Sprott Inc. (SII) Q4 2012 Earnings Report, Transcript and Summary

Good morning, ladies and gentlemen, and thank you for standing by. Welcome to Sprott Resource Lending Corp.'s 2012 Fourth Quarter and Year End Conference Call. [Operator Instructions] As a reminder, this conference is being recorded today, Friday, March 1, 2013. On behalf of the speakers that follow, listeners are cautioned that today's presentation and the responses to questions may contain forward-looking statements within the meaning of the Safe Harbor provision of the Canadian Provincial Securities Law. Forward-looking statements involve risks and uncertainties, and undue reliance should not be placed on such statements. Certain material factors or assumptions are implied in making forward-looking statements, and actual results may differ materially from those expressed or implied in such statements. For additional information about factors that may cause actual results to differ materially from expectations and about material factors or assumptions applied in making forward-looking statements, please consult the MD&A for this quarter and Sprott Resource Lending Corp.'s other filings with the Canadian Securities Regulators. I will now turn the conference over to Mr. Peter Grosskopf, Chief Executive Officer, Sprott Resource Lending Corp. Please go ahead, Mr. Grosskopf.

Thank you, operator. Good morning, everyone, and thanks for joining us today. With me today is Narinder Nagra, our President and Chief Operating Officer; and Jim Grosdanis, our Chief Financial Officer. Our year-end results were released this morning and are available on the Investor section of our website. I'll start with a couple of opening comments before turning it over to Jim and Narinder to discuss results in more detail. 2012 was a successful year for Sprott Resource Lending as we continue to grow our resource lending activities and generated reasonable returns despite difficult resource equity markets. Our loan portfolio performed well during the year, generating more than $16 million in interest income. As of December 31, 2012, our committed portfolio stood at $162 million, compared to $127 million at the end of 2011. More importantly, it currently stands at approximately $180 million Our pipeline is strong and growing, with approximately $90 million in new term sheets, which are actively being negotiated. There is no question that the current resource markets are more stressed than at any time since our inception. And that for our business, this is the time of maximum opportunity. I'll turn it over to Narinder -- or to Jim, sorry.

Thanks, Peter. Good morning, everyone. As Peter mentioned we're very pleased with the performance of our resource loan portfolio. And I might add, we generated positive cash flow again this quarter from our resource operations and that's not taking into account some of the volatility in our bonus shares and the warrants that we received during our lending practices. Just some of our financial highlights, a typical loan right now is currently averaging around 10% on a cash coupon basis. And then with the addition of shares and warrants, we're getting to the 16% range and that's on our average portfolio in 2012. So those 2 items currently really support our dividends that weren't been paying out over the last month, or last year. Comparing the fourth quarter, we had a real estate write-down of $13 million, which led to a net loss of $11 million or $0.07 per share. That's compared to a gain of $4 million or $0.02 per share in 2011. For the year, we had a net loss of $5.3 million or $0.04 a share, again compared to a net gain of $2.5 million or $0.02 a share in 2011. Again, these losses are mainly attributable to our real estate portfolio and partially offset by some net after-tax gain of $2.3 (sic) [$2.2] million from the sale of our Viceroy Gold property. As Peter noted, our loan book continued to perform well in 2012 and interest income has been trending higher and higher since 2011 and we continue to expand our resource lending activities, as Peter also mentioned. During our second full year of operations, the loan portfolio, the resource loan portfolio grew from $120 million in December 2011 to, as Peter mentioned, $168 million to date plus additional commitments that would put us well above $180 million. Book value per share is $1.52 compared to $1.61 at the end of 2011. Despite the strong earnings from our resource lending portfolio we did have to take the write-down in real estate and we've been paying dividends on our resource income that for 2012 accounted to about $0.06 per share, roughly a 4% dividend yield. During 2012, we were also very active in buying back our shares as we thought they're a true discount to our value at the company, so we ended up buying over 6.7 million shares under our normal course issuer bid at $1.46. As Peter mentioned, we've been having great success in our portfolio, our resource portfolio. And we are pleased to announce another quarterly dividend of $ 0.015 and this is our seventh consecutive quarterly dividend. And I'm sure we'll get some questions on future dividends, but we also intend to continue to follow the growth of our portfolio and our dividend with that. As our portfolio continues to grow, we don't see our SG&A materially increasing, but our free cash flow to shareholders certainly should. I'll now turn it over to Narinder to give you a bit more composition or a bit more color on the composition of our portfolio and some of our plans coming up. Narinder?

Thanks, Jim. As our capital position is becoming more widely now and we are seeing a sudden increase in our deal flow, the quality of our origination activity is high, which is reflected in the strong performance of our resource loan portfolio during the year. Our pipeline in new lending opportunities is currently around $90 million. The fourth quarter 2012 and the first quarter of 2013 proved to be our busiest time period since we commenced resource lending in September 2010. At this time, we don't see this trend changing in the foreseeable future to a bit difficult resource equity markets. We have already closed a number of new deals in the first quarter of 2013 and our loan book is nearly full. We currently have less than $10 million of available cash to deploy. In light of our capital becoming increasingly constrained and the high demand we've set for our strategy in 2013, we're considering several working capital step options to facilitate our loan growth. While -- sorry, with the strong deal flow, we are very aware of the fortunes of monetizing our remaining real estate assets so the proceeds can be deployed as resource loans. As part of this process, we're considering the most efficient sources of additional capital. We are accelerating the sale of our remaining real estate assets, which is taking longer than we had ever anticipated. During the fourth quarter of 2012, we took a [indiscernible] $13.6 million write down on our real estate assets, which now has a carrying value of approximately $32 million. Of the 4 remaining real estate assets, one of the larger properties is currently under conditional purchase and sale agreement. We are hopeful we can complete the liquidation of our real estate assets by the second half of 2013. I'll now pass it to Peter for some closing remarks.

Thanks, Narinder. In our first 2 years of operations, I believe we've been able to demonstrate the effectiveness of our strategy in generating attractive top line returns on a risk-adjusted basis. Our progress has been challenged by 3 significant headwinds. First, we've had declining resource markets, which while they do improve cash and deal flow, they also limit the value of our bonus returns. We haven't notched any big wins during this time and I guess we wouldn't have expected to. Secondly, we've had some cash drag and that we've been experienced a relatively slow buildup of our book, which is in good part due to a selective and healthy credit discipline. However, it's only now that our book value is really -- or our book cash is really becoming fully deployed. And then 3, our legacy real estate positions, which have required us to out earn over $20 million in book value adjustments that we suffered from real estate. As Narinder's touched on probably in more-than-required detail, we can use the additional capital now for resource loans, so it was time to press the gas on the real estate and bring it to values where we believe we can achieve cash deals in the short term. We remain confident that we will be able to continue to build this business to become a global leader in the industry. We look forward to a very successful 2013. And I'll close just by saying that as I touched on at the start of the call, we believe that we've entered into an extremely challenging time for resource project financing. As a result, good projects and companies will become amenable to partnering on projects on terms, which they previously would not have considered. We believe that our promise and track record of such partnership, combined with superior deal origination skills, will now bring us some opportunities to build shareholder value in more material increments, on top of offering an ongoing security yield to our shareholders. And with that, we'll open it up -- pass the call back to the operator to open the line for questions. Thank you.

[Operator Instructions] Your first question comes from the line of Jeff Fenwick from Cormark Securities.

So thanks for the color there on your growth in your loan book. Obviously, good progress, and as you mentioned, a little bit -- getting a little bit tighter in available liquidity. So can you just update us on the progress of those funding alternatives you're looking at? And is there a risk here that you may have to push off some business while you're looking for solution on the funding side?

Yes, that's not a risk. It's simply an opportunity. So we have about 2 or 3 different avenues for accessing liquidity. The first and preferred is obviously the real estate and the second is conventional revolving lines and the third would be more creative forms of financing, all of which we think would be positive to shareholder value.

And I assume you're well down the path on some of those other, like that conventional revolver approach, for example, you're actively working with potential funding partners there then?

Yes. We're confident we've got some alternatives here.

Okay. Secondly, just on the gold loan, I mean, we've seen the price of gold moving around. It's tapered off recently. I mean, is there a gold price here where that loan might actually fall into a position where you're taking a bit of a loss on it? Just maybe help me understand the dynamics on how those loans are priced?

Sure. We struck the gold loan at 614 [ph], I think. We have around 9,000 ounces left on it. We've received 2 payments on it all I guess on a U.S. or Canadian dollar basis well above our strike price of 614. 614 had a fairly, or a decent return embedded in it. So I would say that just on the map on the mark-to-market, you can take the 9,000 ounces remaining on it roughly, I would say it's, before we actually take a bath I think we'd have a credit issue on that because we do have a floor of 5% minimum return over the course of the gold loan. So at worst, we can do 5%.

Your next question comes from the line of Stephen Boland from GMP Securities.

I guess the pipeline has grown -- seems to have grown very quickly since year end, 2 months into the year. Are you surprised with the deals that were sort of pushed off, or what's happening with potential borrowers that are -- were they kind of making decision late in the year and push it off to the new year? I'm just trying to get a sense of why it's growing so quickly so fast.

What really happened was in December, we had a number of term sheets that were signed up and they actually ended up closing in January and February of this year. And that's why our loan book has shown the instructions it has [ph]. Like I mentioned earlier, these are the busiest times that we've ever had. We're seeing a lot of opportunities everyday come across our desk.

We're starting just to think about similar credits and what's the highest return. We're having those discussions rather than just a credit discussion.

And just, I know it's early days on this, you're talking about alternative funding. What kind of rate are we talking about on a line? We're just trying to, I guess, get a little more [indiscernible].

They're all low interest alternatives. So it's not a significant premium to prime or whatever rate we would go off of Bas [ph].

[Operator Instructions] Your next question comes from the line of Eric Wu from for Fertilemind Capital.

I was wondering if you could talk about -- you've had these conditional contracts on the legacy real estate portfolio for a while. What was different from those and the actual price that you're getting that caused the write down?

Well, it's a process that you're going through it. You have these properties for sale. The way the audit process works is that you're required to assess each property separately, and in aggregate, hold them as an amount for sale. So we've made minor adjustments as properties have actually sold. The material adjustment that was made this quarter was more or less to reflect the fact that we had, had discussions ongoing with buyers at the previous level, so the pre-write-down levels. And while those discussions were ongoing, it was becoming clear to us that we would actually have to accept conditionality or timing characteristics of those deals that we just weren't prepared to accept. So we've now marked to a level where we think we can get cash deals done and take the conditionality off the table, and really, it's a best guess estimate based on both appraisals and existing negotiations.

Okay. And now that the book value is down because of these write-offs and you need more capital, from my viewpoint from just looking at your company, it would seem that it wouldn't be a timely opportunity to buy back stock, why are you being aggressive in buying back stock?

Well, we've been buying stock back accretively on a book value basis the entire time and even now, we still have the opportunity to do that. However, you're correct in that if we have the opportunity to deploy capital at 17% to 20% and we have a choice to either make a new loan or buy back shares, it's now much more careful decision that needs to get made. And that's just going to be a factor going forward. It's a good news thing because we have multiple opportunities now for our capital.

Great. And then on categories within the resource sector, you've mentioned before a slight emphasis on precious metals, but also just kind of acquisitions might get you some deal flow in fossil fuels, can you just talk about what you're seeing on those specific subcategories?

Well sure. We've become much more active in the process of reviewing energy opportunities since we've acquired the Toscana group at Sprott Inc., but those negotiations and reviews have not resulted in many deals. The truth is our energy book is still significantly under weighted. And I wouldn't say that's a conscious decision. We'd like the weightings to be much more in the 70-30 range or something along those lines, 60-40. But the truth is, the returns on the mining side, to us, feel like they are just on a risk-adjusted basis, vastly superior to those in energy. So when we've had the energy conversations generally, we've either been out bid or our term sheets have been rejected. I think it's going to come to the time now where energy companies are also under capital constraints, and we're going to see some better opportunities we feel we're closer to signing some deals in energy than we were previously.

And when you say the risk adjusted returns look better in the precious metals, do you know why that is, because of course, the underlying [indiscernible] worse than the oil guys at least?

Yes, it has to do with the fact that energy companies have always had more secure cash flows than mining companies. And as a result, they've had access to senior debt. And when they've had access to senior debt in the range of 1x to 3x EBITDA, generally speaking, there's not a lot of security left for a lender such as ourselves. And furthermore, because they've been, I would say, more competitive in terms of accessing equity capital even when we see an opportunity for mezz, it's frequently being negotiated down to levels where we're just not interested.

Right. Okay. So that's similar to what you said over the last couple of quarters, is that a right kind of correct characterization?

Yes. It's not quite there yet. It's getting closer.

We have no further questions in queue. I turn the call back to the presenters.

Okay. Well. Thanks, everyone, for your time this morning. Have a good day. And we'll talk at the next opportunity. Thanks.