CRA Prescribed rates for Q3-2010

Thanks to the comments from Jeff Usher, it appears my initial thoughts about the CRA prescribed rates were incorrect. I consider myself well-researched in these matters, but once in awhile, things slip and this was one of them. Thank you Jeff.

The CRA, on June 28, 2010, published the third quarter prescribed rates.

Apparently the reason for the delay is that Bill C-9 implemented a reduced rate of accrued interest for corporate overpayment of tax. Corporations were using the CRA as a savings account, where they were getting higher rates of interest than the banks. In the previous quarter, this amount was 3%, but going forward it will be 1%.

Canada Pension Plan not happy with Magna

Magna International is a dual-class stock that retained control of the corporation in the Stronach family.

The Canada Pension Plan is unhappy that the corporation recently agreed to a deal with the Stronach trust to convert their class of voting stock into regular common stock, at a very high premium – $300 million in cash, plus 9 million class A shares. At today’s prices for class A shares, this works out to approximately $920 million in exchange for the voting rights of the company.

Suffice to say, shareholders are not too happy about the matters, including the Canada Pension Plan.

However, this should be a huge lesson to those that invest in majority-controlled companies – your interests have to line up with the interests of the majority holder in order for you to make any headway on your investment. In the case of Magna, its majority holder (Stronach) clearly wants as much cash and liquidity out of the corporation as possible – and the common shareholders, including those invested in the Canada Pension Plan, will be paying the price.

What is interesting, however, is that the deal was structured in a politically astute manner – common shares went up after the announcement since Magna was already trading at a discount due to the adverse interests of the majority holder. It is the company, however, that will be paying the price to buy out the Stronach voting stake.

If you have shares in companies that are majority controlled, pay careful attention to these agency issues.

Summer Markets

Readers here might have noticed a lull in posting over the past week – it’s because I’ve been on a break and will continue to be so until mid-July.

A good deal of people on Wall Street take some part of the summer off – especially the month of August. Trading, as a result, becomes dominated by computer trading and volatility is typically higher due to decreased market volumes.

This last quarter has been quite dull on the trading front, but as the markets continue to dive, I am watching for opportunities.

CRA Prescribed Rates – Update

Earlier I wrote about CRA Prescribed Rates and how they are used.

Given that it is nearing the end of June, the CRA has not published updated prescribed rates for the third quarter yet. They traditionally publish the next quarter’s rates at the beginning of the month before the next quarter (i.e. for a second quarter announcement, they would announce the prescribed rates at the beginning of March).

I would suspect they are doing this because they are planning on increasing the prescribed rate for interest on loans to 2% from 1% currently. They would want to give as little notice as possible of this, to avoid a scurry of people making quick 1% loans to avoid interest attribution.

So for those of you that take advantage of this process, I would highly advise you to get your paperwork prepared for a quick transaction at the end of June in the event that my suspicions are correct.

First Uranium reports FY2010 annual report

First Uranium, which is a completely mis-named company in light of the fact that most of its revenues are derived from gold sales, reported its fiscal year-end report on a Friday evening. Note their calendar quarter ends on March, so FY2010 is April 1, 2009 to March 31, 2010.

While the company has been, kindly put, a basket case over the past year, the report does give glimpses that recovery is on the way. It has two primary operations – Mine Waste Solutions, which reprocesses previous tailings for gold (and uranium in 2012 and beyond), and this part of the business is quite profitable – about $22.8 million in profit from this operation and likely to increase in the future. However, the other project, the Ezulwini Mine, has suffered through massive setbacks and managerial incompetence and has lost about $63 million for the year.

First Uranium spent most of the first calendar quarter of the year getting rid of its management and restructuring its board of directors with people that seem to have extensive credentials in the mining business.

Most of the solvency concerns were alleviated with the March 2013 secured debenture issue, which will be listed on the TSX sometime in August.

First Uranium at this point becomes an interesting case on whether they can turn around the Ezulwini mine operation or not. From the MD&A:

The Ezulwini Mine has yet to build up sufficient production to generate positive operating cash flow. The production build-up to date has progressed much slower than originally anticipated due to a number of factors including:
– The estimation of gold available compared to the gold accounted for was significantly below expectations, a relationship better known as the mine call factor. The planned mine call factor for the year was 87% whereas the mine achieved a factor of lower than 70% during the first nine months of the year.
– The face length creation proceeded as planned but the start-up and conversion from development to stoping was slower than anticipated. Significant improvements are expected in FY 2011.
– The face length utilization was relatively low during the year due to the newly appointed mining teams as well as inadequate face equipping. Special attention is being paid to the training of crews and equipping of panels, thus mining readiness is expected to improve in the forthcoming year.
– During the fiscal year, some seismic activity occurred in the shaft pillar which caused delays but more importantly required special attention to resolve it in a safe manner. The extra precautions and diligence paid to rock engineering issues resulted in slower than anticipated performance in FY 2010. The majority of the engineering issues are now resolved, thus improved mining performance is expected.

The new management appears to know what’s going on, and they are performing a detailed bottom-up production plan which is apparently going to be ready by the end of June 2010.

On the equity side, FIU closed Friday at $1.25/share, and has 180.8 million shares outstanding. Factoring in the senior secured debentures converting at $1.30/share, this brings shares outstanding to 315.3 million shares.

I am not sure how much cash flow they can get out of Ezulwini even if they turn around the operation. The interest “bite” is not too severe – the unsecured debentures have $155M at 4.25%, while the seniors are approximately CAD$150 at 7%. It is likely if the common shares are trading higher than $1.30 by the time June 2012 comes rolling around that it will simply be a debt-for-equity swap which will make the unsecured debenture holders whole.

The unsecured debentures have turned very illiquid and have recently traded around 66-70 cents on the dollar. Assuming a purchase of 70 cents at the ask, you are looking at a 6.1% current yield and 19.5% annualized capital gain assuming a maturity payout at par. I do own these debentures, and think they represent a fairly priced risk. I still cannot recommend the common, although it could double or triple in value if the Ezulwini project does indeed turn around from the financially disastrous fiscal 2010.

If they managed to pull off a steady-state operation of about 250,000 ounces a year (note: far above 30,000 in the last year, geologist report has 5.2 million ounces over 18 years), at current gold prices that would suggest First Uranium would clear operational profits of roughly $80-100 million. Flow this and the Mine Waste Solutions project into the bottom line and you get a justification for a much higher stock price than present, even with all the potential future dilution – my paper napkin valuation model suggests around a $4-5 share price with a conservative valuation multiple. There are a lot of “ifs” and given the track history of the company, it’s no wonder that First Uranium equity is currently in the toilet – it indeed represents a large risk.