The Godfather of Gold Companies
- A compelling offer
- Who is the golden godfather?
- A less risky way to play it
Like every human being with a pulse and half a brain, I’m a huge fan of the first two Godfather movies. There are so many relevant quotes and situations from these movies that speak to just about every aspect of life.
Perhaps the best and most quoted line is Michael Corleone’s explanation of how his father Vito, the Godfather, was able to help with Johnny Fontane’s career. To refresh your memory, Johnny Fontane was a Frank Sinatra archetype locked into a contract with a band leader. Johnny asked Vito to help him get out of the contract.
Long story short, the band leader released Johnny only after Vito “made him an offer he couldn’t refuse.”
The offer, of course, was that Vito’s henchman Luca Brasi would kill the bandleader if he didn’t release Johnny from the contract.
Now, the gold company I’m going to talk about today has never threatened to kill someone - as far as I know. But they’re known for making offers that while not impossible to refuse, are quite difficult at least.
The almost-impossible-offer, in this case is money. More specifically, it’s investment capital. Now, if you’re like most people, you’ve probably never tried to get financing for a new gold mine. To put it mildly, it’s extremely difficult. Most gold mining ventures never get an ounce of gold out of the ground. So, banks typically won’t loan money to such risky companies. To add to the problem, gold miners, fair or not, are perceived as untrustworthy individuals. That characterization might have something to do with their ability to take large piles of startup capital and make it disappear into a literal hole in the ground, all the while paying themselves a handsome salary on someone else’s dime.
But let’s assume that there’s a gold miner who is actually honest, and he has the expertise to bring his deposit to fruition, and actually get the yellow stuff out of the hole in the ground. It will still take upwards of 10 years to bring one single ounce to market.
So whoever loans money to this miner has to know a lot about gold mining, to make sure they’re not funding another money pit, AND they have to be ready for a long and winding road towards getting paid back.
Enter: the Godfather of gold companies.
Picture a rosy-cheeked gold miner walking into the dark office of this golden godfather, hat in hand. He’s got charts and maybe some initial drilling surveys, maybe some pretty pictures of the property he already owns, and some shiny equipment he needs.
He’s already been turned down for loans from banks, hedge funds, venture capital investors and his brother in law.
In short, he’ll take investment capital, and give up pretty much anything – the prospect of mining his gold makes him susceptible to offers he simply can’t refuse.
This godfather of gold companies is called Royal Gold (Nasdaq: RGLD). They loan money to startup gold miners years and years before the gold gets out of the ground. Their offer? They’ll give lots of up-front investment capital in exchange for a certain percentage of mined gold, or revenue from the mined gold. These payments, whether in gold or in revenue are called royalties – and they usually work on a sliding scale. The higher the price of gold, the more of the gold and/or revenues Royal Gold receives.
The most exciting part about this company is that they don’t ever mine, explore, refine or smelt a single ounce of gold. They have a dozen or so employees, and they basically do nothing but lend money to gold miners, and then collect royalties. Like the Godfather, they just sit in their office and wait for desperate lackeys to come in and accept un-refusable offers.
There are other godfathers, but Royal Gold is the biggest, and it’s also the only one that focuses entirely on gold.
The company pays a small dividend, currently less than 1%, but they have a long history of raising their dividend – something I think shareholders can expect more of as the price of gold rises.
Right now, the stock is trading at a pretty rich valuation of 71 times earnings. It’s tough to convince yourself to buy a stock with such a high PE, but if you wait for earnings to kick in, you could miss some of the upside.
If this stock interests you, I’d advise averaging in slowly as gold prices increase.
If you’re looking for a company that’s a little bit cheaper, I’d recommend taking a look at a junior gold miner in the Small Cap Investor Pro portfolio.
In the last quarter this company received an average price of $1,119 per ounce of gold, and total cost per ounce was only $425. That’s a $694 profit per ounce! These junior gold miners have the tendency to skyrocket much faster than gold prices – AFTER gold prices rise. Click here for the full story.
Good Investing,
Kevin McElroy
Editor
Resource Prospector
