Aiming to get back to best friend status

MCubed Holdings’ decision to take a 26.18% interest in long underperforming diamond miner Trans Hex could be the beginning of a much-needed shake-up of the company.

Trans Hex’s shares have largely stagnated over the past nine years on prolonged weak diamond prices, the ageing of its mines in SA, unsuccessful ventures into Angola and abandonment of what was once a regular generous dividend. Progress has been slow, management’s interactions with investors tend to be terse and last year was the first time Trans Hex had paid a dividend in seven years.

In 2007 the shares were almost R17 but for the past eight years they have not broken above 500c. They are currently 356c.

M Cubed is now the biggest of three major shareholders, by a small margin. The other two are RECM and Calibre with 25.12% and Northam Platinum with 20.3%. If they all agree on strategy it should work well, but if they disagree, there could be trouble.

M Cubed’s CEO Quinton George, formerly of Trinity Asset Management, is a value investor who over the years has taken bold positions in underperforming small companies such as SA French, ConvergeNet and Goliath Gold. RECM’s head, Piet Viljoen, is also a value investor, who has taken stakes in companies such as Sentula Mining and ELB Group as well as various unlisted companies.

George says the cash in Trans Hex is worth about 330c/share, which is close to what M Cubed paid for its stake, so there is limited downside.

“We also think there are opportunities in the diamond space. Last year was tough for the diamond market but it is improving this year, and we like the quality of Trans Hex’s West Coast Resources. Once we are more familiar with the company we might want to take a bigger stake, and that would include discussions with other big shareholders.”

Trans Hex’s latest acquisition was 40% of De Beers’ Namaqualand mines, now called West Coast Resources, in partnership with a consortium that includes RECM. This year the focus is on exploration drilling on the property and preparing for full-scale production, while generating some cash from treating tailings. CEO Llewellyn Delport warned in the annual report West Coast Resources would make a loss this year.

George says so far M Cubed has held only a brief discussion with RECM, when it offered to buy RECM’s stake and RECM said no. But he believes both M Cubed and RECM are “reasonably pragmatic”. M Cubed likes companies where there are a few big shareholders, which TRANS HEX GROUP makes decision-making easier. It would not be in the company’s interest to have disagreements among its major shareholders, he says.

Viljoen says RECM is not concerned about the possibility of disagreements over strategy with M Cubed. “We have spoken to them and they share our view that the asset is undervalued. There is a lot of value to be extracted there.”

M Cubed picked up a chunk of its shares from Kagiso Asset Management, which has exited completely, its chief investment officer Gavin Wood confirms. “We sold on behalf of our clients because we received what we considered a good price given the company’s uncertain prospects and the alternatives we have for deploying this capital. Our clients made a significant return on this investment as a result.”

In a recent report, diamond market analysts Rapaport said miners had a strong first quarter but inventories were continuing to increase. Alrosa of Russia, which held 22m carats in inventory at end-2015, has cut its 2016 production targets.

On a one to two-year view, Trans Hex certainly has some possibilities, ranging from a recovery in diamond prices to increased production from the West Coast mines and a new strategy from M Cubed. But it is still more of a hold than a buy, since there are more attractive alternatives, such as Gem Diamonds or DiamondCorp.