Saturday, July 28, 2007

Sherritt International

Opportunistic investors take heed:


At some point in the future, famed Cuban dictator Fidel Castro will pass away. And as with most major events, positive or negative, there will be an opportunity somewhere to profit from his death.


I wondered how we could position ourselves to profit from it?


For starters, most investors seem to be pointing to a closed-end fund called the Herzfeld Caribbean Basin Fund (Nasdaq: CUBA), bidding up shares when there is news of a worsening illness and selling them off when reports say he is in fact healthy.


Just look at the volume on the chart.


The first major price/volume spike occurred just after Monday, July 31, 2006, which saw him hand over most of his power to his younger brother, Raul, after a message was read on state television that Fidel had undergone surgery for internal bleeding. CUBA's price that Monday had closed at $7.05 but by Friday, August 4 had closed at $8.30 on heavy volume, or a jump of almost 18%.


Similar volume-backed gyrations have continued to occur on both the upside and downside, depending on whether his condition is reported to be improving or deteriorating.


In fact, interest in the 'Castro death effect' has been so strong at this closed-end fund that its shares are now trading at a 45% premium to NAV (at the close on July 26 the fund’s shares finished at $13.78 while the NAV is $9.48). Which, of course, absurd – salivating investors are apparently willing to pay 45% more than the actual value of the portfolio's holdings.


What's extra strange about the current premium, however, is that the holdings of the fund have almost nothing to do with Cuba. In fact, the portfolio is mostly of companies surrounding the island, such as in southern Florida, Mexico, the Caribbean, and northern Latin America, all on the premise that those companies will benefit from a more open economy. What this means, though, is that investors appear to be buying nothing more than a ticker symbol.


Well, I thought that there must be something better than this and I believe I have come across probably the only company that U.S. investors have access to that has significant and direct assets and operations on Cuba – Sherritt International.


Sherritt is a Canadian company listed on the Toronto stock exchange under the symbol S.


I know some might scoff at a Toronto listing, but this is no fly-by-night scam that we so often hear about from our nearly unregulated friends up north. Sherritt is in fact an 80 year-old, dividend-paying, profitable conglomerate that did $1.1 billion in revenue and $245 million in profit in 2006.


Interestingly, however, because Sherritt has operations in Cuba, they are not even allowed to have an office in the United States.


But there is a listing for the company on the Pink Sheets at SHERF.PK.


This listing is not quoted so you will not see a bid or ask for the issue – it is traded in what is known as the “Grey Market”, which has no central interdealer quotation system. This clearly adds an element of risk to anyone considering purchase.


I checked out more on this company and I have to say I’m impressed. Its range of businesses will make your eyes pop:


  • Nickel mining
  • Cobalt mining
  • Fertilizer
  • Coal
  • Soybeans
  • Power and electricity
  • Oil and natural gas


Just from this list alone you have to wonder why this company hasn't been bought out, given what has happened to the nickel miners and fertilizer companies in the past year or two.


About 26% of 1Q07 revenues came from Cuba. Its operations on Cuba deal primarily with nickel and cobalt mining, oil and natural gas (Sherritt is actually Cuba's largest producer), and power. And the company is still investing and growing, with planned expansion phases going out to 2011 in some cases.


I can only guess what might happen politically when Castro dies but the potential exists that the economy might open up even a little. I’m thinking that Sherritt could benefit from this – increased demand for their products and services as investment flows in, especially given that they have been operating on Cuba since about 1995 and thus are rather connected and experienced.


From a valuation perspective, on the TSX website the company’s trailing P/E is at 8.6 as of Friday. It’s an unbelievably low valuation based on both average market P/E’s of 15, the range of hot commodity businesses that Sherritt operates in, and comparisons to the P/E's of companies that specialize in those businesses.


Now compare that to how investors have bid up CUBA to a 45% premium to NAV – all based on the hype over pretty much just a ticker symbol.


If all else were equal I would expect SHERF.PK’s share price to appreciate to the mid $20’s, just to get to “normal” valuation. After that it’s anyone’s guess. The idea of course being to get in before others “discover” that they have access to an incredible and direct play for the island.


Please note of course that there are some obvious risks, though. The stock isn't quoted normally, these shares are restricted and non-voting, you will not receive the dividend, there is time risk and political risk, etc., etc. Other than that, though, we're good!! Viva!


2 comments:

Rob said...

Great article. I own shares in both for disclosure. I publish http://HavanaJournal.com from Cape Cod Mass so I know about Cuba from an American's perspective.

The cruise lines are another play since the day after the Embargo is lifted US cruise ships from Miami will probably show up in Havana.

Another way to play the opening of Cuba is with Cuba related domains. Now don't expect to hand register Cuba.com or anything good like that. Heck, I even own 1800.

But, you can "invest" in Cuba by buying good Cuba keyword domains on the secondary market.

Dinosaur Trader said...

B.D.C,

Excellent post! And I loved the intro video, very fitting!

I dunno... if I had to invest in SWC or SHERF, I'd have to go with SHERF. Castro IS going to die, right?

And with mining and fertilizer! Wow, value indeed.

So it's probably illegal for an American company to purchase Sherrit right now. But perhaps once Castro dies, relations improve and they are a real target.

Nice find, thanks!

-DT