P.T. Barnum's famous quotation – "a sucker born every minute!"*
In the 19th Century, the famous P.T. Barnum created a mania in New York for his famous museum of the unusual and then later, for his traveling circus. Now, although Barnum's quotation was reputed to be his modus operandi, he at least gave the people who came to his shows something of value. They usually left content to have seen "the smallest man in the world" or the "most-tattooed lady". He once even put the "Missing Link" on display. People ate it up and despite not necessarily believing what they were shown, they left the museum having been entertained.
Today's scammers use the same approach as Barnum, except they rarely provide the entertainment. Some investors in penny stocks like to say that the process of investing is where the fun is, not in whether one wins or loses. While this may have been true for the old-time prospectors who traveled the plains and
mountains with their mule and pack-horses searching for gold and trying to make their fortune, but today's gold seekers at least want a fair shake at taking their chances with investing in an exploration firm. Unless they just like to lose money, there is little to be gained in the way of entertainment when the game is fixed.
Some people view the penny stock markets as total speculation plays in which the collective beliefs of all investors affect the price of shares. Get in quick and get out quick – buy low and sell high – that seems to be the motto. So timing becomes the key to investing using this strategy. Catch a stock while it is rising and sell it while it is falling – yeah that's what we all want to have happen! But who knows the right timing?
Who knows when to buy and when to sell? Someone must, because while you are buying, remember that someone is selling and when you are selling, someone is buying. The so-called "collective thinking" seems to have two sides to the equation.
In fact what is often happening is that someone is selling you shares they don't yet own. They are speculating that by the time they have to produce the shares for you, the price will have declined and they can then buy some shares and transfer them to you at a profit to themselves. This is known as "Short-
Selling". Insiders know when to short-sell. In many cases they also know when to go "Long". Knowing when good news is about to happen or when bad news is about to be announced provides some strategic advantages in the game of buying and selling stock.
Running a scam is a business. It involves a network of associates to work together to operate the overall swindle. Each member of the network has specific tasks to perform. Some of these tasks include:
* In point of fact, P.T. Barnum did not make this statement. It was one of his competitors who was referring to people who attended Barnum's shows.
• Running a Boiler-room operation to hype the stock to investors
• Arranging for "experts" to provide credibility (the stooges)
• Writing Press Releases and Investor Releases
• Posting on Internet Chat Rooms such as Ragingbull and Silicon Investor
• Wash-trading to create volume and price trends
• Promoting the stock to clients (the pigeons)
• Selling short
• Buying back the stock
• Distributing the funds generally through off-shore accounts in tax-haven countries
It is estimated that the cost to run a scam are over 90 percent, and often close to 98 percent of the revenue generated. To keep the business operating, the next scam must often start up to meet the necessary cash flow of the previous play. Like a pyramid scheme, each scam is bigger than the previous and the scammers
are off down the road into their next play before the aftermath of the previous game is even recognized.
Emotions are key to the scam business. Scammers exploit the baser emotions of ordinary people. The first emotion is Greed: everyone wants to strike it rich – to get something of value for minimum expenditure of time or capital. The next one is Fear: gold is a haven to protect your money when times are bad, when
currency is becoming lower in value. Then comes Envy: people always covet other people's good fortune – there is always "still time to get in on this deal – this stock is going to the moon!"
Then comes Denial: once the pigeons are hooked, they will fight off the naysayers for you. The more Bashers the better – it brings
out the very best in denial of the pigeons. Finally comes Hope: Keep feeding them the line that good things are coming – just be patient. Tell them the gold is right around the next ridge, just across the next valley. They will drool over your every positive statement ever hopeful that you are going to produce something of
value or at least encourage other pigeons enough so they can pass on the "burning matchstick".
All of these emotions work in favor of the swindler. They can be tapped into and played like an organ. A variety of players will also use their network to generate these emotions collectively from amongst the caught and potential pigeons. The play is called "Pump and Dump" – run the price up on high volume
trading and then drive it back down almost as quickly. A typical Pump and Dump runs over a period of a month or two at the most.
The key for investors is to use their emotions sensibly. Recognize when emotion is coloring your judgement. Use emotion to your advantage
• Be Greedy – hang on to your money.
• Be Fearful – if in doubt, move on.
• Look before you leap – investigate all aspects of the company; ask them to supply the information.
• Perform web searches on Edgar and Sedar – look for all financial filings and historical reports.
• Trust your inner voice – have faith in your own judgement.
• Share your knowledge with others. You will learn more than you give.
• Listen carefully for the signs of a scam. In hindsight they will all be so obvious.
Risk Analysis
Never put required funds into a high-risk investment. The odds of hitting pay dirt in a legitimate exploration firm are around 1000 to 1. The odds of a major mining company buying into a real find by a junior are at best 100 to 1. But the odds of winning in a scam are incalculable – you may as well flush your
money down the toilet. You are better off buying a State or Provincial Lottery ticket.
Virtually all mining plays are high-risk investments – even the big ones. Placer-Dome was unable to make a winner out of Las Cristinas in Venezuela despite many of the right things being in place. The price of gold together with the attractiveness of other properties in their pocket led them to walk away from this
investment.
The Northwest coal play in British Columbia – in particular Quintette Coal – is another example. A failure to drill on a tight enough pattern led to a lack of knowledge about a major fault that had displaced a huge part of the ore reserves out of reach of economic extraction. Another example is the Ok
Tedi mine which turned into a major environmental disaster despite providing significant revenue for Papua-New Guinea and benefit for the local population. And let's not forget Bre-X, many of the majors were falling over themselves to buy into this joint venture.
The return on investment in mining has averaged about 4% for the past decade with declining metal prices; with increased competition from abroad; and with the easy deposits virtually all expired. So why would anyone invest in mining? Well, obviously the attraction is the enormous potential rewards. Some examples:
• Robert Friedland's Diamondfields play at Voiseys Bay, which turned out to be the real deal despite previous failures and a poor reputation from Galactic Resources' Summitville Mine disaster;
• Chuck Fipke's Diamet find of the Ekati Mine, which has become Canada's first diamond mine and spawned a new industry sector;
• Murray Pezim's Prime Resources which became the richest goldmine in the world – Eskay Creek despite all the trading-trouble surrounding Pezim; The mine was started up by Homestake Canada with an initial grade of 8 ounces per tonne.
• Murray Pezim's International Corona and the discovery of the Hemlo deposit, perhaps one of the largest gold finds anywhere in the world and located right beside the Trans-Canada Highway;
And finally
• Western Mining's Olympic Dam deposit in Australia, which turned out to be the largest copperuranium deposit in the world.
Many other examples of high reward ventures like these exist all over the world and Canadian mining companies have been part of many of these. Diamondfields was paid over 4 billion dollars for the Voiseys Bay deposit from Inco who have yet to develop it because of difficult political issues. Pezim is reputed to
have won and lost billions over and over in his quest for the "perfect" gold find. He found two major mines but both of these companies went through conventional Pump and Dump actions early in the play. Diamet sold Ekati to BHP initially as a 20/80 joint venture but then eventually the entire company was sold largely because of Chuck Fipke's divorce settlement. UBC was a major beneficiary of the Diamet find when in 1999, Fipke's partner Stewart Blusson donated 50 million dollars to UBC for fundamental research.
Juniors versus Seniors
Junior mining companies are the highest risk area of our industry. Most are not in production – they do the
preliminary exploration for the industry. They represent the prospectors of old trudging through the countryside in search of the big find. But today they do it largely from Howe Street using high-tech approaches to potential investors and hyping PRs to describe their properties. Juniors need to raise capital to continue in business as they seek their fortunes. They basically have three ways to raise money:
• Bank Loan – this needs collateral.
• Private Placement – this needs a "fairy godmother".
• Sell Properties – this needs results.
• Sell Shares – this needs "hype" to attract investors.
A legitimate junior company will put its capital into the ground. It will explore widely usually focused on one or two major commodities such as diamonds, base metal deposits, coal, gold, etc. As the company makes a find, it will decide to continue work on the property or to sell it to another company to raise capital
for other exploration activities. The following table characterizes the risks associated with each option:
Decisions on a Property Risk Reward
Write the property off low zero
Sell to a major or another junior medium medium
Develop yourself high high
Continue exploration very-high negative
The scamsters will put most of the money into their own pockets, most frequently to pay-off debt from past scams. They have no real interest in finding an orebody. They might as well be running a shell game at a local county fair.
Elements of a Scam
The difference between a legitimate mining or exploration company and a scam is sometimes a very fine line. The term scam is perhaps a harsh one to use in some exploration plays. Often the people involved in a junior company are "true-believers" in their idea, but a close examination of certain key items will
demonstrate quickly if the situation is likely to result in success. Here are some items to watch for:
• Over hyping of positive results and exaggerated claims;
• A lack of negative results – every hole has values. Negative results indicate the extent of the mineralized zones;
• Statements that can be interpreted in more than one way;
• The use of suspect data for purposes of deposit delineation and evaluation;
• Difficulties in seeing or getting access to the "books";
• Number of outstanding shares (anything over 30 million should be viewed with skepticism);
• Number of insiders and significant shareholders (owners of > 5% of the shares);
• Difficulty in understanding who operates the company;
• Past history of continual failure;
• Sudden share price changes for little apparent reason;
• Appeals to Greed;
• Presence of "Stooges";
• New technology such as:
o Unassayable gold;
o Nano-sized gold particles (invisible gold);
o Gold from tap water (water-soluble gold);
o Volatile gold.
Now all gold can be assayed by conventional fire-assay. There is no reason for any form of gold to not be recoverable by fire assay. Sometimes the technique needs to be modified to make the slag formed in the melt less viscous, so that gold particles are not retained in the slag. Sometimes the gold is "dirty" causing it
to float on the surface of the slag. But an experienced and knowledgeable gold assayer can deal with all of these types of problems and more quite readily.
"Invisible" gold is a real phenomenon. It is a name given to the form of gold found in the Carlin-type ores in Nevada. The gold particles are sub-micron and locked within a sulfide mineral such as arsenopyrite or pyrite. But some scams focus on ultra-fine slime particles of gold being unassayable because of their size.
This is simply ridiculous. Often the companies will claim that the assays are "anomalous" meaning that
they cannot be reproduced. They will use the term "nugget effect" to attempt to explain away the problem.
But "nugget effect" refers to the difficulty in obtaining a representative sample of ores containing large
particles of gold (nuggets) – particles greater than 150 microns in size. There can be no "nugget effect"
with properly prepared ores containing sub-micron gold.
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If a company claims to have an orebody, it needs to publish its data, both raw and analysed, providing
evidence of the following items:
• The size of the reserves - now referred to as a resource;
• The content of values (levels and distribution);
• The form of the values (free; coarse; sulfide-associated; tellurides; fineness of the gold; etc.);
• The presence of refractory minerals;
• The recoverable values (process to be used and recovery expected);
• The Market (where the product will be sold - some smelters will not buy As-bearing concentrates).
The Bre-X Story
The most infamous case of stock scamming in the history of mining has to be that of Bre-X which blew the lid off its supposed pot of gold in 1997 and sent repercussions around the world. Several major mutual funds and a number of banks were heavily invested into Bre-X with upwards of 7 to 20% of their funds involved when it crashed.
Bre-X Minerals first announced it had discovered the largest gold deposit in the world at Busang on the island of Borneo in Indonesia in 1994. A lot of people showed immediate interest – geologists, mining companies, stockbrokers and investors. Initially blinded by the glitter, only later did they realize they had been taken by one of the oldest scams in mining – "salting" of samples with gold. When an independent
study of the samples finally occurred, the faking hadn't even been done well – when examined under a microscope some samples contained shavings from gold jewelry. In two days, Bre-X stock dropped 85%, losing $3 billion in market value. At the same time, two Bre-X executives moved to the Caribbean, and a key geologist apparently committed suicide. Bre-X was founded by David Walsh in 1988, after leaving his position as a stockbroker. He operated the
firm out of the basement of his home. Bre-X began trading on the Alberta Stock Exchange in July 1989 but it soon began to waste away as Walsh was unable to secure sufficient funding to explore their mineral claims. He spent most of 1992 and 1993 in personal bankruptcy, but then using his last $10,000, he flew to
Indonesia and met with John Felderhof, a graduate from Dalhousie University and one of the geologists who had discovered the giant Ok Tedi deposit in Papua-New Guinea in 1968. Felderhof talked Walsh into buying some jungle property near Busang, a rainforest and rugged mountain area on the Island of Borneo located in the East Kalimantan province of Indonesia.
Felderhof hired a geologist friend named Michael de Guzman from The Philippines and soon after, the company began drilling for gold. The first few holes showed nothing, and Walsh was ready to pull the pin when suddenly things began to pick up. Felderhof claimed the previous companies had looked in the wrong places, or drilled too shallow, or used the wrong drilling techniques. But with his knowledge of the region he would find the "mother-lode". Little did he know apparently, that it would be a "manufactured-load of…" perpetrated by de Guzman and his scamming buddies.
Busang consisted of three properties: Busang I (Central Zone), in which Bre-X had purportedly acquired an 80 percent interest; Busang II (Southeast Zone), in which Bre-X purportedly acquired a 90 percent interest; and Busang III (Northwest Zone), in which Bre-X purportedly acquired a 90 percent interest. Bre-X announced its acquisition of the Central Zone property in a press release dated July 19, 1993 which also declared commencement of a drilling program to delineate the potential productivity of Busang, "which is believed to contain an open-pit resource of 20 million tonnes at +2 gm/tonne gold (equivalent to 1,000,000
ounces of gold)" – a good starting size orebody for a junior.
Within about 18 months, Bre-X claimed to have "proven" the existence of 71 million ounces of gold, worth about $25 billion. Felderhof in fact, began touting that there were at least 200 million ounces in the ground.
Egizio Bianchini, a stockbroker for Nesbitt-Burns and reputedly at the time, one of Canada's top gold analysts, was quoted as follows "What most people are now realizing is that Bre-X has made one of the great gold discoveries of our generation." Another broker, Kerry Smith – a mining engineering graduate
from Queen's University, who worked for First Marathon, also became a major advocate of the stock.
The actions of Bre-X essentially conditioned the market to believe that Busang was one of the richest goldfields ever discovered and that the profits from this discovery would be enormous. The company published ever-increasing amounts of gold in the deposit on a weekly and sometimes, daily basis. The price
of Bre-X shares rapidly rose from a few pennies to a high of $250 Canadian per share (before a 10 for 1 split). Bre-X became the star of the gold investment community and many members of the general public became convinced that the company owned a massive and uniquely profitable gold deposit – the largest one ever discovered. The company's descriptions of gold-laden drill samples were accepted as proof of the Company's claims until independent drilling and analysis revealed that a the massive deception had been committed by certain company employees. The Bre-X saga is now known as the gold fraud of the century.
The whole play began to unravel in the spring of 1997 just after the annual Prospectors and Developers Association of Canada Convention in Toronto – a meeting at which Felderhof was named Prospector of the Year and Walsh received the Developer of the Year award. Within days, Bre-X shocked the investment
world by announcing that an interim report provided by its independent mining consultant concluded there was "a strong possibility" that prior estimates concerning the quantity of gold at Busang "have been overstated because of invalid samples and assaying of these samples." On the same day of this
announcement, Freeport McMoRan Gold & Copper, Inc., which had recently been selected as Bre-X's major partner, reported its own due-diligence analyses of seven core samples that "indicate insignificant amounts of gold." That news came exactly one week after the death of Bre-X's chief geologist Michael de Guzman, who supposedly jumped to his death from a helicopter while traveling to Busang to meet with representatives of Freeport to discuss the assay results. A rambling suicide note was left behind.
The Indonesian government had required that Bre-X enter into a partnership with a large mining company in order to bring the mine into production and the bidding war for Busang became a fierce battle. Peter Munk, CEO of Barrick Gold flew to Jakarta and began negotiating with the government and Bre-X. Letters
from ex-US President George Bush and ex-Canadian Prime Minister Brian Mulroney to Indonesian President Suharto were written in support of Barrick. John Willson, President of Placer-Dome, announced a deal which virtually gave Bre-X control of the entire assets of his company. The majors were literally stumbling over themselves to gain a share of Busang. After much wrangling and "too-ing and fro-ing", Freeport McMoRan of New Orleans, already doing considerable business in Indonesia and operating the world's largest gold mine in the highlands at Grasberg,
won the right to develop Busang. Freeport began by conducting some independent drilling, but holes drilled right beside ones by Bre-X showed no significant amount of gold.
Mining stock analysts immediately accused Freeport of trying to drive down the price of Bre-X stock and even as rumors of sample-salting began to circulate, Egizio Bianchini declared that the rumors were "so preposterous, I am not even going to address the possibility." Walsh hired an independent company, Strathcona Minerals, to examine the Bre-X samples and to drill additional holes next to those of Bre-X and Freeport. After completing this work Strathcona concluded as follows:
"the magnitude of the tampering with core samples that we believe has occurred, and the resulting falsification of assay values at Busang, is of a scale and over a period of time and with a precision that, to our knowledge, is without precedent in the history of mining anywhere in the world."
So much for "preposterous rumors"!
So who was to blame for the salting of the samples?
Walsh moved to the Bahamas and later died of a brain aneurysm. Felderhof also moved to the Caribbean – to the Cayman islands where he still resides today. The real culprit appears to have been Michael de Guzman who died by jumping 800 feet into the jungle from a helicopter – maybe! The key word is "maybe" since when the body was found 4 days later, the face had been eaten away by jungle parasites. Also missing were his internal organs, brain, and genitalia. A partial thumbprint from mushy, decayed flesh together with a couple of molars are the sole basis for identification.
De Guzman had carefully controlled all access to the mine site. He and a fellow Filipino, Cesar Puspos, controlled the samples from the time they were collected until they were turned over to a down-river laboratory for analysis. Most likely, that period was when the salting occurred. Following the March 26 announcement, trading in Bre-X stock was halted on all markets.
Upon resumption of trading the next day, the stock price plummeted 85 percent resulting in a market loss of approximately
$2 billion U.S. in one day. It is alleged that Bre-X insiders had already profited as they sold millions of dollars worth of stock with full knowledge of the fraud days and weeks prior to the announcement. The RCMP began an investigation into Bre-X and traveled to Busang to obtain evidence and attend the scene of
the crime. The Mounties soon shelved their investigation. With Walsh and de Guzman dead and Bre-X officers such as Felderhof, refusing to cooperate, the RCMP ran into a dead end. No one has ever been arrested or imprisoned. In the old gold-rush days, someone would have been strung up, but today, we sue, and a lot of angry investors want their money returned. Over $3 billion dollars was lost on Bre-X stock and a number of class action suits continue to drag on through the courts, both in Canada and in the US.
It is alleged in a 1997 Class Action lawsuit filed in Texarcana USA, that company insiders bought and sold Bre-X stock knowing full-well the false, misleading, incomplete and unreliable nature of the purported gold resources. Included in this suit are a number of brokerage firms – J.P. Morgan, Lehman Brothers, and
Nesbitt-Burns as well as Kilborn Engineering whose Jakarta and Vancouver offices calculated the phony gold reserves using data supplied by Bre-X. Kilborn created an orebody model using the false assays reported on the many samples.
The salting had been done systematically. So much so, that the distribution of gold values in all the samples was just too uniform to be a natural occurrence. Samples examined in detail by Strathcona showed gold occurred in only a specific size range with no gold at all in coarser or finer sizes. The type of gold was more appropriate to a placer deposit and was certainly not in the form one would expect to find in a hardrock volcanic. Metallurgical testwork also provided evidence – the leaching of gold from the ore was too fast to be a conventional source.
For a time, certain insiders attempted to deny the fraud, but Bre-X finally acknowledged that the numerous public statements it had made touting the tens of millions of ounces of gold at Busang were completely baseless. Strathcona's final report was released on May 3, 1997 and it soon emerged that any knowledgeable gold analyst or mining expert, performing any diligent assessment of Bre-X core samples, would have determined that the samples had been adulterated by addition of gold from other sources.
Why were so many high-ranking professionals in the mining industry duped by this scam?
According to "Jim Bob" Moffett, Freeport's Chief Executive Officer, as quoted in a Fortune magazine article dated June 9, 1997, there were numerous "yellow flags" that were obvious to Bre-X's engineers and experts (such as J. P. Morgan and Kilborn Engineering) and gold analysts (such as those employed by
Nesbitt Burns and Lehman Brothers) who visited Busang and had access to core samples taken from the area. Moffett claimed these warning signs included:
1. Felderhof insisting that the entire drill core sample be crushed. Generally, half the core is saved.
2. Felderhof claiming the entire core had to be assayed to avoid the "nugget effect".
3. Felderhof claiming there was no gold found at surface because "humic acid destroyed the gold".
Igneous deposits don't contain gold nuggets and all gold deposits have some surface showings. But if Moffett is correct and the scam was so obvious, then why did his company involve themselves in the "bidding war"? Why did he follow through with a drilling program?
According to The Financial Post, on July 23, 1996, David Neuhaus, a J.P. Morgan analyst, after returning from a tour of the Busang site, stated, "I'd say 150 million ounces is a conservative guess as to what Bre-X will ultimately come up with." At the time these bullish statements were made, J.P. Morgan was trying to become Bre-X's financial advisor. During Neuhaus's visit to the Busang site, he and other analysts were given core samples from Busang and when these samples were tested, there was no trace of gold.
Kilborn Engineering who provided engineering services to Bre-X, issued reports that in essence substantiated Bre-X's claims concerning Busang. It is alleged in the Texarkana lawsuit that Kilborn withheld critical information from their reports that tests done in connection with their feasibility and
prefeasibility studies, showed the gold to be completely different in shape, size and degree of weathering from that normally found in volcanic hard-rock formations. Kilborn apparently knew that Bre-X's core samples had been crushed on site in Busang, rather than being sent whole to test labs. They were aware that the samples lay open for weeks at the Bre-X office in Samarinda and in a warehouse in Loa Duri meaning
that the samples were susceptible to the tampering that so obviously occurred. One can only wonder why professional engineers and geologists let these obvious discretions pass without comment or reporting.
Nesbitt Burns, one of Canada's largest brokers, was a leading underwriter of Bre-X stock and the principal syndicator of their private placements. Through their gold expert, Egizio Bianchini, the company had visited Busang and was in close communication and association with Bre-X officers. Nesbitt Burns is
alleged to have known that verified core samples from Busang had never been independently collected and tested, and should have recognized that statements made by about ore reserves lacked credibility. In a report issued on December 8, 1995, Bianchini stated: "Our recent visit to Busang confirmed our view the
deposit will likely grow to become one of the largest gold deposits in the world. The first observation we made was the ability of the geologists on site to visually inspect the core and be able to accurately judge high grade from low grade. This is important for future releases. We are also very impressed by the quality of the groundwork and of the assay lab in Balikpapan." Bre-X shares were trading at the time for $53, and
Bianchini set a one-year target price of $70. Lehman Brothers, Inc., a leading US brokerage, also had their gold analyst, Daniel McConvey, visit Busang and he also frequently talked with the Bre-X officers. So they too should have been aware that verified core samples from the Busang site had not been independently collected and tested. Lehman Brothers issued several influential and extremely positive reports on Bre-X in November 1996. Lehman
Brothers commenced its coverage by declaring that Bre-X "looks to have made the gold discovery of the century…although there is a lot of drilling to prove up Busang's reserves, the size of this deposit, which currently has a resource…of almost 50 million ounces, could turn out to be in excess of 100 million
ounces." They also fueled the rumor that "one or more major mining companies could make a bid for all of Bre-X," concluding that "by the end of this year, we expect Bre-X to have done a deal with a major mining company capable of putting Busang into production."
A report written by McConvey, stated: BRE-X TAKEOVER MAY BE IMMINENT. BUY THIS STOCK TODAY …Based on Bre-X's tremendous
reserves, we believe…a C$28-C$30 share price is supportable…[W]e have reread…a recent paper by Bre-X Exploration Manager Michael de Guzman…The paper has been reviewed by Bre-X's Senior Vice
President John Felderhof. When referring to an annual production rate of 2.5 million ounces, de Guzman nsinuates that the mine may well have a 50-year life, which would require a deposit in excess of 100 million ounces…we believe…this property is worth C$28 to C$30 to an acquiring company." At the time, Bre-X shares were trading at a price of $17 per share.
Too many "pros" were taken in by all this hype. They became the pigeons touting the virtues of the deposit. The mania developed a life of its own. The story became more important than the facts and blinded even the most conservative of people to forget their training and fail to do due diligence. Was it GREED or was
it FEAR? In the case of Placer-Dome, the company believed it needed a "piece of the action" to protect its market share. As a "fellow Canadian", they thought they might have an inside track to win the prize. The upside was too irresistible and the downside required drilling some holes as Freeport had done, so the
company's actual exposure was slight. While due-diligence drilling is always done prior to completing such a deal, the extent of this interest helped fuel the mania and contributed to the "taking" of so many innocent "pigeons" in the public. On Mar. 30th, 2001, the courts dismissed the cases against Lehman Brothers and SNC-Lavalin (who have taken over Kilborn Engineering). Partial cases against J.P. Morgan, Barrick Gold,
Nesbitt-Burns and Kilborn's Indonesian subsidiary have been allowed to proceed and are still in litigation.
The insider trading trial of John Felderhof began in Toronto in May of 2000. Investors who hoped to extract a settlement and some knowledge of the truth from the former Bre-X vice president and chief geologist were sadly let down once again. The Ontario Securities Commission has charged Felderhof with eight violations, which if proven, could result in a massive fine and up to two years in jail. At least two other civil suits, one in Canada and one in the U.S. still remain outstanding. In November 2000, a class action suit against Bre-X partner Bresea Resources was settled. Felderhof has so far escaped prosecution for complicity in the Bre-X fraud. He is conducting a long-distance defence from his estate in the Cayman Islands, a country that has no extradition treaty with Canada for securities fraud cases.
The detailed forensic investigation by Strathcona did not find concrete evidence that Felderhof participated in the scam, but left little doubt about its suspicions. He has consistently denied knowledge of or involvement in the scam and even has taken a lie-detector test that he paid for and passed. The class action
litigants have effectively skirted the fraud issue by charging that Felderhof sold millions of dollars worth of Bre-X stock without disclosing important information about Busang to investors. Felderhof's Bre-X share sales peaked seven months before the scandal broke. In four allegations of insider trading, the OSC says Felderhof sold shares knowing that ownership of the Busang property had not yet been resolved. He is also accused of signing off on press releases that misled investors about the true value of the deposit.
In many ways the business model of Bre-X was virtually identical to that of the Internet companies – stake or make a claim and sell it at an outrageous multiple to a better-resourced company. Until the payday of production, these companies rely on selling momentum-driven shares to fund their losses. Competition for
Indonesia's fabled deposit was ferocious. Bre-X had to fend off an outflanking maneuver by Barrick Gold which tried to wrest control of Busang through its connections to ex-president Suharto's family. It was only with the intervention of Indonesian kingmaker Mohammad Hasan that Bre-X retained its controlling
interest. Two of Hasan's companies took a stake in Busang for this help and Louisiana-based Freeport McMoRan and the Indonesian government were also cut into the deal.
Although Michael de Guzman is blamed for the salting, a cloud of suspicion hangs over everyone involved with Bre-X, especially Felderhof. David Walsh, who died in 1997, was cleared of any wrongdoing by Strathcona's forensic investigation, although he clearly came out looking the fool. Many believe de Guzman could not have carried out the scheme without Felderhof's knowledge. Strathcona's report shows that the sample tampering was so precise and on such a large scale that it could not have been carried out without careful weighing of the "doped" gold. There is clear evidence that De Guzman had a deceitful nature. Once fired for embezzlement, the wealthy geologist was also a polygamist whose three wives, two of whom he married in the same year, had no idea they were sharing one man.
As to Felderhof's character, he had a prestigious record, but exploration experts question why he refused to allow independent assays and never saved portions of the drill cores for subsequent reassessment, a standard practice in the industry. Investors will probably never know the whole truth, but junior miners today do not have nearly as much freedom as they once had before Bre-X.
The first settlement occurred in October 2001 with a decision on Bresea, an affiliated company formed by Walsh. The Settlement Fund set aside certain amounts from Bresea's assets to pay for legal fees, costs, and disbursements incurred by U.S. and Canadian counsel in their respective litigations and for a reserve for future awarding of court costs. The remaining amounts are to be used for bankruptcy administration and to pursue lawsuits being prosecuted against Bre-X insiders such as John Felderhof. Only then will the Trustee be able to distribute on a pro rata basis any remaining balance of the Fund to Bre-X share purchasers.
The Lead Counsel in the U.S. has applied for an award of costs of U.S. $468,750, to pay for legal fees, costs, disbursements, and taxes but not for attorney fees. The agreement also provides for an additional U.S. $1.06 million to be allocated to Canadian counsel for legal fees, disbursements, and taxes. As usual, the
litigation costs, particularly in cases like this one that drag on for so long, quickly eat away at the available funds. It remains to be seen whether or not Mr. Felderhof is eventually forced to contribute to any final settlement. But even should this be ordered, Felderhof is believed to have made about $45-70 million by selling his Bre-X shares, a far cry from the 3 billion dollars lost by investors.
