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Flow Through Shares - What Are Flow Through Shares Really Worth

Flow Through Shares - What Are Flow Through Shares Really Worth

When Canadian listed resource companies from the mining & oil and gas industry turn to the markets in order to raise capital, investors should always be cautious when they do this by offering Flow Through Shares (FTS).

Resource companies typically have enormous upfront exploration costs and little or no revenue. Therefore they don't need the tax deductions they would normally incur as income-generating companies.

In order to finance the exploration, they will issue shares and allow the tax deductions to "flow through" to investors as long as these resource companies qualify for the Canadian Exploration Expense (CEE). For more information about the CEE, I refer you to the report: "Guidelines for Determining the Tax Treatment of Certain Exploration Expenses" which can be found by clicking on the link provided.

The CEE includes certain expenses incurred to determine the existence, location, extent or quality of a mineral resource or of an accumulation of petroleum or natural gas in Canada. In addition, certain expenses incurred to bring these projects into production may also qualify as CEE. The definition of CEE also includes Canadian Renewable and Conservation Expenses (CRCE). Thus, the money raised by flow-trough shares may not be used for day-to-day activities like the payment of salaries!

For more information about FTS and the CEE you can visit the websites of the Prospectors and Developers Association of Canada (PDAC), Natural Resource Canada (NRC) and the Canada Revenue Agency (CRA).

As the tax deduction derived from spending the exploration costs 'flow through' to investors participating in a FTS-offering, these investors have a lower Break-Even-Sell-Price than the price which had been paid at the time the FTS were issued. The Break-Even-Sell-Price differs from one investor to another, depending on their specific tax bracket.

On the website of QIS Capital you will find a great article: Flow-Through Shares Offerings Explained. This article describes in detail what the consequences are for Canadian investors, who want to participate in FTS-offerings. Of course you should only participate in a flow-through share offering if you are willing to invest in the company anyway!

To inform you about the real worth of the shares to the investor who participates in a FTS Offering, I have included the following table from the article mentioned above:

What Are Flow-Through Shares Really Worth?

Tax Bracket 

Break-Even-Point to FTS Price 

Example FTS Price 

Break-Even Sell Price 

50%

66%

C$ 0.50

C$ 0.33

40%

75%

C$ 0.50

C$ 0.38

30%

81%

C$ 0.50

C$ 0.41

20%

89%

C$ 0.50

C$ 0.45

You should always assume that investors participating in FTS offerings are in the highest tax bracket of 50%. Therefore always make a quick calculation (FTS Price x 0.66) and pay attention to the holding period as FTS often are issued under the obligation of a certain holding period. Don't be surprised to see the stock price decline to the Break-Even-Sell-Price-level shortly after the holding period has expired. When you take a closer look at the picture at the top of this article, the Break-Even-Sell-Price can even be lower, as it differs from province to province.

If you would like to know which resource I use to inform myself about the proposed, closed and amended financings in the Canadian stock market I refer you to the note at the bottom of this page.

 

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Note: To inform yourself about the proposed, closed and amended financings you can subscribe to receive a free daily email update and a weekly review from the Canadian Financing Bulletin (CFB) by clicking on the link provided. I monitor the daily reports closely as they can provide me with possible candidates to add to my stock portfolio.

 

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Image Source: http://www.nrcan.gc.ca/minerals-metals/business-market/3995

About Jeroen Snoeks

Jeroen Snoeks - UndervaluedEquity.com

Jeroen Snoeks is the founder of UndervaluedEquity.com, a website for investors passionate about investing in undervalued stocks. Through UndervaluedEquity.com, he shares his experience and knowledge and will soon reveal his personal stock portfolio.


 
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