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The Leverage of Earnings

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March 28, 2007 – Comments (0)

"Around 2000 I left my job and cashed out my pension and put it into commodities," was what a colleague was saying.  "I had $14,000 and it is now a quarter of a million."

The commodities bull run created an enormous leverage of earnings.  Take Northern Orion, a junior start-up company around the beginning of the bull run and now it has $230 million in the bank.  The big players have reported billions of dollars of earning.

Eastern Platinum has gone from a junior start-up to a company with a $1.5 billion dollar market cap.  Its earnings are a little on the low side for the market right now, but with 700% expansion of mining production over 5 year planned, high grades of platinum resources and demand for platinum as both an industrial metal and a precious metal, they will have good growth in earning..

Roca is a new start-up that if moly prices remain where they are should make in the range of 25-30c/share in either Q3 or Q4 this year. 

Blue Note is also building a new mine and should have earnings of 2-4c by Q3 or Q4 this year.  Blue Note will perform nicely this year.

Aur Resources has gone from a $2 stock in 2000 to $23 today with 2006 earnings of $3.23 per share, and 60-70% growth in production planned over the next 2 or so years.

To have been there at the beginning of the bull run, at the period when earnings exploded.

There is one stock I've recently looked at that an unfortunate hedge decision reduced its earnings to about 20-25% of what they would have had without the hedge.  The company's earnings were 87c/share for 2006, and with only 40 million shares, taking a $144 million dollar loss and still making money is amazing.  $144 million is about $3.60/share of cash flow that they didn't have to put to earnings.  There is a thing called taxes that they would have to pay on that, so it isn't quite that good, but it is very sweet overall.

The stock is Quadra and this stock is in a position to see a leverage of earnings much like the early bull run days, indeed, 2007 will be Quadra's bull run.

Quadra's hedge which limited them to an average of $1.72/lb of copper for 2006 hit them at both end, earnings and costs.  There is a thing called "price participation" where as the price of a commodity increases, smelter companies get a cut of that increasing price.  Quadra had hedged at $1.60 and copper went as high as $3.99/lb on the LME.  So, not only did Quadra forfeit 60% of the potential income, they had to pay smelter costs as if they were getting $3.99/lb.  So Quadra paid the full costs of the bull run, but had none of the benefits.  The average LME price for copper for 2006 was $3.05/lb.  Quadra didn't get an average of $1.32/lb of "free" money.

Quadra has even more leverage of earning to come.  They ran into a few problems with production and produced 117 million pounds of copper.  They believe they've worked out those issues, certainly towards the end of Q4 their recovery rates improved considerably, and they've given guidance of $125 million pounds, an small increase of 7%.  But, they are in the process of building a second mine which is planned to start producing late 2008 and will add 75 million pounds of production per year, so a two year growth in production rate of 67%.  There are a couple downsides, increased debt to pay for building the new mine, but that is highly preferable over dilution that would limit earning potential forever.

2007 is going to be Quadra's year for stellar performance.

QUA Toronto, QADMF.PK in the US.

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