Top Picks 2016: Franco-Nevada

01/15/2016 7:00 am EST

Focus: STOCKS

Frank Holmes

CEO and CIO, U.S. Global Investors, Inc.

In 1983, my friends and early mentors Seymour Schulich and Pierre Lassonde were on to something big; they recognized that the royalty model used in the oil and gas industry could be applied to the precious metals industry, recalls Frank Holmes, CEO of US Global Investors and editor of Frank Talk.

They raised $2 million and founded Franco-Nevada Mining (FNV), the world’s first gold royalty company. Fast forward more than 30 years, and Franco-Nevada now has a market cap of over $8.2 billion.

Royalty companies basically serve as specialized financiers that help fund cash-strapped producers’ exploration and production projects.

In return, they receive either royalties on whatever the project produces or rights to a stream, a commitment to an agreed-upon amount of the commodity per year.

For the next 20 years, until it merged with Normandy Mining and Newmont Mining (NEM) in 2002, I watched the company return an average 38% to shareholders annually.

Ever since its second IPO—Newmont spun it off in 2007—Franco-Nevada’s stock has outperformed both gold bullion and global gold miners.

Today, I’m just as convinced of Franco-Nevada’s business model. Its uniqueness allows the company and its royalty peers to generate high gross margins and ever-expanding dividends, even during economic downturns.

Since 2011, Franco-Nevada has raised its dividend from $0.04 per share to $0.21 per share, a phenomenal increase of 424%. What’s even more amazing is that it’s managed to do this even as spot gold has declined 38%.

Royalty companies avoid many of the industry’s most common challenges, including huge operating expenses, unions, liabilities, and legal hurdles. Franco-Nevada currently has fewer than 30 employees. Newmont, by comparison, has around 28,000.

Franco-Nevada has a much lower total cash cost than miners do. Dundee Capital Markets estimates that—whereas gold miners produce at a breakeven cost of $1,087 per ounce—royalty companies get by with a materially lower cost of just $441 per ounce.

Franco-Nevada, in fact, carries no outstanding debt. Its balance sheet and gross margins make it an attractive buying opportunity.

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