Editor’s note: This column is part of InvestorPlace.com’s Best Stocks for 2021 contest. Eric Fry’s pick for the contest is Osisko Gold Royalties (NYSE:OR).
For most folks, June 11, 2019, was a date of no particular importance. But for the subscribers of Fry’s Investment Report, that date on the calendar deserves at least a sticky note, because that was the day I introduced two new gold stocks to the portfolio: Wheaton Precious Metals Corp. (NYSE:WPM) and Metalla Royalty & Streaming Ltd. (NYSEAMERICAN:MTA).
Both of these stocks are gold royalty plays, rather than actual miners, and both have performed admirably since then – not only compared to the S&P 500 but also compared to their gold stock peers.
As the chart below shows, as of early December, Metalla had delivered a total return of 195% since June 11, 2019, while Wheaton had produced a total return of 79%.
By comparison, the VanEck Vectors Gold Miners ETF (GDX) advanced 56% over this time frame, while the S&P 500 gained just 31%.
Somewhat curiously, while these two gold-focused royalty companies were busy racking up their market-beating performances, the shares of Osisko Gold Royalties were doing a whole lot of nothing. They’ve gained only around 15% since June 11, 2019.
This slow performance is one reason I am now making Osisko my Best Stocks for 2021 pick. It is a lagging stock in a sector that has been falling behind the overall market since August.
But over the coming months, I expect this stock to play catch-up to the rest of the gold sector as it also plays catch-up to the broad stock market.
Streaming vs. Royalty
Before taking a closer look at my best stocks for 2021 pick, let’s briefly review two key terms: “streaming” and “royalty.”
Under a streaming arrangement, the company that provides financing receives the right to purchase at a set price some fixed percentage of the mining company’s future metal production.
In 2017, for example, Osisko struck a streaming deal to pay $33 million to Taseko Mines Ltd. (NYSEAMERICAN:TGB) for the right to purchase Taseko’s share of the first 5.9 million ounces of silver produced by the Gibraltar copper-silver mine in British Columbia, Canada. After reaching that threshold, Osisko will receive a smaller percentage of the silver production.
But importantly, Osisko won’t be paying market price for the silver it receives under the streaming deal. Instead, it will pay just $2.75 per ounce for it. In other words, Osisko acquired the right to purchase future silver production at an 88% discount to the current silver price.
That’s a streaming deal: Taseko gets a big check up-front, and Osisko gets many years of silver production at a big discount.
A royalty arrangement is slightly different. With those deals, the company that provides the financing receives a percentage of the mining company’s future production.
For example, last year Metalla gave Atlantic Gold Corp. $3 million in exchange for a 1% royalty on the company’s Fifteen Mile Stream gold project in Nova Scotia, Canada. The royalty covers all metals recovered from the project.
In other words, Metalla receives 1% of all the metal the mine produces.
Now let’s return to the investment case for Osisko …
A New Growth Phase Is Underway
The company is a midsized royalty and streaming company that holds a portfolio of 138 royalties, streams, and precious metal offtake agreements.
Of these 138 assets, 16 are currently in production, including the world-class Canadian Malartic gold mine that Yamana Gold Inc. (NYSE:AUY) and Agnico Eagle Mines Ltd. (NYSE:AEM) operate in Quebec.
Fifteen additional assets are in various stages of development. Until recently, Osisko also owned direct interests in a few mining projects.
Year after year, the Montreal-based company has been growing its portfolio of streaming and royalty deals, which means it has been growing its “attributable production” of precious metals. Gold accounts for 70% of total production, while silver accounts for most of the rest.
For 2020 as a whole, Osisko expects to produce approximately 64,000 gold-equivalent ounces (GEOs) – about 46,000 from royalties and 17,000 from streams.
And as you can see from the chart below, Osisko’s GEOs had been trending steadily higher until recently. Production growth stalled a bit in 2019, and then dropped even more this year, due to the COVID pandemic.
But a new growth phase is underway. The company expects its annual gold equivalent production to double over the next three years to more than 140,000 ounces, based on prospective output that is already in the pipeline.
A doubling of production in three years could be enough of a catalyst to boost the stock price significantly. But that’s not the only possible catalyst.
In fact, there’s a brand-new one: Osisko just reinvented itself as a pure-play royalty and streaming company.
Although Osisko has always been a gold royalty company, it has also engaged directly in mining projects. This dual focus has meant that Osisko was neither fish nor fowl. It was neither a pure royalty company nor a pure mining company.
Generally speaking, gold stock investors want one or the other.
So Osisko gave investors what they wanted. In late November 2020, the company finalized a corporate restructuring that divided its assets into two separate publicly traded companies.
Osisko Gold Royalties retained all 138 of its royalty and streaming assets but moved all of its mining projects into a new company called Osisko Development Corp. (RNGTD).
The new Osisko Development comes into the world with a pristine, debt-free balance sheet that includes about $78 million in cash and $90 million in publicly traded mining stocks. Altogether, Osisko management values this new company at $660 million.
For now, Osisko Gold Royalties will retain an 88% interest in Osisko Development, worth about $580 million. Based on that calculation, the rest of Osisko Gold would be valued at just $1.57 billion.
Thanks to this restructuring, Osisko Gold clarifies its identity as a pure-play royalty company. At the same time, Osisko Development becomes a new mid-tier mining company with an excellent growth profile.
By becoming a pure-play royalty company, Osisko’s stock could gain an upward “re-rating” that would value the company more in line with other stocks in the gold royalty and streaming sector.
For example, based on valuation metrics like price-to-net-asset-value and price-to-EBITDA, Osisko is currently trading at about half the valuation of Wheaton Precious Metals.
Perhaps Osisko deserves to trade at a discount to Wheaton, one of the best stocks in the royalty sector. But a 50% discount seems too severe, based on comparative fundamentals.
So I expect this steep discount to narrow over the coming months.
Additionally, the new Osisko Development company could add to Osisko Gold’s investment appeal.
Osisko’s Many “Hidden” Assets
As a stand-alone mining company with a focused operating strategy, Osisko Development could “unlock” the value of the assets that have been somewhat hidden inside the “old Osisko.”
Over the next 12 months, Osisko Development is on track to boost its annual production from 0 to 100,000 GEOs, and then ramp up to 275,000 GEOs by 2023. If the company delivers that growth, investors will take notice.
Returning to Osisko Gold Royalties, the consensus of analysts on Wall Street and Bay Street expects the company to double earnings per share to about 55 cents over the next two years.
At that level of profitability, the stock would be trading for 25 times earnings. But these estimates do not include any prospective boost from rising gold or silver prices.
Nor do these estimates anticipate any upside surprises from the ongoing exploration at Canadian Malartic. But upside surprises would not be a surprise at all.
The Malartic mine is Canada’s largest operating open-pit gold mine. But as the mine’s operators, Yamana Gold and Agnico Eagle, advance the project from open-pit to underground mining, they are likely to increase the proven gold reserves by several million ounces.
Proven reserves at the project currently total about 5 million ounces. But preliminary drilling already indicates that the deeper underground deposits may contain at least 10 million additional ounces.
To be clear, these additional ounces are not yet proven; they are merely inferred. But within the framework of a prolific gold mine like Malartic, inferred ounces usually become proven ounces eventually.
As Osisko President Sandeep Singh stated recently: “The developments at Malartic underground we don’t think are fully appreciated in our stock – or in our partner’s stocks for that matter – and as they continue to advance and put more meat on the bone, we think that’ll be helpful.”
Translation: If Yamana and Agnico prove the additional millions of ounces they believe Malartic contains, the share prices of all three companies could pop on the news.
But because Osisko’s market value is just one-third the size of Yamana’s and one-tenth the size of Agnico’s, favorable news from Malartic could cause its share price to do a lot more popping than either Yamana’s or Agnico’s.
Bottom line: A variety of favorable catalysts could combine to boost Osisko’s share price significantly in 2021… and beyond.
On the date of publication, Eric Fry did not have (either directly or indirectly) any positions in the securities mentioned in this article.
Eric Fry is an award-winning stock picker with numerous “10-bagger” calls — in good markets AND bad. How? By finding potent global megatrends … before they take off. And when it comes to bear markets, you’ll want to have his “blueprint” in hand before stocks go south.
