The business model of the Canadian resource-based public company varies little. Search, discover, develop, extract and sell. But for Sandstorm Resources Ltd (TSX.V:SSL), the ingenuousness of a novel approach to finance is a rare opportunity to participate in a mid-tier business model at a start-up price.
The novelty of the business model is centered around the concept of Volumetric Production Payments (VPPs).
In a nutshell, Sandstorm makes an advance payment to a company with a pre-production stage mineral deposit, and in exchange, negotiates a percentage of the metal produced for the life of the mine once it begins producing.
It is a similar model to the one employed by both Silver Wheaton (TSX:SLW) and Gold Wheaton (TSX.V:GLW), who purchase by-product streams of gold and silver from mines which produce other commodities primarily in a similar advance payment for future production participation model.
Its not a case of Sandstorm copying a successful model either. Silver Wheaton, the more mature of the two look-alikes, is where Sandstorm CEO Nolan Watson perfected the model as Chief Financial Officer of Silver Wheaton. Watson is a Chartered Accountant and Chartered Financial Analyst who helped Silver Wheaton raise over US$ 1 Billion in debt and equity to fund growth.
Silver Wheaton’s market cap now exceeds CA$2.5 billion.
According to Watson:
“We make a payment up front on day one to someone, and what we get back is the right to purchase a certain percentage of life-of-mine production from an asset, and we get to purchase it a pre-determined fixed price. For example, we’ve just done two deals – one with Luna Gold and one with Silvercrest, and under the contract with Luna we get to purchase 17% of their life of mine gold production at a cost of $400 an ounce. With Silvercrest we get to buy 20% of their life of mine gold production and we get to buy that at $350 per ounce. So really what we’re doing is pre-buying the spread between that payment we’re making and the spot price of gold at the time of its sale.”
The cost to Sandstorm for the Luna royalty was US$17.8 million in cash and 5.5 million shares of Sandstorm, now escrowed until Luna satisfies certain funding covenants. According to Luna’s most recent 43-101 resource estimate on the Aurizona deposit, which is the deposit that is the subject of the financing from Sandstorm, there are just over 1.3 million ounces of gold. If that was the limit of the deposit size, then Sandstorm would purchase, over time, 221,000 ounces at a cash cost of $400 per ounce, netting Sandstorm $91.3 million if sold at $900 per ounce, deducting the $17 million payment and the cost of the 5.5 million Sandstorm shares at a deemed price of $0.40 per share, which is roughly today’s current price.
Not bad for a $17 million investment, depending of course, on how long it takes to mine the whole 1.3 million ounces.
But the real kicker for the company and its shareholders is the fact that most companies go into production on a resource calculation that is typically representative of the smaller portion of a larger deposit whose reserves and resources are typically enhanced over time through continuing exploration.
Sandstorm gets to ride the exploration upside at no additional cost. So if the deposit grows over time to several million ounces, the win for Sandstorm and its shareholders is amplified exponentially.
Another boon to Sandstorm is that if production costs go way up at the mine, Sandstorm is insulated from that effect because its purchase costs are fixed.
The risk to Sandstorm is almost entirely confined to the commodity price. In a worst case scenario, if the gold price were to drop below the agreed upon purchase price, but even then, Sandstorm gets to buy the gold at the lower of the agreed upon price and the market price, which means a break-even transaction in the event gold goes below $400.
And what about the Luna Gold? Is this transaction good or bad for its shareholders?
Well, there is upside and downside to the transaction, but in the end, the ability to finance the last leg of a mine to production without further share dilution is definitely within the interests of the company’s shareholders.
And the structure is arguably preferable to debt, which may trigger additional dilution in the event of commodity prices dropping below a set level, or if there are delays in mine development. Those risks are less onerous in the Sandstorm structure because the costs are known and the timeline to development less relevant.
So how do other companies get financed by Sandstorm? Well, it really comes down to the size of the financing required, the commodities being mined, and the political risk associated with the country in which the asset is located.
There are two things we look for in potential transactions, said Watson. “We look at a minimum of $5 million because its really not worth our time to do anything smaller, and on the high side we could look at $35 – 40 million dollars, and in some cases perhaps as much as $50 million, which I would define as our cap right now.
Our sweet spot right now on the deals we’re currently looking at is $15 million to $20 million.
Ours is really part of the whole financing solution, we’re always willing to participate as part of a syndicated financing, and so we bring a flexibility option to companies who might be reluctant to finance through equity entirely due to a depressed share price.”
Find out more by visiting the company online at www.sandstormresources.com.
