Peter Campbell: Cheerful Prognosis for Dr. Copper

Source: The Gold Report  (8/11/09)

Even if emerging economies' demands for copper were to falter, Jennings Capital Inc. Mining Research Analyst Peter Campbell sees plenty of polish on copper ahead. Even a gradual climb out of recession will prompt North American and European manufacturers to replenish inventories as they begin restoring production to pre-crash levels. As for the copper companies themselves, he tells The Gold Report that some of the best bets lie with emerging producers that are prepared to augment diminishing supplies with new finds.

Even if emerging economies' demands for copper were to falter, Jennings Capital Inc. Mining Research Analyst Peter Campbell sees plenty of polish on copper ahead. One big reason: Even a gradual climb out of recession will prompt North American and European manufacturers to replenish inventories as they begin restoring production to pre-crash levels. As for the copper companies themselves, he tells The Gold Report that some of the best bets lie with emerging producers that are prepared to augment diminishing supplies with new finds. Peter has his sights set on iron ore, nickel, aluminum and other base metals, too, but he calls copper "the best and clearest way by far" of participating in the evolving economic story.

The Gold Report: There are mixed views on what's happening in the world economy today. We hear the recession's over, we hear it's going to be a long recovery. We even hear people say we may still go into a depression. What's your perspective?

Peter Campbell: I think all indications seem to be that if we're not at the bottom, we're definitely approaching a bottom within very short order. Fundamental demand for all commodities, base metals in particular, has been very, very good. This is the kind of activity that you see at the bottom of an economic cycle. So if we aren't there yet, there's every indication to believe we're very close.

TGR: Are we going to see a V-shaped bottom?

PC: It's really hard to say. Manufacturing has taken a very large hit, primarily in North America and Europe. A V-shaped recovery when manufacturing has been so hard hit would be very difficult to envision. I would be in the camp that expects a more gradual recovery.

TGR: If we have a gradual recovery, what will be the impact on commodities?

PC: A gradual increase in demand for base metals in particular, but also for all commodities, would be part and parcel of a gradual recovery. So I think we can see strengthening demand for copper, aluminum and nickel for example. Because of the collapse of commodity prices in the last year or so, a lot of supply has been taken offline, so I anticipate a shortfall between current production capacity and the demand I see that will be gradually increasing as this economic recovery begins to take hold.

TGR: In essence, you're saying some of the pricing increase you expect will be due to a shortfall in supply, but the recovery is going to be very gradual. What would cause these mines to come back online before there's a real recovery in the commodity prices?

PC: Because of a growing gap between demand and available supply, we will see steadily increasing commodity prices. We've seen this most definitely in terms of copper, which has recently gone from a low of $1.28 a pound at the beginning of the year to the $2.70 to $2.80 range these days. It's not that this trend will continue indefinitely, but I think the fact that there isn't a lot of new supply to meet any new demand is going to be very supportive of base metal prices going forward.

TGR: You hear a lot about the BRIC countries, particularly China, being the economies that will pull the rest of the world out of recession, especially with their infrastructure demands. To what extent will that drive base metal commodity prices, as opposed to what's happening in North America and Europe?

PC: The recent strength in commodity prices is indeed being driven by demand from China. What's different about this recent demand is that it appears to be a demand for raw materials which are being consumed domestically within China. In the past when there's been a demand for raw materials, they've been used in manufacturing for export to perhaps the European and North American markets. So, with internal consumption for raw materials in China, we can probably extrapolate that into greater internal consumption in some of the other BRIC countries.

In the near term, what I think will be supportive of base metal commodities is a restocking cycle in Europe and North America where many of the consumers of base metals have run down their inventories. As we start to see this gradual return to economic growth, these consumers of base metals and other raw materials will start restocking their own supplies. So even if demand from China slows down a bit, it will be more than offset by restocking demand from North American and European consumers.

TGR: From the investors' perspective, what would a gradual increase in demand mean for mining companies? Would you think a buy and hold, looking for appreciation over the long term?

PC: As I mentioned, one of the things that is very supportive of the commodity prices going forward is there's not a whole lot of new supply that's ready to come on stream to meet this gradually increasing demand. Therefore, I think in order to find good investment opportunities, new emerging producers are the way to play this next cycle.

TGR: If an investor is just getting into base metals, which would you suggest they consider?

PC: The clear winner in this case is copper. Copper has been known colloquially as the base metal with the PhD in economics. If you believe that we are going to have a sustained, albeit gradual, economic recovery, the best way to participate is with copper. I think that's the best bet for the entire commodity space going forward. It's also a very liquid, transparent and well-understood market with a large number of players.

Another metal you could potentially play, which I personally like a lot, is iron ore. But iron ore is controlled by three very large producers and sometimes it can be hard to find smaller stories that can really win at the iron ore game. They tend to get overwhelmed by these three large producers and are frequently overlooked. The iron ore market is also not nearly as transparent as the copper market.

TGR: Last March, Robert Friedland, the CEO of Ivanhoe Mines Ltd. (TSX:IVN) (NYSE:IVN), told investors at a conference to buy as much copper as they could. He basically said buy it, hold it, and you'll be able to retire on the appreciation of copper. How high can copper go?

PC: That's anybody's guess, of course. There was a time when $2 copper was unthinkable. Even $1 copper was a bit of a stretch back in the days when copper was 60, 70, 80, 90 cents. So we have to think much longer term here and understand that copper is an essential commodity for any developing economy. It's very supportive in many sectors, including home building, industrial production, automobiles, manufacturing, power generation and distribution. Economic activity is dependent upon copper, so it's an essential element of economic growth. Therefore, I'd have to agree that copper is the best way to play long-term economic growth too.

How much higher could it go? I think we've established in this last six or eight months that a new floor price for copper is more or less in the $2 range. I can pretty much tell you that it won't go too much below that. On the upside, copper briefly traded at $4 a pound in the last up-cycle. It would not be unreasonable to get there again.

If my inclination is right regarding the copper supplies versus copper demand, we could very easily have new peaks in copper pricing, just based on the simple fact that there's not enough new copper supply which could create a price shock to the upside.

TGR: Do you have some companies you're looking at that are bringing up new supply?

PC: I do. One of my favorites is Copper Mountain Mining Corporation (TSX:CUM), which is redeveloping the former producing Similco mine in southeastern British Columbia. Most significantly, they recently signed a development deal to build the project with Mitsubishi Metals Corporation of Japan. Copper Mountain will be one of the few new significant copper producers that I think would be a good way to play the copper story going forward. They expect to be in initial production by mid-2011 and by 2012, they expect to be producing over 100 million pounds of copper per year.

TGR: Copper Mountain's stock price increased when the Mitsubishi deal was announced. Is that sort of the peak for a while? Or do you expect to see any more upside in the next two years before they get into initial production?

PC: I believe we will start to see significant price appreciation. The long time it took to get the deal signed with Mitsubishi has always created a bit of a cap on this stock. Now that the deal has been signed, the cap has been taken off and this has just been the initial reaction. I think this lets Copper Mountain tell their story to institutional investors who will now be more eager listeners, who I expect will ultimately help them finance this project. The same may also be true for a much greater audience looking to participate in the copper story by investing in future copper production now.

TGR: Will Copper Mountain need additional financing to bring these mines into production?

PC: Yes, there's more financing required. The company's own estimates are that it needs to raise only another $43 million [Canadian dollars]. Mitsubishi is bringing $250 million [Canadian dollars] in debt financing to this project as well as bringing its 25% share of the equity. Having Mitsubishi on board to finance more than half of the total capex for this project is a significant step up, because debt financing is so hard to find. It's almost impossible for junior mining companies to secure debt financing with traditional lenders.

TGR: Do you know when they're going to bring out that additional equity?

PC: To be in production by mid-2011, they'll likely have to raise some additional equity within the next six months or so. They've ordered all the long-lead-time equipment, which has to start to be paid for. Construction activities have already begun on site. Clearly, with a partner like Mitsubishi, it's going to be a lot easier to raise that capital going forward.

TGR: They're going to get the additional money, not from selling any treasury shares but some type of outside financing.

PC: The company is investigating different options. One option could be a straight equity issue. Another option could be some sort of royalty stream that could be sold. The project has a small gold and silver byproduct credit that might be better to sell as a royalty. Probably what's going to happen is some combination of these options going forward.

TGR: Do any other copper companies you're following also have new copper finds?

PC: Yes. Another copper company that I follow that just declared commercial production as of January 1, 2009 is Globestar Mining Corp. (TSX:GMI). They have an open pit mining operation in the Dominican Republic. They produce a smaller quantity of copper compared to a Copper Mountain, for example. They expect to produce 29 million pounds of copper this year.

But what is interesting is that they have a significant gold and silver byproduct credit. We estimate that their cash cost, net of byproduct credits, is about 40 cents per pound. They're presently selling copper in the $2.70 range, therefore their margins on this operation are very, very good. This is an operation that will be generating a lot of cash flow.

GlobeStar also has a number of other very promising copper exploration targets in the Dominican Republic. So this is a very interesting story going forward and a good way to play the copper story. Because it's such a new operation, it's probably one that not a lot of people have heard of.

TGR: Is the free cash going for other exploration to find copper in the Dominican Republic?

PC: Yes, for a company its size, they have a very good exploration budget to be doing more exploration for copper in the Dominican Republic. In the short term, however, I believe any excess cash on the balance sheet will be used to pay down debt.

TGR: Why do you suppose the GlobeStar story hasn't been out there and why aren't more people on it?

PC: There are a couple of reasons. In the first place, when GlobeStar declared commercial production in Q109, copper was not doing very well. It was less than $1.50 a pound and there was not a lot of interest in a new copper company at a time when demand looking to be diminishing. Secondly, I think there's always a lot of concern over new startups, which can be very problematic. The company has now demonstrated that it can successfully operate the mine. It had a very smooth startup and, for a brand new operation, has been working extremely well.

TGR: Any others that are interesting?

PC: One other copper company I follow is Taseko Mines Ltd. (TSX:TKO) (NYSE.A:TGB) located in British Columbia. They presently operate the Gibraltar Mine, where they expect to produce 80 million pounds of copper in 2009 and just over 100 million pounds in 2010. Even though it's not one of these new producer stories, it is a source of new supply in that it expects to be producing increasing amounts of copper within the next year or two.

An interesting side story on Taseko is that it's in the process of permitting its Prosperity project, which is also in British Columbia, and it seems to me that the market is not really giving Taseko any credit for this project. This is a copper-gold co-product open-pit deposit located close to infrastructure. It contains about 13 million ounces of gold which kind of attracted me to it in the first place. I think the market perceives significant permitting risk in Prosperity, but my personal view is that this project will get permitted because of all the local support for it.

TGR: When should the permitting issues be resolved?

PC: There are two levels of permitting here, the provincial level and the federal level. The provincial permitting is required to be settled in October, because the province has 180 days from the date of filing to make a decision. The Federal decision is not required by law to fall within a certain timeframe, but the feds usually follow suit very quickly after the province has made its decision. Therefore, I would expect to hear something on the federal decision by the end of Q1 of 2010. That would allow the company to commence construction on the project next summer.

TGR: Are federal permissions ever denied after a provincial permit has been issued?

PC: Of course it's possible, but it would be a rare circumstance. The first catalyst to look for is granting of the environmental approval by the government of British Columbia. I think this then increases the probability that the federal level approval would also be granted.

TGR: How big is the potential copper on this Prosperity project?

PC: Total resource estimates peg it at 5.3 billion pounds of copper, and at full production, they expect to turn out over 100 million pounds of copper and approximately 250,000 ounces of gold per year.

TGR: Any other gems to share with us?

PC: I'm looking to expand my copper coverage. As I say, I like copper very much for playing an economic recovery. I'm presently taking a look at Inmet Mining Corporation (TSX:IMN), which owns the massive Petaquilla deposit in Panama. Inmet is also just now having its official opening of its Las Cruces mine in Spain. Inmet, as a company, is a significant and growing copper producer.

Another one with a higher risk profile, but perhaps with that higher risk will come some greater rewards, is Anvil Mining Ltd. (TSX:AVM) (ASX:AVM), with operations and projects in the Democratic Republic of Congo.

TGR: Any closing comments for our readers?

PC: Only that those who are so inclined could look at other commodities, such as iron ore and potentially nickel and aluminum. However, I think copper is the primary way – the best and clearest way by far – of playing the evolving economic recovery story.


DISCLOSURE: Peter Campbell
I personally and/or my family own the following companies mentioned in this interview: None
I personally and/or my family am paid by the following companies mentioned in this interview: None

A professional mining engineer who joined Jennings Capital Inc. as Mining Research Analyst in February 2008, Peter Campbell has 27 years' experience in the mining and geology business – with an in-depth global mining background, strong technical expertise and proven project management experience. He previously spent 17 years with Falconbridge Limited (now Xstrata), where as an exploration manager he worked on various aspects of worldwide projects involving nickel, copper and copper-zinc deposits. Peter's experience encompasses the spectrum of project stages, from grassroots and advanced exploration through to feasibility studies and mine production. He has a strong interest in financial modeling, portfolio risk management, project valuation and capital investment decisions. A graduate of Queens University in Kingston, Ontario, he is a member of the Professional Engineers of Ontario (PEO), the Canadian Institute of Mining and Metallurgy (CIM), the Prospector's and Developers Association of Canada (PDAC), Society of Economic Geologists (SEG) and Mineral Resource Analyst Group (MRAG).


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