SPR sales continuing

February 13, 2023 PR from the DOE:

WASHINGTON, D.C.— Today, the U.S. Department of Energy’s (DOE) Office of Petroleum Reserves announced a Notice of Sale to meet its obligation to Congress to sell 26 million barrels of crude oil from the Strategic Petroleum Reserve (SPR) in Fiscal Year 2023. This sale will fulfill the congressional mandate set forth in section 403 of the Bipartisan Budget Act of 2015 and section 32204 of the Fixing America’s Surface Transportation Act. The deliveries will take place from April 1 through June 30.

In accordance with the laws, DOE will release up to 26 million barrels of sweet crude oil from two SPR storage sites, with deliveries beginning as early as April 1, 2023. DOE must receive bids for this notice no later than 10:00 a.m. Central Time on February 28, 2023. Contracts will be awarded to successful offerors no later than March 8, 2023.

We see these sales have started at the beginning of the month:

From 03/31 to 04/14, there has been 3.212 million barrels sold, or about 230,000 barrels per day.

If this pace continues, the 26 million barrels will be sold by the end of July.

Going to a live seminar on generating income through trading options

Most of what I do in finance is self-taught and can be done safely in the confines at home instead of having to go to a university or some institution.

However, once in a blue moon, I like to try something different to get an idea of what may be out there.

IBKR was sponsoring this workshop by this active asset manager, which the name I will leave out. They were doing some tour presumably to promote their own actively managed funds, but the event was in the name of generating income through options and how they used IB’s trading workstation desktop software.

I was less interested in the fund and more on how they used TWS and also who would attend this sort of thing. Who knows, I might learn something. My hopes weren’t high.

Putting a long story short, this asset manager also takes client accounts and establishes long delta and short theta on index products, specifically on SPY and QQQ. They made it seem like voodoo magic. It appears their favourite trade is to buy bull put spreads and short call spreads deeply out of the money to harvest theta, but to actively manage the positions using very short term options (2 day, 4 day, in addition to the usual monthly expirations).

They showed a specific client’s managed account, which had approximately USD$2 million in liquidation value. The account also had $3.4 million in equities (mainly technology stocks), and it was also $1.4 million in margin. Apparently the client gave them a portfolio with a bunch of technology stocks and wanted to generate more income using options. The presenter claimed that because the maintenance margin on the account was well less than 10% of the net liquidation value, that the leverage employed was fine. In addition to all of the technology stocks, the asset manager had positions in what were a huge array of about 30 to 40 spread option positions, mostly on the SPX and of different temporal distribution. Some of these positions were hundreds of contracts, but many of the market prices of the options were less than 50 cents.

Their commission costs must be a fortune.

I also thought when it comes to tax time it must be a total nightmare to manage.

They explained how they were non-directional traders and were managing downside risk, notwithstanding the fact that when they viewed the SPX position on the TWS risk manager, they had a delta of about +2500 (that’s about $1M in notional risk, thus having some downside exposure), and all for a theta of about $1k (the time decay per day).

They made it seem like they were generating money from thin air.

Indeed, if you give me $2 million of client equity and sell deeply out of the money option spreads I can make you a thousand dollars a day – until the SPX decides to melt down one day when Vladimir decides to launch the missiles or something.

The presenter made it much more complex than it needed to be. The reason is that without the complexity, people would probably clue in there is no free ride in the derivatives market.

My biggest revelation was that about 200 people were in the room. I’m not sure whether this is a good or bad reflection on what is coming for the markets. All I know is that this style of trading is most definitely not for me and appeared to be gambling more than anything else, except in a veneer of using some needlessly sophisticated trades.

The Teck Sweepstakes, Round 3

In today’s episode, “Teck approached by Vale, Anglo American and Freeport to explore deals after planned split, sources say“, in addition to the controlling Class A shareholder releasing a carefully fine-tuned statement to keeping all doors open.

Glencore’s 7.78 shares per Teck Class B share is currently worth about CAD$63 on the market, while Teck shares are trading slightly above this.

What is a potential paper napkin valuation?

Freeport McMoran in 2022 posted an EBITDA of $9.3 billion and sports an enterprise value of US$74 billion, or about an 8x multiple.

Teck in 2022 posted an EBITDA of CAD$10.2 billion, consisting of $1.84 billion on Copper, $1.04 billion on Zinc, and $7.36 billion on coal.

Arbitrarily giving a 8x valuation on copper and zinc, and a 2x valuation on coal (looking at ARCH as a comparator here), gives an EV of CAD$38 billion. Teck’s EV today is about CAD$40 billion.

However, this does not include the impact of Teck’s 70% ownership of the QB2 project coming online, which will fully add a huge amount of contribution margin.

The economics are mostly intact from the 2018 business case, short of copper costs projected to increase from US$1.30/pound to US$1.50/pound in 2024.

The contribution at US$4.00/pound copper is expected to be around CAD$2.2 billion EBITDA at 100% project basis – or about CAD$1.5 billion at 70%. Add in the increased costs and let’s say it levels off at around CAD$1.3 billion.

Add $1.3 billion at 8x and you get another $10 billion added to the EV, or about a CAD$48 billion bid. It’s around CAD$75/share.

There is plenty of wiggle room from the current market price of CAD$65.

One is that coal is undervalued at 2x EBITDA. While it is being discussed as the throwaway asset, it obviously is generating a ton of cash at present. While met coal prices have tapered considerably since 2022, it is still a wildly profitable asset – it is more likely that the operation will be given a higher multiple as the commodity price decreases.

Another is the valuation of the mining reserve pipeline. QB2, for instance, has a huge reserve.

Obviously Teck will want to make its acquisition as expensive as possible. I’m guessing around CAD$70-75 and something gets done.

The Teck Sweepstakes, Round 2

In the second round of the Teck and Glencore corporate soap opera, Glencore responds to Teck’s rejection with the following:

Glencore continues to believe that CoalCo’s combined thermal and coking coal assets would position it as a leading, highly cash-generative bulk commodity company which would attract strong investor demand given its yield potential. However, Glencore acknowledges that certain Teck investors may prefer a full coal exit and others may not desire thermal coal exposure.

Accordingly, Glencore has proposed to the Teck Board to introduce a cash element to the Proposed Merger Demerger to effectively buy Teck shareholders out of their coal exposure such that Teck shareholders would receive 24% of MetalsCo and US$8.2 billion in cash. This valuation is in line with both (i) the implied enterprise value of Elk Valley Resources (“EVR”) and the Transitional Capital Structure owned by Teck shareholders based on the Nippon Steel investment under the proposed standalone separation into Teck Metals and EVR (the “Proposed Teck Separation”), and (ii) the upper end of the valuation ranges of EVR provided by Origin Merchant Partners, in its fairness opinion to the Special Committee of the Teck Board.

Glencore clearly knows that Teck is going to reject this proposal, but they still want to keep in the limelight for the next couple rounds of this drama. There’s more action to come before the April 26, 2023 meeting to confirm (or reject) Teck’s proposal to its shareholders.

My guess is that Glencore will be offering around CAD$70/share for Teck in some very strange contingently valued offer (least of which is that the April 26 meeting no longer take place). Money speaks, and this situation is certainly no exception. It’ll probably be a good time to punch out the clock at that point – this is faintly reminding me of what happened to Potash Corp (now Nutrien) roughly a decade back.

The corporate soap opera at Aimia

I last covered Aimia (TSX: AIM) last September and things have progressed from bad to just outright hilarious (unless if you’re a shareholder).

Aimia had raised nearly half a billion in cash from the disposition of one of their legacy business units, leaving their balance sheet relatively open for investment. The company’s stated objective was to invest such proceeds in such a manner that could utilize their extensive tax losses, neatly summarized by this page on their last annual report:

What does the corporation do instead?

Two headlines:
a) January 31, 2023: AIMIA TO ACQUIRE TUFROPES FOR $249.6 MILLION

Aimia Inc. (TSX: AIM), a holding company focused on long-term global investments, has announced today that it has signed definitive agreements to acquire all of the issued and outstanding shares of Tufropes Pvt Ltd. as well as certain business undertakings of India Nets (together referred to as “Tufropes” or the “Company”). Aimia will pay a purchase price of $249.6 million (1) on a cash-free and debt-free basis

…

A family-owned business founded in 1992, Tufropes is expected to achieve annual revenue of approximately $130 million (1) for the fiscal year ending March 31, 2023 , and industry-leading EBITDA margins of 18%.

b) March 6, 2023: AIMIA ANNOUNCES ACQUISITION OF BOZZETTO GROUP FOR $328 MILLION

The purchase price will be based on an enterprise value of approximately $328 million (1) . It is anticipated that the acquisition will be financed with a combination of cash and debt, with an expected level of debt of around 3x Adjusted EBITDA, or approximately $135 million . Bozzetto achieved annual revenue of approximately $326 million (1)(2) and Adjusted EBITDA of $47 million (1)(2) with an Adjusted EBITDA margin of 14.5% (2) for the fiscal year ended December 31, 2022 , with higher than 80% free-cash flow conversion (3).

Quick analysis

Acquisition (a) invests $250 million for [$130*18%?] $23.4 EBITDA margins. Assume no “I” and a combined TDA of 40% and that leaves $14 million net income. Tufropes is an Indian corporation.

Acquisition (b) invests $193 million cash ($328-$135) for an “adjusted” EBITDA of $47 million. Let’s ignore “adjustments”, and apply an “I” of $135*7%, and according to the press release, claims a “free cash flow conversion of 80%” which miraculously assumes that a multi-country specialty chemical business has little in the way of capital investment requirements. Somehow, I don’t think so. Looking at Chemtrade, for example, we have 43% of their 2022 EBITDA going to capital and lease and cash taxes. But they are a trust structure, so I would suspect that Bozzetto would be paying more than 50% of adjusted EBITDA on this, but let’s round to half and you get $23 million. Bozzetto is an Italian company.

Add these up, you get about $37 million on a $443 million cash investment or an 8.3% leveraged return. Not only that, but it is an incredibly tax inefficient way of utilizing the tax losses.

These guys could have bought CNQ and would likely do a lot better and gone through less headaches than dealing with jurisdictional headaches like the ones they’re entering in now!

Follow-through soap opera

Over the past half year, a Saudi-run capital corporation, Mithaq Capital, has acquired 19.9% of the common stock. Understandably they’re not happy with how present board management has handled the investment portfolio.

Aimia is holding their annual general meeting on April 18.

Mithaq released on April 6:

Mithaq is disappointed with recent events and has lost confidence in the Board and management. Mithaq believes that it would be in the best interests of Aimia to reconstitute the board and will vote against the re-election of David Rosenkrantz (Chair), Philip Mittleman , Michael Lehmann , Karen Basian , Kristen M. Dickey , Linda S. Habgood , Jon Mattson and Jordan G. Teramo to the Board at the Meeting.

The reasons underlying Mithaq’s decision to vote against the re-election of the Board include concerns previously raised with Aimia regarding capital allocation decisions relating to acquisitions.

Aimia management quickly rebuked and claimed it is taking action to “protect the integrity of the market”:

Over the past month, Aimia has been investigating the misuse of confidential information belonging to the Company and one of its affiliates. The misuse involved an insider who was a former member of the Company’s board of directors and a senior officer of the affiliate in breach of his legal obligations. The investigation also uncovered what Aimia believes to be undisclosed joint actor conduct relating to the acquisition and voting of Aimia securities.

Upon uncovering this misconduct, Aimia’s affiliate recently terminated the insider and Aimia reported its concerns about breaches of securities legislation to the relevant securities regulatory authority. The Company is considering all legal options available to it to protect shareholders and the integrity of the market.

Mithaq filed an official proxy statement on SEDAR (April 10, 2023) and there are many gems in there, but this one in particular was interesting:

Aimia’s current operating expense at the head office level is at an approximate C$15 million annual run rate, which is a grossly inappropriate set-up for an investment holding company of Aimia’s size. In addition to this, by bringing Paladin into the recently announced acquisitions, Aimia shareholders will be paying a 2% annual management fee and a 20% performance fee.

This makes the old corporate headquarters at the former Pinetree Capital (pre-2016, the current entity is parsimoniously run) look spartan by comparison.

Aimia on April 11:

Mithaq and its joint actors seek to control Aimia out of self interest

…

Aimia believes that these statements were made in furtherance of a self-interested attempt by Mithaq and its joint actors to acquire control of Aimia’s cash for the purpose of investing in the securities of poorly performing public companies held by Mithaq.

Of course there’s self-interest! They own 19.9% of the company. It indeed is quite ironic that one of the poorly performing public companies held by Mithaq is Aimia itself!

I am sure there will be more theatrics between now and the April 18th AGM. I do not expect a sane shareholder would vote in the incumbent board, but some shareholder votes in the past have surprised me!

In terms of how Aimia’s stock is doing, their preferred shares are trading at roughly a 9.5% reset yield. Definitely not enough compensation for risk in my books.

Also, if Mithaq is successful in taking over Aimia’s board, they have the unenviable task to undo the capital damage that has occurred. Basically they’d be taking over when the family silverware has already been ransacked.