Tuesday, September 09, 2014

Argex Titanium Management Walks Wall Street

Argex Titanium (ARGEF:  OTC/PK or RGX:  TO) is a small company with a big idea:  to penetrate the old-school titanium pigment industry with some new technology.  The company’s CEO, Roy Bonnell has been on the road recently pitching the merits of his team’s innovations.  Argex plans to produce high purity titanium dioxide pigment or TiO2 from ilmenite ore using a proprietary process the company has been developing with the help of a major user of titanium pigment, paint producer PPG Industries (PPG:  NYSE).  Apparently PPG has been sufficiently impressed with Argex to enter into a technology sharing and supply agreement with Argex.

Tronox White Pigment Paint
Titanium pigment is used mostly in paint and the interdependent industries form a fairly small club.  That a giant like PPG, with its deep knowledge of paint pigments, was offering the ‘secret handshake’ to this small Canadian company made a big impression on me as well.  In articles published on June 24th and June 25th, “Changes Afoot in the Titanium Pigment Industry” I set out arguments for investing in Argex’s TiO2 innovation.

Argex is a developmental stage company, and has not yet started production.  Indeed, management has been walking Wall Street, hat in hand because the company needs capital to build and equip its first production facility.  Argex needs as much as $300 million to set up shop in Valleyfield, Quebec.

Trepidation over the imminent capital raise is probably why RGX shares have traded off by 25% since I first wrote about Argex in late June 2014.  Dilution through the issuance of new shares should be a concern for equity investors.  The company already has 113.2 million shares outstanding and another 19.9 million in options and 1.1 million warrants have been issued.  With all derivatives exercised and debentures converted, the company would have 140.8 million shares outstanding  -  an increase of 24%. 
Dilution aside, the Argex titanium business model could be a strong earnings generator that could easily support interest and principle payments.  A feasibility study completed a year ago provides some insight into the potential profitability of the production facility Argex is planning in Quebec.  Ernst & Young conducted the economic portion of the study, concluding the plant could generate $4.4 billion in pigment sales and $567 million in sales of by-products over its expected useful life, providing $1.9 billion in operating income.  The cooperative pact with PPG and a new marketing and supply agreement with the U.S. subsidiary of Germany’s HELM, AG, a worldwide supplier of chemicals, fertilizers and pharmaceutical products, should provide added confidence in E&Y’s revenue estimates. 

To fully appreciate E&Y’s expectation of 38% in operating profits requires an understanding of the genius of the solution Argex is bringing to the TiO2 pigment business.  Argex’s patented production process relies on solvent extraction technologies that have been used successfully by uranium and rare earth producers.  However, Argex has taken the process a number of steps further, potentially changing both the economics and environmental profile of TiO2 production. 
The Argex process is most accommodating of lower grade feedstock, making it possible for the company to turn out even high-purity TiO2 using low-cost ilmenite feedstock that others cannot use.  What is more, the Argex process requires low pressures and low temperatures, both of which yield cost savings in the front end of Argex’s TiO2 production process.  The closed loop process emits no pollutants.  There are by-products, but those are expected to be secondary sources of revenue rather than environmental headaches. 
Customers like PPG might expect some of the savings to get passed along to them in the form of lower TiO2 pigment sales prices.  Argex management is all too happy to offer its products at a competitive price point and win new customers who are anxious to replace their expensive sources with the Argex TiO2 pigment.
Argex’s CEO Roy Bonnell would also be happy to get a term sheet or two from investors anxious to get involved with their potentially disruptive TiO2 pigment solution.  In their feasibility study, Ernst & Young estimated the current value of Argex’s first production facility could be as much as $678.3 million after taxes.  Now this estimate was based on an 8% discount rate, which to me seems a bit low.  That said, E&Y also calculated that the internal rate of return on the plant investment could be near 33% after taxes.  That provides a fairly generous return environment for both potential creditors and as well as equity investors.   

Neither the author of the Small Cap Strategist web log, Crystal Equity Research nor its affiliates have a beneficial interest in the companies mentioned herein.




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