so.  Downside is cash value (it is unlikely the company would pay its payables in the country if the country screws it), so the downside is something like 48 cents or -37%.  The upside is buying a business at less than 2x earnings that should be selling for 10x if it were in a legit country.  So essentially the upside opportunity is 5x here. 

-To what degree is the risk correlated with my other investments? Very little to no business correlation with my other investments or the S&P 500. 

 

I wish there were 10000 of these companies...high risk/high return, uncorrelated. 

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I've looked into them in the past, but haven't pulled the trigger. The 50% sale wasn't as bad as it seems. The company seller financed most of it at LIBOR+10%, with a cash sweep of 80% of the dividends on the 50% going to make payments on the loans. Some of it was a donation to a community trust. Basically, Caledonia will capture a bit better than 80% of the economics.

 

On the other hand, the company has donated ~2 million to the President's scholarship fund, which they don't count as part of the all in costs because its a "corporate" expense. Of course, donating money to things the President likes is part of operating in Zimbabwe.

 

I think a best case scenario is around a double or triple from here, but I can't find a margin of safety since the cash balances are less than the market cap, and the mine value could be zero. I really like it, but I think it needs to be a small position.

 

An example of political risk getting worse is here: http://www.investing.com/analysis/caledonia-mining:-all-gold-to-be-sold-to-zimbabwean-refinery-200714 The company will now be having its gold refined in Zimbabwe by a company politically connected. Which is fine if they pay on time. But collecting its receivables from a Swiss refiner seemed more likely than from a politically connected Zimbabwean refiner.

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  • 2 months later...

I haven't spoken to anyone at the company.  I didn't really do a deep dive on this (it isn't a huge position).  The extent of my analysis was as follows:

 

-Is the company cheap?  Yes, very.

-Is the company a fraud?  Doubt it, its paying special dividends (and now regular) & has BDO as an auditor.

-Is the company shareholder friendly?  Yes, appears committed to returning capital.  In addition, management conducted a 1-for-10 reverse split to attempt to reduce "penny stock" stigma and legitimize the company.

-Is the price of gold a risk? No, not really, the company is a low-cost producer and if the price of gold declines, it is likely other miners will reduce supply to the market before it becomes unprofitable for Caledonia to mine.

-Is there a known reason the company is cheap? Yes, two: all miners have been sold off, and this miner is in a highly risky country.

-Am I being paid for this risk taken? Yes, I believe so.  Downside is cash value (it is unlikely the company would pay its payables in the country if the country screws it), so the downside is something like 48 cents or -37%.  The upside is buying a business at less than 2x earnings that should be selling for 10x if it were in a legit country.  So essentially the upside opportunity is 5x here. 

-To what degree is the risk correlated with my other investments? Very little to no business correlation with my other investments or the S&P 500. 

 

I wish there were 10000 of these companies...high risk/high return, uncorrelated.

 

It seems like a classic deep value investment to me. The nationalization plan has already been put in place, so that's behind us for the most part. There is still a risk of (re?)nationalization, but much lower than the share price indicates imo. Mugabe would have to change his mind in short notice for the investment to not be worth. And I'm going to speculate here that the mines were only 51% nationalized because Mugabe&co learned a thing or 2 from the farming fiasco of 2000. So I wouldn't expect them to greed out into such a monumental blunder again. It can obviously happen, my point is just that it's not as likely as the share price indicates.

 

As far as refinery payments go, the company is now half owned by Mugabe's buddies. That's a pretty good incentive for the refinery to pay up (which they have so far, they even paid some debt that was written down by CAL a few months ago IIRC).

 

Also, the downside is protected in part by the cash balance (in secure banks in UK and Canada), in part by the dividends being distributed, and also of course by the discounted share price. This easily qualifies as a 5% holding to me.

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I think with cases like Caledonia you want the price of gold to go down slightly or stabilize around here. It'll be bad if the price really went up since nationalizing the other half of the mine becomes too lucrative to ignore by the country.

 

I did a quick search for Zimbawe and nationalization and here's what I came up with: http://www.brookings.edu/research/opinions/2011/03/21-zimbabwe-mining-mutenyo

 

"Zimbabwean Minister Saviour Kasukuwere recently announced a government plan topartially nationalize the country’s mining sector. The announcement came after accusations by the minister that foreign companies had all but plundered the country’s resource wealth and left little for ordinary Zimbabwean citizens."

 

Yeah this company is a piggy bank for the regime, I'm going to put this in the no pile. You can't compound zero.

 

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