By Simon Grey, on April 30th, 2012
Businesses aren’t investing in the United States because of a lack of consumer demand, International Paper CEO John Faraci said Friday.
“I think this was all about consumer spending and demand. You know, the problem we have is there’s inadequate demand to create jobs. We know how to respond when there is demand,” he said on CNBC’s “The Kudlow Report.”
The U.S. Commerce Department estimated that gross domestic product expanded at a 2.2 percent annual rate in the first quarter, falling short of analysts’ expectations it would grow 2.5 percent and slowing down from the fourth quarter’s 3-percent rate.
The more correct way of saying this is that there is a lack of consumer demand for products at profitable prices. There is plenty of demand for cheap goods (for example, imagine what would happen to iPad sales if the price dropped to $150 each). The problem is that cheap goods often have very thin profit margins.
Also overlooked in this admittedly shallow Keynesian market analysis is that purchasing power has declined. It’s not that demand has disappeared or necessarily reduced (who doesn’t want stuff?); it’s that people don’t have the ability to act on their demand. Put plainly, people don’t have money, regardless of whether we’re talking cash or credit.
Thus, saying that demand has declined is a rather shallow way of addressing the problem and thus begs a shallow solution (quantitative easing, e.g.). The deeper issue is that people’s real income has declined, alongside their ability or willingness to use credit to purchase things. Therefore, the proper solution is not a short-term stimulation of demand, but rather an attempt to fix the structural flaws that have caused a decline in real income. The causes for such a decline are various: free labor, inflation, free trade, and so on. Fixing these things won’t be easy—in fact, they’ll be quite painful in the short-term—but they will lead to a long-term fix. Unlike a stimulus.
By Christopher Briem, on April 30th, 2012
So… I just don’t have it in me to go though the history of all of this. But if you recall the miasmic variable rate bond the Pittsburgh Water and Sewer Authority had out there and thought maybe it was all resolved merely because it has not been in the news of late… well…
No… it all is hanging out there evermore. See this PR just fired out there late on a Friday afternoon (the time period you use to send PRs to die): Fitch Rates $72.75MM Pittsburgh (PA) Water & Sewer Auth Bonds, Series B-1 of 2008 ‘A/F1′. They were contracted to do the rating, which suggests to me a new debt offering is out there.
Note… “seventh supplemental bond indenture”…. but who is counting any longer? Been a long time since the variable rate basis of the PWSA bonds was even noticed. I still want someone to audit those bonds just to come up with a number for how much of the debt went toward anything remotely defined as capital investment.. and how much just went into financial machinations to pay itself off. If not an audit, there has to be a case study for someone to deconstruct. For a public finance handbook.
and completely random stream of consciousness…. but don’t you think they could use the potassium permanganate to find some of the leaks in the system. Probably not the best idea I guess, but I bet it would work. Crowdsource finding the purple throughout the city… iPurple?
By Bron Suchecki, on April 30th, 2012
Eric Sprott and David Baker has a new article out discussing central bank buying of gold and particularly China. I agree with his conclusion that this is an important demand side shift in the market but then Sprott plays it up way too much with statements like:
“… there isn’t a physical market on earth that can withstand that type of demand increase without higher prices over the long-run, and the gold market is no different. There are no sellers of physical gold that we know of who can satiate that scale of new demand …”
“Who is going to give up their gold purchases to make room for this scale of new demand? Where is the gold going to come from? We ask because we don’t actually know.”
“We have written at length about the disconnect between the paper gold price and the physical gold market. If the demand changes stated above applied to any other market, the investing public would lose their minds.”
“The paper market for gold can continue its charade, but demand in the physical market will soon overpower it through sheer momentum – there’s only so much physical to go around, and it appears that there are some very large buyers that are eager to take it.”
If Sprott and Baker “are students first and foremost of the physical market” then they surely are aware that the one thing which makes gold different from all the other physical markets on earth is its huge above ground stocks relative to new mine supply – 170,000 tonnes versus 2800 tonnes.
This, I suggest, is a quite material fact and one which may be where “the gold is going to come from”. Unlike “any other market”, to which conventional supply/demand analysis can be applied, one cannot understand the gold market by just looking at annual supply/demand numbers when there is such a large overhang of stock.
What drives the gold price I would therefore argue, is not so much demand, but to what extent existing holders of the 170,000t will withhold it from the market. It is actually supply – the withholding of supply – that matters most. If even a small fraction of these holders decide to sell, then that supply “will soon overpower” the physical market, China or no China. This is not a negative statement. The decade long gold bull market is a message that the existing holders are requiring higher and higher gold prices to let go of their gold and that the new holders are more likely to withhold it.
The reason you don’t see this approach to analysing the gold market is because there are only sketchy numbers on the flow of gold from existing holders to new holders – say ETF volumes, futures warehouses and scrap – and therefore its difficult if not impossible to get any handle on total real supply so analysts just avoid it. It doesn’t mean you should.
This unique feature of the gold market, which we can describe as “a stock overhang so large relative to new supply that in any other market would push the price to zero, but for some reason for gold it doesn’t”, is often referred to as monetary demand or gold as a monetary metal. When you see someone refer to gold as a commodity, it tells you they don’t really understand the gold market and you need to exercise some caution with their statements.
Gold is monetary in nature, with only a small commodity component. Further proof of this is the fact that central banks hold it as they generally hold only money as reserves. A lot more can be said on this but it is 8:30 on Sunday night.
The other thing I find interesting about the Sprott piece, and what I react to negatively, is the use of emotive phrases like “on earth”, “lose their minds”, “charade” etc. Never a good thing when we are talking about investing and its a point Kid Dynamite has made, that Screwtape dissects, and which Erik Townsend makes quite forcefully in the Martenson/Harvey interview discussion.
Speaking of that discussion and Sprott, for those interested in Sprott’s silver delivery problem, Jeff Christian has weighed in with some interesting comments at the Martenson/Harvey interview. Warren James has updated Screwtape’s post on the issue with the relevant material and it is a good summary and discussion of the “problem” for those new to it (or who want a refresher).  Join the forum discussion on this post - (1) Posts
By B.P.T., on April 30th, 2012
At 8:30 AM Eastern time, the monthly Personal Income and Outlays report for March will be released. The consensus for Personal Income is an increase of 0.3% over the previous month and the consensus Consumer Spending index change is an increase of 0.4%.
At 9:45 AM Eastern time, the Chicago PMI Index for April will be announced. The consensus index value is 60.8, which is 1.2 points lower than last month, but is still above the break-even level at 50.
At 10:30 AM Eastern time, the Dallas Fed Manufacturing Index for April will be released.
At 3:00 PM Eastern time, the Farm Prices report for April will be released, giving investors and economists an indication of the direction of food prices in the coming months.
By The Gold Report, on April 27th, 2012
 Last year, Africa was the region that witnessed the strongest growth in gold-mining operations. In an exclusive interview with The Gold Report, Nana Sangmuah, managing director of research with Toronto-based Clarus Securities, expects that trend to continue and suggests some immediate smart investments in Ghana, Mali, Liberia and the Democratic Republic of the Congo.
The Gold Report: Gold consultancy GFMS, which is now owned by Thomson Reuters, recently published its 2012 Gold Survey. GFMS predicts that before the end of 2012, the yellow metal will likely reach above its all-time nominal high of $1,920/ounce (oz) in September 2011. The catalysts include inflation concerns and sovereign debt problems in Europe, especially Spain. What are your thoughts on these predictions and conclusions?
Nana Sangmuah: I agree with those predictions and the drivers. One thing that has been missing from the gold rally is inflation hedge demand. With the significant monetary easing that has occurred to drive a global recovery, inflation is definitely going to be an issue at some point. We haven’t seen inflation trade come into gold throughout these 10+ years. That’s the strong headwind that is going to move gold to another level.
TGR: The survey reported that mine production hit a record high in 2011, rising 2.8% year over year to reach 2,818 metric tons (mt). That marks the second straight year that gold production reached a new all-time high. Does that mean the theory of peak gold is dead?
NS: Not exactly. If you peel back the data over the past two years, the greater part of this growth has come from mines digging into their stockpiles and people revisiting old resources that previously were thought not to be economic but at these price levels look economic. There have been very few discoveries despite the fact that there’s been quite a lot of money spent on the exploration front. That rate of increase is not sustainable going forward. And the bigger picture still looks grim because the last big discovery of 5+ million ounces (Moz) is the Aurelian discovery—the Fruta del Norte deposit in Ecuador, which now belongs to Kinross Gold Corp. (K:TSX; KGC:NYSE)—from early in the 2000s. It takes on average at least five years to move from discovery into production, so we’re looking at a situation where the supply is not going to grow that much. If the investment demand is sustainable going forward, basically there won’t be enough ounces to feed that demand.
TGR: The GFMS survey also reported that new gold-mining operations contributed 47 mt of new gold supply, while Africa was the region that witnessed the strongest growth, increasing production by 51 tons (t) despite a 5 t drop in output from South Africa. Do you believe Africa will continue to lead the way in worldwide gold production?
NS: Certainly. The ground is very favorable, and there are a lot of projects that have only scratched the surface. Even in the more prolific zones, which have seen a lot of dollars thrown at them, the concentration has just been on open-pit, near-surface mining. In some of these greenstone belts, you can trace mineralization down to more than 2.5 kilometers (km) at depth. As people get more comfortable with the region’s politics, more dollars are going to move in, and certain grounds will be tested. The key is political stability. As commodity prices go up, countries move their fiscal regimes around.
But I think a lot of countries will smarten up and realize they can attract more investments, which will ultimately generate more revenues to the government if their current regimes are seen to be stable. The Asankrangwa Belt in Ghana is one example. This belt is as old as the Ashanti Belt, but we have just recently seen action on it. So far, within a period of less than three years, 10 Moz have been delineated. Some people would think that certain districts are mature and cannot be coming up with even more discoveries, but that is not true.
TGR: Mali’s interim president said that he wouldn’t hesitate to wage “total relentless war” against the Tuareg rebels who have seized much of northern Mali. Do his words make you less bullish on all West African gold producers?
NS: He’s trying to send a strong signal that he’s all for maintaining stability in the region. And the regional force, ECOWAS—Economic Community of West African States—acted quickly to prevent this from blowing up. A stabilizing force has made its dominance known in West Africa, which I think is going to foster more stability and get people to be more comfortable investing more dollars in the region. Access in general has not really been impaired. The borders are open. People can focus on the day-to-day running of businesses and mines. There’s the potential for a few situations here and there as they try to push the Tuaregs away. But the Tuaregs’ links with al-Qaeda are definitely going to unify the international community against any issues. That means that this is not going to drag on for long, and very soon we should see this issue behind us. We’ve seen similar events before and people have hit the panic button and sold off, but as the situations stabilize, valuations come back strongly. So, I see this as a buying opportunity, and I’ll be focusing on assets. If these assets have not been impaired in any way fundamentally, they should be bought at these levels.
TGR: Ghana is second only to South Africa in African gold production. What are some of the companies operating in Ghana that are well positioned to grow their gold production and see it translate to their share price?
NS: In this current environment, we should be watching the balance sheets of companies to see whether they have enough capital to maintain their growth strategies. One company that I think has a very strong balance sheet is Perseus Mining Ltd. (PRU:TSX; PRU:ASX), which has finished up building a mine in Ghana and announced very strong Q112 results showing good cost containment. Commissioning has gone well and it’s in a ramp-up phase. I think most of the risk is behind it. Perseus is on the cusp of generating a lot of cash flow. That is going to help it bring its second asset, which is not in Ghana, into production. Cast your eyes two years out and Perseus will be producing around 450,000 oz, generating a lot of cash flow that could be channeled into further growth opportunities or shareholder dividends. Currently the resource is 9 Moz and Perseus is spending quite a lot on exploration; about 200,000 meters (m) are being drilled in West Africa. The likelihood of growing 9 Moz into 12 Moz is high. And Perseus has had a very good success rate converting these ounces into reserves, so we should see the production profiles also tip up along the way. At these levels, with no finance hurdles ahead of it, being in a fully funded position and just on the cusp of generating strong cash flows, Perseus is one that investors should be watching.
TGR: Perseus boosted the resource at the Edikan by 1.03 Moz in December 2011. Is it reasonable to think that it could do that again by December 2012?
NS: It’s doing about 200,000m of drilling this year; last year it drilled about 250,000m split between both assets. The rate of resource growth should be more significant because now it’s switching focus from infill drilling to regional targeted. That’s where you see a lot more growth in the resource. I’m quite optimistic that we should be seeing a lot of wider swings in the resource growth going forward. And the company’s picking up new targets in and around the existing mine.
TGR: Ghana also has a number of smaller companies exploring for gold deposits, some of which have had early success. Could you introduce our readers to some of those companies?
NS: There are a lot of junior companies prospecting for gold in Ghana. One of the more successful ones in recent times has been PMI Gold Corp. (PMV:TSX.V; PVM:ASX; PN3N:FSE). It is advancing a brownfield operation previously operated by Resolute Mining Ltd. (RSG:ASX), which mined about a million ounces at 2.2 grams per ton (g/t). PMI came in and has been able to delineate about 5 Moz on the flagship asset. What is most exciting about the company is it has more ground toward the south on the Asankrangwa Belt, on the Asanko project and the Obotan project. This is the first time that ground has been developed by one single company. This points to the potential to grow the ounces profile well north of the current 5 Moz. PMI also has ground—the Kubi project—next to one of the world’s most prolific mines, the Obuasi mine, which has produced and delineated about 60 Moz. And it actively drills Kubi, which is just 15km south of Obuasi. For the first half of the year, it’s drilling about 100,000m on all these targets. And we just saw eight new anomalies discovered last week, signaling the potential to add to the current resource envelope.
TGR: The Obuasi gold mine is operated by AngloGold Ashanti Ltd. (AU:NYSE; ANG:JSE; AGG:ASX; AGD:LSE), which is a major gold producer. Would that make PMI a potential takeover target?
NS: Most of these junior companies that have solid resource growth potential are likely targets.
TGR: Any others in Ghana?
NS: There are quite a few, but we can talk about some other early-stage companies, like Abzu Gold Ltd. (ABS:TSX.V; ABZUF:OTCQX). It’s about to come out with a maiden resource on the ground in northern Ghana in a district that is known for gold-bearing structures.
TGR: On Jan. 19, 2012, you wrote, “Abzu’s vast tenement package with a plethora of targets diversifies exploration risk well for shareholders and its proven management team reduces execution risk.” Tell us more about the management team there.
NS: Abzu’s CEO Allan Serwa is a Canadian who’s been in Ghana for quite some time and has built up a lot of relationships there. He brings to the table the ability to manage community relationships very well—better than seamless. You find a lot of companies with good projects but a lot of problems dealing with communities. So Serwa really gives Abzu a solid platform from which to take off. Paul Klipfel has been a geologist with some of the more senior mines, including Placer Dome Inc. [now Barrick Gold Corp. (ABX:TSX; ABX:NYSE)], and has had some decent experience in Ghana as well. Quite a few other accomplished geologists and company CEOs who will provide necessary direction are on Abzu’s board of directors.
TGR: Abzu’s sizeable land package stretches across four different gold belts in Ghana. What sort of exploration success has Abzu had to date?
NS: Abzu has delineated a mineralization trend of 1.5km in one. I have visited that structure and have seen that it extends well to the north and to the south. On the Asafo Belt right on the Kibi Belt in the south, Abzu has been coming up with some very decent grade intersections of 4+ g/t material. It’s still early but indications point to, with additional drilling, sizeable results.
The concessions are in close proximity to prolific mines. Abzu has properties near Newmont Mining Corp.’s (NEM:NYSE) Ahafo and Akyem projects. It’s got property that is close to Keegan Resources Inc.’s (KGN:TSX; KGN:NYSE.A) Esaase mine. So, these are spanning all the belts coming through to the south. And Abzu is on the Kibi Belt as well—that is also close to a past-producing mine. There is the adage that the best place to find gold is within the shadows of a headframe. I think that is the strategy that guided Abzu in staking all these concessions.
TGR: You also cover companies with gold projects or mines in Burkina Faso, Liberia and even the Democratic Republic of the Congo (DRC). Please tell us about some of those companies.
NS: In Burkina Faso one of my top picks is SEMAFO (SMF:TSX). It’s seen quite a significant pullback in recent times. It has a very solid balance sheet, $170 million (M) in cash, no debt, and it’s generating an operating cash flow of about $130M per year. This company is in a position to fund all its organic growth without coming back to the market. Any value from additional expansions flow to the shareholder. SEMAFO has been able to demonstrate the ability to bring that production on for the past three years. There are a few catalysts coming down the pipeline, including a resource update. And as management continues to show to the market that its large Mana project has resource growth potential with several exploration updates expected, not only in June but after, we should begin to see that attention back into the stock. We will probably see it recover earlier than most of its peers because there’s nothing fundamentally wrong with the company.
TGR: You’ve got a $12 target price on that and a Buy rating. SEMAFO has a promising project in Niger called Samira Hill. What are your thoughts on that?
NS: It is a mine that sits on a mineralized trend that stretches for a good distance. Only about 15% has been tested and developed as pits. So there’s a lot of potential along the strike. In the past, very little capital was reinvested in the mine because ownership was split between Etruscan Resources Inc. (EET:TSX) and SEMAFO, and Etruscan never had enough money to put into expansion activity. The mine has not been performing at its optimum level for some time. That’s changing with SEMAFO now taking full control of the mine and investing a lot more into exploration and capital projects. It’s smaller and we need to see a much, much larger expansion to get more stability in the operation. But I think it’s still a worthy asset to have in the company.
TGR: Tell us about Liberia.
NS: Often people shy away from countries that have had issues. But Aureus Mining Inc. (AUE:TSX; AUE:LSE), which will likely be the first company to commence production in Liberia, is making good strides. Infrastructure-wise Aureus’ New Liberty project is very close to the port, and most of the access to the ground is via a paved highway. That makes it relatively easy to access, compared to other projects in the country. The capital required to kick-start the mine is around $120M—that’s not so huge that it will make this project’s financing risk insurmountable. I see Aureus coming up with its first production sometime in 2014. At this level, it’s one of the highest grade projects in the whole of West Africa near surface. And that’s just the beginning. About 40km north is its main asset, New Liberty, which in itself has a lot of potential to grow in surrounding anomalies that have been delineated. Northwest of the structure is a new 13km anomaly that has been picked up. The grades that Aureus has been picking up from initial intersections on this system are quite encouraging. So, there’s definitely a gold district there and the grades are quite compelling. That would definitely have a good impact on cost.
And we like the DRC. That country has had its issues in the past, but as with any other such situation, there’s always a time when it stabilizes. The fact that the election was conducted is a good thing. There were a lot of irregularities, but post-election issues have not been too severe, and that’s a good sign that the DRC is maturing and stabilizing. You see a huge discount in companies operating in the DRC, which in my opinion is not warranted, because it has one of the most prospective mineral belts in the world.
We just saw the first commercial gold production coming with Banro Corporation (BAA:TSX; BAA:NYSE) picking up the march. And we’re going to be seeing Kibali from Randgold Resources Ltd. (GOLD:NASDAQ) come through. I just visited the Kibali project and was very impressed by the progress made for relocation, which is probably the most challenging part of construction. With a solid technical and mine-building team in place Randgold expects to bring Kibali into production by 2014 without a lot of challenges. As these two continue to do well, people will change their perception of gold mining in the country.
Another that I would highlight as very cheap at these levels is Kilo Goldmines Ltd. (KGL:TSX.V), which is on the Ngayu greenstone belt and will be commencing drilling very shortly. David Netherway and Alex van Hoeken have taken over, and they are seasoned mining personnel who focus on the exploration growth potential of their large land package. One similar ground to the Kilo ground is Geita, which in the 1990s started as a small resource from old mine workings and has grown to north of 10 Moz. It’s a similar story for Kilo. It has an old mine at Adumbi, which is currently around 1.8 Moz, and there are a whole slew of prospects around it. This is one of the few times that a company has enough drill rigs to chase some of these targets. It’s very early, but there’s a lot of growth ahead of Kilo—including the fact that Kilo also has an iron ore exposure that the market is not paying anything for. So, you rarely get something for free, but Kilo could be an example of where that really works.
TGR: An iron-ore sweetener, as you’ve called it. In a March 30, 2012, report, you said you expected a rerating of the stock. When?
NS: Rigs are on-site and drilling has commenced. It has its own sample prep lot, so turnaround times are not going to be that long. As news starts to flow, which could be as early as midyear right through the end of the year, and people begin to appreciate the size potential of this asset land package and also the grade profiles, that’s when everyone will start waking up to the opportunity and drive the re-rating.
TGR: Do you have some parting thoughts on African gold plays?
NS: People should continue to focus on the fundamentals. Take advantage of the situation, which will turn around and stabilize, to pick up on names that you missed out on and wait for the disconnect between the commodities and the equities to correct. I see very little downside risk at these levels.
TGR: Thanks for your insights today.
Nana Sangmuah is managing director of research at Toronto-based Clarus Securities. His previous industry experience includes the Prestea underground mine, AngloGold Ashanti’s Obuasi and Iduapriem mines, and Gold Fields’ Damang gold mine. He has over eight years of global mining equity research experience that covers more than 60 mining companies worldwide in the gold, base metals and diamond sectors and has in-depth knowledge of mining projects in West Africa. Sangmuah completed a Master of Business Administration in finance at the University of Toronto’s Rotman School of Management in 2004 and obtained his Bachelor of Science in engineering from the University of Mines and Technology, Ghana, in 1999.
By Christopher Briem, on April 27th, 2012
One of the owners of the Rivers Casino says the business is a terrible investment. Just terrible. In context you can’t ignore that the statement is made as part of litigation to lower the property’s assessed value for tax purposes.
So here is the deal. Maybe he is right, maybe he isn’t. The Rivers Casino could be an awful investment or a great one. What is a bit clearer is that the value of the casino has only gone up since he invested in the business. When Don Barden and his coinvestors were supplanted as the equity owners of the casino there still were not table games in PA casinos. No assurance there was going to be table games in the future. Table games have been very very lucrative for Pennsylvania casinos. Not only do tables games incur a lower tax rate on gross revenues but they bring more people through the door which has been pushing up slots revenues as well. Add in the deteriorating economy at the time and other reasons to think that the price paid at the time was actually pushed down from what it might have been a year earlier or a year later. One way or another the value of the casino has gone up since that investment was made.
Consider that if it was a bad investment, the new owners were clearly warned of that fact by just how well all the previous investors fared. The ‘bad’ part of the investment was not hidden and assuming the investors were not unsophisticated they took all the available information into account when deciding what price to pay.
Remember it was not just the late Don Barden who took a bath, but his co-investors and even the folks who backed the loans he took out. That would include the Detroit public pension system.. someone may need to check to see what the outcome was of that story. The point is that the casino was probably worth what it was paid by the new owners at the time they made the investment.. and the whole enterprise can only have increased in value since.
Recall Don Barden’s financing scheme for the casino early on…..
By The Energy Report, on April 27th, 2012
 Most investors may not have Australian resource companies on their radar screens, but that doesn’t mean that there aren’t some great opportunities worth pursuing Down Under. In this exclusive interview with The Energy Report, Ivor Ries, utilities and energy analyst at E.L. & C. Baillieu Stockbroking Ltd., one of Australia’s oldest securities firms, describes the challenges faced by energy-related companies in his country and how they are taking advantage of the opportunities available both at home and in the U.S., Canada and South America.
The Energy Report: Your firm has been in the investment business for over 120 years. Can you give us an overview of the energy markets and the challenges and opportunities that energy companies in Australia face?
Ivor Ries: Australia has historically been the quarry and energy source to emerging Asian economies. As a result, our economy is inextricably linked with the progress of China, Korea, Japan, India and the other Southeast Asian economies. Initially, we were mostly a supplier of minerals, but in recent years, the liquefied natural gas (LNG) markets have become a very large part of our economy. We have two very large LNG projects in production and a third smaller one in Darwin. Another five LNG projects are now under construction, which will more than triple Australia’s LNG output over the next five or six years.
The LNG boom has its pros and cons. The investment spending is a huge boost to our economy, but it also has caused a huge shortage of contractors and manpower. The price of labor has gone through the roof in any business related to oil and gas. An unskilled laborer working on an LNG project in Australia is probably paid somewhere between two and four times as much as he or she would be elsewhere. Australia has very tight restrictions on labor coming in. At the moment, the industry is forcing the government to change that. The government recently announced it is going to reduce the visa requirements for American and Canadian oil and gas workers, so they can help plug that gap. That would be a huge relief for the industry. We have a very heavy-handed set of regulations here, and there has been a lot of media hysteria surrounding fracking, particularly in the coal-seam gas areas and a very strong campaign to have fracking stopped. Anyone running coal-seam gas or unconventional gas here has to run through a very stringent and time-consuming environmental approvals process, which probably adds two to three years to getting a project off the ground. When it comes to the cost of getting things done, everything takes longer and is more expensive than expected. That’s frustrating.
TER: What’s the breakdown of Australia’s energy production versus its consumption of oil, gas, coal and other energy sources?
IR: The domestic market in Australia is overwhelmingly coal driven. Australia is the world’s largest seaborne coal exporter, and our domestic power industry runs about 80–85% off coal and to a smaller extent off hydroelectric power and gas. Cheap coal gives us very low-cost baseload power across the entire economy. A population of only 23 million (M) people is just not enough to create a significant market for gas, and that has resulted in a terrible oversupply. Until we started shipping LNG, gas prices were incredibly low. We’re just now starting to see the connection between the domestic gas price and export prices. Typically, for the last five years, the price for gas on the east coast of Australia was about $3.50 per million British thermal units (MMBtu). Now we’re starting to see some longer contracts being signed at about $7–8/MMBtu.
TER: Do LNG exports offer a big potential opportunity?
IR: Yes. In Australia, unlike the U.S., the mineral resources belong to the government. So the people who own the land do not own the minerals underneath. In the States you have the overriding royalty system where the landowner typically gets a percentage of the production. Here in Australia, the state government gets a royalty that is typically about 10%. The net cost of producing coal-seam and conventional gas is very low. There is a good network of pipelines on the east coast for moving the gas around where cash production costs, particularly from the better coal-seam gas fields, are typically less than $1/MMBtu. That’s very cheap. With an LNG plant, the price is now around $12–13/MMBtu. Even after the pipeline charges and the LNG plant operating costs, that is quite a big margin. In the recent years, we’ve had quite a lot of consolidation with global names buying up the smaller coal-seam gas players to increase their reserves and have a bigger stake in LNG.
TER: Are most Australian energy companies geographically diversified with operations in other countries?
IR: Our bigger companies here tend to be multinationals, like BHP Billiton Ltd. (BHP:NYSE; BHPLF:OTCPK), Rio Tinto (RIO:NYSE; RIO:ASX) and Woodside Petroleum Ltd. (WPL:ASX). The Australian market is so small that to grow beyond a certain size, you have to become multinational in some way. The next tier down is a huge drop in terms of size. Our biggest pure domestic gas play is probably Origin Energy Ltd. (ORG:ASX). It has about a $16 billion (B) market cap.
TER: About how many energy-related public companies are there in Australia?
IR: There are a lot. Our market is a bit like Calgary in that we have a lot of really small exploration companies here. There are probably more than 250 listed energy companies on the Australian Stock Exchange (ASX).
TER: You have a fairly broad range of companies in your coverage list in terms of stage of development, type of business and the price of the stock. How do you decide what companies you want to cover?
IR: Many companies are working on a lot of small things. Our chief criteria is the company has to be involved in pursuing one or more core projects where the central resource is at least 100 million barrels oil equivalent (Mboe). Otherwise, there’s no point. Companies chasing smaller projects tend to burn through shareholders’ capital and then ask for more. We figure if you chase a 100MMbbl target and you derisk it, you may not actually produce it, but someone will come and pay you some real money for it. So that’s the first criterion. The other criterion is the quality of the management. Once we feel comfortable in that area as well, the company goes onto our coverage list. But as you can see, there are not many.
TER: What are your favorite companies right now?
IR: The ones that stand out to me at the moment are companies like Karoon Gas Australia Ltd. (KAR:ASX), which is a midsize explorer/developer with an LNG project in Australia and a huge exploration project ahead in Brazil. Molopo Energy Ltd. (MPO:ASX) and Red Fork Enegry Ltd. (RFE:ASX) are essentially American companies that happen to be listed on the ASX. Molopo has acreage in the Bakken in Saskatchewan, Canada and a project in the Wolfcamp play in the Permian Basin in Texas. It has about 25,000 net acres in Texas. We’re very excited about that. Red Fork has about 75,000 net acres in the Mississippi limestone play in Oklahoma. It has been getting some good results from its early wells there. We think these stocks are all very undervalued relative to the size and quality of the land positions they have. The next 12–18 months for all three will be exciting because they have a lot of wells going in and production will be ramping up. If they get a reasonable run of drilling success, their share prices will be significantly higher than they are now.
Molopo’s Wolfcamp drilling areas are surrounded by a lot of very big players getting some really good results. These include EOG Resources Inc. (EOG:NYSE), El Paso Pipeline Partners L.P. (EPB:NYSE), Approach Resources Inc. (AREX:NASDAQ), ConocoPhillips (COP:NYSE), Pioneer Southwest Energy Partners L.P. (PSE:NYSE) and Devon Energy Corp. (DVN:NYSE). On some of their better wells, those guys are getting over 1.8 Mbpd from long laterals. Molopo has drilled three short lateral wells so far, and all have flowed oil. It is about to crank up production and put in somewhere between 8 and 10 wells there by year-end. Long, lateral wells will target much higher flow rates than achieved to date. As the company derisks the project, the market will really appreciate that asset.
TER: What about Red Fork?
IR: Red Fork is up in the Mississippi limestone area in Oklahoma. That’s a real hotspot, and the last time I looked, there were 240 drill rigs running in the area. Red Fork is run by some very experienced oil guys out of Tulsa. It’s had a couple wells on pump so far and has been getting some nice oil flows, and is about to crank that up. Red Fork has a very big land position. It will be getting a big following from the States as its production cranks up, going to somewhere between 10–12 wells this year. Toward the end of the year, I wouldn’t be surprised if its production was getting close to 2 Mbpd.
TER: Does that hold up or does it taper off relatively quickly?
IR: Because it has so much acreage, it will just keep drilling. I think it will eventually have more than 300 well locations that it can drill there. It will certainly be able to grow its production by just steadily increasing the footprint there. Its neighbors are getting 30-day initial production rates around 350–550 bpd on pretty low-risk wells. If it can string together a whole bunch of those, we think it will then be seen as a serious company. At the moment, Australians see Red Fork as purely speculative and they haven’t really bought the story yet.
I should talk about Karoon Gas Australia Ltd. for American investors. Over the years, it has looked long and hard at whether it should actually be listed in America simply because the Australian market is probably struggling to value it. It has three projects, including a huge gas condensate field discovery in a joint venture with ConocoPhillips in the Browse basin off the northern coast of West Australia. That’s the Poseidon fields, which have estimates ranging anywhere between 3 trillion cubic feet (Tcf) and 15 Tcf gas, with a P50 estimate of around 7 Tcf gas, and a reasonably high condensate cut in that. It’s drilling another five wells there with Conoco this year to get it to the point where it can have bankable reserves and then start going out and looking for customers. It’s not really an exploration project anymore, but more of an appraisal development-type thing. It will require very big capital and a contract offtake for at least 4 million tons (Mt) LNG before that project will stand up. We’re talking an $18–20B capex to get that project up and going. Karoon is the junior partner in that. It originally scoped it, found it and then took it to the market, and Conoco farmed into it. Since then, it’s just working it up to the point where it can start signing up customers. That’s its number-one project.
The other two projects are in Brazil and Peru. In Brazil, it won five blocks in a government tender two years ago. It has spent a huge amount of money and time on 3D seismic and developed a large number of 200–300 MMbbl targets there, which it will start drilling in the second half of this year. This is a very high-impact exploration program. Before it does that, Karoon is almost certainly going to farm it out to a larger player because it lacks the people and manpower to carry out a project of that size alone. Degolyer & McNaughton have done some work on this and estimate around about 900 MMbbl potential in those five Karoon blocks. So we’re expecting a strong interest in it.
TER: So that amounts to about $90B in the ground, correct?
IR: Yes. These are huge targets in not terribly deep, but not shallow water, either. These are $80–100M wells, and Karoon will be looking for someone to make a commitment to at least three wells and fund its back costs. Anyone coming through probably has to have a check in their pocket for $500M. That farm-out process is now almost complete with the partner announcement expected around mid-May, and drilling starting in the second half of the year. It already has a drill ship contracted so whoever buys into it is getting a fully worked-up project and it’s going to get instant excitement as soon as it buys.
In Peru, Karoon has some onshore and offshore leases with potential for up to 700 Mboe. Again, it’s looking for farm-in partners for that. The approval will probably come out toward the end of the year. This is a company that is chasing really big, high-impact projects. The stock is generally not held by Australian institutions. Most of the non-aligned shareholders are American pension and hedge funds and high net worth individuals.
TER: So it is definitely working in elephant country.
IR: That’s right. With these sorts of companies, the only way you can value them is by applying a probability or a risk factor to the chance of success. Poseidon is definitely a project. We just don’t know how big or how valuable it is. You have to apply some probability to the rest of the stuff. We end up with a valuation range of between $7.04 and $17.35/share. It is about $6 at the moment. Our midpoint value is $12.20. These are risked valuations with pretty heavy risk factors so if one of these things in Brazil, in particular, turns into a discovery, then obviously that valuation would increase very dramatically. It’s a high-risk, high-reward kind of stock, not for the faint-hearted.
TER: Are there any other companies you’d like to talk about or mention?
IR: In big-cap land, Origin Energy has been a great performer over the years. Its share price is really suffering at the moment because the market is so concerned about cost blowouts on LNG projects. It’s building a $20B LNG project with Conoco up in Queensland. Because other project costs are blowing out, the market is very wary, and its stock has really been sold off over the last 12 months. We think it’s really an excellent company, with about $2.5B/year cash flow from its domestic operations. It’s a really great business that’s been one of the best performers in the Australian market for as long as it’s been listed. If anyone wanted to play the big and liquid way, certainly Origin would be the standout.
TER: How would you summarize the big picture on energy investment opportunities in Australia?
IR: We think there is certainly a lot of value in Australia. Our market is somewhat thin and illiquid, so we don’t have the depth of analysis. We have a lot of companies often holding U.S. assets, which actually trade at a huge discount to what they would do in their home market. If you’re selective, you can find some real bargains here.
TER: Thanks again for joining us today
IR: Thank you.
Ivor Ries is a senior analyst and director of industrial research at E.L. & C. Baillieu Ltd., a long established stockbroking firm with offices in Melbourne, Sydney, Perth, Bendigo and Newcastle. Ries joined the world of stockbroking in 2001 after a 22-year career in media, included reporting and commentary roles with The Age, Business Review Weekly and The Australian Financial Review. Ries joined E.L. & C. Baillieu in July 2001. The firm specializes in research and corporate advice for medium-sized industrial and resource companies and counts many of the country’s major institutional investors as clients. Ries’ areas of specialization are utilities, oil and gas and online media and e-commerce. A native of Queensland, Australia, Ries lives in Melbourne with his wife and daughters. He is a Brisbane Lions supporter.
By B.P.T., on April 27th, 2012
At 8:30 AM Eastern time, the advance GDP report for the first quarter of 2012 will be announced. The consensus is an increase of 2.5% in real GDP and an increase of 2.1% in the GDP price index.
At 8:30 AM Eastern time, the Employment Cost Index for the first quarter of 2012 will be announced. The consensus is an increase of 0.5% from the previous quarter.
At 9:55 AM Eastern time, Consumer Sentiment for the second half of April will be announced. The consensus is that the index will be at 75.8, which is 0.1 points higher than the value reported in the first half of the month.
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By Christopher Briem, on April 26th, 2012
What is really fascinating is that a potential new major reorganization at USAirways just barely makes it into the news cycle here any longer. Maybe that makes sense given the number of flights left here, but I bet there would be ramifications no matter. It is also a real change from the past when, as with US Steel before it, every little machination at USAirways would make news all around here. As for the future??? Charlotte is still one of the top destinations of passengers departing PIT and I have to believe that a lot of that is related to the USAirways hub they have retained for now.
Via my Pittsburgh Airport Data link on the right is this data on flights at PIT by carrier:
By Ajay Shah, on April 26th, 2012
India and Pakistan are slowly reintegrating their economies, through trade and investment. Will we stop at sterile commercial transactions, or can there be more to the engagement of the two countries? Most of us in India think of Pakistan as a country with serious governance problems; we think that India has little to learn from Pakistan. A careful reading of history will surprise most of us.
One of the most important developments in the history of the Indian Constitution was the rise of the `basic structure’ doctrine, which
limits the extent to which a powerful political configuration can amend the Constitution. What is not widely known is the intellectual
links that led up to this. A judge of the Supreme Court of India created what was possibly the first constructive jurisprudential
connection between India and Pakistan: he imported the concept of basic structure into Indian jurisprudence from a decision of the
Supreme Court of Pakistan. This is not to say that the basic structure doctrine was not discussed before by myriad scholars and applied in other countries, but merely to celebrate an old acquaintance that not too many of us recall today.
The authors of the Constitution of India saw the necessity of having a mechanism for amending the Constitution: Art. 368 of the
Indian Constitution. However, one question that has time and again caught the attention of the Indian Supreme Court is the extent of this amending power. For example, can Parliament amend the Constitution and make India an autocracy? If not, then is there any implied restrictions to the power of amendment? And if such restictions do exist, what is the scope of judicial review of an amendment passed by a super majority of the elected representatives of the country?
There appear to be three critical milestones in India’s path to the basic structure doctrine.
Justice Mudholkar in the case of Sajjan Singh (AIR 1965 SC 845), for the first time (para 63) used the phrase `basic feature’ of the Constitution to argue that there are certain features of the Constitution that cannot be amended by the Parliament through its amending powers under Art. 368 of the Constitution. This judgment was a seperate concurrent opinion and not the majority view of the Court. Justice Mudholkar drew upon the Pakistan Supreme Court’s decision in Fazlul Quader Chowdhry v. Mohd Abdul Haque, 1963 PLC 486, which had used the basic structure doctrine already.
The phrase `basic structure’ or `basic feature’ of the Indian Constitution has arisen in some decisions before Mudholkar, J. pointed it out in 1964. For example, in re: Beruberi Union case (AIR 1960 SC 845) and State of West Bengal v. Union Of India (AIR 1963 SC 1241) used the phrase but in a much looser sense and not squarely in the context of implied limitations to the amending power under Art. 368. It is, then, fair to say that Justice Mudholkar was the first important introduction of this concept into Indian jurisprudence.
The decision of Sajjan Singh came up for reconsideration by the Supreme Court in IC Golak Nath’s case (AIR 1967 SC 1643). Justice Wanchoo after opining in para 113 that `the power to amend includes the power to add any provision to the Constitution, to alter any provision and substitute any other provision in its place and to delete any provision’, went on to discuss in para 115 if there are any implied limitations on the power of amendment under Art. 368. In this context he referred to the doctrine of basic structure as was highlighted for the first time in India in the separate opinion of Justice Mudholkar. However, Justice Wanchoo ultimately opined that no limitations can be and should be implied upon the power of amendment under Art. 368 but did not go into the question as to whether Art. 368 can be used to repeal the present constitution and come up with a completely new one. Justice Wanchoo was however speaking only for himself and two other judges amongst the 11 who were on the bench. Finally, 6 judges held that Fundamental Rights cannot be taken away by an amendment while 5 judges held that Fundamental Rights can be taken away by an amendment. However, the line of argument taken up by Mudholkar and Wanchoo, that there are implied restrictions to the power to amendment under Art. 368, was still a fringe argument.
This implied restriction or basic structure argument gained prominence for the first time in Kesavananda’s judgment (AIR 1973 SC 1461) where a 13 judge bench of the Supreme Court deliberated on this issue. In spite of the length and complexity of the judgment, the one ratio that emerges out of it is that the amending power under the constitution cannot be used in a manner so as to interfere with the basic structure of the Indian constitution. Reference to Mudholkar’s views in Sajjan Singh (which in turn was the view of the Supreme Court of Pakistan) was made in para 681.
It is in this context, we should recognise the immense contribution of the Supreme Court of Pakistan to the constitutional jurisprudence of India. And Justice Mudholkar needs to be credited for at least trying to make possibly the first jurisprudential connection between the two neighbours back in 1964.
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