The key to succeeding as a small-cap value investor is the consistent identification of stocks that run counter to underlying company development.
By no means an exact science, because nobody can predict the future, retail investors keen on bargain-hunting should focus only on stocks that offer a wide and obvious margin of safety, which guards against picks going astray, and substantiates the market’s cluelessness at the potentially exponential returns at stake.
Saturn Oil & Gas
An interesting example is Saturn Oil & Gas (TSX:SOIL), market cap C$336 million, whose shares have given back 32.50 per cent since 2019, despite the company growing production from 233 barrels of oil per day (bbls/d) in 2021 to an average of 26,890 barrels of oil equivalent per day (boe/d) as of Q4 2023, while generating cash flow that is growing by leaps and bounds. Free funds flow, which measures funds available after capital investment for debt repayment, acquisitions, dividends and share buybacks, reached C$41.2 million in Q3 2023, up from only C$3 million year-over-year.
Based on Saturn’s recently reported 145.3 million boe of total proved and probable reserves, which are up by 131 per cent year-over-year, the company offers a net asset value per share of C$16.69, a 6.86x increase from the current share price of C$2.43.
If the company’s history of transformative acquisitions is any indication, a stock re-rating is a likely probability as it continues to release results from 2023 drilling (slide 7), the largest program in its history.
Leading Edge Materials
Another example of an attractive small-cap value stock to buy today is Leading Edge Materials (TSXV:LEM), C$24 million market cap, whose three critical materials properties position it to ride the tailwind of global electrification.
From shares’ current entry point, sitting at a 50-per-cent drop year-over-year, new investors would gain exposure to the Woxna Graphite mine in Sweden, the only built and permitted graphite mine in the E.U. The company is monitoring market conditions to restart concentrate production to capitalize on an expected 25x growth in the graphite market (slide 7) from 2020 to 2040. In 2020, the average electric vehicle battery contained 52 kg of graphite.
Woxna is complemented by the Norra Karr heavy rare earth elements (HREEs) project, also in Sweden, where a 2021 preliminary economic assessment (PEA) estimates the ability to supply HREEs for permanent magnets for between 1.2 million and 1.9 million electric vehicles per year for 26 years, with rare earth elements looking at an up to 7x bump in demand by 2040, according to the International Energy Agency. While a PEA is no feasibility study, Norra Karr’s potential contribution to the electric vehicle supply chain is big enough for majors to consider an option arrangement.
Finally, Leading Edge’s Bihor Sud nickel-cobalt project in Romania has yielded head-turning in-situ samples up to 30 per cent nickel and 4.7 per cent cobalt in Gallery 7, which houses a 400 m high-grade mineralized occurrence, in addition to chip samples up to 11.7 per cent copper, 11.7 per cent lead and 18.7 per cent zinc in Gallery 4, which contains a 350 m high-grade mineralized segment. Management believes the project has all the elements to enable a large-scale development, with a surface drilling program in the works to explore untapped geophysical anomalies and further gallery depths. Demand for nickel and cobalt is expected to enjoy 20x growth between 2020 and 2040 propelled by their essential roles in electric vehicle batteries.
While paying due respect to the volatility in the junior mining space, and how the company was refreshingly open about its need for cash in its Fiscal 2023 results, a 50-per-cent drop year-over-year with assets this robust and green-aligned has to look enticing. Just make sure that, if you do allocate, you diversify across other opportunities with a broad margin for a positive outcome to minimize idiosyncratic risk.
Full Circle Lithium
Our final example of a small-cap value stock hiding in plain sight is Full Circle Lithium (TSXV:FCLI), C$34 million market cap, a company loudly announcing its presence in the US$56.8 billion global lithium-ion battery market with a fully owned and operational 2,000-10,000 tonnes per year lithium carbonate plant in Georgia, U.S.A. The plant is the center of a multi-pronged operation that spans:
- Downstream electric battery recycling: The company produced battery-grade lithium carbonate from spent lithium-ion batteries at pilot scale and is working on a large-scale, 40,000-pound demonstration project.
- Midstream lithium feedstock recycling: Full Circle partnered with a global chemical company for its first modular plant to recycle lithium from lithium-bearing waste using its proprietary extraction technology. Initial tests yielded more than 99 per cent lithium recovery, paving the way for a commercial ramp-up beginning this quarter.
- Upstream lithium feedstock refining: Multiple discussions are ongoing with miners looking to process their ore for the market.
- Battery industry innovation: The Full Circle team has also created a lithium fire suppressant, the first based on lithium chemistry to the company’s knowledge, that has been demonstrated over 500 times to cost-effectively solve a pervasive issue in the electric vehicle space.
With initial revenue and significant EBITDA expected over the near term, and C$7 million in cash and no debt as of Sept. 2023, the company’s holistic approach to lithium is on the verge of causing major sideline regret, especially when we consider the stock’s ludicrous 36.59 per cent loss since inception in May 2023 given development to date.
Whether you choose to look further into today’s trio of value stocks, or your fancy takes you elsewhere, remember that having an edge in the investing world means recognizing when a company’s track record and market performance just don’t mesh, and building conviction in this mismatch through thorough due diligence. Make sure your investment theses are sound enough to sleep well at night before making an allocation.
Join the discussion: Find out what everybody’s saying about these small-cap value stocks on the Saturn Oil & Gas, Leading Edge Materials and Full Circle Lithium Bullboards, and check out Stockhouse’s stock forums and message boards.
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