The popular wisdom says that value is everything. I disagree. The investing process includes analysis, valuation, and risk management. The valuation tells how much we pay for the asset. However, it does not tell what the asset is nor when to buy and sell.
To estimate asset’s specifics, we perform quantitative and qualitative research. Usually, we focus on the former because it is easy to measure using the company`s financials. To estimate business quality, we must examine the people behind the company: if they own shares and their incentives.
Palisades Goldcorp (OTCPK:PLGDF) is a holding company investing in junior miners. Its largest investment is Newfound Gold. The company is sold at a considerable discount measured with NAV. Palisades managers own company shares. Despite that, I give Palisades a sell rating. The manager’s compensation is too exuberant for the company’s size.
Gold mining is a tough business. It requires an investment of colossal upfront capital without a guaranteed return. On top of that, the fixed expenses to run a mine are enormous. To finance their operations, the mining companies have a few options:
- Issuing equity
- Issuing bonds
- Borrowing from banks
- Royalty and streaming
- Alternative financiers
Issuing equity is the most accessible source of capital. However, it is the most undesirable option for the company`s shareholders. Junior miners often use share dilution to finance their projects. Bond issuing requires the company to be more mature. Junior greenfield explorers cannot issue debt securities due to their highly uncertain business. Once the company reaches the pre-feasibility study (PFS) stage, it might issue bonds.
The royalty and streaming model have become increasingly popular for gold miners. However, that model has significant drawbacks for base metal mines. To develop a copper mine from greenfield discovery takes more than ten years. This makes using the royalty and streaming model for base metals inappropriate. This time is considerably shorter for gold, silver, and platinum group metals, which is why this model has become increasingly common over the last decade.
The alternative financiers fund mining companies via variable instruments. Queens Road Capital (QRC) provides financing by acquiring convertible bonds and debentures. They are a combination of a bond and a call option. Palisades has a similar approach focused on equity and warrants.
The team behind Palisades are experienced players in the upstream precious metals industry. The founder is Collin Kettel. He is popular among gold bugs and investors with his Palisades Gold Radio. Collin owns 27 % of the company`s shares. Among the directors are people involved in diverse activities within the precious metals business. Gregor Gregersen is the founder of Silver Bullion Pte, a bullion trading firm claiming ownership of the largest silver vault in the world. Another director is Willian Hayden, one of the true legends in mining. He has been part of Ivanhoe Group since 1994.
Palisades is an investment firm with a focus on gold mining juniors. It has a concentrated portfolio of assets: New Found Gold (NFG:CA) constitutes 94 % of the company`s holdings. The image below from the last company statement shows Palisades balance sheet:
To estimate Palisades portfolio composition, we have to dig deeper. The $ 14 million investments are held in warrants and equities. The former represents 38 % and the latter 62 % of the short-term investments. The table below shows the company`s assets fair value estimated on June 30, 2023.
The top part of the image shows the company`s investments at the end of Q2 2023, while the bottom one for the same period in 2022. Palisades’ short-term investments shrunk by $ 8.4 million in six months. The table below presents the warrants composition for Q2 2023 and end of 2022.
The image below shows Palisade’s short-term equity holdings.
Labrador represents 36 % of the short-term equity investments. The remaining 74 % are classified as others due to the position`s fair value below $1 million. On the top are the equities held on June 30, 2023, and at the bottom are the December 31, 2022 positions.
New Found gold
The largest holding in the company’s portfolio is Newfound Gold (NFG). The latter represent 94.6 % of Palisades holdings. Collin Kettel is NFG`s CEO. NFG is a prominent gold developer with a market cap of $ 1.01 billion. It. The company has a robust balance sheet with $ 41 million in cash, and its total liabilities are $ 14 million—pretty impressive liquidity for a gold miner developing its first project.
NFG developed the Queensway project. The table below from the last NFG presentation shows the project timeline:
The project seems promising based on the last intercepts. Below is an image showing the most significant intercepts from the previous drilling campaign.
The second largest shareholder is Erick Sprott, owning 25 % of the shares. Newfound Gold is a compelling idea for junior mining investors. The company has a significant shareholder like Sprott, has a robust balance sheet, and operates in excellent jurisdiction.
Let’s see how the income statement is structured. The image below is from the last report for Q2 2023:
Companies like Palisades do not generate regular revenue streams. If such companies hold debt instruments, they will receive stable cash flows. Such an example is Queens Road Capital, as mentioned earlier. Their holdings are concentrated in debentures and convertible, thus receiving regular interest payments. Palisades has a different approach. Their focus is on equity and warrants. The latter are like call options. The warrants have a strike price and expiry date, representing asymmetric bets on the underlying equity. The warrants do not generate income, same as options. Palisades’ priority is asymmetric returns, not regular cash flows.
For companies like that, it is normal to have losing periods. Junior miners are highly volatile, a blessing for adventurous investors but a curse for the faint-hearted. I love volatility because I treat it as an admission fee to achieve potential asymmetric returns. That said, there is nothing wrong with the company’s performance. Investing is a patience game, especially for junior miners.
The income statement is straightforward. The realized gains/losses from investments, dividends, and interest income are on the top. The primary driver behind the company`s results is discovered investment outcomes.
However, a few metrics caught my attention in the expenses: consulting and salaries and share base compensation. Below is a comprehensive list of related party balances and transactions:
The compensations are very generous considering the market cap of Palisades and its performance.
I treat Palisades as investment funds. They pool investors’ money and then invest the funds. The funds generate revenue primarily from AUM-based fees and performance fees. The first incentivizes the managers to focus on growing AUM and neglect the funds` performance. Of source is not always the case, but most mutual funds are prime examples. Too often, they have mediocre performance, but their managers receive generous AUM-based compensation.
On the other hand, funds gain revenues solely from performance fees does exist. Guy Spier and his Aquamarine fund are excellent examples of zero management fees (AUM-based fees). This article by Mr. Spier argues the positives of such fee structures.
I strongly agree with him because you are accountable for the fund`s performance as a portfolio manager. Performance-based fees put the right incentives. Otherwise, it wins the best marketing team, bringing AUM growth.
Before I go deeper into the details of the company`s compensation scheme, I will share some statistics:
The image above illustrates the average fund manager salary in Canada. Of course, such metrics have drawbacks because they ignore the data distribution. That said, the average value is still good as a reference point. Collin Kettel received a $ 165,120 salary for six months, or 29 % higher than the annual average.
Estimating Palisade’s value is a straightforward task. I use NAV with its holdings’ current market price (Sept 08, 2023).
- New Found Gold $ 260,000,000
- Labrador Gold Corp. $ 6,397,000
- Other equity, 0.3*4,366,601 = $ 1,309,980
- Santacruz Silver Mining $ 1,225,000
- Goliath Resource Inc. $ 1,350,000
- Other warrants, 0.3*1,089,000 = $ 326,700
I discount equity and warrants classified as “others” with 70 % because they are unknown to us.
The other variables are:
- Cash $ 1,960,036
- Total liabilities $ 61,104,731
Palisades NAV = $ 211,000,000
Palisades Market Cap = $ 85,000,000
MCAP/NAV = 40 %
Based on NAV, Palisades offers a sufficient margin of safety.
The risks for junior miners are market, geological, political, and liquidity. Palisades, as a junior miners holding company, carries those risks. The political risk is almost nonexistent. The Newfound Gold project is based in Canada, among the safest jurisdictions. The market risk is related to gold price and Palisades investments’ performance. The geological risk is the most pronounced. If NFG fails to deliver its promises due to wrong geological conclusions, its shares will plummet. Hence, Palisades portfolio will suffer inevitable losses.
Buying shares in companies like Palisades is investing in investors. If the managers are focused and dedicated, it`s a clever move for retail market participants. A trusted person is essential, especially in obscure industries like junior gold mining, where the company’s failure rate exceeds 99 %. In other words, buying Palisades shares is like buying a second derivative of Newfound Gold but paying more for the manager`s compensations.
I give Palisades a sell rating despite the cheap price offered by Mr. Market for the company`s assets. The company management’s interests are not in line with the shareholders. High insider ownership is a double-edged sword. Usually, it is a very positive sign following the motto eat your own cooking. The management team distributes generous compensations regardless of performance. The latter is reminiscent of mutual funds management fees. The primary incentive is to grow the AUM, irrespective of the performance.
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