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What if the shockingly low valuations of some junior mining companies
are really all they're worth? As the market shakes off years of exuberance,
Brent Cook, co-editor of the Exploration Insights newsletter,
searches for the truly undervalued—finds as rare as gold itself. In
this interview with The Gold
Report, Cook talks about high-margin deposits that the rest
of the market can't see.
The Gold
Report: Brent,
2012 was difficult for many gold investors, and you paint a pretty bleak
picture for certain junior mining companies in 2013 as well.
Brent
Cook: We've actually had two pretty tough
years on the TSX Venture Exchange. It is off about 30% from its peak in 2012
and around 20% for the year. That comes on top of a 35% decline in 2011. I do
think much of the froth is washed out and we will see some opportunities in
2013.
"Since
about 1995, the number of gold ounces discovered has been trending straight
down."
During the
most recent boom years, 2009 and 2010, roughly $11 billion ($11B) was raised
on the Venture Exchange. Most of that has been spent without much success.
Going by John
Kaiser's database of about
1,800 Venture Exchange listed companies, there are around 600 that now have
less than $200,000 in the bank and a full 62% of the 1,800 companies have a
median working capital of only $1.1 million ($1.1M) or less. These companies
are trading at less than $0.20/share, which means that unless things improve
dramatically in the next year, many of these companies are going out of
business or will push excessive dilution on current shareholders just to stay
alive. The Venture Exchange will truly be the land of the walking dead.
This
coming year will be a cleaning-out process that in the long run is good for
the sector.
TGR: The Exploration Insights portfolio
was not immune to what happened in 2012. It was up 4% from early January 2012
to late November. Are you convinced all of the companies in your portfolio
should remain there?
BC: We've got
to go through a cleaning-out process as well. We've had some real disasters,
where the investment thesis didn't pan out. We've also had a couple of big
winners. The majority of the stocks that we own are undervalued, but they
have held up well compared to the indexes. I just finished reviewing our 2012
performance and we have so far done surprisingly well on stocks we bought and
sold in 2012, with an average gain of about 49%. Unfortunately, the stocks we
have held for over a year didn't do as well, taking our year over year
average gain down to about 13%. I'll have the final numbers out in our Jan. 6
issue.
TGR: What are
you telling your readers to give them hope?
BC: The truth.
Hope is the worst reason to own a stock. We're not going to see $3,000/ounce
(oz) gold, and we are not going to see junior stocks go to the moon this next
year. If an investment thesis doesn't pan out, we sell and take the loss. If,
however, the thesis continues to work, we hold onto the stock or buy more.
This is very speculative money in a very high-risk sector. Unless the risk
trade comes back into favor this next year, and I don't think it will, it's
going to be another tough one for the explorers and junior miners.
That's all
negative, right? But this is the smart time to pick up selective companies
that have something of value. This is when investors can make money by buying
intelligently and patiently. We may not be at the bottom, but it certainly
isn't the top.
TGR: What sort
of trading range do you see for gold in 2013?
BC: What's
more important to me than gold's trading range, at least with regard to the
junior explorers, is that the industry is not able to supply new deposits and
discoveries to replace what is being mined. This is a serious issue that in
the long run bodes well for this sector. Since about 1995, the number of
ounces discovered has been trending straight down. According to the Metals
Economic Group, in 2011 approximately 10 million ounces (Moz) were
discovered, but 83 Moz were mined. That gap in production versus discovery is
the opportunity, regardless of the gold price, which I think is flat to
marginally higher in 2013.
TGR: A lack of
discoveries is hurting the industry?
BC: It's
getting tougher and more costly to find gold. That is the real issue. A
company that raises $5M gets half as far as it did eight years ago.
"This
coming year is going to be a fantastic time to buy undervalued, high-margin
deposits that the rest of the market doesn't recognize."
During the
past six years, the major gold-mining companies have spent the equivalent of
40% of market capitalization developing new deposits. It is projected that
they would spend another 60% of their capitalization developing the new mines
they have on the books just to keep production even. Moving reserves to
production comes at a big cost. I've posted an article on my
website that goes into a lot more detail regarding the dismal state of both
the gold miners and explorers that should help readers understand the depth
of the problem and opportunity.
TGR: Let's get
into your process. One phrase you use a lot is: "How much is it going to
take to turn this rock into money?" What calculations do you use to help
determine that?
BC: There
aren't any easy numbers I can throw out there. Every deposit presents
different challenges and companies spend tens to hundreds of millions of
dollars figuring out how much it is going to cost to turn the rock into
money.
Actually,
one rule of thumb is the cutoff grade used in estimating the tonnes and grade
of a deposit. In theory, that cutoff grade should be what a company or resource estimator projects is the break-even point
between making money and losing money. If the cutoff grade is, say, 0.5 grams
per tonne (g/t), then I like to see an average grade that is at least twice
that, say, over 1 g/t, because above that is where you really make the money,
if the cutoff assumption is close.
Then
you've got to look at metallurgy. This is probably the most important aspect
of any deposit once it has been found. For instance, an oxide deposit sitting
on the surface in Nevada with a cutoff grade 0.2 g/t can still make money,
whereas another deposit in Nevada at 5 g/t cutoff won't.
It is
highly variable. All that the retail investor can do is guestimate if the
grade and tonnes are sufficient to cover the probable capital and mining
costs.
TGR: It's
pretty easy for the average retail investor to get lost in a feasibility
study. They are quite technical. I'm certainly guilty of this: It's easy to
look at the internal rate of return (IRR) and judge a deposit based on that.
Is there a way to determine whether the IRR number is realistic?
BC: IRR is a
good metric to look at, especially if it is after taxes.
TGR: Is there a
minimum threshold?
BC: I think
20% after tax, although it depends on where the project is located and on the
exploration upside. That upside is the intangible that often decides if a
deposit gets bought or not.
TGR: What are
some practical ways a retail investor can do due diligence?
BC: Talk to
management. Get comfortable with the team. There are a lot of good people in
this industry and they are not hard to recognize once you start talking to
them.
"The
long-term prospects for the exploration sector look real good to me, but you
better know what you are buying and why."
Go to the
company's website. How accessible it is? How much information does it give in
news releases? Does it back up the data? Almaden
Minerals Ltd. (AMM:TSX; AAU:NYSE) and Mirasol Resources Ltd. (MRZ:TSX.V) include details, details, details. Be wary of a company that puts
out a news release with no maps, no sections and no data. Watch for news
releases that report high grades smeared over long intervals, and always
search for historical data from the property being promoted. Most properties
have a history that gives you some insight into possible tonnes and grade.
TGR: Almaden
recently announced assays from four drill holes testing the eastern limits of
the main zone at its Ixtaca gold-silver discovery in Mexico. The company has
discovered gold-silver mineralization hosted in volcanic rocks versus
limestone, and shale host rock in the rest of the deposit. What do you make
of that?
BC: I went
down to Almaden's Ixtaca project two and a half years ago and bought the
company then. This is a very big hydrothermal system and, potentially,
precious metal deposit. The drilling to date has almost exclusively found
gold and silver mineralization in sediments. My take is it's just touching
the edges of the mineral system and the most recent drill holes are pretty
encouraging. We'll see if Almaden can extend it 50 meters to the southwest or
not.
TGR: You don't
believe that the company has found the heart of the deposit, but is Almaden
any closer to the promised land?
BC: The next
drill hole will be either great or a bust, but is not the deciding factor for
this deposit. The important aspect to me is that this is a big system, and
big systems make big deposits.
TGR: Some
pundits have suggested that the success Almaden is having at Ixtaca has
caused it to largely forgo the prospect generator model and focus on this
deposit. Do you agree?
BC: The
company still has a number of projects ventured out, but you're right, it is
drilling Ixtaca and will be drilling El Cobre. With the prospect generator
model, a company generates ideas and vends them out when they get to be too
high risk and costly. Therefore, the company doesn't dilute the shareholders
to drill every low probability target it turns up. Most prospect generator
companies are run by geologists who are good enough to recognize something
above average when they stumble across it at which time they have the money
and tight share structure that benefits long-time shareholders. It takes a
long time to work through projects and find something worthwhile and this
model addresses that problem.
A number
of companies have morphed out of that business model to the benefit of
shareholders, including Almaden, Mirasol and Kaminak Gold
Corp. (KAM:TSX.V).
TGR: Have any
other companies recently published important results?
BC: Belo Sun Mining Corp. (BSX:TSX.V) just came
out with 4.1 Moz Measured and Indicated and 2.8 Moz Inferred, or nearly 7 Moz
at 1.7 g/t at its Volta Grande project in Brazil. That's a really strong
resource number. These are broad coherent zones of mineralization. It'll be
easy to mine. Yet, the stock's gone nowhere on the news. We can buy this
company at the same price we could before the announcement, but it's got 2M
more quality ounces.
TGR: Is it a
lack of faith or did the news get lost in a mass of information?
BC: The sector
has been so hammered that a lot of trading is now among a small circle of
friends and enemies who are basically picking each other's pockets. That
doesn't bode well for this next year. I don't know what it will take to bring
new money in. We've got nearly $1,700/oz gold, but nobody cares. Without new
money entering the sector we will struggle.
TGR: Would a
company like Belo Sun, given its board and the merchant bank that is behind
it, have any trouble raising cash?
BC: It's got
plenty of cash. And its deposit will likely get bought down the road by a
larger mining company.
TGR: It also
has an exceptional board that has turned over a number of companies. Can you
mention another company?
BC: Lydian International Ltd. (LYD:TSX) has a 3 Moz deposit in
Armenia. It's an oxidized deposit that will have low processing and
production costs. Capital expenditures are relatively low. A recent
feasibility study shows a net present value at 5% with gold at $1,500/oz of
just over $1B. That's a $1B valuation at $1,500/oz for a market cap of $250M.
TGR: Is it
falsely being priced as if Armenia were a risky country?
BC: Perhaps.
Based on my visit to Armenia, I don't consider it a risky country. Maybe it's
such a new location that many investors are leery.
TGR: Lydian
recently announced that it was going to modify its crusher design and try to
reduce the footprint of its Amulsar deposit. Is that a good plan?
BC: It is. It
will increase production, make it a simpler operation and make Amulsar more
valuable.
TGR: Does
Lydian have the money to build it?
BC: It has the
money to move forward this year and will begin site development. It is my
understanding that the International Finance Corp. (IFC) and European
Development Bank want to put money into it.
TGR: What are
some other companies that you find interesting right now?
BC: MAG Silver Corp.'s (MAG:TSX; MVG:NYSE)
Juanicipio project in Zacatecas, Mexico, is probably the best or second-best
undeveloped silver deposit in the world. MAG discovered the deposit with Fresnillo Plc (FRES:LSE). Fresnillo is going to put it
into production. Because the deposit is part of its namesake silver district,
and there are without a doubt more veins to be discovered, it would make
sense for Fresnillo to buy MAG Silver's 44% stake, eventually.
TGR: MAG also
has silver at the Cinco de Mayo project. Will Fresnillo buy its interest in
Juanicipio or do an outright takeover?
BC: I don't
know. Fresnillo is a rather secretive Mexican company and it is hard to know
what it actually thinks. Cinco de Mayo is a polymetallic deposit. It's got
silver, lead, zinc and copper. I'm not sure if that interests Fresnillo. My
bet is that Fresnillo will take Juanicipio and MAG Silver will spin out Cinco
and the rest of its projects into a separate company. I just don't know when.
TGR: Rye Patch Gold Corp. (RPM:TSX.V; RPMGF:OTCQX) is in a
legal battle with Coeur d'Alene Mines Corp.
(CDM:TSX; CDE:NYSE) in Nevada. Is there any update
on that dispute?
BC: Rye Patch
is making a bet that the mining law of 1872 holds up. I think it will, but
it's going to be a long legal battle. Coeur d'Alene has a plan of operation
with the Bureau of Land Management that it believes gives it priority over
claims that it failed to keep current. However, if a company does not keep
its claims up to date in the U.S., those claims are open to staking. It is
clear to me what the end results should be but we are dealing with a David
and Goliath scenario.
TGR: Global Minerals Ltd. (CTG:TSX.V; DPF:FSE) hasn't
done so well since you put it in the portfolio in March 2011, yet you still
own it. Why?
BC: Global
Minerals has a good, easy-to-mine silver deposit in a Slovakian mining town.
The infrastructure is more or less there. The underground silver and copper
mineralization is there. I can show on paper that this project is
considerably undervalued for its silver resource, and that doesn't even
account for the exploration potential on trend. It is, however, a development
story and these take time.
TGR: Kaminak
Gold Corp. published the first resource estimate on its Coffee gold project
in the Yukon. It's 64 million tonnes at 1.56 g/t, which equates to roughly
3.2 Moz at a 0.5 g/t cutoff for the oxide and transitional material and 1 g/t
cutoff for the sulfide material. What are your thoughts?
BC: I was
impressed. Kaminak came out with more ounces than I expected. The grade is
pretty good. The oxide material is positive from a processing perspective. I
was more surprised at how the market reacted, which was basically flat.
Kaminak is the market darling in Canada. Good guys, new all Canadian
discovery; everybody loves it. But it publishes a 3 Moz resource and the
stock goes nowhere.
TGR: If it were 2007 and Kaminak had the same deposit and the same
resource, what do you think it would be valued at?
BC: It would
be at least double what it is now. Back in 2007, everybody was happy and
smart. We were all making money. The hedge funds were pumping money into the
exploration sector. Now it's just about the opposite.
TGR: Maybe we
never return to those days, but when will the market properly value these
types of deposits again?
BC: It may be
properly valuing many of them now.
TGR: Oh my.
BC: There are
a few deposits—Belo Sun, Lydian and a few others—that are
definitely undervalued. But when it comes to the resource and exploration
stages, the odds of making an economic gold discovery are about 1 in 1,000.
How do you properly value that?
Andina Minerals Inc. (ADM:TSX.V) was
bought by Hochschild Mining Plc (HOC:LSE). It had about 7M low-grade, tough
ounces up in the high Andes in Chile. It got about $10/oz and it may have
overpaid. That's what it agreed to be paid, so we have to assume that that is
a proper valuation for those ounces.
TGR: Does a mine
need to come into production and be successful before valuations go up in
areas like Colombia, where there's a lot of exploration but not much coming
up yet?
BC: I was
looking at the share prices of a number of companies that jumped into
Colombia and put out initial results that many considered good. They excited
investors with spectacular surface samples, and even some drill results. The
results took many of the companies straight up and subsequently straight back
down. Reality has set in. A lot of those discoveries turned out to be small
plugs or narrow, high-grade veins that don't offer much size potential. For
the most part, it was pretty obvious what was being promoted but people
wanted to believe. Now they don’t seem to believe anything.
We only
own one Colombian company: Galway Resources Ltd. (GWY:TSX.V), which
was acquired and will be spinning out two new companies.
TGR: Is there a
company that could have a good 2013?
BC: Mirasol.
I've spent a lot of time with this group of geologists. They find deposits.
They're good at it. They've made several discoveries in Argentina. Mirasol
just sold 49% of one discovery to Coeur for $60M in cash and stock. It has
another discovery it will be putting out a resource report on, and another it
might release some good drill holes on. It has moved into Chile. You're
paying $30M enterprise value for all of that and I'm willing to bet that the
company makes another discovery in the next year or two.
TGR: Is there a
parting thought you'd like to leave us with? A crumb or two of hope?
BC: This
coming year is going to be a fantastic time to buy undervalued, high-margin
deposits that the rest of the market doesn't recognize. The long-term
prospects for the exploration sector look real good to me, but you better
know what you are buying and why. I am afraid most of the fools have been
washed out of the market.
TGR: Thanks for
that, Brent.
BC: My
pleasure.
Brent Cook brings more than 30 years of experience to his role as a
geologist, consultant and investment adviser. His knowledge spans all areas
of the mining business, from the conceptual stage through detailed technical
and financial modeling related to mine development and production. Brent's
weekly Exploration Insights newsletter
focuses on early-discovery, high-reward opportunities, primarily among junior
mining and exploration companies. Cook will be speaking at the Cambridge
House Vancouver Resource Investment Conference Jan.
20-21.
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DISCLOSURE:
1) Brian Sylvester of The Gold Report conducted this interview. He
personally and/or his family own shares of the following companies mentioned
in this interview: None.
2) The following companies mentioned in the interview are sponsors of The
Gold Report: Rye Patch Gold Corp., MAG Silver Corp., Lydian International
Ltd., Almaden Minerals Ltd. and Global Minerals Ltd. Streetwise Reports does not accept stock in exchange for services. Interviews
are edited for clarity.
3) Brent Cook: I personally and/or my family own shares of the following
companies mentioned in this interview: Global Minerals Ltd., MAG Silver
Corp., Rye Patch Gold Corp. I personally and/or my
family am paid by the following companies mentioned
in this interview: None. I was not paid by Streetwise Reports for
participating in this interview.
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