In this episode of Praemium's Investment Leaders Podcast Series, Damian Cilmi and Samuel Mann of Longreach Alternatives spotlight the investment potential of royalties across sectors like music, pharma, fishing, and resources. Mann leverages his expertise with the Longreach's PG3 Royalties Opportunities Fund to show how these assets can diversify portfolios and stabilise returns. It's a must-listen for financial advisers ready to broaden their investment knowledge.
Praemium Limited is the issuer of the Investment Leaders and Advice Leaders podcasts. These podcasts are for information purposes only and aren't tailored to individual financial situations and do not contain financial advice. Views expressed by presenters may not align with Praemium's and nothing in this podcast should be seen as an endorsement or recommendation of the product or strategy. For more information about Praemium, including our disclosure documents, please visit our website.
We recommend that individuals seek professional financial advice before taking action.
In this episode of Praemium's Investment Leaders Podcast Series, Damian Cilmi and Samuel Mann of Longreach Alternatives spotlight the investment potential of royalties across sectors like music, pharma, fishing, and resources. Mann leverages his expertise with the Longreach's PG3 Royalties Opportunities Fund to show how these assets can diversify portfolios and stabilise returns. It's a must-listen for financial advisers ready to broaden their investment knowledge.
Praemium Limited is the issuer of the Investment Leaders and Advice Leaders podcasts. These podcasts are for information purposes only and aren't tailored to individual financial situations and do not contain financial advice. Views expressed by presenters may not align with Praemium's and nothing in this podcast should be seen as an endorsement or recommendation of the product or strategy. For more information about Praemium, including our disclosure documents, please visit our website.
We recommend that individuals seek professional financial advice before taking action.
Welcome listeners to the premium investment leaders podcast. I'm Damian Cilmi host, head of investment managers and governance with premium, one of Australia's fastest grow ing platforms. Today we have the great pleasure to be joined by Samuel Mann, ceo and co-founder from Longreach Alternatives. Today we're going to talk about investing in royalties. While some of the investment products are new, investors have been directly or indirectly allocated to this sector for a few years. We'll delve into this sector using examples such as music royalties, water and other commodities.
Damian Cilmi:Investors are always on the lookout for uncorrelated assets and many of these royalties have little correlation to economic or investment market activity, hence the interest in this sector. Sam is over 25 years funds management experience and is considered to be one of Australia's leading experts in alternative investment and product solutions. Prior to Longreach Alternatives, sam was managing director, head of Asia pack for Franklin Templeton and K2 advisors, having founded K2 advisors Australia Business in 07. Sam's experience includes roles with Deutsche and State Street, where he is responsible for product distribution and strategy for alternative investments, private equity, infrarial estate and global hedge funds. Sam, welcome to the show.
Samuel Mann:Thanks, Damian.
Damian Cilmi:So we're going to talk about our royalties today. It might be a little bit of a new thing for listeners, but I think, as you start explaining it all, I think they'll get it and I'll say I understand that. But let's start with some introductory topics and we'll let's go. Well, how do you define a royalty? So, when we get into the investment elements, how do you define royalties?
Samuel Mann:Well, yes, royalties are, as you mentioned just before, things that are actually quite intuitive. So it is actually. It's a payment or an income that is generated from the ownership of the asset, whereby someone else is the operator of something you own and they pay you a percentage of the actual revenue that they create.
Damian Cilmi:Okay, yeah, and, after you've identified this, royalties, because there could be many types of them, but now that's kind of drilled down. What would make an investable royalty?
Samuel Mann:Sure, and look if you think that definition is fairly broad, that I just actually explained and you do want to have a royalty, in particular, if you're actually allowing others to invest in a specific investment that has certain characteristics, clearly the counterparty that you enter into that royalty transaction needs to be someone who is vetted. It's just like owning a building and you actually bring in someone to actually tenant your building. You want to make sure that that person can actually pay that royalty and you've got title as well. I imagine that's exactly right. So you actually want to make sure that your royalty is something that you do own appropriately. This is actually when you go and buy the royalty and there are very different jurisdictions around the world associated with the specific royalties as well. So you want to make sure that that title is not only solid but also transferable at some stage so that you don't actually have to own this in perpetuity.
Samuel Mann:I think also the concept of the predictability of that cash flow is really important within that royalty stream so that you don't actually have too much variability. The idea of a royalty is that you are the actual asset owner remember as well so that you actually want to make sure that your downside or your asset is protected going forward, and that is predicated often on the predictability of the future income you can generate from that specific royalty. So think of it as you know, we think about it in asset management very commonly when we look at private equity or we look at infrastructure or even securities, and we actually look at it through the same lens. So you know title, security, income generation, you know tenant quality, etc. Counterparty risks, etc. Etc.
Damian Cilmi:And as a major tradability as well, would it also come into it?
Samuel Mann:For sure, whilst we'll actually underwrite the underlying investments or our investment partners will underwrite the underlying investments in perpetuity. You know. You know you can opportunities change and yield compression or royalty compression over time. There are opportunities where that royalty you purchased for a dollar might be worth a hell of a lot more down the track and you may want to actually trade that. So the ability to trade that down the track is certainly seen as a positive within the asset class, for sure.
Damian Cilmi:So our listeners might record the stories about Michael Jackson buying the recording rights to the Beatles in 85 or Bowie-ish when he's bond against part of his catalogue. So let's go through about some of the types of royalties. I know you're fun that you're launching now has got at least five types in it, but can you just run through quickly some of the specific royalty allocations?
Samuel Mann:Sure and look, we try not to make it too defined, because royalties are going to appear over time as industries evolve, and I think the music one is a really good example of an evolution of an industry where royalties now are very, very auditable and it's a very investable asset class. It has been an interesting journey in that there was substantial returns to be made from the music royalty industry. In particular, the digitisation of music, I mean that was an absolute burn for the sector, because it is that ability to track when a song is actually being played and you actually need to make sure that the owners of that IP to that song whether it's the performer or the artist or the music company or the writer are actually getting their fair share of that specific income generation. The challenge with music, over time, though, has become so available to many people to actually invest and there is actually an exchange in I think it's in in Denver, colorado, called royalties exchange, and you and I can actually go on that exchange and we can actually buy small portions of individual songs, and it's across the spectrum. It's not necessarily the big ones that David Bowie and Michael Jackson's, it's every piece of music and it's freely available. Now what that does over time is that actually compresses the yield you can generate because there's a lot more capital going after that specific area. So our partners in PG3, who were, as you mentioned, bringing out a co-investment portfolio, who invest in multiple of our strategies as well, they historically have had a large exposure to music and over time, as that opportunity set has become less attractive versus others, they've diminished their exposure to music. So some of the others which are interesting, which are probably a little bit harder to get access to, which are very appealing at the moment healthcare royalties is a particular focus. So think of it similarly to music.
Samuel Mann:You know, when a specific drug is developed, there is intellectual property attached to that drug. It might be through a university, it might be through a group of professors, it might be through a company, but they're not the ones that will necessarily commercialise that specific drug. And so they will enter into a partnership with a big pharmaceutical company like GlaxoSmithKline or the likes and we saw that happen through COVID, obviously through all those vaccinations and there's a bit of a race to that and so that original IP owner will negotiate a certain royalty that they will receive from the sale or the manufacturer and sale of that specific drug. So over time, as you can all imagine, that's a nice return stream that they'll actually generate. But look, if you've been working in a lab literally for a decade or two and you want to actually generate some return and you don't want to be living in the two bedroom apartment and you want to actually go and buy the nice house, and well, you actually have to sell that future revenue stream and there are many people who would be willing to buy that.
Samuel Mann:Now the decision associated with that specific pharmaceutical or that drug is obviously a lot more technical than what we would think from a song, because we can feel and touch and we can sort of have an innate understanding of that, and so what that has now spurned is large capital allocators globally.
Samuel Mann:Some of the very, very most sophisticated private equity organisations have now actually created specific private equity funds and they actually hire specialists to do analysis associated with those drugs, the commercial viability associated with them, and will actually look at them specifically from the owners of the IP and they'll actually purchase them.
Samuel Mann:The pharmaceutical industry, as we know, is an enormous industry globally I mean the US, it is phenomenal.
Samuel Mann:So the check sizes now are very, very large, so they're not ones that you and I can actually write, but these are 50, 100 million, 200 million billion dollar checks that are actually being cut at the moment, just on a single royalty, on a single royalty and a single drug. That's right. And so what the analysis and the future cash flow needs to happen here is fairly detailed and specialist. Okay, but we want to make sure that investors can get access to that, because the yields because it is difficult to understand, because it's difficult to access are a lot higher, say, than music, and so our partners at PG3 have a big focus on the pharmaceutical world at the moment and we can actually go in there and co-invest and participate with some of these very largest investors and smartest investors in the world. The other evolution as these things turn is we all understand, or most people understand, there's a time frame where a drug is kept internal, to say, a GlaxoSmithKline, and that'll be through their patent period, then that's right.
Samuel Mann:And then they become generic and then other manufacturers can start to manufacture that. So there's a real balance sheet transaction that can occur when the Glaxos of this world say you know what? I actually also have a royalty or an income stream associated with that. Maybe I want to actually take some money off the table from that specific drug and go and deploy it to a newer one. And so there's a real cycle for these drugs and there's a royalty associated with that through those sort of periods.
Damian Cilmi:Is there a certain sweet spot where they're probably exiting, let's say, t-minus two years on the patent expiry?
Samuel Mann:That's got a bit of a sweet spot there, yeah, so think of it from the beginning, again from a royalty perspective, and the way we look at royalties, we want them to be fairly conservative and predictable. So you don't want to start buying an IP before it is actually developed. You want to actually look at it when it's actually in market. So it's actually had a couple of years actually in market, so it's in that cycle, so it's through the J-curve, if you will. We're not trying to take development risk at all.
Samuel Mann:So, depending on the market traction, depending on who the actual developer is, a couple of years in is probably a good place to start. You actually see that the cash flow is being generated, you see what this specific drug, like an eyedrop or something, is actually doing and penetrating the market and then you can sort of ride that. So that's probably where you start with the IP aspect and then down that sort of five to seven year period as it starts to move closer to the generatisation of that specific drug, is when you actually want to start working with the big manufacturers. But remember, just because it's gone, generic doesn't necessarily mean there won't be an income stream. It might be lower.
Damian Cilmi:That's why they're like you walk into a pharmacy and they ask you do you want the generic or do you want the NAXYZ? Exactly right, yeah.
Samuel Mann:And it's very similar to a gas well or a gas royalty. In that timeframe you have an initial spike in revenue and then you have that over time that obviously diminishes, as whatever you're extracting and the pharmaceutical it's the number of units that you sell. In a specific gas well, for example, it's the specific gas that's coming out of the ground that you actually own.
Damian Cilmi:So let's go into another royalty market, and an interesting one that I remember reading about. You guys, and one of your first forays into this space was on fishing quotas. Before we get into, hey, you value. What are some of the factors around that? How did you get into this market?
Samuel Mann:Look, it's so two angles. Clearly, I knew very little about fishing quota and fishing in general and actually get quite seasick, so it's definitely not something that I had an maiden understanding of. However, in the context of investments in royalty investments, long-term cash flow investments, I was fortunate enough to be around K2 advisors in the early days of the Australian water market and we had done a lot of research on water and that entitlement market and the way it actually started to create in the Australian industry, and so, again, more luck than circumstance, than skill really in that regard. And it is a great market, it's very investable. There are now many fund managers that are actually out there and they're trading these water entitlements and they buy them, lease them, etc.
Damian Cilmi:And we've seen a few products come to market, specifically just on water.
Samuel Mann:Absolutely, and think of it. So I'll look through water in a royalty sense which is different to others. Some people look at it as an input into the production of agricultural enterprise. I'll look at it as a royalty. You actually own the water or the entitlement. So think of it. You own the water, someone wants to use that water and they will actually pay you an income stream or a royalty for that specific water, right?
Samuel Mann:So when actually, through our insurance broker, who's an old industry participant, I was having a conversation with Andrew Rada, who's our portfolio manager, cio and one of the co-founders of Longreach, maris Fishquater was having a chat to him about saying, oh, this actually might have an asset management enterprise, so he introduced them to us.
Samuel Mann:It's one of these ones. You have many, many conversations with many people with great ideas, but are they actually commercial? And I can tell you, within that hour of me chatting to Andrew Rada, it was clear this was actually a very investable category and the excitement about it was it actually had all the characteristics of an institutional grade market, but no one had actually created an asset management enterprise wrapping around it. So it was a very easy discussion in saying, like he's an investment process that we're going to need to build. These are the experts we need to have involved. What's the pricing? Construct, the liquidity associated with the underlying investments, concept of yield sale and leaseback. So we started having all these similarities with more traditional alternative assets and it worked and it is continuing to work right now.
Damian Cilmi:Okay, and so you get into the specifics of that fisheries quota. How does one value not even yourselves, but on the tradable market, how are they valuing that quota and some of the factors that will move the price around?
Samuel Mann:Yeah, sure. So the quota the simplest way to think about a quota is that you actually own the fish in the sea and that quota is defined specifically by a species. So it's very, very narrow. So it's and it's flathead, it's tuna, it's lobster, abalone, and every commercial fish in Australia is operating under a quota or quite a like instrument, and that's managed either by the state fisheries or the federal fisheries, depending on where that specific species is. So the factors evaluation is going to come down to that specific species and it's specific marketability, if you will.
Samuel Mann:So if you think about any fish, some of them are sold domestically here, some of them are processed, some of them are sold overseas and you know we think of the Japanese tuna markets and thinking that the Chinese and Southern Rock Lobster, you know, flathead, gummy shark is used a lot of fish and chips down here in Victoria. So there are different dynamics associated with the price, associated with that species, and so that's really how these things are actually started, or the valuation is actually started. Is from that that that market ability or the Demand for that specific species, and then you start looking at the input associated with that. So how hard is it to catch? So is it? Is it, you know, expensive? Do you have to go 300 kilometers offshore, or or can you be like mud crabs and others and they're very coastal waters? In terms of how? How expensive is? This is like cost of extraction.
Samuel Mann:Absolutely yeah, it's running a business, yeah and so when you own the quota and you're not an operator, okay, so an operator needs to, in effects, purchase the rights for that and they pay you a lease payment or a royalty, yeah, and so what? The month, that royalty payment is a function of the beach price, their inputs and and really that, and then they have a margin and then the rest of it really is is available for the quota. So the price of the quota comes down to its yield. It's sustainability as well. So this is an important point is that this actually has quite a high impact aspect to it, because really, for us, we want that certainty of income.
Samuel Mann:So we don't want quota that's attached to a fishery where there is potentially some environmental challenges, where the tack, as we call it, the total allowable commercial catch, is quite variable, because obviously the fisheries want to adjust to the environmental Sustainability per species and we want that tack to be as smooth as possible. So we want these to be branded, you know, stamped branded sustainable fisheries, and so therefore you've got more of a certainty of future cash flows, which means you have more certainty associated with your, your royalty or your income, which means the value of that specific asset should actually be higher Now. The tradability of these is quite strong. So you can't fish unless you actually own the quota. So historically there was a really strong market between you know, specific fishing enterprises, fishing processing groups, as they wanted to go out there and fish more, they would often have to go and buy the quota or they would actually lease from each other.
Damian Cilmi:Yeah, and could they Sell or buy partial quotas as well? Yes, yeah they're.
Samuel Mann:Each quota has its little nuances. Yeah, there are specific units and those units represent certain tonnage associated with it. So it was very much of an insider's market. But when you look at it through a funds management lens you know this it's like you have stocks. There's 400 quota out there in Australia. There's your 400 stocks. You've got a lease payment. You have a contract associated with that lease payment. You've got demand and supply for that specific species that you can actually analyze and then ultimately there is is areas where you can actually sell these. So my point Earlier on is that you do want have the ability at some stage to potentially sell them if you need to. Well, we're underwriting these as if we're the long-term holder, but you know you actually do have demand for these specific quotas.
Samuel Mann:One of the fortunate positions that we're in now is one of the unfortunate positions that the fishing industry went through because of COVID and you know, obviously, the disruption that had to their trading, in particular international trading markets. You think about the tuna market. A lot of the high-end East Coast tuna went into Japan and also the West Coast of the US and if Qantas planes aren't flying from Brisbane to Tokyo or onto LA, you literally can't put your, your, your tunas onto those aircraft. And Because the underlying quota is and has clear title that has a specific registry, whether that state or federal, the banks would actually lend to those quota or lend to the fishermen to actually go and buy the quota.
Samuel Mann:So these, these, these fishermen and fishing enterprises found themselves in a situation where they had mortgage repayments associated with the quota. They couldn't. They could either. They could fish the quota, but they could only sell into a domestic market and I can promise you the Japanese pay a lot more money for a high-end tuna than Sydney or Melbourne does and and they started having some cash flow challenges. And so this is where the fortunate timing for us came into it. We started the strategy, so the middle of COVID, and we could come in and actually assist these fishing enterprises to to really, you know, remove that distress they had on their balance sheets. We would actually buy that quota from them, they could pay down the debt and we would then actually lease it back to them in long-term leases.
Damian Cilmi:Yeah, that actually became.
Samuel Mann:You know, we became a really strong partner, a very strong partner and we've actually been very fortunate that the appeal that that our dollars have for that part of the market. We've actually been pleasantly surprised that that people are really valuing our dollars because we're not going to fish it, so we are only an independent capital product.
Damian Cilmi:So you would have also had a same similar scenario with Chinese government Reductions, restrictions on our rock lobster as well.
Samuel Mann:So any species that were shipping internationally had different, had different Challenges with it. Yeah, it, we know. Whatever it was, was it actually shipping, was it? Yeah, you know, those countries closing down Didn't matter. There was a lot of that challenge associated with it. So, you know, clearly we want to be remember underwriting these long term, yeah, and so we're going to look through that situation, and there are only a defined number of these, so there are certain times where you want to actually purchase them and hold them for the long term, and so that's what we've been doing. So we have been acquiring quite a sizable portion of of, you know, tasmanian rock lobster, southern rock lobster, western rock lobster, and very keen on that market.
Damian Cilmi:Let's get back on shore and we'll talk about US gas markets and I think we had a chat about this one before and I remember I had a lot of questions about how it differs to Australia, because the state owns Underneath the, the ground, not quite the the case in the US. But also, like explaining this market, I think it's worth kind of expanding on, I suppose, the transaction as well for the farmer and what the farmer does with it as well, and that's kind of what, what maybe even kicks off this process.
Samuel Mann:Yeah, yeah.
Samuel Mann:So the US I mean the unique in every in a lot of ways, but they're very unique in In their mindset of ownership.
Samuel Mann:Okay, and so I suppose the US and in particular all those sort of Midwest and states were created, you know, late 1800s, early 1900s, even some of them, like Oklahoma, and you know the egalitarian nature of land ownership Really was, was, you know, I suppose, enacted within these states and the country in total, in that when you in effect went and pegged your land, okay, so when they went out there and and they pegged you know we've all seen the stage coaches go out there and they pegged their land that title wasn't just the first two meters, five meters, whatever it might be, depending on the different jurisdiction around the world, it was in effect to the center of the earth. Okay, yeah, so Whatever's in the ground, and at the time they didn't think about oil or gas, etc. Or or any mineral for that matter, it doesn't matter. You actually owned all the way down to the center of the earth and and I don't remember the old Beverly Hillbilly's television- yeah, very much.
Samuel Mann:Yeah, we all we know, I certainly grew up with Classic case and point. You had these farmers who were struggling and then, lo and behold, there was a mineral that was underneath them and in their case it was oil and they owned that oil and they don't necessarily need to extract it themselves. And they then have, you know, mining companies would actually come out there and say I would actually like to extract your oil. So you know, and you then earn to royalty. So the US is very unique and it's created this alignment between the landowner, farmer and the mineral extractor. The other thing is because, in particular in Oklahoma and Texas, the phenomenal amount of mineral on the ground and in particular, oil initially, and then gas, natural gas they have created a formula. So it's very rigid. It's structured in terms of who owns what, how much do you actually get as a percentage of that. The processing of transactions. It's very highly regulated. So it goes back to is it investable or not? And this is most definitely investable. The beauty of that market is that they fractionalized it as well. So you don't need to own, you don't need to go to that farmer and say, look, I actually want to buy all your subsurface minerals. You go to them and you might, and they may. Initially, what might happen is they might say, look, I got to send my kids to college. I'm going to sell 20% of my subsurface rights. I know there is gas or oil let's use gas as a better example here under the ground and so I only want to sell 20%. Not a problem, someone like us comes in, or you know, in the US there's a lot of people different to Australian fisheries. A lot of people actually own these minerals specific listed companies, endowments, foundations, pension funds is a very, very common asset to own. That's just only subsurface land as opposed to top service, and they come in there and they buy that from them. They get a check up front and so when Continental or BP or whoever the extractor of that mineral is that comes down and they extracts a million dollars worth of gas, there's a formula, and so the farmer gets, in this instance, 80% of the 20% that they have actually negotiated and we, or whoever owns it, would get the other the 20% of it, 20% of the 20%, and we do nothing, we don't, it doesn't cost us anything. We are literally just a participant in that royalty stream.
Samuel Mann:The other parts for the farmers, and this is where it's highly aligned to them and it certainly sits in ongoing cash flow, is that those companies the Continentals and Devons and others. They need to get access to the farmer's land, and so now the farmer is incentivized to have access to it because they own the mineral, but they also then charge them for roads, so the infrastructure associated with it. And I was just actually over there in Oklahoma and Texas recently and you actually look at the roads that a major producer will actually put down. I tell you it's a pretty good road and it's highly incentivized to the farmer, but the farmer will actually charge them for the use and the access associated with their property. They'll also look at the water. So water is a key input into a lot of the extraction of gas in particular, and the farmers will actually create water holding dams and containers and it's not necessarily for the livestock and often in case it's not, it's actually for the extractors of gas and they'll sell that water.
Samuel Mann:On the flip side of it this is where the farmers do very well is through the extraction of gas. There is actually quite high fertilizer style output and they actually get given it to actually spread across their fields. So they actually have this sort of like. It's a sludge outcome that makes their paddocks a lot more fertile. So it's very different to here, because the farmers here don't actually own the subsurface rights, and so you have this battle between the farmer and the extractor in the US. It's a synergistic relationship that they have and interestingly, in the US and it was quite stark this time around you're now starting to see the same sort of mindset with renewables and so the amount of wind turbines that you actually see on land where they're also extracting gas at the same time and it's the same basins in the same areas.
Samuel Mann:Because they're very flat, it's very good for wind. You don't have the mountains, that sort of cause the changes to wind structures, and then you have the gas extraction and so these farmers are incredibly wealthy because they're completely aligned with this energy extraction, mineral extraction, etc.
Damian Cilmi:And they haven't had to sell the whole farm and not interrupt their whole production, and all commercial farming enterprise sold off a bit. Generate some cash and use for other CAPEX purposes for the farm.
Samuel Mann:Absolutely, and so you actually have this again. Something we don't have in Australia is that you have this patchwork quilt of small farmers still able to operate the land. We're in Australia.
Samuel Mann:It's very difficult for someone to own 100, 200, 300 acres and actually make a living In the US. You can do that. So you have these small towns in the US are actually still operating. You actually have an infrastructure wrapped around them. We're, unfortunately, in Australia that's not the case. You have a lot of these smaller towns shrinking. You have large agricultural enterprises come through because you actually have to, because you literally can't make enough money to survive on 300 acres.
Damian Cilmi:Can we just touch on quickly on, I suppose, the legal structure in Australia and how that differs subterranean to the US? Yes, so the US.
Samuel Mann:It's absolutely concurrent to land title. It's the same. So I've been in county courthouses in Oklahoma, for example, and you go in there and there are the old land books. A lot of it's still analog. It's phenomenal how analog that industry still is. And literally it goes back to the original title and there's a handwritten note and it goes back to the original owners of that specific land. Plot, clear title. You know, locked up, bang, you're done. Okay In Australia. No, I mean you don't. I mean you own houses et cetera. You know you don't own the mineral in the ground. The state particularly does. Now I'm not saying which is fairer or not okay, but you know, think of Western Australia or Queensland et cetera going through it at the moment. You know those states very fortunate in that they are actually earning, you know, a royalty stream associated with the extraction of whatever that mineral might be. You know iron ore in Western Australia.
Damian Cilmi:And specifically the state government. The state government, yeah, that's right, absolutely.
Samuel Mann:And because it's owned by the state, okay, it's owned by all of us together. So you know, in effect, that's a fair way of actually extracting that and you know there's a level of negotiation, I suppose, and permitting the locations et cetera. So, but you have a state a lot more deeply involved in the extraction of that specific commodity. You know the farmer will try and negotiate with the state or the regulatory bodies to try and stop whatever's occurring or mitigated, or look to generate some return for themselves. So it's a little concier, so the alignment of interest isn't aligned, but ultimately have the state that actually generates that income and it's just the way it is.
Damian Cilmi:Okay, yeah that is Different model. So I think we've gone through a pretty good background on types of different royalties, valuation factors et cetera. Now, like from a portfolio construction point of view, now you've got these different types, so how are you constructing the portfolio vis-a-vis allocations to the various royalties?
Samuel Mann:Yeah, so two ways, Specifically within the long-range alternatives world, you know I'll look at these very narrowly within that field. So minerals, obviously gas minerals is something we do the water rights, et cetera, and you have your nuances of portfolio construction there. From an overall allocation, our partners at PG3 have a very strong relative value mindset. So you don't want to be too restrictive in the percentages that you have to allocate to each of these because they will change over time and the nuances or opportunities that will change. But you clearly need to have diversification, right? You know we're fund managers. We want to have an efficient portfolio.
Samuel Mann:Diversification is your friend in this instance. You know you've got currency challenges. You know you might be buying a royalty in the US and it's on US dollars. You might be buying a pharmaceutical royalty in Europe and it's in euros. Australia with water and quota, et cetera. So you want to have some diversification. Your specific markets are going to be diversified as well. Is it mostly US market, european, australian, et cetera? So you want to try and diversify associated with that. But primarily you're going to look at the long-term nature or the certainty associated with that specific income generation to the royalty and you want to overweight ones where that opportunity set is great so, but have quite large allocation bans. So, for example, at the moment, you know, healthcare royalties can be up to 50%. That's quite a big ban. Right, music royalties might have been closer to 50. They're now down at 10. So you want to be able to throttle these up and down.
Samuel Mann:You know there are markets that the portfolio has started getting exposure to, like carbon credits, and that's clearly going to be something that's going to be big in the future. You know, we've all heard of carbon, but it's very difficult to get access to it. A lot of questions around the value, the tradability, auditability associated with it. But I can guarantee you that market is going to be a large market. So you know that percentage might be 5% Now. That could be 50% some stage in the future. Its return drivers are going to be very different, overriding all of this, and this is a true alternative strategy. Okay, so we want to make sure that this is not going to be correlated to, you know, equity markets, you know major bond markets, et cetera. Really, we're looking for an uncorrelated portfolio to what other investors are investing in now. Okay, so we're not naive enough to think. You know, this is just what they're going to invest in. This is part of an overall portfolio and so when you actually make that allocation decisions, you're factoring into that correlation associated with major markets and if we can minimize that as much as possible, that's fantastic.
Samuel Mann:The challenge in a lot of royalties is they are based on an overall operational aspect, so that there is some economic correlation at some stage. Now it might be. There's a positive correlation to inflation and we've certainly seen that. So if you think about a wild caught fish quota, if you've actually got prices of, or beach prices of, fish going up, that can translate into a high yield that you can actually generate and those assets would actually be higher. You think about energy, in particular, oil and gas, you know that's a leading indicator of inflation and that's certainly something that we actually saw. So you actually had this inflationary protection in the early days but in the same breath as it kills over, you know, is that going to actually have an impact associated with it? So there's a timing aspect associated with these and a mitigation of that specific correlation to major markets as well.
Damian Cilmi:Yeah, I wanted to drill into that correlation part and do you ever feel of what the current portfolio's correlation is, say, to MSCI World or Bloomberg or Glow and May.
Samuel Mann:Yeah, yeah, so there's a look at having me around around alternatives for a couple of decades. Right, there's a cynic comment I can make around correlation because these are slow-moving assets. What I mean by that is there isn't a market trading in these on a daily basis, which means there isn't a market to market where lots of data can actually be looked at, and it's often unfair to compare an asset that prices quarterly or every six months against an asset that can actually price on a daily basis. And you think you know real estate, buildings and REITs, infrastructure assets and infrastructure securities portfolio. Now, unfortunately for us, our industry operates on data and we all know how to calculate a correlation matrix, et cetera, et cetera, and so, naturally, just looking at the price data you have on a particular asset, it's going to show you a very low correlation to those underlying assets. However, when you actually look at them and this in particular through my experience in analyzing hedge funds when you actually peel back the layers and you get underneath that specific price or that return that's being generated, you know there are innate correlations associated with it. It's just those correlations are a little slower to come to market.
Samuel Mann:There is a very strong argument of having a similar overall exposure. So I think private equity and public equity, infrastructure securities and infrastructure real estate and REITs in a portfolio just because of the pricing function. But in these assets you really don't want to have that hard going on. You want these assets to be properly uncorrelated to those. So you have to do clearly you can do the correlation matrix. They're clearly going to show very low correlation. Okay, that just hands down. So you can certainly get feel for that. But you do need to do a lot of qualitative assessment as to what are the specific price instruments, what are the incentives for the operator to actually engage in your specific asset, to generate that royalty and making sure that there isn't too much of a correlation in regards to that activity or not. So it's a lot more qualitative blended with those.
Damian Cilmi:You think like maybe healthcare is just like population unhealthiness, if it will, of certain things like that they could be bigger determinants in the sense you think about the US market as well.
Samuel Mann:I mean, there's certain dynamics going on over there. They don't have the pharmaceutical benefit scheme we're very fortunate in Australia there the level of insurance that underlying people will have the cost of that specific medication who can actually use it. Is there a correlation between economic activity and the purchasing of that specific drug that you own? Now, the data today has said that there isn't. So it's interesting that I suppose you look after your health more than your stomach or something else associated with that, but you don't need to be mindful of it. You need to ask the question to then come up with the assumption that, because you start with an assumption that there isn't a correlation, you need to test that correlation and then you're actually okay to invest. Yeah, fair enough.
Damian Cilmi:So you said at the top of the program you get to because you were telling the story about the fisheries and you got very excited very quickly. And you said because you do see a lot of things that come across your desk. So just probably a final question here about what things are you looking at at the moment and what's getting you excited about a market that maybe hasn't been commercialised or tradeable and something new in the royalty space.
Samuel Mann:Yeah. So I've got to be a little bit careful here. I won't, because the reason I've got to be a little bit careful is that I do have a passion for this and you do get very excited, but there is a long lead time between is this actually investable? And so you actually have these opportunities presented to you, and I'm very fortunate now in that we do see a lot of opportunities. The challenge that I often have is that they are wonderful opportunities, but the size and the commercial ability associated with those are relatively small. And this is part of the partnership with PG3 is that, having a group that actually allocate to these assets in smaller ways, we can actually collaborate on some of these exposures that we can look at.
Samuel Mann:The opportunity set that we're seeing at the moment, in particular because of the rising interest rates and the fragility of economic activity globally and particularly uncertainty, is corporates are actually looking at their assets and their balance sheets and are they holding assets appropriately and the commodity complex in particular at the moment. So I did mention carbon. I think that's very important. I think that the green metals world is going to be a really interesting one in terms of where does that actually sit? There's a lot of political uncertainty associated with it, so I think we have to be very conscious of that.
Damian Cilmi:So was it Chile or Peru? They nationalised lithium mines recently.
Samuel Mann:That is going to happen all around the world. I think you've got the US and Australia trying to work together. You obviously got the Chinese, which were head of the game there. I mean they were very smart and the way they actually looked at a lot of the African rare earths. But think about green metals. There's a lot of technological change associated with energy transition. I have a really strong focus on participating in that energy transition. So our Nat gas one was the first really, if you think about it.
Samuel Mann:But I look at a lot of energy transition opportunity sets and I think that's it's a phenomenal tailwind for capital owners to be able to invest in those strategies and even if it can be owning a mineral, it can be a major commodity company who actually wants to transfer ownership of a mineral from port to port. So think of trade finance at a mindset. Financing is expensive. Now Capital, whether it's debt or equity, is very hard to get access to and that's the opportunity sets that we like. So can we actually look to partner with these operators in whatever industry they're actually in, and provide that capital, get a long term revenue stream associated with it and they can then actually create more profitability within their balance sheets.
Samuel Mann:People were able to be a little lazy in regards to capital. Previously, when you had very, very low interest rates, equity markets were very frothy. Balance sheets get lazy. That's why they do, and so there are opportunities for capital to be allocated. So I think commodity complex, I think energy transition is definitely one. There will be another wild caught fish quota opportunity set that'll actually appear. I haven't got one like that as interesting, as exciting right now. I think there's a lot of low hanging fruit that's going to sort of come to fruition now because of the balance sheet restructuring that we're actually seeing globally. And if you have capital, you can charge a premium for it and you can actually ask for very long dated cash flows. So highly appealing time to be allocating capital to the space.
Damian Cilmi:Yeah, that was a fantastic whip around on royalties. Probably a bit new for some people, but I think, as a way that you explained it, they've probably been around and people do know about them, but it's great to see them come into market as well. So it's very pleasing, not only for the opportunity to discuss, but also investors well, for many investors. So, sam, thank you very much for coming to the office. Thanks, damian.
Samuel Mann:Really appreciate the opportunity.