Royal Gold Stock: an attractive price here (NASDAQ: RGLD)
Royal Gold, Inc. (NASDAQ:RGLD) was an exception to our usual disdain for precious metal mining companies. Unlike those in the latter group, RGLD has had its head on its shoulders with common sense capital allocation decisions and not to dilute its common stock. RGLD provides funding to miners and in return earns a living through Streams and Royalties. Both were explained on the company’s website as follows:
streams – A metal flow is a purchase contract which provides, in exchange for an initial deposit, the right to buy all or part of one or more metals produced from a mine, at a price determined for the duration of the transaction by the purchase agreement.
Royalty fee – A royalty is a non-operating interest in a mining project that entitles the holder to a percentage of the revenue or metal produced by the project after deducting specified costs, if any.
Source: Royal Gold Website
When we last wrote about this company, we were bearish on the price of gold in the short term. Although we liked RGLD, the price was still above our risk-adjusted entry point at the time. This presented a great opportunity to sell options on it and we suggested the April 2022 $95 Cash Secured Put Options.
It turns out that outright buying the stock would have outperformed by a huge margin over this period.
Interestingly, the price is back to what it was when we last visited this one. So if you continued to write $95 put options (after April with July for example), you would have easily outperformed stock returns.
We called this an inflation hedge in September. What is our game plan now?
RGLD’s Q1-2022 was quite a spectacle. The company reported revenue of $162 million and cash flow from operations just over $101 million. Revenue, cash flow from operations and profit all grew by double digits in percentage terms year over year. RGLDs have shown that it is not necessary to take on too much debt to create large numbers. In fact, RGLD ended the quarter with a debt-free balance sheet. The quarterly dividend was increased by 17% to 35 cents per share. The numbers were excellent everywhere.
The key for us (and it wasn’t rising dividends that rose faster than inflation) was metals production. Gold equivalent ounces were up 9% to 86,500. This statement sums up in a nutshell why we believe RGLD is the best thing since sliced bread, at least in the gold mining space. Most others struggle to maintain stable production over time, while RGLD has consistently shown its ability to grow and use higher prices to its advantage.
Acquisition of Great Bear Royalties Corp (OTCQX: GTBDF)
Royal Gold made a big deal just two weeks ago and bought out a company at a premium of 43%.
Royal Gold, Inc. (together with its subsidiaries, “Royal Gold” or the “Company”, “we” or “our”) today announced that its wholly-owned subsidiary, International Royalty Corporation (“IRC”), has entered into a definitive agreement (the “Arrangement Agreement”) with Great Bear Royalties Corp. (“GBR”) to acquire (the “Acquisition”) all of the issued and outstanding common shares of GBR for a cash consideration of C$6.65 per common share (the “Acquisition Price”) pursuant to a plan of arrangement pursuant to the provisions of the Business Corporations Act (British Columbia) and subject to the terms set forth in the Arrangement Agreement. The acquisition price represents a 43% premium to GBR’s 20-day volume-weighted average trading price on the TSXV through and including July 8, and values GBR at approximately C$199.5 million over a fully diluted basis.
Source: Alpha Research
Great Bear’s only real asset here is a 2% net smelter return royalty that covers the entire Great Bear project in Ontario, owned and operated by Kinross Gold (KGC). This has the potential for substantial ounces of gold per year, but we’re talking many years.
The premium may seem high in this market but we want to make three counterpoints. The first being that even after the premium, Great Bear is below its 2021 high.
The second point here is that Royal Gold is one of the best allocators of capital and so in most articles, unless we can see glaring fault, we tend to give them the benefit of the doubt. Finally, while the premium was high, the total amount is low compared to Royal Gold. Even assuming the full 43% premium was unjustified, it represents less than 2% of Royal Gold’s market cap.
We like Royal Gold here and time has compressed the valuation to a very attractive level.
As we said before, sales below 10X is where you want to target your purchases. This figure reflects the pessimism of the market. We put a “buy” rating on that and a 2 year target of $125.00. We tend to be conservative and look to target $100 or $95 cash safe put options. The $100 strikes for January 2023 offer a very attractive return profile for the income investor.
The best thing about options is that one can tailor the strike to the degree of upside or downside. Higher (aggressive) strikes would suit those who think the bottom is likely and that RGLD should rise in the coming months. Although we think it’s also likely, in the market we’re hesitant to play anything without an options buffer.
Please note that this is not financial advice. It may seem, seem, but surprisingly, it is not. Investors are required to do their own due diligence and consult a professional who knows their objectives and constraints.