The Principal-Agent Problem at Coeur d'Alene
Gold and silver miners have been underperforming precious metals for some time. As a result, many names in the sector are priced at substantial discounts to the net asset value (NAV) of their holdings. We have been invested in Coeur d’Alene (CDE) on and off for the past couple of years. The company has historically been a pure silver miner, but in recent years has been producing more gold and by next year gold revenues will probably surpass those from silver.
The company’s market cap is around $1.6 billion and it has debt of $122MM (although they just announced a note issuance – more on that later). They are operating quite well apart from a recent setback at their Kensington mine in Alaska where production was halted while they improved their infrastructure. But the company generated $1Bn in revenues last year for the first time, and looks capable of generating $350-450MM in free cashflow all while reducing their G&A and keeping capex at around $100-120MM.
Based on their proved and probable reserves, we calculate that the company could be worth almost $3BN, or $31 per share. Well-run mining companies provide positive optionality, in that if gold/silver prices rise the operating leverage inherent in their business model will cause their earnings to rise faster. Earlier this month we were happy to see that the company announced a share buyback of up to $100MM, about 6% of the outstandings. Although they don’t pay a dividend they’re returning some of their cashflow to shareholders.
Yesterday CDE announced an issuance of $350MM in senior notes. They have very little debt so the company’s balance sheet can certainly handle modestly more leverage. However, they don’t obviously need the money since their operations are generating plenty of cash. So now we’re going to see whether the principal-agent problem so prevalent in mining companies exists at CDE.
The most obvious use for the cash raised from the debt issuance is to buy back their underpriced stock. This would be an intelligent way to take advantage of interest rates maintained at extraordinary low levels and the cheap price of the company. Their SEC filing said, “The Company intends to use the net proceeds from the notes offering to fund internal and external growth initiatives and for general corporate purposes.” This could mean they want to buy back additional shares, but the “…external growth initiatives…” also sounds suspiciously like an acquisition.
It’s hard to believe there could be anything better for CDE’s spare cash than to buy back their shares. The biggest impediment we can see to this is that senior management holds so little stock that they might be thinking more like agents than principals. CEO Mitch Krebs owns 74,812 shares according to their recent proxy statement, less than 0.1% of the company and currently worth just over $1MM. His total compensation for 2011 was $2.4MM. Mr. Krebs’ incentive compensation is generally tied to production-related metrics, so given his modest ownership of stock his incentives appear to be more closely aligned with a bigger operating company rather than a higher share price.
What CDE does with the proceeds of their debt issuance will provide some insight as to whether it’s better to provide labor to CDE (like Mr. Krebs) or capital (like his investors, including us). His financial incentives clearly direct him towards acquisitions. Perhaps some of the other large shareholders such as Vanguard and Dimensional Fund Advisors will make their views known. Or perhaps CDE will simply begin scooping up some of its cheap stock and return some value to its owners.
We are long CDE.
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