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“Second Chance to Cash in” from Dan Ferris

Looking into a teaser for Extreme Value's "buying Berkshire Hathaway 40 years ago" stock

Dan Ferris edits the Extreme Value newsletter for Stansberry, and he has teased a few interesting ideas for that letter in the past (including, starting several years ago, Altius Minerals (ALS.TO, ATUSF), which has become one of my largest personal holdings) … so I tend to pay attention when he starts to pitch a new idea, and we usually get quite a few questions from readers when that happens.

Now, whether that’s because Ferris is somewhat stingy with the recommendations (admirably, he doesn’t force a new stock idea each month and is usually patient), or simply because Stansberry has access to the largest mailing lists for his promos, well, we’ll have to guess at the answer to that.

But we don’t have to guess at the answer to this teaser pitch — that is, I’m sure, well within the wheelhouse of the Thinkolator.

He’s teasing an idea that he says he first recommended in 2003 for 267% gains, and he says we have a limited time opportunity to get in quickly for the next leg up… and, yes, he says that back in 2003 he said it was …

“… an opportunity that’s very similar to buying Berkshire Hathaway 30 years ago… and it’s still cheap enough to make a fortune on.”

And now…

“Thanks to a number of market events, which I’ll explain momentarily, the exact same situation that propelled the stock 267% is setting up again. Only this time, the gains could be even greater.”

Makes you wonder what the stock might be, right? Well, that’s why your friendly neighborhood Stock Gumshoe is on the case. Let’s start to sift through the pile of clues:

“… you must act quickly.

“This stock is small and, for reasons I’ll explain, it trades like a stock that’s even smaller. Meaning: as more and more people catch wind of this opportunity, shares could easily explode and never come back down….

“You see, when I said investing in this stock was like buying Berkshire Hathaway 30 years ago, it was no exaggeration…

“Berkshire Hathaway, Warren Buffett’s iconic holding company, has skyrocketed in value over the last few decades. And it’s done so following one very simple tenet: Only buy high-quality businesses at huge discounts to their fair market price – like Coca-Cola in 1988, when it was trading at just under $4 a share (it’s at $40 today)… or Wells Fargo in 1989, when it was trading at under $3 (split-adjusted), it’s at $49 today. With this new opportunity, we get the exact same investing strategy, we get to pay less than $8 per share for the opportunity to get in on a company that benefits from some of the most potentially explosive deals in the market.”

OK, so it sounds like we’ve got some kind of nimble little conglomerate here. Which one?

Well, it has something to do with the broad commodity markets — Ferris goes on to note that the collapse of stocks in iron ore, oil and gas, gold and other commodities has created a bargain-basement hunting ground for his secret company. Some more clues:

“This company has bought up interests in large stakes in oil and gas assets, iron ore, mineral miners, and other commodities that are in deep financial distress.

“And by doing what they do best, they recently got one of the best deals on a distressed business that I’ve seen in my entire investing career… and when the value of this particular asset is realized, it could send this stock soaring….

“… one company in particular, a Canadian based petroleum play acquired in recent years by the firm I’ve been telling you about, was minting money for a decade thanks to this resurgence in North American energy production.

“This petroleum company went public in 1996 at C$0.65 a share. By 2006, it was selling for C$18 a share. Their quarterly sales of oil and gas nearly tripled in just the six years between 2002 and 2008.

“Most of its production was natural gas. Natural gas prices shot up, from under $3 per thousand cubic feet (a unit of measurement known as MCF) in 2002 to a peak of nearly $11 per MCF in 2008….

“From IPO to peak, the company’s stock rose 2,800%. From peak to trough, it fell 99.97%.

“Enter our Extreme Value company…

“They stepped in and bought this company’s bank debt and converted it to stock. Then they bought the remaining outstanding shares at a bargain-basement price of C$1.25.”

Ah. Now this one’s sounding a bit familiar. I don’t want to spoil the surprise, so let’s check out another clue before we give you the definitive answer from the Mighty, Mighty Thinkolator…

“The small company I’ve been telling you about was born in 1984, when the CEO and a partner bought a royalty on an iron-ore mine in western Canada.

“The royalty is the ultimate set-it-and-forget-it investment. It has been cranking out cash for almost 60 years.

“But the company recently announced it would idle the mine. Idling means the mine’s production will be shut down on a temporary but long-term basis.

“Most investors would be fearful of such news. But here’s the thing: Under the terms of the agreement, the royalty continues – granted, with the potential for a slight decline in revenue during idle times, but nothing significant – even if the mine isn’t operating.

“Best of all, the royalty will continue for another 40 years.

“The deal allows for a minimum annual royalty payment of C$3.25 million per year until then – even while the mine is idle.”

OK, so yes, we do know who this stock is. Dan Ferris also recommended it at the Value Investing Congress when I was there in Las Vegas a few months ago, and I suggested it to the Irregulars last year as well and own it personally… this is MFC Industrial (MIL).

Here’s the quick note I shared for the Irregulars when I was taking notes on Ferris’ presentation:

“… what really jumped out at me about Dan Ferris’ presentation was his analysis of MFC Industrial (MIL), a stock I suggested last year as undervalued and that I own personally. I’ve been thinking that they should write down the value of their energy assets that they bought (Compton Petroleum was the company they acquired, a Canadian oil and gas producer that also owns gas processing plants), since the value price they paid meant they jacked up their book value when they made the acquisition, but Ferris argued that they should actually be writing UP the value of the Compton assets (though they need to write down their Wabush iron mine royalties since the mine, closed by Cliffs a while back, might never re-open, and probably need to write off the Pea Ridge iron mine entirely). Ferris argues that writing down the iron ore assets and writing up the Compton assets should eventually result in a book value of about $10.50 per share… current share price is $8.

“It could continue to trade at a discount, but with Michael Smith still running things as a very frugal, value oriented CEO, and with Peter Kellogg now taking a larger role as Chairman, the argument is that they’ll speed up the re-valuing of the balance sheet and will sell some of the non-core Compton assets that they’ve talked about selling since the acquisition, so the downside should be extremely limited and there’s at least 25% potential upside even if oil and gas prices remain low and people continue to dislike commodities stocks.”

I’ve been just sitting on my MIL shares, patiently waiting to see how their plan plays out — the stock has spent most of the past three years bouncing around between $7-9 a share, though there were certainly great opportunities for profit in their previous iteration in the mid-to-late 2000s, when the original MFC (Mass Financial Corporation) acquired the distressed cement plant and equipment company KHD Humboldt Wedag, renamed itself for KHD, and was a frequent target of value investors because they often traded at a huge discount to book value (and sometimes at less than cash value). They split off the KHD cement business and became Terra Nova Royalty around 2010 or so, with their primary asset being a big iron ore royalty and some cash, then re-merged with the old MFC merchant banking company, changed their name to MFC Industrial in 2011, and started to turn themselves into a “commodities supply chain” company, gradually acquiring a bunch of commodities suppliers and distributors around the world.

It is a secretive firm run by an iconoclastic investment-minded guy, Michael Smith, and for quite a while it has almost been a one-man show of him buying distressed assets and gradually shining them up around the edges and selling or spinning them off — but it is building again into a more substantial operating business, and it’s still quite unclear how the market is going to value that business.

The big cash flow right now is coming from the Compton Petroleum assets they bought — thanks to fortuitous natural gas prices this past winter, they had a great quarter and brought in a lot of cash (more than $17 million in EBITDA from the Compton assets, mostly natural gas wells and prospective land, plus a gas processing plant and associated infrastructure) — so that is obviously an asset that’s far more valuable than the price they paid. But they have now grown to have $1+ billion in annual revenue that is largely from the distribution companies and comes at very low margins (1-3%, I expect). Low margin businesses aren’t bad, they just have to be thought of and managed differently, and so MFC has now brought on several more executives, including some from acquired businesses, who will be helping to tighten up and manage their diverse array of global commodities supply chain companies.

So the real nuts and bolts operation of the business, the integration of several commodities supply houses, including some that are vertically integrated (mine to processing to warehouse to distribution), is going to determine much of how successful the company is as it grows … but there are two “wild card” assets of note, the remaining land bank from Compton Petroleum that they may well eventually option to explorers for royalty rights or something similar (I’m just guessing, they’ve said they’re not doing anything yet) and the associated production growth (or lack thereof) of Compton, now called MFC Energy, and whether they can bring on more customers for their midstream processing plant; and the Wabush Mine royalty that started it all.

Compton/MFC Energy I’ve grown increasingly comfortable with, particularly as they’ve gotten good cash flow already without spending much money and can continue to bring on partners or customers for that asset… but the Wabush royalty is much tougher to guess at.

The Wabush mine is owned by Cliffs, which shut it down this year. Per the lease agreement with MFC, Cliffs does have to pay $3.25 million per year even if they don’t operate the mine. Here’s how MFC describes the detail in their last quarterly press release:

“Under the terms of its existing lease, Cliffs must pay MFC a minimum royalty payment of C$3.25 million a year for the term of the lease. Additionally, we have a right to acquire the fixed assets at the mine at a reasonable market price in the event that the lease underlying our royalty interest is terminated. We may also terminate the lease if production has ceased for a period of time.

“We currently believe that the Wabush Mine will be sold by Cliffs and any sale will be subject to MFC’s long term lease (till 2055) and, of course, our financial royalty. We view this as a strong financial burden for any other competitive buyer.

“We are currently exploring opportunities to rationalize this asset, including making an investment or acquiring an interest, directly or indirectly with a partner, in the mine. We expect that a significant investment is required to achieve acceptable levels at the mine. We have now opened dialogue with other stakeholders to rationalize this asset.”

So that’s a substantial wild card. The steady royalty for another 40 years is very valuable… if the mine operates. It’s even valuable if Cliffs just keeps the lease and the mine sits stagnant. But MFC may well end up going after the asset, hopefully with a deep-pocketed partner (Chinese steel companies come to mind), so we don’t really know whether MFC will end up spending money on this old iron mine, or whether they’ll get lucky and get someone to buy it and refurbish and restart production and get their royalties flowing again. Given Michael Smith’s history, he may well try to buy a distressed asset like Wabush… but hopefully he’ll also stay firm to his desire to avoid diluting shareholders.

You can see the last conference call transcript here, the reported book value remains enticing at about $11 a share (down a bit over the last six months) but a big change at Wabush could certainly impact that value considerably, possibly including a writedown if the mine remains idle for long.

They are growing their top line revenue, the core business appears to be doing pretty well and, as often vertically integrated suppliers of many commodities, they may well see some solid boost if steel or energy or other commodities rise in price and the global economy continues to grow — I have no idea how that will play out, but Michael Smith has historically been a good value investor to ride along with.

Unless you’re impatient.

I maintain this as a small holding, I still like the long-term prospects for their primary assets, but I’m cautious about being overly extended with stocks that have exposure to specific end markets (MIL is levered to many of the same external factors, like the steel market, as my much larger holding Altius Minerals) and haven’t bought any recently. I’m not expecting the stock to triple in short order as Ferris implies… but will likely not complain if it does.

Here’s one last bit from Ferris about his reason for urgency with MFC Industrial (a pick which is, he says, his first recommendation of 2014):

“And as for commodities in general, according to research done by Barclays Capital analysts, “The price of most industrial commodities tend to strengthen as the cycle unfolds… If the start of tapering shows that the Fed is getting more positive on the growth outlook, then the prospects for commodity demand are almost certainly improving too.”

“In a nutshell, tapering tells the American investing public that the economy is chugging along just fine… interest rates start to rise, and investing outside of the stock market begins to look appealing again.

“This is why it’s extremely important to get in on this right now, as the taper process continues on schedule… our window of opportunity is closing quickly…”

So that’s the basic idea — an integrated commodities supplier, still pretty small, trading at a discount to book value and growing their top-line revenue (particularly in natural gas) … but with some substantial wild cards, particularly around iron ore, that make their stock price for the next year quite difficult to predict.

If we are indeed at the beginning of another commodities boom, I expect MIL will probably do very well and we’ll look back and be amazed at the bargain prices they paid… but I still think that’s an “if.” For now, it’s cheap because people don’t love their assets and are afraid they’re going to sink a lot of capital into long-term iron ore projects (they continue to indicate that they might want to develop the Pea Ridge mine with a partner, which would take a lot of money and time in addition to the uncertainty about Wabush), and because there are potential writedowns particularly on the iron ore stuff… and given the sector and its lack of popularity, that’s probably being considered more heavily than then potential write-ups if their natural gas assets continue to be strong performers.

Do you have any thoughts on MFC Industrial, the forecasts for commodity prices, or on Dan Ferris and Extreme Value? Feel free to jump in with a comment below (or review Extreme Value here if you’ve ever subscribed). Thanks!

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7 years ago

Thanks Travis. I just bought 200 shares at $7.74. I like Dan Ferris’s picks. I’m still planning on buying some Altius Minerals, but I’m hoping that the price will drop back a little bit first.

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7 years ago
Reply to  SmokeytheBear

I can just about guarantee that the price of Altius will be coming down–I just bought shares last week. Already down over 3%…

7 years ago

Frank Curzio is at it again.
The Marijuana story no one is telling
Comment ?

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7 years ago

TRAVIS—-thanks for the article. William

👍 150
7 years ago

Thanks, interesting article.
btw. What is the name of the scandinavian company he is talking about.

👍 15112
7 years ago

Ferris has some inaccuracies in his report FWIW. $3 million minimum on Wabush is a material decrease from the prior operating rate, which was closer to $10 million. Michael Smith retires at the end of the year, so although he’ll be on the board, probably won’t be a major factor. Kellogg will probably be the key person given ownership stake and Chairman position. Compton got some outsized profit last quarter from natural gas price spike. Finally they have made several more commodity procurement acquisitions, which could that business, which is a single digit EBITDA margin business, to greater profitability.

Most of the leverage here right now is in the commodity procurement business. The iron ore businesses are just options at this point. Maybe they can cut more cost out of Wabush to get it more profitable, but not entirely clear what they can do that Cliff couldn’t do.

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7 years ago

Thanks Travis. Good article and insight. I picked up 1,000 shares this afternoon at $7.75.
We’ll see how it goes.

👍 1417
7 years ago

Thanks for your forthright admission of your own holdings in this equity, Travis. I respect you tremendously as an analyst and top flight “sleuther”, but I must admit, I’ve never seen so many “ifs” and uncertainties for a stock which is projected to gain 267%, especially since the potential gains seem predicated on “cyclical” events which can be quite unpredictable, instead of solid business fundamentals. Furthermore, I don’t trust Dan Ferris. I used to subscribe to his low end 12% letter, and I found him to be quite lazy and not genuinely interested in his readership. He was still touting the same “special reports” for his new subscribers after two years, which contained excellent advice on investing in solid dividend producing stocks and holding them long term for compounded interest, but he never changed his choice of stocks. The result was that all of his suggestions were ridiculously unactionable, since their current market prices were so far and above his original, unchanged “buy up to price” established two years prior! When I saw his cavalier attitude toward his readers I canceled my subscription. I’ll pass on this one.

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7 years ago

Interesting to read others’ comments, and this note might particularly interest SAGACIOUS, as it is a strategy that allow