The Gold Report: You've said that natural resource investors
need to be open to opportunities wherever they occur. How do you separate the
hype from fact to determine a real bargain?
Matt Badiali: My secret is research. I'm a scientist. I love
digging in the dirt and looking in places where other people don't want to
look for opportunities. I also have a secret weapon in that I work with a guy
who is a forensic accountant. He can read a balance sheet and annual and
quarterly reports and spot the trouble spots. He warns me of any potential
land mines.
TGR: What are the red flags you find most often?
MB: Debt is a big one. You have to be wary of natural resources
companies piling on debt. Miners have no say in what they will be paid for
the material they are selling. If you mine gold, you are paid whatever the
gold price is that day. You are a price taker as opposed to Apple, which sets
the price of the iPhone at $700 and that is what it thinks the market will
pay. Debt is a fixed cost that has to be paid regardless of the price of gold
or silver. Investors have to figure out whether a company can sustain itself
based on the cash coming in and the money going out.
TGR: You also have the luxury of being able to visit these projects
and talk to the CEOs, to the geologists. Conferences like the Sprott/Stansberry
Vancouver Natural Resources Symposium, where you will be speaking, allow
investors to talk to company representatives. We recently interviewed Rick Rule and Porter Stansberry. Rick talked about some
of the questions that he asks when he's face to face with companies. What are
the questions you think investors should be asking when they get the chance
to meet with a junior mining company representative?
MB: The number one question is "What is your burn rate?"
I need to know how much money a company is going to spend this year. The
second question is "How much money do you have in the bank?"
Companies are notorious for having $ 2 million ($2M) in the bank and a $6M
burn rate. Often the plan is to make up the difference by selling a bunch
more shares. That is when I turn on my heel and walk away. I would rather buy
after the company has diluted the current investors.
We wrote a report called "A Guide to Avoiding the Most Popular Mining
Scam in the World." It dissects the smoke and mirrors in preliminary
economic assessments (PEAs), the reports required by the Canadian Securities
Administrator after the Bre-X scandal. The goal was to force mining companies
to disclose their economics, assay results, everything. Actually, all they
really did was facilitate more frauds because companies find a way to say
whatever they want in PEAs.
Often a PEA states that when a mine is built, it will be worth a bazillion
dollars. But the truth is buried in the details. Many will assume
$1,500/ounce ($1,500/oz) gold prices when reality is $1,200/oz today. Or they
use a pretax estimate or an undiscounted present value for a mine that will
operate over 30 years. There are lots of ways for folks to manipulate these things.
TGR: Has picking winners gotten easier now that there are fewer
companies to choose from? Has the bifurcation that Rick Rule has talked about
happened?
MB: It is a lot easier today to see which companies have real
assets, real value. There is absolutely a group of companies that have been
lost in the declines in the price of gold and the general rout of mining
stocks. What I'm looking for right now are real assets, like major
discoveries or mines that are in the process of being built.
Fission
Uranium Corp. (FCU:TSX) is a junior mining company with a giant uranium
deposit, Patterson Lake South, in the Athabasca Basin of Canada. It's in the
process of advancing this project and creating enormous value for
shareholders. The stock is up 12% since January while most of the mining
sector has just been absolutely crushed.
Dalradian
Resources Inc. (DNA:TSX) has a nice little gold discovery in Northern
Ireland, Curraghinalt. From January to today, it's up 36%. These are
companies with real projects.
A great example of a stock that got lost in building a mine is Pretium
Resources Inc. (PVG:TSX; PVG:NYSE). This is high-grade gold. It is going
to be an extremely economic mine. CEO Bob Quartermain is doing an outstanding
job of advancing the Brucejack project in British Columbia.
If you're going to buy any gold stock this year, don't mess with Newmont
Mining Corp. (NEM:NYSE) or Barrick Gold Corp. (ABX:TSX; ABX:NYSE). Don't mess
with penny stocks. Buy Pretium. That stock will make you a lot of money in a
bull market.
Bob Quartermain proved himself to be a wealth creator in his last job, as
CEO of Silver Standard Resources Inc. (SSO:TSX; SSRI:NASDAQ). He has a tiger
by the tail with this deposit. Brucejack is ridiculous. Valley of the Kings,
which is part of the Brucejack project, is underground now, and it is drilling
out more of this high-grade gold. This is a tremendous opportunity. At
$6-and-change, the stock could easily double. This is one where we'll look
back and say, gosh, why didn't we buy more.
TGR: Are you finding these hidden gems in places other than Canada?
MB: Absolutely. Reservoir Minerals Inc. (RMC:TSX.V) is a great example of
a company that has a massive deposit in eastern Serbia. It is a small
exploration company right now. It was a $6 stock not that long ago, but it
fell as low as $3.50/share. It is trading at $4+/share now. It has the
massive Timok deposit that it is in the process of outlining as a joint
venture. Most of its costs are being carried by its partner, Freeport-McMoRan
Copper & Gold Inc. (FCX:NYSE).
Reservoir is run by smart people and has several other peripheral
deposits. This is not a high-risk, hope-they-find-something speculation. This
is not one of the stocks that is falling because it was selling a dream based
on moose pasture up where Santa Claus lives. This is a company that has an
asset that it's developing with a major partner. I think it's a really good
buy right now.
TGR: In a difficult capital market, some miners turn to royalty and
streaming companies to make up the difference between their balance sheet and
their burn rate. Has the nature of royalty deals changed during the current
market cycle?
MB: At its core, a royalty is the right to a percentage of the
production of a mine without the obligation of paying the costs associated
with that. If I own a 2% royalty on a mine that produces 100 oz of gold a
month, I get 2 oz of gold a month or the value of that if it's sold. And I
don't have to pay for the costs. So I just get 2 oz of gold in my hands because
that's my royalty.
Over the last decade or so, royalty deals morphed into what are now called
streaming deals where I agree to pay you some amount of money for those 2 oz
of gold. Maybe I pay you $400/oz, and then I get all the upside after
$400/oz. I'm not as big a fan of streaming deals because they introduce
commodity risk into the royalty model. The pure royalty models are wonderful,
like a lot of the oil royalties, because they're basically free cash coming
into the business. There is almost no cost of revenue, so most of it goes
straight to the bottom line.
The two best royalty companies in the mining space are Royal Gold Inc.
(RGLD:NASDAQ; RGL:TSX) and Franco-Nevada Corp. (FNV:TSX; FNV:NYSE). I like to point
to Royal Gold as my best example because it has been around the longest. In
2001, you could buy shares of Royal Gold for under $2.50/share. Today, they
are trading for $62. That's a pretty nice 15-year run. If you have some smart
folks running it and they're able to recycle their cash flow into acquiring
more royalties, the company grows very quickly. I like that model.
I like it so much that we recently bought Osisko Gold
Royalties Ltd. (OR:TSX), one of the newest of the royalty models. Again,
it's run by some really smart people. We bought in December 2014, and it's up
slightly, up 10%. I think that it is still a good buy because if the company
can execute the same strategy that Royal Gold used to go from $2.50 to
$60/share, people who get in today should be in line for triple-digit or more
gains. This is one where I would like to buy these shares and put them in a
trust for my kids because I think that's the right way to own them, just
leave them alone and not worry about the wiggles.
TGR: Any comforting words you can offer investors trying to outlast
the wiggles in the market today?
MB: When you hike to the top of the mountain, you don't worry about
the gullies. You just look at the peak and say that's where I'm headed, and
that's where these things are headed.
The things that I am most excited about right now are the companies that
have big, robust deposits and are building mines. Those are the companies
that are going to benefit most from the coming market cycles.
TGR: Thank you for your time, Matt.
Read about Matt Badiali's Methods for
Investing in 'Cowboyistan'
S&A Resource Report, a monthly investment advisory that focuses on
natural resources, including silver, uranium, copper, natural gas, oil, water
and gold. He is a regular contributor to Growth Stock Wire, a free
pre-market briefing on the day's most profitable trading opportunities.
Badiali has experience as a hydrologist, geologist and consultant to the oil
industry. He holds a master's degree in geology from Florida Atlantic
University.
