Capstone Mining: What's Not to Like?

The Capstone Mining (CSFFF.PK) story is one that perfectly matches the "Dhando Investor" low-risk value method to high returns. "The Dhando Investor" is my most recommended investing book. Capstone is a simple, well-run, understandable business that, in terms of estimated discounted cash flow, is grossly undervalued.

The business is simple. Capstone reopened and operates a single copper (with zinc, lead and silver by-product) mine in Mexico which has recently more than doubled its production. The results of this production increase start to be seen in the financial when this quarters numbers are released around mid-November. At current (and futures strip) prices, the biproducts make Capstone a low-cost producer.

Silver mining companies receive much higher multiples (e.g. P/E ratios) than base metal mining companies (e.g. 20 to 1 vs 5 to 1). Capstone has leveraged this by selling its silver production to Silverstone Resources (SST.V). SST.V is a company which Capstone spun-off and IPOed and which should ultimately receive the ratios of a silver producer. Capstone has 23 million shares of SST.V. SST.V is reputed to be undervalued relative to comparable companies and to have a considerable growth coming. SST.V is, on the surface, sufficiently that I expect to profile it in an upcoming post after I investigate it further.

Capstone's numbers look great:

My fundamental analysis (which is not that tough given Capstone's excellent web site) indicates an estimated 2008 Price/Cash Flow ratio of 1.9 to 1 (does not include G/A, taxes or royalties) and about the same going forward from there. This is based on futures curve pricing for the metals sold.

Every share of Capstone includes 28% of a share of SST.V and Capstone has 50MM$ of cash on its books. When you subtract the market value of the SST.V and the cash from its price (reducing its price by a whopping 49%), you get a 2008 estimated adjusted price to cash flow ratio of 1.1 to 1. Wow! This means that, in a little more than a year from now, Capstone should have cash on its books (and SST.V stock) that nearly matches its current market cap and this cash can be expected to continue to pile up going forward. And this is without doing anything other than turning the crank on an existing mine which has a 7 year mine life with measured and indicated resources and more than a 10 year mine life including inferred resources. With these numbers, Capstone looks pretty undervalued to me.

Capstone's management looks extremely competent and (amazingly enough) truly concerned with the shareholder's interest:

Competent: Reopened the mine on schedule.

Competent: Completed the expansion on schedule and under budget.

Looking Out For The Shareholder: Has initiated a stock buyback program and has bought-back shares.

Looking Out For The Shareholder: Created SST.V as a vehicle to get the shareholder the full value from Capstone's Silver production.

In my experience, it's pretty rare to find a company so undervalued with management that seems to really care about the shareholders. The only downsides I see to Capstone is that there is currently no specific plans for growth and that it is a pretty small company (with a market cap of 250M$). I believe that Capstone management will either make sure the shareholder gets the cash flow from current production (probably in the form of stock buybacks) or uses some of the enormous cash flow to acquire other projects and turn the cash-flow into growth.

In my opinion, there is a lot to like about Capstone. Let me know if you think I left anything out or got anything wrong.

Full Disclosure: I have a small position in CS.TO.

Comments

[Jake2]

You failed to mention the price of silver, including world demand and supply,other producers, and the competition. What about the industry leader, the political climate in Mexico, and the function of gold and other precious metals in the silver equation? There was no rigorous analysis here, just a bunch of gushing that masqueraded as analysis: weak fundementals on your part and inadequate technicals.

[cgraviss]

The SST spin-off was good for CS shareholders at the time, but does nothing for new buyers. A new person buying CS gets a reasonably good base metal miner, selling its silver by-product for $4.00. This was one of my better investments 2 years ago, I wouldn't buy it now, and have sold most. Still holding and adding to SST.