The Mining Report: Brent, you've predicted that the summer of 2014 will be a great dust bowl for junior mining investors. Why so bleak?
Brent Cook: The junior mining sector has lots of issues to work through. The major mining companies have even bigger issues to work through, starting with the inability to show a profit over an extended period of time. Investors are disappointed by the performance of the majors and have left the sector in search of more reliable, more profitable sectors.
"Pilot Gold Inc.'s drilling on Kinsley Mountain is turning up some very positive numbers that point to the potential of another major gold deposit."
Until we see the major mining companies start making money, it will be tough for the juniors to raise money. That's the reason for my prediction.
TMR: You've said that investors might start to return to the mining sector as soon as 2015–2016. Is that because you think the majors will be making money by then?
BC: No, I think the opposite. The majors, on average, have all-in production costs that are higher than the gold price right now; they are struggling. They're cutting costs by 1) curtailing development and exploration, 2) laying off staff, including geologists, engineers and, hopefully, some human resources people, and 3) high-grading their deposits. High-grading is more profitable in the short term, but in the long run it degrades the future revenue from that deposit.
Although the majors will improve their earnings this year, in 2015 and 2016 their mines won't be making much money. At that point, they will have to replace what they're producing with new, profitable ore deposits, but the problem is there aren't that many out there. In the next couple of years, and we're starting to see it already, the majors will be acquiring the very few profitable deposits out there that are now held by juniors.
TMR: Do you foresee a lot more deals coming up?
BC: Not a lot more, and that's the problem. There aren't that many good deposits out there.
In H1/14, I went through more than 100 gold deposits with NI-43-101-compliant resources and found very few that I felt actually made good money. There are lots of resources being touted by too many companies, just not many that can make money, assuming the gold price and cost structure stays more or less where they are.
If we see a rapid rise in the gold price, maybe some of these assets will look more profitable. The last time the gold price rose, the majors dropped the grade they were mining, thereby lowering their per ton profitability. At the same time the input costs that go into mining—labor, materials, consumables—rose. We never saw the profit that was advertised and that we expected.
TMR: Let's talk about some of the deals that have been made. What were the synergies and the challenges?
BC: A couple of weeks ago, Rio Alto Mining Ltd. (RIO:TSX.V; RIO:BVL) bought Sulliden Gold Corp. (SUE:TSX; SDDDF:OTCQX; SUE:BVL). That's a great deal for Rio Alto, which is currently mining an oxide-gold deposit in Peru. By acquiring Sulliden, Rio Alto gets another Peruvian deposit that is very similar geologically and metallurgically, so it shouldn't be too big an issue to bring it into production. The timing works well because the Sulliden deposit should pick up just when Rio Alto's La Arena deposit starts to decline. Rio Alto knows how to work in Peru, and it seems to have the social issues under control. The synergies work really well when a company that knows what it is doing buys a deposit that fits right in with what it's up to.
Another one is B2Gold Corp.'s (BTG:NYSE; BTO:TSX; B2G:NSX) planned purchase of an Australian company called Papillon Resources Inc. (PIR:ASX; PAPQF:GREYS). Papillon's deposit in Mali is more than 5 million ounces (5 Moz), in my opinion probably the best gold deposit not owned by a major. We bought it in my letter about a year ago because of its high quality asset. B2Gold is just finishing off building its deposit in Namibia, so the whole team now moves to the deposit in Mali and begins building that. Again, very synergistic for B2Gold.
TMR: Interestingly, looking at the stock prices it appears that Papillon shareholders saw it as a positive, but the B2Gold shareholders did not.
BC: It's an all-share deal, so it's a lot of dilution. The Papillon shareholders end up with about 25% of B2Gold. B2Gold dropped quite a bit, but it has come back. But I guarantee you this will be a fantastic profitable deposit for B2Gold; it made a good move while the majors who should be buying it have their collective heads in the sand.
TMR: The bidding war over Osisko Mining Corp. (OSK:TSX) was one of the deals that kicked off a lot of this activity. Now that some time has passed, is that deal positive for the shareholders?
BC: It appears to be. I don't follow Osisko in much detail. The deal offers Yamana Gold Inc. (YRI:TSX; AUY:NYSE; YAU:LSE) a big tax advantage because it gives Yamana a Canadian operation. In addition, it gives Yamana some political security in that most of its other options are in less stable jurisdictions. This deal is a big plus for Yamana.
TMR: Do these deals add liquidity to junior mining investors who, after having had a positive experience, might now be willing to put some money into other junior mining stocks?
BC: Certainly. I think a lot of the funds and individuals are taking some money off the table and plowing it back into the sector. That's positive.
TMR: Your newsletter recently quoted a Newmont Mining Corp. (NEM:NYSE) study that 1 in 1,000 prospects turns into an economic deposit, and 1 in 10,000 becomes a 4 Moz or more resource. Why is it getting more difficult to find economic deposits, given all the cool new technology?
BC: That study is a few years old, and I need to emphasize that it's a statistical number. The real odds are better than that if you do a bit of due diligence.
It's getting harder because we've scoured the earth fairly well. There are not many outcropping ore deposits left to find. We have to look under cover or through barren rocks. Explorers have to spend more to drill and use geophysics and such. The less expensive but still critical surface work now only gets you to a drill test that is often little more than an initial look at the rocks of interest.
Once you do find something, it has to be good because it's probably buried under 100–200 meters (100–200m) of rock. That depth adds to the cost of exploration, resource definition, stripping, engineering and often recovery. Therefore your grade and tons hurdle are higher for an economic deposit. A 2 Moz deposit grading a gram at surface may make money, but at 150m depth it probably doesn't.
There really haven't been that many advances in technology. Unlike the simpler geology of oil and gas, this is complex geology. Take a porphyry copper deposit, for example, or an epithermal gold deposit. They form on continental margins, subduction zones, fault zones. The deposits get chewed up, broken up, bent up and moved. I just posted an article on my website that goes into the complications of exploration and the discovery process.
TMR: Do investors understand the difficulty of finding and developing a successful project?
BC: Overall, no. That's a real problem with this industry. There is a lack of communication and understanding between the finance side and the technical side.
Most speculators in this sector have very short-term time horizons. They expect to drill a few holes, make a discovery and turn a $0.10/share stock into a $1 stock. It doesn't happen that often. It occasionally does, and that's what keeps hope alive.
Exploration is a scientific endeavor, in which you conceptualize a target or a theory, and you test it using a drill and the data. You re-analyze the data and adjust your model to fit, often more than once. That takes time and money.
A lot of companies are raising money on prospects that have been tested and retested in the past. The rationale is that speculators will give them a bit of money if they know some flash drill assays are coming from a re-drill of a previous hole, thereby providing the speculators a chance to get off the stock with a small profit. In reality, however, the project was a dog, always has been a dog, and the problem was all the other holes that didn't carry any grade, not the one good hole that keeps getting re-drilled. Schemes like this are a waste of precious capital and one of the reasons that odds of success are so low.
TMR: Nonetheless, you're still buying companies. What do you look for and how do you take that deep breath and make your estimates?
BC: I've done this my whole life. I think you can get the odds down with a lot of due diligence and understanding what a company is looking for.
I look for the very few projects that offer a shot at a deposit, whose production costs and capital expense (capex) will be in the lower third of the projects out there. Those projects will make money, assuming some government doesn't steal it.
First off, you need to consider the economics behind mining something as early as possible. Most companies, and most investors, don't seem to do that, which is too bad, because it's really important. On my first visit to any early-stage project I mentally build a mine that includes metallurgy, mining costs and capex and then judge results based on that rough model.
Second, you need to invest in a company with competent people who understand what they're looking for: the target type, the geology and what it will take to advance the project. Too many companies find something and, although their market cap may increase, the share price never increases because management needs to keep financing to continue exploring. Even if the company succeeds, we shareholders don't get much bang for the buck because we've been diluted out as management kept on drilling. A company has to know how to financially engineer the exploration and development of the project.
TMR: What are some examples of companies that have competent management that knows how to both find and develop a deposit without diluting shareholders and raise enough money to get somewhere?
BC: It's a real short list. The exploration team at Pilot Gold Inc. (PLG:TSX) came out of Fronteer Gold Inc., which, in conjunction with AuEx Ventures Inc. (XAU:TSX), found and proved up the Long Canyon deposit in Nevada. That deposit was bought by Newmont for $2.33 billion.
Pilot acquired new targets in eastern Nevada, where it's having some real success drilling for a similar-style gold deposit on Kinsley Mountain. It doesn't have a defined resource yet, but the drilling is turning up some very positive numbers that point to the potential of another major gold deposit.
The company is doing something similar in Turkey on some gold and porphyry projects. Pilot has about $30 million ($30M) in the bank. That's an exploration company worth watching. We own it in the letter, which also means I own it personally.
TMR: Pilot just released some drill results from Kinsley Mountain. Did they meet your expectations?
BC: Yes, they did. Pilot drilled a new target, where it intersected 41m of 3 grams per tonne (3 g/t) from surface. That's a very good number. It put one hole under each of two other conceptual targets, and failed on both. That doesn't kill the project, but it makes it more complicated.
We want to see a company conceptualize ideas that, if they succeed, will be meaningful to a major. Results have been pretty positive so far at Kinsley Mountain.
TMR: Pilot's stock price is up quite a bit from the beginning of the year. Is there still upside there?
BC: Yes, if success continues. Pilot's copper-gold resource in Turkey is kind of small, but it's valuable to somebody, perhaps a smaller Turkish mining company. Its other resource in Turkey is metallurgically complex, and it may be worth something to somebody. I like that Pilot continues to test new ideas and is successful. We don't find many companies doing that these days.
TMR: What's another company?
BC: Dalradian Resources Inc. (DNA:TSX) is proving up an interesting deposit in Northern Ireland. It's a series of narrow, high-grade vein structures that run under what is basically sheep pasture. In its preliminary economic assessment (PEA), Dalradian has proven up a Measured and Indicated 1 Moz grading 10.4 g/t, plus an Inferred 2.5 Moz grading about 9.6 g/t. It's located in an area of Northern Ireland that has high unemployment. From what I've seen and heard, the local authorities are positively inclined toward development. I don't see any serious environmental hurdles.
It's a simple deposit, low capex, low operating costs in a very stable place. I think a midtier company should go in and buy it. Right now, the PEA, which is going to be updated, shows a value close to $500M on an after-tax basis, and the company is selling for $100M. It has enough cash to move ahead to the feasibility stage. This summer and fall, Dalradian will be taking a bulk underground sample; I am headed there to get a closer look at the resource shortly.
TMR: How soon could that be a mine?
BC: Let's give it two years. Engineering, permitting and production all take time. If the old PEA is accurate—and I think it's probably close—this would produce gold for less than $600/ounce. There aren't many projects that can do that. The internal rate of return on Dalradian is about 42%.
TMR: Who else do you like?
BC: One of the most geologically boring deposits in the world is a phosphate deposit being proven up by Focus Ventures Ltd. (FCV:TSX.V) in Peru. It's dead simple geology: shallow seabeds that are continuous for tens of kilometers. The phosphate beds within them are being mined or developed on two adjacent deposits, one owned by Vale S.A. (VALE:NYSE) and the other owned by Hochschild Mining Plc (HOC:LSE), as well as some agricultural companies. They are making lots of money off the phosphate.
The deposit that Focus is drilling is essentially the same. It is proving up a resource right now. If it's successful, it should be worth multiples of what the company is trading at right now, which is about $0.26/share. I can see Focus going substantially higher, assuming it brings in a company that can take the project forward and mine it. I think there's a good chance of that happening.
TMR: Is phosphate a play on the thesis that developing countries need more food?
BC: Yes, in a sense this is a play on a growing world population that needs more and higher-quality food. Phosphate is a major fertilizer. China and India have trashed their environments, so they need to use more and more fertilizer.
TMR: If junior gold mining investment opportunities resemble a dust bowl, how do you describe uranium juniors?
BC: They're even worse. Not too long ago, Rick Rule called uranium the most hated sector. When I first joined up with Rick in 1997, uranium was about as hated as it is now.
You have to step in and buy these things when they're really unloved, and that is where uranium is now. We've made good money on Fission Uranium Corp. (FCU:TSX.V) and continue to hold it in the newsletter because it is the best uranium discovery in a long, long time. That is partly because of the grade but, more important, the costs of mining this deposit will be substantially less than most other deposits in the Athabasca basin or the world. Its advantage is being near surface, open-pittable and permittable. A lot of the issues faced by companies in the Athabasca are caused by having to go underground. Whoever develops this deposit won't have to face that challenge. The stock has come off quite a bit. It's probably worth accumulating right now.
TMR: Fission Uranium has been something of a darling since it spun out from Fission Energy Corp. (FIS:TSX.V; FSSIF:OTCQX). Is there still upside there?
BC: Yes, I think so. It has yet to release a resource, but it had a big drilling program this year. The deposit is wide open in a number of directions along trend.
I don't mind paying up for the best because, ultimately, it's these high-quality deposits that will make money. Somebody will buy this deposit.
TMR: We've covered a lot of ground. How about some advice for investors looking to get through the great dust bowl intact?
BC: The rain will come. At my most recent presentation in Vancouver, I showed a slide of a couple of stocks that collapsed in 1997. One of them was First Quantum Minerals Ltd. (FM:TSX; FQM:LSE). It got down to about $0.50/share; within five years, it was up to $17 and, ultimately, got up to be a $28 stock.
You have to ask yourself these questions: Will we keep consuming metals? Are we consuming metals at a higher rate than we used to? Will we be finding enough deposits to replace what's being produced? I think the answer to the first two questions is yes and the last is no. If that's the case, all we have to do is selectively and intelligently buy the companies that have the prospects or the people capable of finding the deposits that will be the leaders when the bull market comes back to the sector, as it will.
TMR: That's great advice. Brent, thank you for your time and your insights.
Brent Cook brings more than 30 years of experience 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. Cook's weekly Exploration Insights newsletter focuses on early discovery, high-reward opportunities, primarily among junior mining and exploration companies.
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1) JT Long conducted this interview for Streetwise Reports LLC, publisher of The Gold Report, The Energy Report, The Life Sciences Report and The Mining Report, and provides services to Streetwise Reports as an employee. She owns, or her family owns, shares of the following companies mentioned in this interview: None.
2) The following companies mentioned in the interview are sponsors of Streetwise Reports: Pilot Gold Inc. and Fission Uranium Corp. Streetwise Reports does not accept stock in exchange for its services.
3) Brent Cook: I own, or my family owns, shares of the following companies mentioned in this interview: Pilot Gold Inc., Fission Uranium Corp., Focus Ventures Ltd. and Dalradian Resources Inc . I personally am, or my family is, paid by the following companies mentioned in this interview: None. My company has a financial relationship with the following companies mentioned in this interview: None. I was not paid by Streetwise Reports for participating in this interview. Comments and opinions expressed are my own comments and opinions. I had the opportunity to review the interview for accuracy as of the date of the interview and am responsible for the content of the interview.
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