DRUMS OF WAR AND THE GREEN ENERGY TRANSITION
Could this be the start of a commodities supercycle?
The drums of war are getting louder.
By closely observing the geopolitical landscape over the past five years, I have arrived at the conclusion that we could be heading towards a potential global military conflict. It appears evident to me that China has been engaged in war preparations for the past decade, and in the last two years, other nations have also begun bolstering their defenses.
China has constructed artificial islands in the South China Sea,equipping them with military bases that serve as formidable aircraft carrier-like installations for offense and defense purposes. These strategically positioned islands act as a protective barrier, providing China with a significant advantage. Notably, Japan has also increased its defense spending in recent years, with the 2023 budget set to rise by 26% compared to the previous year. In 2021, the formation of AUKUS—an alliance between Australia, the UK, and the US—strengthened strategic defense efforts. Additionally, the Philippines has granted the US expanded access to key military bases. In Europe, defense spending has become a top priority due to the conflict in Ukraine. According to the Stockholm International Peace Research Institute (SIPRI), global military spending reached a record $2,240 billion in 2022.
This means that nations are actively pursuing the acquisition of vital resources essential for manufacturing missiles, munitions, warships, drones, and, notably, the microchips that serve as the intelligence behind modern smart weapon systems.
In addition to the current increase in defense spending, the push towards green energy transition is also creating a surge in demand for many metals such as cobalt, lithium, graphite, nickel and copper.
And it's not just nations that are rushing to secure supplies of critical materials. Automobile manufacturers have signed deals with mining companies to ensure they have the raw materials they need for the production of vehicles. General Motors signed a $650M deal with Lithium Americas for lithium supply. Stellantis recently announced a deal to acquire a 14.2% equity stake in McEwen Copper. Ford is investing $4.5B in an Indonesian nickel processing facility. Tesla has raw material supply agreements with Vale and BHP.
Precious metals and gold in particular have also seen an increase in demand lately. According to the World Gold Council, 2022 saw the strongest year for gold demand in over a decade. Central banks have been buying gold in record quantities. I will discuss gold in another issue but for now I turn our attention to the metals that keep our economies functioning.
For the inaugural issue of this newsletter, the focus is on commodities and more specifically on producers of critical metals. This is not a buying recommendation. I sense that the markets are going to crash either this year or in 2024, and that's when I intend to start deploying some of my capital. For now, my 2023 Fund is positioned ultra defensively. The entire portfolio is comprised of cash and cash equivalent instruments that are currently yielding an average of 4.05%. I hold GICs and money market funds. I see no need to add any positions to the portfolio at the moment.
What follows is a brief report on a company that I am adding to my watchlist. It's a company that produces copper from tailings (mine waste). It trades on the Toronto stock exchange and OTC Market.
Copper is in every home, every vehicle, solar panel, wind mill and any other device that runs on electricity. Copper is a crucial element for the green energy transition and decarbonization. The problem is that there is a huge gap between the demand and supply of copper required for this global drive towards green energy transition.
AN ESSENTIAL METAL FOR THE GREEN ENERGY REVOLUTION
Copper demand is expected to surge in the years to come.
A company that produces copper from mining waste.
Amerigo Resources produces copper and molybdenum (as a by-product) from the waste material of the world’s largest underground copper mine, El Teniente. This mine is located in Chile and is owned by the Chilean state-backed Corporación Nacional del Cobre de Chile (Codelco). Amerigo processes the mining waste material at its 100% owned Minera Valle Central ("MVC") operation. From the waste material discharged by El Teniente, Amerigo recovered 64.1 million pounds of copper in 2022.
Amerigo was founded in 2003 to acquire the Chilean-based company MVC, S.A. MVC has been producing copper from waste material (tailings) since 1992. MVC is not a mining company and it is not a royalty company either. The company compares itself to a wastewater treatement plant. It processes tailings, which are the waste by-products from copper mining that contain water and leftover copper-bearing ore in a "copper factory". MVC grinds the tailings rocks into smaller pieces and then extracts the leftover copper concentrate. This copper concentrate can then be refined to produce purified copper.
MVC receives a constant flow of mine waste, processes it and extracts millions of pounds of copper from this mining waste material. The simplicity of this business enables the company tooperate without the need to spend large sums of money on exploration. Thus allowing it to return capital to shareholders when "growth capital" is not required.
Financials
In 2022 the company produced 64 million lbs of copper and 1m pound of molybdenum. It generated $168m in revenues ($199.6M in 2021). Gross profit for 2022 was $28.3M ($72M in 2021). The lower revenues in 2022 compared to the previous year were the result of lower copper prices. The company’s annual average copper price was $4.01 per pound compared to $4.25/lb in 2021.
The company ended the year with 172M shares outstanding. Cash on hand at December 31/22 was $34M. Debt stood at $24M for the year. The debt has been steadily been paid down and the company is on track to reach $0 net debt in three and a half years.
ANNUAL FINANCIAL INFORMATION
| In USD$ | 2022 | 2021 | 2020 | 2019 |
|---|---|---|---|---|
| Sales | $168M | $199M | $126M | $119M |
| Production (lbs) | 64M | 63M | 56M | 70M |
| Gross profit | $28M | $72M | $15M | $.4M |
| Gross margin | 16.9% | 36.1% | 12.2% | 0.0% |
| Net income | $4.4M | $39M | $6M | ($9.4M) |
| Cash | $37M | $59M | $14M | $7M |
| Debt | $24M | $30M | $54M | $56M |
| Free cash flows | $25M | $57M | $16M | ($.3M) |
| Debt repayment | $7M | $24M | $9M | $12M |
| Current ratio | 1.18 | 1.42 | 0.87 | 0.65 |
| ROE | 3.68% | 28.3% | (8.3%) | 8.6% |
Q1 2023 RESULTS
During the first quarter of 2023, the company produced as much copper as it did a year ago. 16.5 million pounds. In Q1 of this year, copper averaged $4.02 vs $4.64/lb last year. This resulted in lower revenue for the quarter. $52.6M vs $53.7M (Q1/2022). Net income was also lower. $9.01M vs $15.5M last year.
The company's balance sheet is relatively strong with $43.9M in cash and borrowings of $24.3M. During the quarter the company generated free cash flows of $13.8 million. It returned $5.49 million to shareholders during the quarter ($3.64M in dividends and $1.85M in share buybacks).
Molybdenum production during Q1/2023 was 0.3 million pounds (Q1/2022: 0.2 million pounds). MVC’s molybdenum price increased to $31.73/lb (Q1/2022: $18.33/lb), resulting in Q1/2023 molybdenum revenue of $8.0 million (Q1/2022: $3.4 million).
| In USD$ | Q1/2023 | Q1/2022 |
|---|---|---|
| Sales | $52.6M | $53.8M |
| Production (lbs) | 16.5M | 16.5M |
| Gross profit | $13.5M | $21.4M |
| Gross margin | 25.6% | 39.85% |
| Net income | $9.1M | $15.5M |
| Cash | $43.9M | $37.8M |
| Debt | $24.3M | $23.7M |
| Free cash flows | $13.8M | $21.1M |
| Current ratio | 1.23 | 1.18 |
| Total Cost/lb | $3.44 | $3.59 |
| Shares Outstanding | 167m | 178m |