The Williston Basin is a hot area of exploration and production that oil and gas analyst Jason Wangler follows from his SunTrust Robinson Humphrey office in Houston. In this exclusive interview with The Energy Report, he shares his thoughts on the near-term prospects for oil and gas demand and prices, and tells us about several attractively priced names with good upside potential from current levels.
The Energy Report: Thanks for joining us today, Mr. Wangler. You and your associate, Neal Dingmann of SunTrust Robinson Humphrey, follow quite a number of energy stocks as well as the oil and gas markets in general. Oil prices have been relatively stable over the last few months with oil in the $90-$100/barrel (bbl.) range, and gas in the $4.20-$4.80/thousand cubic feet (Mcf) range. What are your expectations for the oil and gas markets in the next 6 to 12 months?
Jason Wangler: I think we’re really going to see a lot more of the same trading ranges. In the last couple of years, the economy, especially in the United States, has been building back from the terrible situation of late 2008 and early 2009. In 2009 and 2010, we were growing slowly and getting back to a level that was making more sense. But now that we’ve gotten a little more than halfway through 2011, there are still a lot of issues here in the United States. The debt ceiling and budget crisis and the general concerns with the economy not growing as fast as people expected have all had their effects.
We see the Brent crude prices $15 to $20 ahead of where the West Texas intermediate (WTI) oil prices are here in the States because there is excess supply in the U.S. right now and not as much expected demand for that oil. If you look at gas, it’s very much the same way, not only in the U.S. but worldwide. The other countries around the world would love to have the amount of natural gas that we have. The U.S. is blessed with the riches of natural gas from its shale plays. So you’re probably going to see gas stay in the $4-$5/Mcf range and, I think, probably below $4.50/Mcf for the most part, until we have either a demand or supply change that’s very dramatic. That would probably have to come from the demand side either in exporting natural gas or additional uses, whether it be for vehicles or heating more homes or something of that nature.
TER: It’s interesting how the whole gas situation has turned around because there was all this talk a few years ago about building ports to import liquefied natural gas (LNG) and now we’re talking about exporting LNG.
JW: It is amazing. The “shale revolution” has really changed the dynamic for a fuel that was very hard to come by but can’t be easily transported. You have to build these very large, expensive ship-loading facilities. Some people looked at the market in the U.S at the time and wanted to build import facilities because we would need them and we’ve leaned on Canada and Mexico for quite a few years to supply us with natural gas. Now we have so much at $4/Mcf, we wish those countries would need some of ours. Exporting LNG could start to balance out how much oil we have to import.
TER: Looking at your coverage list, some of the stocks are under $0.50 with market caps under $20 million (M), and others are big institutional favorites that trade above $100 with market caps over $50 billion (B). How do you decide which companies you want to follow?
JW: My colleague Neal Dingmann and I look for names and stories that interest us. We look at the management teams as well as where the assets are located and actually break our coverage down based on specific basins. I cover the Williston Basin in North Dakota and everything west. He covers Eagle Ford in Texas and everything east. And then we try to cover a group of names in each basin in different life cycles of each play. It could be one that’s just a very early entrant, which may have a $100M market cap, such as a Voyager Oil & Gas Inc. (NYSE.A:VOG) in the Williston, up to somebody who’s in the $10B+ range, such as a Continental Resources Inc. (NYSE:CLR) or a Whiting Petroleum Corporation (NYSE:WLL).
TER: You seem to be quite hot on the Williston Basin. Tell us why you like it so much.
JW: It’s one of the most economic and best resources that we have, not only in the U.S., but, really, in the world. There’s lots of running room and we’re very early into the play with lots of acreage still to be drilled. We could be up there for 50 or more years drilling very, very strong wells and putting lots of oil into U.S. tanks. The Eagle Ford and the Utica in Ohio have interesting and up-and-coming plays, but the Williston really has been shown to be as economic as any other, if not the best. It’s always nice to be in an asset that has the best type of results.
TER: A lot of these Williston stocks that you’ve recommended in the last few months have had some respectable moves. Is there still some good upside available there?
JW: I think there still is. The winter was colder than usual in North Dakota and Montana. After the winter season they had floods, which caused a lot of problems throughout the Midwest in general, starting up in North Dakota and Montana.
So, there were a lot of problems with shut-ins. They couldn’t work at the same pace they typically had been able to so production numbers were not as high as expected. Wells were not coming in on the expected timeframe. So, some of these stocks took a significant hit. The weather has been good since the beginning of June. Now we’re really starting to see some very impressive rates. Going through the second quarter earnings season, when we start hearing these names report, I think people are going to understand why they’re going to be a little bit lower than we originally expected entering the year.
Today, a month or two since the weather improved, we are able to say that this is a resource that makes sense. And as long as the weather works, we can really start churning out some very impressive numbers. So, I look for the Williston names to really have some impressive growth rates, not only for the full year, but, mostly based on just the second half of this year, because the weather has finally started to cooperate.
TER: Can you tell us about some small-cap names you particularly like at this point?
JW: One of them is a very early stage play in the Williston called Kodiak Oil & Gas Corp. (NYSE.A:KOG). The company has about 100,000 net acres at this point and is really starting to turn on a lot of wells. It should actually be able to start talking more and more about some very impressive production growth rates, not only for this year but next year. In the next couple of quarters, Kodiak could double production in only one quarter because it is able to bring on three, four or five wells. It currently has a couple of rigs running and will be moving to five rigs by the end of this year. Next year, 2012, we should see explosive growth much as we saw from Brigham Exploration Company (NASDAQ:BEXP) a few years ago. So, I look at Kodiak as an earlier stage play in the Williston with a very nice acreage position and cash on the books. When the additional rigs start running, it’s just a matter of focusing on operations and getting the oil out of the ground.
One other one is GeoResources Inc. (NASDAQ:GEOI). It’s a very interesting small company with a strong management team and a great balance sheet. The company has been around for quite some time and has been able to put together nice positions in both the Williston and the Eagle Ford. It’s just starting to drill now on those positions as the operator. It has a couple of wells in the Bakken that weren’t as great as maybe some other results. But, I think you will see some better results coming out of there as the company comes to understand the resource. Then down in the Eagle Ford, GeoResources just reported some very impressive results a few weeks ago coming out of the Gonzalez County area, a little bit further north than most people thought the Eagle Ford to be. It has some good partners and I think you’ll continue to see it be able to add rigs and really start moving that production level much higher.
TER: What else do you like?
JW: Another one that makes a lot of sense to me is Gulfport Energy Corp. (NASDAQ:GPOR). The company is in the Utica Shale as well as a lot of other places. Utica has become a play that everyone’s really curious about and Chesapeake Energy Corporation (NYSE:CHK) is really the only other one that’s talked about Utica very frequently. According to Chesapeake, Utica has the potential to be better than the Eagle Ford. It will be very interesting to see as we start getting some results out of that Ohio area. Gulfport is also drilling wells in south Louisiana and in the Permian Basin of Texas, and in the Niobrara in the Rockies. It also has some oil sands in Canada. Gulfport has a lot of different very strong assets predominantly focused on oil. And it’s been able to keep the production moving forward. So, I think that the good asset base will continue to turn into better and better cash flows moving forward.
TER: Any other low-priced ones you like?
JW: One other one I like is Abraxas Petroleum Corp. (NASDAQ:AXAS). It’s a smaller name with a position in almost every interesting play that’s not only already being produced in the U.S, but also a few others that are emerging as well. The company is in the Bakken area, the Eagle Ford and the Niobrara. It’s also in a couple of other plays including a small one called the Alberta Basin in Montana that’s becoming more and more exciting as Newfield Exploration Company (NYSE:NFX) and Rosetta Resources Inc. (NASDAQ:ROSE) start to do a little more work there. Abraxas is really a very good company getting out there early and picking up some acreage. Now it’s focusing on drilling that acreage, getting the production to the market and then growing its cash flows. But it’s one that I think is very interesting from an asset standpoint. With a stock price under $5, this is one you could really look at as a nice entry point into quite a few different interesting plays.
TER: You also cover Venoco Inc. (NYSE:VQ). Do you have any thoughts on it?
JW: Venoco is an interesting story but the company has had a tough year so far. It’s in the Monterey Shale in California. It and Occidental Petroleum Corp. (NYSE:OXY), are really the only two companies that are in that play in size, at least that we hear about on a regular basis. It’s taken the company a little bit longer than I think it would have hoped for. Tim Marquez is a smart guy and he’s been the CEO for quite some time. But the play has just really not come along quite as quickly as it had expected. Venoco has got some solid assets and solid production but the stock’s really gotten hit pretty hard over the past six months or so.
A lot of people are banking on this Monterey Shale becoming a very interesting and substantial shale play, and it just hasn’t done that yet. I think ultimately it will work, whether it’s Venoco or somebody else out there. I think Venoco has a great position. But, like a lot of other things, it just takes a little bit more time than we or even the company would like to see and so we’ve seen the stock come down. But it’s starting to get a lot more interesting down here in the sub-$12 range. I think it’ll start looking a little better as production ramps up and Venoco gets a little further up the learning curve on the Monterey Shale.
TER: So, generally, what are your expectations for the coming months that people ought to be aware of, concerned about or hopeful for, as far as investing in oil and gas stocks?
JW: The last few quarters really have all been very strong for the entire industry. Oil prices have been very healthy but gas prices not necessarily as much. The biggest questions have really been the macro situation. Is the economy going to grow? Is there going to be a situation like we had a few years ago where oil just absolutely fell off of a cliff? If it can stay in a range bound area, it will be much easier to make smart decisions on a company-to-company basis regarding who you really like and why you like them, as opposed to the whole industry having to come down.
I think that the industry right now is still severely undervalued, probably closer to the $70–$75/bbl. range for these stock prices versus oil trading in the $80-95/bbl. range. That’s because there’s a fear that the economy is going to pull down the market and oil and the stocks are just going to have to come down because higher oil prices have taken a toll on potential growth.
But the $90/bbl.+ range is a fair range. I think it makes sense as far as the world economy and I think that there’s still enough room for the country to grow, in terms of GDP and everything else, to keep these stocks moving and to keep oil prices where they should be. So, I think there’s a lot of room for these stocks to move. I would just continue to watch what the economy and oil prices do because those are going to be your two big drivers as, right now, these companies are making a lot of money at this $90-$95/bbl. range.
TER: So, to sum up, as far as you’re concerned, there’s more upside at this point than there is downside.
JW: Yes, I think so. For the companies, there’s a lot of upside and not as much downside. The assets they should be able to find with these shale plays are very repeatable. They are capital intensive but as long as the companies can maintain a good balance sheet, you’re safe there. At this point you’re in a price area where you really need to pick one or two that you want to get into and get comfortable with their management teams. The biggest overriding factor at this point is going to be what oil prices do. And what drives that is what the economies, not only here but across the world, are going to do. That’s the thing I think is going to be the most important factor.
And, like you said about the upside, I think one other thing that’s interesting and that could be one of those big upside drivers is that there’s going to be a lot more consolidation. Many of these smaller names will get picked up by larger names that have a lot of cash and want to find a way to grow their production and cash flows further. They need to go out to these new emerging plays in order to do that. So, I think you’re going to see continued consolidation in the market, which I think again, would be very positive for investors who go into these smaller to mid-cap names that may be taken out by the larger names at a nice premium.
TER: That sounds like a pretty optimistic picture for people who are willing to take a shot at some of these promising deals.
TER: We appreciate your taking the time to talk to us this afternoon and all the good information you’ve given us, Jason.
JW: Thank you.
Jason Wangler has over five years of equity research experience focused on the exploration and production (E&P) and oilfield services (OFS) sectors of the energy space. Jason previously worked at Wunderlich Securities Inc. and Dahlman Rose & Company before moving to SunTrust Robinson Humphrey. He also previously worked at Netherland, Sewell & Associates, Inc. as a Petroleum Analyst. He received his master’s in business administration from the University of Houston, where he was also named the 2007 Finance Student of the Year. He received his bachelor of science degree in business administration with a focus on finance from the University of Nevada, where he was named the 2003 Silver Scholar award winner for the College of Business Administration. In 2010, he was highlighted as a “Best on the Street” analyst by the Wall Street Journal and has been a guest on CNBC.
Uranium and potash prices seem to be inversely correlated lately: As potash prices reach their highest levels, uranium prices have suffered. But Richard (Rick) Mills, host of Ahead of the Herd online and editor of the Ahead of the Herd newsletter, believes the prospects for both industries are bright. In this exclusive interview with The Energy Report, Rick explains why the U.S.’ commitment to nuclear power and even biofuels is helping to propel both markets.
The Energy Report: German Chancellor Angela Merkel recently decided to shut down the country’s nuclear reactors that began operating prior to 1980. Germany will ultimately disband its nuclear energy program in favor of gas and wind power following the fallout from Japan’s nuclear disaster in March. Meanwhile, Japan is also attempting to lessen its dependency on nuclear power. How has that disaster permanently changed the uranium market?
Rick Mills: It’s a short-term hiccup and it’s probably presenting us with one of the greatest buying opportunities for carefully selected uranium stocks that a retail investor can get. The global nuclear renaissance that was underway in early 2010 was happening for specific reasons: concerns about climate change, reducing carbon footprints, energy security and the rising cost of fossil fuels. And then the disaster hit. It gave pause to the renaissance, but none of these reasons have gone away.
Germany’s kneejerk reaction shut seven of its nuclear reactors. They won’t be opened again. Its other reactors will also be completely mothballed by 2022. But the thing is that in 2002 Germany’s center-left coalition enacted a law to phase-out nuclear power. Last autumn, Merkel’s center-right coalition government decided to extend the lifetimes of the country’s 17 reactors by an average of 12 years. That decision was based on a judgment that Germany could not meet its power demand using only natural energy sources, such as wind and solar. The country doesn’t have abundant natural gas reserves. So, I find it pretty ironic what’s happening over there. I think Germany may suffer when it finds it can’t maintain its manufacturing competitiveness. Germany is now burning more coal, and already buying more nuclear power-generated electricity from France and the Czechs, who use the old Soviet-style reactors.
TER: There’s a lot of talk right now about thorium replacing uranium as the fuel in nuclear reactors. These reactors could use thorium, which is much more stable than uranium, and roughly performs the same function. Do you think that thorium will ultimately replace uranium?
RM: Ultimately, but we’re 35 to 40 years away from incorporating that technology. Uranium’s got a long way to run. I believe thorium will be the answer one day, but not for several decades at least.
TER: What about the U.S.? It has some reactors slated to come onstream over the next 5 to 10 years. Do you think that the U.S. is going to follow suit with Germany?
RM: The U.S. is going to ramp up its nuclear power. On April 21, the U.S. Nuclear Regulatory Commission renewed the operating license for the U.S.’s largest atomic plant, the Palo Verde nuclear generating station in Arizona, for 20 years. The U.S. Department of Energy just dedicated a new research facility on May 3. The U.S. is accelerating the advancement of nuclear reactor technology. It’s studying the performance of light water reactors and developing highly sophisticated modeling that will help accelerate upgrades at existing nuclear plants.
That doesn’t sound like the U.S. is in any way, shape or form going to cut back. As a matter of fact, U.S. Secretary of Energy Steven Chu just said nuclear energy is the nation’s largest source of carbon-free power and it is an important part of the U.S. energy mix moving forward.
Uranium supplies are going to get very tight. There’s going to be fierce competition for available material in both the spot and long-term markets. Investors should be looking at uranium-focused juniors with money in the treasury. We’re being set up for the perfect storm in uranium.
TER: Since the disaster at the Fukushima plant in Japan, the spot price for uranium has fallen to about $50/lb. from around $73/lb. in early March. Many junior uranium miners and explorers have seen their share prices fall dramatically since then, too. What are some companies that you think offer a lot of value as a result?
RM: Uranerz Energy Corp. (TSX:URZ; NYSE.A:URZ) is one of the best uranium companies out there. The management is top-notch. These guys wrote the book on in-situ leach mining.
Uranerz is going to be included in the Russell 3000 Index again. If you want to see something interesting, pull up a chart from June 2009 when it was included on the Russell the last time. Funds that track that index have to include these new additions. We’re talking about an awful lot of money. It’s going to be interesting to see what happens to Uranerz’ share price as this becomes common knowledge.
Uranerz is waiting for its final permit to start well field construction and build its production facility. Currently, the company has $45M in the treasury; that’s $0.60 a share. Costs to get into production are estimated to be $35M, so the company has some money for contingencies. I expect Uranerz to be in production in 12 to 15 months. Currently, two drill rigs are performing exploration drilling. Uranerz has identified over 483 kilometers (km.) of alteration-reduction trends on its project areas which cover 38,000 hectares. Uranerz has explored only 15% of the identified trends. One drill is doing delineation drilling for the construction of the well fields.
TER: We’re talking about the Powder River Basin Project in Wyoming?
RM: That’s right. The Nichols Ranch project is expected to produce a maximum of 2 Mlb. of yellowcake annually. Initially, the project is targeting 600,000 to 800,000 lb. per year. The company has long-term offtake agreements signed for a portion of production with two major U.S.-based nuclear operators, including Exelon Corp. (NYSE:EXC). The U.S. produces 27% of the world’s nuclear power from 104 nuclear reactors—these reactors use 50–55 Mlb. of uranium a year but the U.S. only produces 4 Mlb.
Uranerz is a company that has its act together and is definitely sitting at a sweet spot for investors. While there’s a little bit of blood in the streets right now concerning uranium, people should be looking at this sector.
TER: That production could be coming on-stream right about the time when uranium prices could be rebounding.
RM: The spot market is definitely going to tighten up before then and people are going to be looking for long-term contracts. This setback, if anything, makes the market stronger. Prices will eventually move higher.
TER: Potash has somewhat of an inverse relationship to uranium prices. Earlier this month, corn futures reached an all-time high, which ultimately means higher food prices for all of us. It also means there’s a greater need for fertilizer and that bodes well for junior mining companies looking for potash. Do you believe that potash prices will remain as high as they are now?
RM: Yes I do and going higher. Food and how we grow it are going to be dominant investment themes for decades to come. Our population increases geometrically. Our food supply can only increase arithmetically. We’ve got major problems in addition to our growing population. One of the biggest threats we are facing is the loss of arable land that was used for food production. Land is being used for biofuels, topsoil is being eroded away and the agricultural land base is being paved over. We’re destroying our freshwater aquifers. But world population growth and three billion people climbing the protein ladder are the elephants in the dining room. Tonight, 220,000 new mouths will need to be fed at the dinner table.
TER: How does potash mining differ from gold or copper mining?
RM: Unlike other resource plays, potash does not have a cycle. Demand is always going to be there, which makes potash an excellent play in a long-term agricultural commodities bull market. Potash markets are never disrupted by political interference. Food shortages will always trigger social and political instability, such as the riots in the Middle East and Africa. All governments fear a hungry populous.
Companies like Agrium Inc. (NYSE:AGU) and PotashCorp (TSX:POT; NYSE:POT) have very solid bottom lines, but they are mature companies. Investors should start moving down the value chain to junior companies with big potash resources that are going to create value for their shareholders.
TER: What companies fit that bill right now?
RM: We’ve been following three companies on Ahead of the Herd for quite some time now.
Verde Potash (TSX.V:NPK), formerly Amazon Potash, is putting together a fairly large project in Brazil. By the time it finishes, I wouldn’t be surprised if it had enough potash to supply the Brazilian market, the largest potash market in the world, for 30 years.
The company also has phosphate at the Apatita Project and should have a resource calculation out by the end of the third quarter. It is also planning drilling on five other targets bordering their thermal potash product, the Cerro Verde. Recent news suggests they will have a limestone resource as well. This is a company that is definitely in the right area at the right time with the right resources.
The thing about this company that most people don’t realize is that if the potash price is $430/t in Saskatchewan, Canada, it would take $100/t to reach a port in Brazil. Then it would take another $100/t to get it to a blending facility near farmers. The price that Verde’s competing against is not $430—it’s $630—they are already close to that blending facility. According to the last test the company did on its product, thermal potash is about 17% to 19% more effective than KCI, or typical potash.
TER: Verde’s chairman, Peter Gundy, was an executive with PotashCorp. He certainly has some significant background in the potash mining business. He also has the right connections to get the money necessary to bring this company forward.
RM: Absolutely true, and let’s not forget to mention the tremendous efforts of President and CEO Cristiano Veloso, who has done an amazing job pulling it all together, and VP of Corporate Development Jed Richardson, who has been there from day one. Also the government of the Brazilian state of Minas Gerais has signed a memorandum of understanding regarding support for potential financing.
TER: What’s the next name you’re following on Ahead of the Herd?
RM: Western PotashCorp (TSX.V:WPX) has done really well for its shareholders and we were early into this one as well. It’s adjacent to BHP Billiton Ltd. (NYSE:BHP; OTCPK:BHPLF) and Agrium’s exploration permits, and within 13 km. of PotashCorp’s Rocanville facility. The company has 34 Mts. of indicated potash with 245 Mts. of inferred.
Pat Varas and his team have done an exceptional job advancing this project so quickly. The company is doing a prefeasibility study to be completed in the fall, and is planning to start on its feasibility study in August. That’s an amazing amount of engineering going into the project right now. WPX has a memorandum of understanding signed with the city of Regina for water. It’s doing environmental studies and community visits.
Western’s land acquisition program has now successfully secured over 2,550 acres at the company’s preferred plant site location. Securing the plant site location is an important aspect of the ongoing feasibility process as the environmental and regulatory approval processes and project schedules are dependent on it.
TER: Is it a takeover target given its proximity to PotashCorp?
RM: It could be. One of the majors might want to take it and put it on the shelf; the Chinese or Indians have to be interested. I think that’s very possible.
TER: Is there a point where juniors get on the radar screen of larger companies and wake up the sleeping giants like BHP Billiton?
RM: Definitely. I think the major players, the BHPs of the world, are probably looking for at least a prefeasibility study. They want to see solid numbers—capital expenditures and costs of production, net present values and internal rates of return that actually have solid studies behind them. None of these majors have a history of moving too quickly. They’re trudging behemoths that do things at their own pace and need surety in a deal.
TER: There was one more potash company you wanted to talk about. What was that one?
RM: Encanto PotashCorp (TSX.V: EPO) in Saskatchewan, Canada. What makes this one interesting is that they are collaborating with several First Nations groups to develop projects on their lands.
TER: In fact, Encanto was developed with that in mind, right? It was developed with the idea that it would work with First Nations to develop these resources.
RM: Absolutely. The first project Encanto started was developing an 80-to-100-year resource on the Muskowekwan’s land. The goal is to develop a producing mine as quickly as possible. EPO’s upcoming preliminary economic assessment (PEA) remains on schedule to be released in the first half of August. The PEA is designed to determine the most economical method for potash extraction and will make a recommendation on a solution or conventional mining operation.
It hasn’t had the success in the market that Verde and Western have seen because the necessary reserve vote on continuing with development of the project hasn’t happened yet and that creates uncertainty. The vote will happen in the fall; it’s scheduled for late September.
TER: The whole operation hinges on that vote?
RM: Yes. Newly elected Chief Bellerose ran on a pro-potash forum. The majority of candidates also ran on a pro-potash forum, as did all eight successful councilors. I firmly believe it’s going to be passed. But there seems to be some hesitation in the market over it.
TER: If the vote does go through as expected, we could we see a bump in the share price. It’s at $0.23 right now.
RM: The band has approximately 1,050 eligible voters, many of whom don’t live on the home reserve. For the vote to be considered a legal vote, at least 51% of eligible voters must cast a vote. For the vote to be successful, at least 51% of those voting must cast in favor. If a sufficient number of voters don’t participate in the first vote then the vote is considered a failure; a second vote will be held on the home reserve 35 days after the first vote. For the second vote to be successful, a simple majority is required from those who vote. In an effort to ensure that all band members are fully aware of the benefits offered through the partnership with Encanto, Bellerose is holding open sessions in Regina, Calgary, Winnipeg, Saskatoon and Edmonton.
There are really two drivers for the stock: the vote and getting the Home Reserve Lands, which will double the land acreage (and potentially the resource). It’s been a long haul, but I believe that this is going to be a successful company and we’re going to see it move forward.
TER: What are some things that investors should keep in mind when investing in potash companies?
RM: It’s a long-term investable trend and with surging prices for agricultural commodities, farmers are looking to boost crop yields, opening the door for fertilizer makers to raise prices. There might be temporary weaknesses, but everybody has to eat and there are 220,000 more of us at the dinner table every night. So there are compelling reasons to be looking at these companies. Also, these are not cheap mines to build. The companies need management teams capable of going out there attracting the interest from the institutions and raising the money necessary (all three companies I mentioned do). Their neighborhood is also important. Who’s in the neighborhood? Could a company be a takeover target?
TER: Thanks, Rick.
Richard is host of www.Aheadoftheherd.com and invests in the junior resource sector. His articles have been published on over 300 websites, including: The Wall Street Journal, SafeHaven, Market Oracle, USAToday, National Post, Stockhouse, Lewrockwell, Uranium Miner, Casey Research, 24hgold, Vancouver Sun, SilverBearCafe, Infomine, Huffington Post, Mineweb, 321Gold, Kitco, Gold-Eagle, The Gold/Energy Reports, Calgary Herald, Resource Investor, Mining.com, Forbes, FNArena, Uraniumseek, and Financial Sense.
Domestic demand for fertilizer is good news for small, U.S. potash producers. In this exclusive interview with The Energy Report, Weiss Research Natural Resources Analyst Sean Brodrick explains the international market forces behind agriculture-related stocks and points to the companies that could benefit in the long term.
The Energy Report: I understand you’re not really bullish on energy these days. Can you give me a brief synopsis as to why?
Sean Brodrick: I’m concerned about the perception of a slowdown in the global economy. With so much free money floating around the market, the psychology becomes so much more important. And, right now, people are really worried about a slowdown in the global economy. They’re starting to pull back and retrench.
Recently, we saw a rally in the market that could go on for a while because things have gotten so oversold to the downside. But the fundamentals haven’t changed. We are seeing fewer government financial injections, thus taking away the punch bowl. That weighs on energy stocks and a recovery generally. Also, we’re seeing worrisome news out of China. The country is still using a lot of energy—more each year. But, the demand for copper is falling off quite a bit. In fact, the most recent numbers I saw said that last month we saw Chinese copper demand drop off 47% year-over-year. May was down 6% from April, which was another down month. Copper is often an indicator of the global economy. Now, the Chinese just might be messing with us as they often do because they like to manipulate the market to get cheaper prices, but it also could indicate a global slowdown. If that is the case, then energy prices usually follow. So, we could see lower energy prices for some time.
You and I know that these energy companies make fantastic money even when oil is over $85/barrel. They make great money. But, again, it’s the perception, the psychology. People worry about quarter-over-quarter comparisons. They tend to punish stocks—perhaps a little unjustly, but they punish them anyway. So, we could see more downside in the broad energy sector.
TER: However, I understand you are very bullish on the potash market these days. Why is that?
SB: Short-term perceptions and worries about a global slowdown aside, the long-term reality is that we have 70 million people in China who are joining the middle class every year. We have millions more in places like India and Malaysia. All these people want to eat and live like big, fat Americans. So, the agricultural producers of those regions are hard-pressed to keep up with that demand. In fact, global consumption of things like grains, nuts and seeds—everything except meat—has gone up 2.5 times since 1970 and it keeps accelerating. This is driving the demand for potash, which has gone up something like 5.6% for the last three years in a row. It doesn’t seem like it’s really going to slow down. Now, if we saw a major downturn in the global economy, we would have to worry about that. But until we do, we’re going to see increasing global potash demand because farmers need it to increase their yields. The green revolution sent agriculture yields much, much higher. Now you have to put in a lot more fertilizer just to get incrementally larger yields. The only way you’re going to get those grain yields is by using potash.
Only 12 countries actually produce potash. Canada, Russia, Bellerose and Germany account for more than 75% of the global supply. And only eight companies control 80% the world’s potash production. Do you see how this could lead to a price squeeze? China will probably try to lock in potash supply going forward because of its need to feed its people. As China starts hoarding international potash supplies, we will have to look for domestic sources. That is good news for new, small potash producers in the U.S, which is already an agricultural powerhouse. We are to grain what OPEC is to oil. Increased U.S. demand for potash could certainly make a difference in the share prices of these small companies as long as they can continue to go into production and/or increase production.
TER: The U.S. gets most of its potash from Canada today, correct? What are the small players in the U.S. you like right now? Can they completely fill the domestic potash demand? Where do you see that market going?
SB: Right. Well, I like Intrepid Potash Inc. (NYSE:IPI) in New Mexico. This company seems to be doing things right. This is an example of a stock being punished unjustly. It has been brought down with the rest of the broad market. The correction in the broad stock indexes compressed the price of Intrepid Potash even as the company increased production.
Another one I like is Passport Potash Inc. (TSX.V:PPI, OTCQX:PPRTF), which you and I visited. It is a developer in Arizona with a great project near the American heartland. The company is doing more drilling, moving it along. I think the dominos are lining up. Passport is moving down the path to production of a million tons a year. This company is in a good position to do pretty well, but it has to get into production first.
TER: Passport Potash announced some initial drill results recently.
SB: Yes, they did and boy, they were good. Preliminary results from two core holes showed significant potash deposits at relatively shallow depths. The company intersected 9.5 feet of 12.29% KCL. Some parts were actually richer. More results should be coming in over the summer. As they report those, maybe the market will take a second look. Because of the risk of not being in production yet, Passport has really been punished along with the broader market. But the payoff could be much higher, especially if the company attracts the attention of one of the big boys, which I believe is going to happen down the road. Then I think Passport could do very well. We could see this thing jump quite nicely. Remember, Passport won’t be ripping up a huge hole in the desert with big trucks. This is planned as an in-situ leaching project. Passport will pump solution in one side of the field through the potash deposit and filter it out the other side. So, you don’t move a lot of dirt. That makes it easier to get environmental approvals.
TER: There has been some talk about the possible end of the ethanol subsidy affecting the broader fertilizer industry in the U.S. Do you think that is significant?
SB: It is significant in that it affects market psychology. The market mentality impacts all kinds of stocks. There was some action in the corn markets that you would not believe. However, let’s face it, 2012 is an election year. Do you want to be the political party that takes away the ethanol subsidy when you’re going into the Iowa caucuses? You could argue about whether subsidies are a good thing or not, but I just don’t think it’s politically feasible to take it away. I don’t think it’s actually going to happen. It’s all politics in ethanol.
TER: I hear even Al Gore is now saying that it was a mistake to suggest that ethanol could be a significant alternative energy source.
SB: Right. But that subsidy is probably not going away. It looks like an easy target, but when you take political considerations into account, and you have to, then it’s not a target you’re going to hit. Ethanol subsidies will be in place at least through the 2012 elections.
TER: Thank you very much Sean.
A natural resources analyst for Weiss Research, Inc., Sean Brodrick travels far and wide seeking out investment values, primarily among the small-cap and micro-cap players. He edits Weiss Research’s Crisis Profit Hunter and Red-Hot Global Resources, as well as making regular contributions to Uncommon Wisdom Daily. He is also a contributing columnist to Dow Jones MarketWatch and a frequent commentator on one of Canada’s premiere financial websites, HoweStreet.com. Sean’s expertise has led to many financial talk show appearances, including CNBC Squawk Box, Fox Business, CNN, The Glenn Beck Program, Your World with Neil Cavuto and Bloomberg Market Line. He is the author of The Ultimate Suburban Survivalist Guide, a guide to surviving the ever-changing economic landscape from stock market shakeups to oil and currency crises to natural disasters. A graduate of the University of Maine, Sean has more than 25 years experience as a professional journalist and financial analyst, including a stint as investment director of the Sovereign Society—the world’s leading publisher of offshore asset protection strategies and global investment opportunities.
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Brazil offers an ideal environment for potash developers, according to Salman Partners Analyst Jaret Anderson. A robust agricultural sector, favorable government policy with excellent transportation and infrastructure are leading to the development of a number of very attractive potash projects in Brazil. In this exclusive interview with The Energy Report, Jaret details his Brazil play and others.
The Energy Report: We know the general factors responsible for the growing need for fertilizers, but are there any growth drivers that aren’t quite so obvious?
Jaret Anderson: Absolutely. Everybody knows the earth’s population needs more food, and there’s a greater desire for increased meat consumption in a number of countries. Hundreds of millions of Chinese and Indians are making the transition from poverty to having some level of disposable income, and one of the first things people in that situation tend to demand is a higher protein content in their diet. One of the things that tends to get lost in the debate is the fact that in order to produce more protein we need a lot more arable land, or we need significantly more production from the arable land currently available.
In order to produce a kilogram (kg.) of beef, it takes about 7 kg. of feed, whether it’s corn or soy or what have you. In order to produce a kilogram of pork, it takes 4 kg. of feed, and for poultry it takes 2 kg. of feed. So, as hundreds of millions of people in India and China and around the world continue to move toward higher protein content in their diets, there is a need to produce more feed grains on a pretty much finite arable land base in order to satisfy those demands.
TER: It sounds like making protein is a very inefficient process.
JA: Regardless of whether it is efficient or inefficient, it’s what the world is demanding. I have no desire to give up my meat and I don’t think anybody else does either. There are ways we can achieve this with better farming techniques, such as more efficient use of fertilizers, genetically modified seed and superior irrigation. All of these things can help us improve crop yields and help us to offer everyone on the planet the food and protein they desire. So, moving yields up in less developed parts of the world to the levels that you see in North America and Western Europe, etc. is something that can be achieved over a longer period of time.
TER: Food producer risks would trickle down to the fertilizer producers. What are the risks?
JA: At the end of the day, the major risks are the impact of prices, which incorporate the supply and demand for the various crops, cattle, poultry, pork, etc. One macro-risk that could have a big impact on the agricultural system overall—and therefore on fertilizer producers and those who are trying to bring new fertilizer projects to market over the next number of years—is the political and economic debate surrounding ethanol.
A change in the political will to continue to subsidize ethanol in the United States could potentially have a significant impact on farm economics. Something like 40% of U.S. corn production is used to produce ethanol. A $0.45 per gallon subsidy currently goes toward the production of ethanol, and if that were to go away during this 2012 election season, it could hurt fertilizer producers.
TER: One Republican presidential candidate went to Iowa recently and made no bones about the need to reduce subsidies for ethanol.
JA: Yes, Minnesotan Tim Pawlenty made that statement pretty aggressively. Sarah Palin, whether she’s in or out, can have an impact on this issue. She’s saying some of the same sorts of things regarding the need to end all energy subsidies, including ethanol. So, it’s a risk. I don’t think it’s something to lose a lot of sleep over, but it is certainly something that can change the debate and the economics for corn production and, ultimately, fertilizer products.
TER: In an industry report, you expressed some thoughts about the significant advantages of producing potash in South America versus Africa. What thesis are you presenting to your clients regarding these two areas?
JA: Transportation costs represent approximately 40% of the total delivered North American potash costs. That’s another way of saying that location and infrastructure are critical elements for any prospective greenfield potash project. It’s critical to think about how infrastructure and transportation costs play into the various projects whether they’re located in Saskatchewan, Canada, Brazil, Ethiopia, Eritrea, the Republic of Congo or wherever else these projects are being developed.
Brazil, in my view, is a particularly interesting location. It’s the second-largest consumer of potash in the world today, and it has posted some of the best potash demand growth over the last 10 years. In addition, Brazil has a number of positive factors going for it. It has a well-developed infrastructure system, including modern roads, a well-developed rail network, access to water and power. By comparison, a number of projects in Africa have very interesting deposits but face significant challenges with respect to infrastructure, including a lack of access to rail, water, power and ports.
TER: Potash stocks are taking a well-deserved breather after phenomenal returns over the past 52 weeks. Is this an opportunity now for phosphates to catch up?
JA: There has been a big uptick in interest in phosphate projects over the last six months. I definitely receive more incoming calls on them than I did a year ago. I believe that phosphate projects do offer some advantages over potash projects because they are less expensive to build, and they’re generally brought to market faster than the five-plus years it can take to bring a potash project to market. Overall, though, the potash industry has offered much better returns over the cycle than phosphates.
PotashCorp (TSX:POT; NYSE:POT)—one of the largest fertilizer companies in the world—has generated an average gross margin over the past five years of 63% in its potash business. Its phosphate business, by comparison, has only generated an average gross margin of about 22%. I think that is the order of magnitude you can expect in potash versus phosphate over the cycle. That makes potash the more attractive business over the long term, but it doesn’t mean there aren’t attractive phosphate projects out there that can generate decent returns for investors.
TER: Companies vary how they report their resources. Investors would like to understand resource values on an apples-to-apples basis, specifically when it comes to understanding recoverable potassium chloride versus total tonnage of ore. This can have significant implications, can it not?
JA: It can. A number of these greenfield potash companies have taken different approaches with respect to the way they have chosen to report their resource figures. As you point out, some companies have reported the total number of tons of potash-bearing rock in the ground while others have been more conservative and report the amount of potash that they expect to be able to extract after accounting for the grade of the rock, allowances for losses during extraction and further losses during processing.
In general, we have found that companies with assets in North America have been more conservative in the way they have presented their figures than the companies with assets in Africa. In any event, when comparing two potash resources, investors have to take into consideration things like the resource grade, mineralization depth, existing infrastructure and the viability of moving forward over the long term.
In our opinion, too many of these companies have been painted with the same brush. Ultimately, not all of these projects are likely to make it to production. You have to consider carefully which of these projects have the most desirable characteristics and the lowest risk when making an investment decision.
TER: Does the Street typically give the recoverable potash resource reporter a premium?
JA: Not from what I’m seeing when I look at my comps, and that’s where I think there are some opportunities. To me, a company such as Western Potash Corp. (TSX.V:WPX), which is located in Saskatchewan and has a very large resource, has been conservative in the way it has presented its information compared to a lot of its peers in the greenfield potash space. Yet, it’s trading at a discount in terms of absolute EV or market cap to some of the companies operating in Africa with a fraction of the resource who have perhaps been less conservative in the way they’ve presented the figures. So, I think there are some opportunities there, and I think that a company like Western Potash does warrant a second look.
TER: Can a prolific producer command a premium price, or is the idea to get a better margin with lower infrastructure and transportation costs? Or is it both?
JA: In an ideal world, you want a large potash resource located close to a large source of end demand with good infrastructure already in place and a stable geopolitical environment. In our view, the projects in Saskatchewan and Brazil check most of these boxes. Brazil is particularly interesting in that it offers well-developed infrastructure, a stable political environment and very strong growth rates for potash demand going forward. If I had the ability to create a potash deposit located anywhere in the world, I would choose to locate it in Brazil. Brazil is likely to overtake China as the world’s largest consumer of potash sometime in the next decade. In my view, it offers the best combination of end-user demand, well-developed infrastructure, and an accommodative and stable government.
Something to keep in mind is the very long-life nature of these projects. When you’re building an operation that is expected to run for several decades, you need to think strategically about how the world is likely to unfold. Brazil is currently the world’s number one exporter of beef, chicken, sugar, coffee and orange juice. Given its very large undeveloped arable land base, those factors are only likely to go in Brazil’s favor. So, in my view, locating in a country with great agricultural promise going forward, a stable government, and good infrastructure makes a lot of sense.
TER: Could you give me a specific example?
JA: Sure, take the example of Verde Potash (TSX.V:NPK) (formerly Amazon Mining Holding), which has a very interesting greenfield potash project located in Brazil. Verde plans to produce a new type of potash in an area called Minas Gerais, a state with a very high level of agricultural production close to a number of fertilizer blenders that buy fertilizer today from companies such as PotashCorp, The Mosaic Company (NYSE:MOS), and OAO Uralkali (RTS:URKA, MICEX:URKA, LSE:URKA). Verde is likely to face freight costs of only about $45/ton to truck product from its location a couple hundred kilometers (km.) to the fertilizer blenders in Minas Gerais and Mato Grasso states. A supplier today in Saskatchewan such as PotashCorp or Mosaic is likely to face transportation costs of $35/ton to move its product from Saskatchewan to the port in Vancouver, another $35/ton via ship from Vancouver to the port in Brazil, and another $80-$115/ton to move the product from the port in Brazil to the inland location where the fertilizer blenders actually need the product. The total cost of end-to-end transportation is somewhere between $150 and $185/ton. So Verde’s $45/ton transportation cost gives it a very material competitive advantage. It really can’t be frittered away over time unless you believe rail and transportation costs are going to go down over the years, which is highly unlikely. This is an enduring competitive advantage.
TER: I am looking at Verde under its old ticker symbol as Amazon Mining, and its total return for the past 52 weeks is 383%. It’s given back about 14% over the past three months. Is there much left on the upside?
JA: Verde has plenty of upside left. I have a target of $11.50 per share, and you’re talking a return of 64% to my target. I believe there is certainly another $3–$4 left in the stock over the next 12 months. If the company’s R&D initiatives show positive developments, the stock has much, much more upside from here.
TER: Is there another company you might discuss?
JA: If you want to play in the Danakhil Basin in Ethiopia, I would steer someone toward Ethiopian Potash Corp (TSX.V:FED TSX.V:FED.WT), which has a land package located directly adjacent to Allana Potash (TSX.V:AAA; OTCQX:ALLRF) and yet has a market cap at roughly one-third that of Allana’s. If you’re bullish on the Ethiopian plays, they’re not all the same. Some are less expensive than others, and I think that Ethiopian Potash is an attractively valued name.
TER: Isn’t the Danakhil project 600 km from a port?
JA: It’s roughly 600 km by road to the nearest available port that it can use, which is Djibouti. Closer ports exist in Eritrea, but political problems limit access to those ports. Eritrea and Ethiopia have had troubled relations in the past. So, projects located in Ethiopia may have trouble gaining access to the ports in Eritrea. That could be resolved over time, but right now it looks like that’s going to be a challenge.
TER: Sticking with that transportation theme for a moment, you’re obviously very positive on Western Potash, but it’s 1,730 km to port.
JA: Yes, it’s a long ways away from the port in Vancouver. The difference is that there’s well-established rail infrastructure in place, which has been transporting large quantities of potash from Saskatchewan to Vancouver for several decades. The risk and the cost in moving potash out of Saskatchewan is much, much lower than I think you’re going to find in other parts of the world. So, it’s a large distance, but the infrastructure is largely in place to make that feasible.
TER: Thank you for your time. Best wishes.
JA: Thank you.
Jaret Anderson covers the fertilizer, agriculture and chemical sectors and brings over 10 years of research experience in the basic materials space to the Salman Partners research team. Jaret spent seven years at UBS Securities Canada covering paper & forest, fertilizer, chemical, gold and steel names prior to joining Salman Partners. In 2006 he was ranked #1 for earnings estimates accuracy in the paper and forest sector by Starmine, and in 2005 he was ranked #2 for quality of written reports (also in the paper & forest sector) by Brendan Woods International. Jaret holds a B.Com. (with Honors) from the University of British Columbia and became a CFA charterholder in 2000.
Advances in energy and agriculture are creating demand for previously ignored metals such as scandium, tellurium and indium. In this exclusive interview with The Energy Report, Mining Analyst John Kaiser, editor of Kaiser Research Online, explains the science that could exponentially increase the value of overlooked stocks.
Companies Mentioned: Cliffs Natural Resources Inc. EMC Metals Corp First Point Minerals Corp. Lithic Resources Ltd. Orbite VSPA Inc. PhosCan Chemical Corp. Teck Resources Ltd. Verde Potash
The Energy Report: Thank you John for agreeing to give us a peek at some of the revolutionary changes emerging in the energy markets today. You have written about the push for alternative forms of energy fueled by a growing middle class population in developing countries. In particular, your April 15th Kaiser Bottom-Fish Report focuses on Bloom Box, a solid oxide fuel cell that could jump-start the next generation of electricity with the help of scandia stabilized zirconia. What’s the status of this project?
John Kaiser: Solid oxide fuel cells have been around for a long time but they have had technical problems such as the decomposition of the electrolyte core due to the fuel cell’s high internal temperature. Bloom Energy tackled this problem by doping the zirconium core with scandium. The result is a robust box ready for production, with the caveat that it will take a decade to truly demonstrate that frequent replacement of the core is not necessary. The company has installed 140 of them already in California commercial buildings at a cost of $800,000 each and expects to have 200 of them in place by the end of 2011. The next step will be scaling down to residential capacity at a cost-effective price. If the company can actually make this work, the market would be extraordinary.
Like most clean energy technologies, the Bloom Box involves a high upfront capital cost; and because natural gas is not free like wind or sunshine, you may ask why a consumer is not better off just paying the price of electricity generated through traditional gas power plants on an as-needed basis. The answer lies in the near doubling of electricity generated by the same unit of fuel using a Bloom Box. Ironically, the more expensive natural gas becomes over time, the faster the payback. If we add a carbon price the payback is even quicker.
California is largely powered by natural gas combustion, which delivers efficiency of about 35% compared to the 60% of power harnessed in the non-combustion solid oxide chemical-electrical process. Gaseous fuels—hydrogen, methane, any biogas—can be input and the only residuals are electricity, carbon dioxide and water. The bottom line is a smaller carbon footprint.
TER: Based on developments like this, what is the outlook for scandium supply and demand in the future?
JK: No scandium mines exist in the world right now. Five tons or so come from scrap metal and stockpiles left over from former uranium mines in the Ukraine. The strategic metal is mainly used to make a light, strong aluminum alloy that can be welded. That makes it popular in the aerospace and defense industries. Scandium is one of these “Field of Dreams” stories. If you build a supply, all kinds of technology commercialization becomes feasible. More than 100 patents have been filed in the last 50 years for uses involving scandium. An accessible scandium supply would pave the way for all kinds of new technologies. The key here is efficiency. In the case of the Bloom Box, it provides functionality that allows this electrochemical process to be effective. But for most of these other applications it’s all about aluminum scandium alloys, making items more durable, more efficient and lighter. That leads to lower energy cost to move cars, planes or anything else engineers can imagine. And if things last longer there is also an energy savings.
Because of this latent demand, a few companies are addressing the supply problem. In Q112, EMC Metals Corp. (TSX:EMC) plans to deliver a feasibility study for the development of the Nyngan Gilgai Project in Australia. Nyngan has an unusually high scandium grade; what EMC hopes to bring to the table is an improved recovery process designed by its chief technology officer, Willem Duyvesteyn.
TER: So, EMC Metals’ strategic advantage is this better method of extracting scandium from the ore and then going and finding similar deposits which were previously not feasible using conventional recovery processes?
JK: That’s right. The days of discovering large high-grade deposits of any nature in readily-accessible regions are gone. The new game is to apply innovative extraction technologies to deposits regarded as too low grade or metallurgically challenged to be economical. EMC is looking for deposits with elevated scandium grades previously considered worthless. It just picked up some properties in Norway where pegmatite formations contain fairly large scandium crystals. The company will test its metallurgical bag of tricks to see if they can extract scandium from these complex minerals and provide a supply from that part of the world.
TER: Are there any other scandium projects in the works?
JK: While EMC is looking at primary scandium production plays, others are looking at scandium as a byproduct. Orbite VSPA Inc. (TSX.V:ORT) is developing an alumina clay deposit in Québec using a new proprietary process involving solvent extraction. The company hopes to sell metallurgical grade alumina to the dozen aluminum smelters across the St. Lawrence River where they have access to cheap hydroelectricity. Electricity is key to refining aluminum, so smelters are always built near an abundant supply of cheap electricity. Today, the smelters import alumina from tropical regions such as Jamaica and Brazil where it is derived from laterite deposits called bauxite which are double the grade of alumina clay deposits. Tomorrow, If Orbite can produce and sell its alumina at a competitive price, without the transportation cost risk, its deposit could replace the Quebec aluminum smelter industry’s dependency on imported alumina.
As a bonus, Orbite believes the company can extract low-grade scandium as well as gallium from the alumina clay. Gallium, used by the electronics industry and a key input for a new style of thin-film photovoltaic solar panels, is currently recovered as a byproduct of alumina production from bauxite using an expensive process. If Orbite can get scandium and gallium as a byproduct of their alumina clay process, and scale up the alumina production, they could provide a significant supply of scandium to world markets, a feat possibly more profitable than providing a secure local supply of alumina to smelters. The trick is to demonstrate that the scandium and gallium do not end up with the 3% portion of impurities in the alumina sold to the smelter, and that Orbite’s process enables it to selectively and cost-effectively extract the scandium and gallium remaining in the solution. Proving this will be a high impact milestone for Orbite.
TER: Are advances in other alternative energy technologies driving demand for metals?
JK: Definitely. A new tellurium-based solar panel is making a refinery byproduct metal suddenly valuable. Unfortunately, no one mines for tellurium. It is produced as a refinery byproduct of certain copper concentrates. The USGS estimates annual tellurium production at about 300,000 lbs., which at the current price of $200/lb. makes the tellurium market worth about $60 million per year, which is “peanuts” compared to the $100 billion-plus value of annual copper production.
Maybe the existing applications that require tellurium use so little that a price jump to $1,000/lb. would barely dent the profitability of the end-product. You would think that all you need is a higher commodity price to generate the supply needed to meet demand. The problem with critical metals recovered by refining base metal concentrates is that their production is linked to the global business cycle. No company is going to increase copper production because demand for tellurium is going through the roof. Those copper /tellurium byproduct mines are likely already mining copper ore at capacity. Furthermore, a dirty secret of the refining and smelting industry is that it does not pay anything to the producer for critical metals such as indium, tellurium and selenium that it recovers from the refinery slag. The entrepreneurial challenge for resource juniors is to find a base or precious metals deposit with an elevated grade for a critical metal such as tellurium and get a partner with sufficient clout to force the smelters and refiners to treat critical metals as payables.
Indium, typically recovered by zinc refineries, is another example of an obscure metal hijacked by technology innovation. Demand surged during the last decade when it turned out that indium was useful in display panels. The price is now $700/kg. compared to less than $100/kg. at the start of the past decade when cathode ray tube monitors still ruled. Thin-film copper-indium-gallium-selenium (CIGS) photovoltaic cells stand to generate new demand for indium and gallium as consumers hop onto the local solar energy bandwagon. Teck Resources Ltd. (NYSE:TCK; TSX:TCK.A, TSX:TCK.B) produces indium as a byproduct of its monster Red Dog zinc mine in Alaska. Because it smelts its own zinc concentrates, it profits from the indium byproduct. Red Dog’s production rate, however, is a function of global zinc demand and the permitted operating infrastructure; it is simply not responsive to indium demand and price, which presents a crisis in terms of simplistic free market capitalism.
The problem for solar panel manufacturers is that the mining industry is not geared to delivering a supply response to higher prices when they involve these critical byproduct metals. The mining industry is subject to the supply-demand cycles of the major metals such as copper, nickel, zinc, lead, iron and aluminum. However, the beauty of entrepreneurial capitalism is that thoughtful individuals can and will identify niche opportunities for which they can deploy specialized exploitation strategies.
For example, resource juniors are now searching for zinc deposits with elevated indium grades on the premise that in a world awash with a glut of zinc supply, future development priority will be given to zinc deposits with a conventional zinc grade but an exceptional indium grade. This is an opportunity for the juniors to investigate because the markets for these metals have generally been too small for the big mining companies who prefer to focus on large scale base metal mines which, examples like Red Dog or Neves Corvo in Portugal excepted, tend not to have a meaningful indium credit. China has been an indium source because the country is home to numerous zinc deposits exploited through small scale mining methods. However, the government has added indium to its restricted list with the result that the world may suffer indium supply shortages in much the same way it is suffering from China’s strategic decision to allocate rare earth production to domestic users.
TER: Other than in China, what companies are finding indium and where?
JK: One of the companies I have been following is Lithic Resources Ltd. (TSX-V: LTH). It has a zinc deposit in, of all places, Utah, home of monster world-class mines such as Bingham Canyon. The Crypto deposit, discovered decades ago and sidelined as an interesting but marginal skarn-style zinc deposit, has been demonstrated by Lithic to have an unusually high indium grade along with its zinc, copper, silver and gold, which will be the bread and butter of a future mine. The indium, however, has the potential to be the gravy.
America, despite its wide open spaces bathed in sunshine, lags Germany, Spain and Japan in the deployment of solar energy capacity. China, the world’s primary producer of indium and gallium, lags in tenth place but is pushing hard to become the dominant deployer and provider of solar energy technology. Lithic is now in the process of raising money to do step out drilling following an independent consultant’s recommendation that the resource be boosted at least 50% to make it feasible at base-case prices, which reflect the dismal reality of the past three years rather than considerably higher spot prices. In my view, unless you subscribe to the belief that raw material prices reflect “bubble” conditions, Crypto is feasible without the extra tonnage. But if the juniors can boost the tonnage with exploration drilling while the zinc mountain in the warehouses finally peaks, this “boring” zinc deposit with the indium icing will be able to withstand the more pessimistic scenarios bandied about by the “apocaholics.”
TER: Agriculture is another global resource problem looking for a mineral solution. In your December newsletter you said fertilizer plays are becoming hot again as the world contemplates the deadly combination of climate change-driven disruption of crop harvests and the growing appetite of developing nations. What about potash companies? Are you seeing those as part of the supply chain that is going to benefit from these factors?
JK: Yes, potash demand is going to go up because emerging middle classes in India and China are developing an appetite for meat, which takes 10 times as much grain to produce as grain for bread. The limited amount of fertile land available will increase the demand for fertilizer. This will increase demand for potash and probably increase potash prices.
Location is an important factor for fertilizer. Brazil is one of the few countries that actually has an enormous amount of arable land available for agriculture. But it has a 90% potash import dependency. Importing potash from the Ukraine or Canada consumes a large amount of energy. Those transportation costs are added to the potash price. One of the companies I have been following is Verde Potash (TSX.V:NPK), formerly known as Amazon Mining. The company owns about 15 billion tons of glauconite, a silicate-based potash existing at surface in Brazil’s agricultural heartland. At 9%–11% K2O (potassium oxide), glauconite is lower grade than the 20%–30% grade of sylvite, the salt-based potash also known as potassium chloride mined from deep evaporite beds or extracted from brines. Brazil’s glauconite deposits were first recognized during the eighties, but never developed because imported conventional potash was so much cheaper. But with $400/ton potash, this stuff suddenly becomes feasible to develop. The company plans to convert the glauconite into “ThermoPotash,” a whole rock product that can be blended into fertilizer blends. Brazil’s government is very supportive of Verde Potash, but the reality is that glauconite processed and marketed as ThermoPotash will never replace more than 15% of Brazil’s import dependency.
But, once again, entrepreneurial capitalism has come into play. Verde Potash commissioned a scientist at Cambridge University, Dr. Derek Fray, to investigate the possibility of a process for converting the silica-based glauconite into conventional salt-based potash products that can serve as a complete replacement for imported potassium chloride. A patent application for such a process was filed in December 2010 and Verde Potash is now setting up independent metallurgical studies to demonstrate that glauconite can be cost effectively converted into conventional potash fertilizers. If it works, Verde Potash’s process would allow its huge glauconite deposit to replace all of Brazil’s import dependency. Because similar low-grade silicate-based potash deposits exist elsewhere in the world, other agricultural economies armed with a technology license from Verde Potash could also turn their “worthless” glauconite deposits into a game-changing solution to fertilizer import dependency.
TER: Any other fertilizer companies you are following?
JK: PhosCan Chemical Corp. (TSX:FOS) has a phosphate deposit in Ontario that was stranded mid-development when the market fell apart in 2008. At the time, PhosCan had grandiose goals of becoming a vertically-integrated phosphate fertilizer producer based on skyrocketing fertilizer prices. Although fertilizer prices have rebounded from the 2008 crash, they are still well below peak 2008 prices. PhosCan has shelved its capital cost-intensive plan for a vertically-integrated plant in favor of investigating the feasibility of developing itself as a producer of phosphate rock to existing fertilizer giants such as Cargill with costs offset by byproduct credits from niobium and rare earths. With the help of a $60M war chest built up during 2008 and still largely intact, PhosCan hopes to turn the Martison deposit into a multi-stream mine that serves both the fertilizer and clean energy sectors.
TER: What other little nuggets do you have John?
JK: First Point Minerals Corp. (TSX-V:FPX) is an exciting, energy-related company. It has identified a type of low-grade nickel deposit where the majority of the nickel content occurs as a nickel-iron alloy technically known as awaruite and more commonly described as a natural stainless steel—the host rocks never look rusty. This type of deposit occurs within ophiolite belts—black oceanic rocks that have been shoved onto the continent. The ultramafic rocks normally contain about 0.25% nickel, but this nickel is locked up in the crystal lattice of a mineral called olivine. Extracting nickel from olivine is hopelessly expensive. Under the right metamorphic conditions Mother Nature squeezes the nickel out of the olivine so that it is able to combine with iron to create grains of nickel-iron alloy also known as awaruite. Cliffs Natural Resources Inc. (NYSE:CLF), a producer of key inputs for the steel-making industry, optioned the Decar Project in British Columbia in late 2009 and bought a 14% equity stake in First Point. The key here is that even though Decar is low grade, about two-thirds of the nickel grade occurs as nickel-iron alloy which Cliffs and First Point believe can be recovered through gravity and magnetic separation. In stark contrast to laterite and sulphide nickel ores, no chemicals and very low energy inputs are needed. Plus, the tailings are fairly benign in terms of acid-generating waste. We hope to learn by the end of the second quarter how much of Decar’s nickel grade is recoverable and at what cost.
Not only has First Point’s management thought outside the box in targeting a low-grade style of nickel deposit that could do for nickel what porphyry deposits did for copper during the 50s, but it has put its experience in geochemistry to use in developing an efficient geochemical method for establishing what percentage of a rock’s fire-assayed nickel grade is due to nickel-iron alloy. During 2010, an independent lab and metallurgist certified this method as valid. Armed with this low cost and quick turnaround tool for assessing the awaruite content of otherwise mediocre looking black rock, First Point is now scouring the world looking for similar deposits. Hopefully, in the next 6 to 12 months, the company will announce that it has acquired several billion ton deposits of this style of low-grade natural stainless steel (nickel-iron alloy) deposit. Such an achievement would make First Point of enormous value to countries such as China, which is looking for a source of nickel whose production is not tied to expensive, energy-intensive, environmentally-hazardous chemical processes. That is why this $0.77 stock could be worth an awful lot more.
TER: Thank you for your time. This has been great.
JK: You’re welcome.
John Kaiser, a mining analyst with over 25 years’ experience, is editor of Kaiser Research Online. He specializes in high-risk speculative Canadian securities and the resource sector is the primary focus for an investment approach he developed that combines his “bottom-fishing strategy” with his “rational speculation model.” Kaiser began work in January 1983 as a research assistant with Continental Carlisle Douglas, a Vancouver brokerage firm that specialized in Vancouver Stock Exchange listed securities. In 1989 he moved to Pacific International Securities Inc., where he was research director until April 1994 when he moved to the United States with his family. He launched the Kaiser Bottom-Fishing Report (now Kaiser Research Online) as an independent publication in October 1994 and developed it into an online commentary and information portal. He has written extensively about the junior resource sector, is frequently quoted by the media, and is a regular speaker at investment conferences. Since 2008 he has developed a focus on security of supply issues and how they relate to critical metals such as rare earths.
With rising global demand for food comes escalating cash flows that enable farmers to purchase additional fertilizers to further boost yields. Dundee Securities Senior Analyst Richard Kelertas follows junior potash explorers that have been red hot for much of the past six months. In this exclusive interview with The Energy Report, Richard shares some names that he believes could develop into bumper-crop multiples for investors.
Companies Mentioned: Agrium Inc. Aguia Resources Ltd. Allana Potash Intrepid Potash, Inc. Karnalyte Resources Inc. Passport Potash Inc. PotashCorp The Mosaic Company
The Energy Report: Are we at the beginning of a global bull market in food, Richard?
Richard Kelertas: Yes. We believe the upward price pressure started after the economic crisis in 2009, and it could remain a substantial bull market until stocks:use ratios (carryover:total use) in most major food stocks—grains, corn, soy beans—can be brought back up to 10-year averages. Currently, the ratios are well below those averages. There doesn’t seem to be any reprieve in sight, unless we have two to three years of bumper harvests in all grains around the world.
TER: Rising food prices usually mean increased demand for fertilizer, but that hasn’t necessarily been the case this time around. Do you believe the share prices of potash equities have exceeded potential growth rates?
RK: No, not at all. In retrospect, 2009 was a tough year for a lot of fertilizer producers. Farmers had to delay applications, even though they started to see crop shortages followed by slowly rising crop prices. We didn’t really see fertilizer-price recovery until 2010. Around March/April, or mid 2010, we started to see a pickup in fertilizer stock prices. It was slow at first and, in some cases, it has been muted; but at the beginning of 2011, it started to surge dramatically. Now it’s come off again on the expectation that all commodity prices, including that of oil, will come off as the global economy slows down (especially in China). But our view is that this is just temporary, and that these stock prices don’t really reflect anywhere near the fertilizer prices we are looking at in 18–24 months. So, these current stock prices are only reflecting mid-cycle, but nothing near peak, prices.
TER: What is the real driver for fertilizer stocks? China, India?
RK: It’s global, definitely global. China kick-started the demand increase by buying corn on a large scale, but it suffered a significant drought in the southern part of the country. That was followed by several crop failures, droughts, weather—you name it—throughout the world in different locations. However, the main driver, going 5–10 years out, is population growth and the increase of the middle class’ diet requirements. That’s the big driver.
TER: What about phosphates versus potash? Will phosphates catch up in the foreseeable future?
RK: Yes, eventually. Not much phosphate supply is coming out over the next 18 months, so it’s going to catch up. There’s no doubt about it.
TER: What about global potash and phosphates prices? They are not consistent across the world. Do you see them evening out in time?
RK: Well, it all depends. You could look at history and assume that they will, but governments’ export/import restrictions can have a dramatic effect on regional prices. So, it all depends. I suspect that small regional differences will start to coincide at some point. Prices are lower in China, India, Indonesia and the United States. In another six to nine months, we could see increases in all regions.
TER: Is there an arbitrage opportunity for investors there?
RK: Oh, yes, but not really in stock prices. You’d have to play the futures markets and the actual commodity.
TER: Do you have a price forecast for potash? And, will we ever see $1,000/ton again?
RK: No, we won’t see $1,000/ton. I don’t expect the type of hoarding experienced back in 2007 and 2008 will happen again to the same degree. We certainly will get speculation; but, typically, the amount of cash that’s available, the lending requirements and margin calls are more stringent than they were three years ago. You will probably see one-half of the speculative run-up in potash that we saw back in 2007. This time it is coming from actual supply/demand dynamics, not speculative investors gobbling up contracts. So, $1,000/ton?—I’ll never say never, but I think the next peak we’ll see is probably more in the $700–$750/ton range.
TER: Do you have a timeframe for that?
RK: Yes, about 24 months.
TER: How do you start your due-diligence process on something like a potash stock?
RK: Well, there are two different types of companies—the junior exploration plays, which are predevelopment, and the established producers. The established producers are companies like Agrium Inc. (NYSE:AGU), PotashCorp (TSX:POT; NYSE:POT), The Mosaic Company (NYSE:MOS) and Intrepid Potash, Inc. (NYSE:IPI). The due diligence you have to do on those is pretty basic, and a lot of information is available from published sources on the Internet. So, the amount of research is directly related to the amount of information available—and there’s really not much you can’t find. We sit down with management to go through the numbers, and then tour one or two of the operations. We consider the overall picture on different types of fertilizers to determine if this stock is positioned well and rank it next to its peers.
For junior developers, which are either in pre-exploration or exploration phase, it’s more difficult. We spend a lot of time with the management team, going onsite, talking to the geologist and making sure the resource is there. We also ensure that there are no outside risks—no native land claims or land lease difficulties. We want to make sure a company can secure land and exploration leases over a contiguous area, so it will be smooth sailing when drilling starts.
After that, it depends on how well the company is financed, the quality of its management team and the level of its compliance and its experience in the field. Finally, you have to ask: “What are the barriers to entry for these particular players?” It could be country, infrastructure or any of a whole list of risks. The amount of due diligence you do on the smaller companies is a lot more than you would do on the larger ones.
TER: Do you like to see smaller companies being managed, especially in the field, by people who have come from larger companies?
RK: No, not necessarily. It depends on their experience level. They may have worked and been successful at smaller companies in the past. A lot of the guys who work for larger companies haven’t had to go through the exploration phase—they’ve just gone through the production phase. So, the smaller companies don’t really need an expert in production quite yet—they need exploration experts. That’s where the difference lies.
TER: Do you consider these junior exploration companies you’re following value stories or growth stories?
RK: Well, it’s a combination; but sometimes you don’t have the value yet. Some might be growth stories only because they haven’t yet established the resource. Even if a company hasn’t started drilling yet, we look at the historical holes done 15–20 years ago. And if it shows some good concentrations of potassium chloride (KCL) or phosphorus, we’re happy to follow it along and look at the company as a growth story even though the value hasn’t been established.
TER: How long do you typically follow a company before you initiate coverage?
RK: Well, I spend a lot of time with management and going through the numbers. So, we probably spend two to three months with a company before we initiate coverage.
TER: Where are you finding your desired characteristics now?
RK: Right now, the ones that we spend a lot of time on are Allana Potash (TSX.V:AAA) and Karnalyte Resources Inc. (TSX:KRN). These two companies have tremendous potential for resource expansion, as they’ve done drilling on only a fraction of their properties. Allana is in Ethiopia, and Karnalyte is in Saskatchewan.
Another one that we’re looking at is Passport Potash Inc. (TSX.V:PPI, OTCQX:PPRTF) in Arizona near Holbrook. It has a lot of potential based on exploration work conducted there about 25 years ago. Passport’s management team has done a lot of advance work, and drilling is just starting now. But the history indicates, to us, that there will be some fairly large deposits.
We’re looking at another one called Aguia Resources Ltd. (ASX:AGR), which is a Brazilian phosphorus and potash play—a combination play which is fairly unique. We’re doing more work on it, but we think it’s going to an interesting value-and-growth story there also.
TER: The first two you mentioned, Allana and Karnalyte, seem to have a tremendous sense of urgency. Drilling is faster than expected.
TER: Allana has 105 million tons (Mt.) potassium chloride in the inferred category. Ultimately, how large could this resource be?
RK: The company is looking at the first 11 drill holes and some of the 3-D seismic data, but it has not made anything public yet. The NI 43-101 will be out in mid May. From our experience, we believe that we could be looking at 500 million to 1 billion tons of potash—mineable potash.
TER: Let’s just take the low end of that, 500 Mt. of mineable potash. You’ve got a target price of $2.50 here, which represents 50% upside from where Allana is right now. But, at 1 billion tons of mineable potash, where could that take this stock?
RK: Well, if you put the sensitivity on the mineable potash, it could take AAA’s price well over $10–$12/share quite easily. It depends on the grade; so, there are a lot of ‘ifs.’ That’s why we make a sensitivity table, just to get an idea. If the grade is about 35%, which seems to be the case with the last four or five drill holes, it could be a 25% average grade. That would take us north of $10/share.
TER: Well, grades seem to be high, so far, from what I’ve seen.
RK: Very, very high—and Allana can do open-pit mining.
TER: There are some near-term catalysts; do you believe these catalysts are priced in or discounted to the stock?
RK: No, not at all. But I would say that many unanswered questions remain. There are still some risks and issues having to do with the country, location, infrastructure and things of that nature. There’s also a continuing view that commodity prices, potentially, have topped off here for the short term. We’ll probably see other commodities pull back; but, essentially, the farmer is sitting with lots of money in his pocket and is starting to apply more fertilizer.
TER: Karnalyte was the second company you mentioned, I noted that it was up just 2% over the last three months while Allana was up 79%. Does that give an investor something of a relative-value play here in Karnalyte?
RK: Yes; but, you also have to remember that Karnalyte surged from $8–$13 very quickly after its IPO. So, it put on a lot of its capital appreciation early in the process. Right now, the resource is based on just 7% of its total land holdings. The CEO thinks that the potash deposit is extremely contiguous, very deep and very large. So, if you extrapolate to 100% of Karnalyte’s property and add its newly added exploration rights, you’ll start to see the stock catch up.
TER: Ok, you have a $20 target price on Karnalyte. That’s an implied 60% upside from where KRN is now.
TER: And, the next catalyst could move it to there?
RK: Well, I don’t know if it’ll move it to there. It may take a couple more catalysts to get it there. But that’s my 12-month target, and I have no doubt that KRN will blow through that number.
TER: What is your target on Passport Potash?
RK: I don’t have a target yet. The company hasn’t made any resource information public, at least not to the extent that we can infer a net asset value (NAV); but that information will be out shortly. Passport is working on its NI 43-101 now, which will be ready by June. The company’s drilling as we speak and will release its first drill results in the next couple of weeks. Then, after two or three holes, we’ll be able to come out with a valuation.
TER: You mentioned Aguia. Is it formally under your coverage?
RK: Not yet. Like Passport, it’s an item of interest. We will be getting drill results from the company over the next couple of months.
TER: Richard, thank you and best wishes.
RK: Best wishes. Thank you very much.
Richard Kelertas has 25 years experience as a research analyst covering the forest products sector. He has been one of the top-ranked analysts in the sector over the years consistently, and was most recently ranked No. 1 by Brendan Woods. Richard has worked for a number of well-known brokerage firms, including Scotia McLeod, Deutsche Morgan Grenfell, UBS Warburg, and Desjardins Securities. He has a bachelor’s degree in forestry and a master’s degree in forestry and economics from the University of Toronto. Richard is also a Registered Professional Forester.
One of the many fascinating facts that you see in Economic History and Modern India: Redefining the Link by Tirthankar Roy (Journal of Economic Perspectives, Summer 2002) is about India’s trade/GDP ratio. The trade/GDP ratio rose dramatically from 1 to 2 per cent in 1800 to 20 per cent in 1914.
By 1970, the trade/GDP ratio had dropped to 8 per cent. It was only in the mid 1990s, the trade/GDP ratio had got back to
the 20 per cent value seen in 1914.
Most people in India today are not aware of the pre-War world, where goods and services flowed freely across the boundary, when
people in India diversified their portfolios across the globe, travelled freely within the British Empire, etc.
After the War, there was a big push worldwide to reduce trade barriers. Governments, then, made the call that agriculture was not
worth fighting for (since it was a fading share of world GDP but a large number of votes), and focused on manufacturing. By and large,
this worked. Trade in manufacturing is pretty free worldwide.
But world GDP shifted away from manufacturing. Today, world GDP is dominated by services. World GDP is now 5.8% agriculture, 30.8% manufacturing and 63.4% services.
Crudely speaking, if we have full free trade in goods, but zero trade in agriculture or services, then 69% of World GDP is submerged
Over the last 20 years, manufacturing trade liberalisation has continued, but the share of services in world GDP has risen. I suspect
that overall, this has made the world less hospitable to trade.
An interesting article on voxEU by Sebastien Miroudot, Jehan Sauvage and Ben Shepherd points out that in the aggregate, the costs of trade have dropped sharply for goods from 1995 onwards, but not for services.
We need to work harder on removing a variety of barriers to trade in goods. But we need to work much harder on removing the barriers to trade in services.
In this sense, the globalisation project is far from done. By and large, the world has done well on removing barriers to the movement of goods and capital (though India is as yet a laggard on both fronts). The two great frontiers are now trade in services and the movement of people. Given the huge footprint of services in world GDP, it is not even the case that we are exposing the world economy to as much global competition as was the case a few decades ago, when manufacturing was a big part of world trade and there was a lot of trade in it.
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Immortal words were penned 233 years ago by the luminary Thomas Jefferson:
We hold these truths to be self-evident, that all men are created equal, that they are endowed by their Creator with certain unalienable rights, that among these are life, liberty and the pursuit of happiness. That to secure these rights, governments are instituted among men, deriving their just powers from the consent of the governed. That whenever any form of government becomes destructive to these ends, it is the right of the people to alter or to abolish it, and to institute new government, laying its foundation on such principles and organizing its powers in such form, as to them shall seem most likely to effect their safety and happiness.
Much has changed in the course of human events. The once young nation endowed with incredible natural infrastructure, abundant natural resources and unbounded borders provided the opportunity for Atlas to carry the world.
A few years ago I floated down the Yangtze river from China’s former capital Chongqing to Wuhan. It is one experience to read about China’s rise and another to walk amongst, float by or fly over that growing dragon. China is spending billions of dollars to tame this flooding beast and on other similar terraforming projects. While Russia has plenty of land little is usable, they have only one convenient river and scant access to the oceans.
Likewise South America has some of the most fertile land in the world which imbues the lungs of the earth with its life sustaining power but those same jungles partition the continent and have prevented a unified trading zone. While Brazil’s Iguazu Falls are majestic they do not help trade very much.
But the United States has a natural irrigation system and transportation waterways. The terrain is easily suitable for farming, carving tracks for railroads and an interstate highway system was, relatively, almost effortlessly constructed. Capital that other countries have to spend terraforming is instead allocated by the United States to investments, like research and development for millions of patents or wonder weapons. Additionally, the United States financial markets have mushroomed.
BREADBASKET FOR THE WORLD
In 233 years the world population has swollen from less than a billion to almost seven billion. The Japan Times reports that Canada produces 145% more calories of food than it consumes and the United States is close with 128% while the island nation of Japan has recently dipped to 39%.
People eat or people die. During tough economic times food is usually the last expense to be cut. General Mills (GIS), Kellogg (K), ConAgra(CAG), Tyson (TSN) and Kraft (KFT) all appear to be doing fine despite the worsening economic environment. Commodity prices have retreated but the price of sugary corn cereal appears to be fairly sticky. This financial analysis will use data from financial statements prepared in accordance with fair-value lying standards.
Kraft needs to get their administrative expenses under control and the debt millstones on the balance sheet could make maneuvering difficult considering the constipated debt markets. Despite yields of 4.6% with Kraft and 3.4% with Kellogg they are evaporating stockholder equity although Kraft is doing it fastest.
While ConAgra yields 4% and has declining revenue they have taken preemptive steps over the past couple years by cutting general expenses by 8.8% which has increased their net income by 74.3% respectively. It is good to see management that understands that it is net income and not sales that matter.
Cashflow is king and the food companies have decent yields. Both General Mills with 3.40% yield and Tyson with 1.30% yield have been generating stockholder equity. But General Mills is encumbered with long-term liabilities that are 128% of stockholder equity while Tyson’s ratio is 74.4%.
With the Fed failing with quantitative easing and the specter of hyperinflation it is the basics that are important. Food, clothing and shelter. Should the FRN$ enter hyperinflation it will be food, gold, silver and guns that will likely perform best and the food companies will probably weather the storm just fine. Hyperinflation is only the end of the world for some while others may notice only minor disruptions because they have already switched to alternative monetary structures like GoldMoney.
Therefore, as long-term buys these solid blue chips, in order of favoritism, are a good value: ConAgra at 0.56gg, Tyson at 0.37gg, General Mills at 1.66gg and Kellogg at 1.29gg.
PEAK OIL SPECTER
But these food calories are generally transmogrified from imported oil. As a result of almost free energy Americans feast on food from thousands of miles away and wash it down with water from Fiji.
The American economy seems only dazed from its first impact with Peak Oil and oblivious to the unyielding wall it just hit. Those unacquainted with the topic may want to read Twilight in the Desert by oil investment banker Matt Simmons, The Long Emergency by James Howard Kunstler or the novel World Made By Hand.
American oil production has been in terminal decline since 1971. Worldwide production appears to have peaked in 2005. The current crude oil stockpiles and recent demand destruction are immaterial to this foreboding storm. In the geo-political scheme this issue is guiding many of the decisions from Washington to Moscow to Beijing and Tehran. The gold to oil ratio does matter. Many may take our complex oil powered systems, like food production and distribution, for granted.
AMERICA IN DECLINE
The American Empire rose from a land of plenty governed by the Constitution which Gladstone said is “the most wonderful work ever struck off at a given time by the brain and purpose of man” (pg. 323). The entrepreneurial minded people governing themselves under a moral law and endowed with abudance of food, natural resources, rivers and tributaries generated more wealth and advancements than in all of recorded history.
But then their domestic oil production peaked, their rogue President declared their promises to pay gold would not be honored and the essential checks and balances in their political machinery, gold and silver, were banished from the monetary realm.
As a result the federal government is completely out of control while state governments from New York to California are absolutely insane. For example, California is now issuing state-registered warrants with Bank of America accepting these California IOUs while the non-favored banks keep failing with over 50 in 2009. This is just another pass-through bailout by the federal government and probably intended to keep one of the largest economies in the world from issuing a California Dollar with a Bear on it. But what is a dollar anyway?
While the July 4th tea parties are getting ready to start the real political fireworks will most likely be in 2012 or 2016. After 4-8 years of Washington intentionally exacerbating the greater depression the meager 78M baby boomers will square off against 95M Millennials with the former wanting to preserve a failed system while the later are entering their peak producing years and will want to press the reset button. During all of this chaos hopefully the food companies will be able to keep food on the shelves.
America is a land of plenty unique in all the world. With out of control government and a slow motion currency crisis the future does appear ominous. As the derivative illusion of wealth evaporates there has been a return to basics with the growth of survivalism in the suburbs. While many companies have been and will be eviscerated by America’s decline during The Great Credit Contraction; instead of buying gold the food companies, particularly General Mills, Kellogg, ConAgra and Tyson may fair better at generating wealth.
Humanity occasionally takes detours as it climbs from the swamps of tyranny to the celestial stars of freedom, peace and prosperity. The out of control and insane governments are becoming destructive of the ends of safety and happiness of the heirs of the Founding Fathers. It is the right of those heirs ‘to alter or to abolish it, and to institute new government’. Despite the current threats and any potential political fireworks, the country America will be a major world power long into the future.
Today we watch hordes of Tehran’s youth march. Tomorrow it will likely be America’s. Why? Because mankind will be what they were born to be: free and independent. Happy Independence Day!
Disclosure: Long physical gold and silver, indirect long interest in GIS and no position the problematic GLD or SLV ETFs, K, CAG, TSN or KFT but may be picking up some CAG or TSN.
Few would doubt that China is one of the fastest growing countries today. With a population already at 1.3 billion, ways to feed and employ them are shrinking. Because of this, later this month, the Chinese government plans to use $3.5 billion for research on genetically modified (GM) crops. Although China first consented to four GM crops in the late 1990s, little research or progress has been made with regard to introducing other such crops. In fact, in the last eight years only two new GM plants have been approved: poplar trees in 2005 and papaya in 2006. Of the six GM crops allowed by the Chinese government, only cotton has truly become popular. Until recently, the government has been against growing other GM staples such as rice, corn and soybeans.
Food shortages and a growing population, however, are weighing on the population and the government. According to an article in the September 5 issue of Science1, Premier Wen Jiabao stated that “to solve the food problem, we have to rely on big science and technology measures, rely on biotechnology, rely on GM.” After this, Jiabao went on to approve the GM measure in July 2007. Crops aren’t the only organisms being approved for genetic modification; livestock are being considered as well. This area, however, is not as well-researched or as developed as that of crop modification.
Outlook of Chinese GM Crops
If past results are any indication of how well China’s GM project will do, then the outlook certainly appears bright. Since GM cotton is the only crop grown in a significant quantity, it has had plenty of attention and opportunity to prove itself. GM cotton became important in China in 1997. Since then, 64 different varieties of cotton resistant to pests are grown on 3.7 million hectares. This equates to 70% of the land normally used for conventional cotton being used for GM cotton. Because the GM cotton is resistant to pests, less pesticide has been needed. This means 650,000 tons of pesticide was kept on the shelf rather than on the plants, in the rivers or in the aquifer.
Research on other important staple crops has not been totally ignored, however. In 2005 Dr. Huang Jikun, the director of the Center for Chinese Agricultural Policy in Beijing, publically acknowledged that field trials with GM rice were, so far, successful. Their studies had shown GM rice increased yield, effectively reduced the amount of pesticide needed and could soon be ready for use at the same level GM cotton had been2. The primary reason the government has shown restraint with GM rice is that it is the country’s most important and abundant crop. If GM rice is used, and it fails or fails to sell, China could be facing a severe economic crisis. Because of this and the global hesitancy or outright hatred toward GM, rice is not predicted to be used to the extent cotton is for another couple of years, according to Jikun.
This is particularly unfortunate since rice has been modified to contribute so many positive agricultural aspects. For example, a gene has been found in an unused variety of rice that allows it to survive submersion in water for over two weeks. The variety of rice that is currently used dies if submerged for such a long period of time. In Bangladesh, over a million hectares were flooded and remained so for up to three weeks. Since conventional rice was being grown, the entire rice crop died, causing economic losses of $600 million in 20073. Luckily, a small number of rice farmers were testing a GM variety. These survived and recovered even after 12 days under water; this is three times longer than what conventional rice can withstand. Although they did harvest one ton less than usual, they harvested four tons more than conventional farmers who were devastated by the flooding.
Meeting the Demand for Rice
This is not the only modified variety, however. There are others that can increase rice yield. This would be particularly important and beneficial to countries such as China since they have had to recently restrict their rice exports due to increasing demand and lessening supply. The shortfall has caused a leap in prices. In December 2007, Thai rice cost $362 per ton. By April, a mere four months later, this same amount of rice cost $1000. Although prices dropped to $720 per ton in July, this is still twice as much as the cost in December. Adding to the strain, the International Rice Research Institute has predicted that by 2015, a mere seven years in the future, the global community will need to produce 50 million more tons of rice than what was grown in 2005. This means rice production will need to increase 12% in the coming decade. Considering the problems with supply that is currently being faced, 12% is significant indeed and the reason countries such as China are finally seriously considering the advantages GM foods could provide.
Although $3.5 billion sounds like a large investment into the field of GM, this is over a 13-year period. This means approximately $269 million each year will go to the GM project specifically. This is slated to come from the local governments who own the land used to grow the GM crops and from the GM companies themselves. With these funds, the government intends to conduct research as well as initiate education programs regarding GM crops. Since modified crops have become a hotly contested issue in many parts of the world, the Chinese government wants to ensure they have to deal with as few GM-induced problems as possible. They plan to accomplish this by educating their population on the benefits economically, agriculturally and environmentally of GM products. While it is recognized that introducing a new technology such as this could lead to some problems, China’s growth rate leaves little room for indecisiveness or uncertainty as to how to feed the population both now and in the future.
1 – China Plans $3.5 Billion GM Crops Initiative, Science, September 5, 2008, pp. 1279.
2 – Science, April 29, 2005, pp. 688.
3 – Reinventing Rice to Feed the World, Science, July 18, 2008
“Eat your vegetables,” my mother told me when I was growing up in America in the 1950s. “Children are starving in Europe.”
My mother’s postwar economic geography sounds comically antiquated today; she could never have foreseen a world in which the euro is stronger than the U.S. dollar. But in another sense she was half a century ahead of her time; her quaint tactics were designed not only to encourage me to finish a meal but—at least in part, I think—to teach me that the destinies of all people on earth are somehow connected.
Although economic geography has undergone changes my mother never would have imagined, one thing remains unchanged: the key to reducing poverty around the world is to build a sense of community at the global level.
When I was a child, of course, I could find no connection between my uneaten vegetables and hungry people in a faraway land. I knew that cleaning my plate had nothing to do with anyone else’s stomach—not directly, at least. But what I didn’t know then—and what my mother must have known all along—is that, when coupled with the necessary resources, a desire to make a difference is a powerful tool for change.
The most ambitious twentieth-century attempt at changing the world—the United Nations—is generally perceived as having failed to improve political, economic and social conditions around the world. Time after time, the UN has failed to prevent genocide, famine and widespread repression of political freedom. If global collaboration is the key to solving the world’s most pressing problems, then in view of the UN’s dismal performance, do we still have a reason to hope?
The World Development Report has been published annually for the last 30 years by the World Bank. The 2008 Report focused on the key role of agriculture as an instrument for development and poverty reduction. All 191 UN member nations have committed to the Millennium Development Goals (MDGs). Goal 1 is to eradicate extreme hunger and poverty.
The nations of the world and the World Bank have thus reached an unusual and perhaps unprecedented consensus; everyone agrees that the key to reducing poverty in the poorest areas of the world is to target more aid money for agricultural development. But as Time recently reported, “This year the U.S. will give more than $800 million to Ethiopia: $460 million for food, $350 million for HIV/AIDS treatment—and just $7 million for agricultural development.”
Spending the bulk of our available resources to treat chronic ills and recurring crises is like treating a cancer patient with band-aids: the deep causes of the patient’s condition go untreated as long as we must respond to one crisis after another, even though we think we know what the root of the problem is and where our money really needs to go.
According to the 2008 World Development Report, 2.1 billion people live on less than $2 a day; 880 million live on less than $1 a day. Agricultural development isn’t a magic bullet; disease, lack of education, social inequality and political corruption are huge obstacles. But since three of every four poor people in the developing world live in rural areas, targeted investment in agriculture promises to pay the most immediate social and economic dividends.
World Development Goal 1 is to cut worldwide poverty and hunger in half by 2015. Even though the G8 leaders have pledged to increase African aid to $50 billion a year by 2010, “Sub-Saharan Africa is at the greatest risk of not achieving the Goals and is struggling to progress on almost every dimension of poverty, including hunger, lack of education, and prevalent disease,” says the UN.
Our Heavy Responsibility
It’s hard to picture a scenario in which the affluent nations of the world will be willing to spend even more money to achieve the MDGs. “You will always have the poor with you,” Jesus told his followers two millennia ago. Although 21st-century economic geography suggests that Jesus was an astute economist, he also exhorted his followers to aid the poor to the best of their ability.
Microsoft chairman Bill Gates believes that creative capitalism is the best way to reduce grinding poverty in developing nations. In theory, Gates’ proposed “system innovation” would produce a kind of planetary trickle-down effect by stimulating consumption in affluent economies.
But as long as we live on a planet with limited resources, unrestrained consumerism in wealthy nations can only produce the opposite effect. On a global scale—and in a closed system—an increase in consumption in affluent nations is more likely to bring about a decrease in consumption in the poorest areas of the world.
Wouldn’t it make more economic sense to consume less in rich economies in order to provide more to the world’s poor? As Vic George pointed out two decades ago in Wealth, Poverty and Starvation, “From a rational perspective this would be a desirable trend because most people in affluent countries consume far too much for their own physical and mental health.”
In Development as Freedom, Amartya Sen, winner of the 1998 Nobel Prize in Economic Science, wrote, “With adequate social opportunities, individuals can effectively shape their own destiny and help each other.”
Sen has argued that human capability influences rapid change far more than human capital. In view of Sen’s findings, Nicholas Negroponte’s One Laptop per Child Foundation is one of the most exciting ideas in the global marketplace. There are two reasons why it can work:
1. It stimulates direct targeted investment in the world’s poor.
2. It aims to unleash human capability.
The Mande people of West Africa have a sophisticated belief system. Although primarily an Islamic people, Mande cosmogony hardly sounds foreign to anyone who is familiar with the Old Testament book of Genesis. “When the Everlasting addressed man, He taught him the law by which all the elements of the cosmos were formed and continue to exist. He made man the Guardian and Governor of His universe and charged him with supervision of the maintenance of universal Harmony. That is why being man is a heavy responsibility.”
Our food consumption, to cite one of the most blatant examples of universal disharmony, is out of control. At the beginning of the new millennium, the percentage of obese Americans had skyrocketed to 65%.
“We’ll be cutting down on fast food, sweets and other unnecessary calories,” my mother would have said if she were raising children in 2008 instead of 1958. “We’ll eat better and save more. Let’s see how many laptops we can buy for kids in Africa.” Then she might have added, “We’ll all be healthier and happier for it.”
Teaching children about man’s heavy responsibility is the best education we can give them. Can smarter consumption in affluent countries be channeled into exponentially greater levels of targeted investment in the world’s poorest economies?
It couldn’t hurt to give it a try—we’ve tried everything else. Who knows? We might all be healthier and happier for it.