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Energy and Resources Dominion Diamond stock surges after hedge fund pushes for overhaul

Before the big jump, Dominion Diamond’s share price had tumbled by around half this year, but it was still outperforming its nearest counterpart.

Shares of Dominion Diamond Corp. jumped on Tuesday following news that a Toronto-based hedge fund is pressing for sweeping changes at the Arctic miner.

K2 & Associates Investment Management Inc. released a letter on Monday in which it said it represented a group of investors that had collectively amassed a 5.4-per-cent stake in Dominion, the world's third-largest producer of rough diamonds by value.

Josef Vejvoda, a portfolio manager at K2, wrote in the letter that Dominion's share price has "suffered excessively and unnecessarily as a result of misguided policies and missed opportunities." He pushed for a meeting with independent directors of the Toronto-based miner to discuss how to halt "the continued erosion of shareholder value."

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Dominion fired back on Tuesday with a news release in which it said it "looks forward to an open dialogue" with the investors. It declined a request for additional comment.

Bloomberg reported that Dominion has hired Rothschild & Co. to advise on a potential sale of the company, which has a market capitalization of roughly $1.2-billion following a surge of as much as 24 per cent in its share price on Tuesday.

Before the big jump, Dominion's share price had tumbled by around half this year. But it was still outperforming its nearest counterpart, Petra Diamonds Ltd., which has seen its share price sink 55 per cent since the start of January.

The gem industry in general is in rough shape. Polished diamond prices fell 15 per cent in the first 11 months of the year despite optimistic predictions of strong demand.

Chinese buyers, in particular, have been missing in action. As a result, diamond inventories have been building and major producers are reducing output. Anglo American PLC, which controls gem giant De Beers SA, says it will cut diamond production by 10 per cent this year and trim a similar amount next year.

K2's letter lists a string of grievances, including Dominion's corporate governance, business performance, project priorities and compensation practices.

"We've had a lot of inbound calls from other shareholders who have expressed their happiness with what we're doing," Mr. Vejvoda said in a phone interview.

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He said that Dominion's independent directors have agreed to meet the first week of January, although an exact date has not been said. He declined to reveal specifics of K2's requests until after that meeting.

Dominion owns nearly 90 per cent of the Ekati diamond mine as well as 40 per cent of the Diavik diamond mine, both in the Northwest Territories. Analysts regard the company favourably, with nine out of 10 calling its stock a "buy."

Dominion enjoys considerable financial flexibility, according to Edward Sterck, a London-based analyst with Bank of Montreal's investment arm. The miner has amassed net cash of $284-million (U.S.), equal to about 40 per cent of its market capitalization, he wrote in a research note.

He said that while Dominion's near-term mine plan has been subject to frequent changes, its longer-term outlook has remained consistently positive.

Mr. Sterck projects an attractive bump in free cash flow over the years to come as new production comes into play, but added that "the problem is that the increased cash flows do not really begin in earnest until mid-2016, so why should investors hold the stock now?"

Management might want to consider share buybacks to support the stock at or below its current levels, he said.

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"Ultimately, we continue to see Dominion as being a well-run company, but there may be an opportunity to be more pro-active in supporting the share price," Mr. Sterck wrote. "It seems likely that the group behind this letter may seek to attract additional shareholders to their cause and perhaps to put an appointee of its own on Dominion's board."

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