YES it's called MINING - it takes YEARS to pull the whole thing together from nothing to a profitably operating mine.
MOST of us know this stuff already, BUT since you are NEW at this I thought this might help you catch up with the rest of us so it will be easier for you to have an informed discussion.
The information is a little dated but should get you started in the correct direction.
Be sure to call the company if you have any questions we can't answer here.
Mining firm Golden Phoenix, formed in 1997, owns molybdenum, gold and silver properties in Nevada and Canada that are in advanced stages of development.
The task of pulling a company up from financial woes can be difficult and often impossible. But for Golden Phoenix Minerals Inc., the revitalization process has been successful and satisfying, President Robert P. Martin says. “Our turnaround has been quite remarkable,” he declares. “We have been able to affect what I would call a textbook restructuring and rebuilding program.”
The Sparks, Nev.-based mining company was formed in 1997 to capitalize on the decline of precious metal prices and the availability of undervalued mining properties. Today, it owns molybdenum, gold and silver properties in Nevada and Canada that are in advanced stages of development.
A shareholder in Golden Phoenix since 2000, Martin became its director of corporate development three years ago, when it was in the early phases of its restructuring. He explains that prior to his arrival, Golden Phoenix suffered financial difficulties when it attempted to start production on its Mineral Ridge gold and silver mine in Esmeralda County, Nev.
Golden Phoenix unsuccessfully had tried to heap-leach the property. “Historically, it has been a proven grind-and-vat-leach operation,” Martin explains. “The decision to abandon gold recovery methods that had historically yielded over 600,000 ounces from the property in favor of leaching, which was in vogue at the time, put the company into financial extremis. The good news is that most of the gold in the leach pad is still there, awaiting further work.”
Martin, who has extensive experience in company start-ups and turnarounds, was then asked to assist Golden Phoenix.
Golden Phoenix’s revitalization included the implementation of a new management team. Although the company was founded by competent geologists, engineers and miners, “[They often] don’t have the background in the nuts and bolts of business operation,” Martin says.
These new members included Ken Ripley, who directed the initial turnaround, CEO David A. Caldwell, who has 25 years’ experience in the industry and is a geoscientist and exploration geologist, and COO Donald R. Prahl, who has 35 years’ experience in large mine management, to name a few.
The company also hired Kent Aveson as general manager of its Ashdown gold and molybdenum mine in Humboldt County, Nev. So far, “Our turnaround has been quite remarkable,” Martin says. He says Golden Phoenix has retired the majority of its debt and grown its staff from eight employees to nearly 80.
Golden Phoenix also has built and delivered its Ashdown mine to market, and has formed the in-house Technical Services Group, for permitting and mine evaluation, and Exploration Drilling Services, an in-house drilling and exploration department that it will put in the field next month.
However, the company’s work is only just beginning, Martin asserts. “[This year, we’ll show] the markets what we have accomplished, and where we are going,” he adds. “We are a unique junior mining enterprise, with the Ashdown mine in moly production and generating cash flow, and our historical gold producer, Mineral Ridge, about to be drilled. I think 2008 is going to be our year.”
‘What We’re About’ Golden Phoenix focuses on mining opportunities in politically stable and accessible areas, Martin says. “We have yet to show much interest going outside of North America,” he says. “However, given the right combination of opportunities, we are open to it.
"The future is about taking the capability that we have built and applying [it] to the rapid acceleration of both our production capabilities and our exploration capabilities, in order to bring value to our shareholders,” Martin adds. “That’s what we’re about – bringing value to our owners and putting value into our shares.”
Profile By Alan Dorich Wednesday, 23 January 2008
Why is it so difficult to make money in gold and silver mining stocks? J. Kent Willis AGAPI Financial December 23, 2004 Before I receive tons of e-mail flames, daggers, and brickbats, hear this: I like gold/silver mining stocks. I manage many THOUSANDS of shares of several VERY CAREFULLY SELECTED companies. Some you know well, some you have likely NEVER heard of. Some I trade/sell when the profit target I sought is reached, others I hold until kingdom come. If I make a bad choice, I quickly cut the losers from the stable. PAY ATTENTION: I will take a locked-in, KNOWN LOSS over any "wait and see, she might recover" nonsense ANY DAY. Some stocks are clearly suited to trading in and out of, with caveats, while others are only good if you hold them forever. NEVER treat all gold stocks the same by holding them all or trading them all. If you are very conservative and want to sleep at night, then, in the current phase of our very young bull-market in metals, it is OK to HOLD them all, for now. I recommend selected offerings to many, but not all, of my clients. I am NOT your advisor, so please don't e-mail and ask for specifics. You couldn't pay me what I am worthyou know; you can't get around the minimum wage laws and all that. The clients that I tell to avoid stocks are commanded to hold bullion coins in the amount that is right for them and their objectives. I don't know yours.
Many financial advisors and monthly newsletter gurus have plenty of industry knowledge, street smarts and are excellent writers. I love their sense(s) of humor and acerbic, mercurial, esoteric, acrimonious and even platitudinous witticisms. (I throw these in so maybe you will grab a dictionary instead of writing me a nasty e-mailWow, all this great advice and a FREE vocabulary lesson, this guy is too much!). But I often pay more for their literary talent than their market savvy. I often feel that something is missing. Of course, Dan Denning at Strategic Investment is excluded (note: this is an uncompensated, shameless plug). I find myself either ripping apart the envelope of the newsletter, or getting out my trusty 10 power magnifier hoping and believing there has GOT to be something else still hiding in the envelope. There just has to be something valuable hidden in the fine printAAAACK!no diceI paid TWENTY FIVE BUCKS FOR THAT?!? Financial WISDOM is a very scarce commodity indeed. Even rarer than a "I hope I get a home run ten-bagger with this one" junior/exploratory miner. I offer what I believe is a bit of wisdom. For free. What other advisor/broker/guru ever gave you for free that which even compares with what we provide? Your only investment is the time it takes to read the rest of this. If you're a speed reader, you will assuredly get your money's worth. If you're still "hooked on phonics," I apologize in advance. The cheerful optimists say "the best things in life are free," while their anti-matter counterparts, hiding in the gloomy clouds of cynicism say: "well, that stuff was worth exactly what you paid for it." You decide.
With all the hand-wringing about why the "blankity-blank gold and silver stocks are way behind bullion" currently festering, we seek to calm some of your fears. Go to Hollywood with Frankie and Relax. Take a breather from stocks and pile into physical for a short while. At least with future investment funds. Hold your existing stocks. Actual, fully paid-for, low-premium bullion coins in your tight little hands are always a safer investment, especially so for the smaller capitalized/beginner investor. Gold and silver coins may not be quite sexy enough for many investors, but I'll take their girl-next-door beauty everyday over any sultry siren promising more than she can deliver. As long as we know the stock risks and their potential rewards, they are FUN to play with. So, let's all pile into the sandbox. Watch out for the evidence of kitty cats.
Let's take a look at the long, long list of things that have to go exactly right in order for you to even have a cool, shiny gold coin in your sweaty little palms. Join me as we plunge hand-in-hand down the mineshaft: • You have to find gold, first. It isn't everywhere, at least not in "profitable" amounts. I can take you on a hike to many of the U.S. western states and let you stand right on top of $10 million dollars worth of gold. Before you make your reservations and buy a shovel, let me point out that it would take $20 million to get it out of the ground, so it stays there. At least at today's prices, and likely for several years worth of price increases to come. While we all would like to simply reach down and pick up placer or nugget gold right off the ground, it isn't anywhere near that simple. Big chunks of gold are rare. Tiny, tiny pieces (flakes and sand-size particles) and grains invisible to the naked eye are common. It takes experts and years of experience to recognize potential ore bodies and see all of the competing, complex and inter-related factors clearly enough to even bother to drill the first hole. It is an art, and there are far too many paint by number geologists and not enough da Vinci's. This is the reason why the geologists and consultants who have successfully navigated the minefields needed to bring a dirty pile of rock all the way to profitability can be counted on about two hands. And they are well known and in great demand. For every 10 phone calls they get from a startup, they return one. Most geologists spend their entire career without ever finding a "profitable at the current gold price" ore body. Pay attention. That's a hint. Your chances of ever making money on an explorer are greatly increased if these field marshals are on board. Especially if they have put their money where their math is by supplying their own shekels along with their skills. . • Gold is sometimes found in veins of quartz (you know, silicon dioxide, or another form of beach sand) where the gold is "massive" and can be seen with the naked eye. These lovely little strips, ribbons or flakes of yellow payola are found with native silver (bonus!) and various sulfides of copper (another bonus), lead, and antimony also in the host rock. Also common in places where gold can be profitably mined are ores containing microscopic sulfides and tellurides of gold, sometimes with other quite nasty interlopers we don't want, like arsenic. All of the other things may be useful and valuable, but we mention them for this reason: It cost more, sometimes a great deal more, to separate the things we don't want, at least not primarily, from the gold. Some of these other minerals can be separated and sold at a profit; profit which clearly subsidizes the cost of the gold extraction. There are even some mines where the copper is so rich and the gold is an "accident" that the gold is sold to subsidize the cost of getting the copper. A great portion of mining engineering has been devoted to optimal techniques to separate the "good" from the "bad." At low cost and safely for the miners, the environment, and the marketplace. Some "Rube Goldberg on crack" contraption may be clever, but it probably won't pass mining inspection. . • All those other things we don't want often force the design of the ore processing facility and often the method of mining. In some cases, the engineers have no flexibility. They have to do it one way and one way only. This lack of flexibility is expensive and adds overhead burden to the net cash cost per ounce finally recovered. In many instances the ore from the same mine has different grades or a mix of different mineralizations. This requires expensive pre-sorting or pre-separation in order to feed it to the correct "next step" in the process. The mine has to be designed around everything they expect to process and this increases the cost enormously. Gold is often found near the surface but may follow veins below even several miles or more. Durban Deep in South Africa is currently chasing ore 2 miles below the surface. This is outrageously expensive, if the gold ore wasn't rich enough to justify this subterranean maelstrom it would never happen. The host rock may be more or less brittle and fracture or collapse as the ore is removed. This restricts how you can take the ore safely. You can't dig big, deep trenches without lots of expensive wood/steel lattice work added to reinforce the whole structure. In some mines, the vein or mineralization still runs onward, but they have to leave it in place because going further would ingloriously bring down the whole shebang. In some locations, they also are required to intentionally cave in the whole thing when closing the mine to reduce danger to curious explorers. Some of this gold may have been initially included in estimated reserves which would have boosted the aggregate share value if removed, but ultimately was simply left in the ground to the stockholder's dismay. We will discuss "proven/probable/inferred" reserves and resources later. Of course in many parts of the world there are much more, shall we say, "liberal" mining codes than the costly US rules. Even if you can simply run to the next village and replace all the "brave workers" who were victims of an adverse demonstration of the laws of physics, it is still expensive. And terribly politically incorrect to attempt to squeeze out every ounce at the lowest imaginable price. You have to spend a lot of extra money to do it "right" in both a technical and moral sense. . • Once an area with good potential is discovered by examining the surface rock, etc., it must be drilled to get a good idea of just how much gold is in the area. How deep is it? How large (surface acreage) is the area that contains gold beneath the surface? What is the surrounding rock type? Can it be blasted, drilled, or forced out with a high pressure water-hose? (You gotta see this in action; it's a fireman's fantasy!). A detailed geological map is made, nowadays using GPS receivers, to plot in detail every feature on the surface. Geologists, mining experts and various expensive personnel like chemists, metallurgists, ore processors, and plant engineers may study these initial results and mappings for MONTHS (getting paid everyday by YOU) before they even drill the first down hole. Wow, the cash injection from that first 10 million shares at a dime a share IPO is gone, and all of the experts with "consulting service invoices" in hand ain't even off the bus yet! "Mother Nature" has had her big strong fists around her precious bounty for a long time; she's not going to yield it to your tiny weak fists without a worthy battle. . • The best way to intelligently and honestly determine just how likely it is that any "ore body" will be mined profitably is to sink some drill holes. You can of course use a backhoe and dig shallow trenches, etc. as a starting point, but you HAVE to drill to do it right. This isn't cheap; these holes are not bored willy-nilly. Careful study and instinct lead to the selection of the drill sites. It can take weeks to drill a single hole after setting up the heavy, expensive rigging, especially if the area is remote or the terrain is anything other than flat or very gently sloping. You can imagine the drilling complexity along the side of a steep mountain deep in a jungle. Drilling holes right in the midst of an ore body with measurable surface gold will tell you the most important thing you need to know: Does this gold extend below the surface? If it does, just how deep does it go? And just how "rich" is the deposit? There might be "some," but not "enough" to be profitable. If we drill straight through a shallow surface deposit and find nothing, we know this gold has likely been deposited here after being carried away from somewhere else through weathering and erosion, earthquake hiccups, volcanic eruption or via ancient water courses long since dried up. Then you go looking for the "somewhere else." It may lead you to someone else's claim just up the mountain slope. Too bad. It was fun while it lasted. . • Rotary type drilling is relatively inexpensive compared to "diamond core" drilling, which is really king. The rotary drill technique loosens and scatters the earth. It also breaks up the rock allowing inspection and assay of the sample. Assay refers to the process of determining very accurately just how much actual gold is in the sample and is discussed in more detail later. Diamond tipped core drilling is the most versatile and expensive, but gives an excellent indication of just how the gold ore lays in the earth. Knowing this can save a great deal of time and money during the extraction process; only the minimum amount of overburden will have to be removed and processed. Just like taking x-rays and MRI imaging before "cutting," the surgeon minimizes damage to surrounding tissue and speeds the healing process. The diamond drill uses a circular, hollow bit from about 1 inch up to about 4 inches in diameter. Water is pumped into the hole to lubricate and cool the bit as she grinds deeper. The ore sample is trapped in the center of the bit as she goes lower. External sludge remains outside the drill bit and is pumped up and out, then discarded. The good stuff you want is tucked safely inside the drill bit. The actual process is much more complicated, but you get the idea. The core sample is carefully tagged and labeled to match it up with its exact location on the geological survey maps. The core is placed in special storage tubes or compartments and VERY carefully guarded for two reasons; to protect the integrity of the sample and keep competitors and "spies" from knowing just what you may have found. Oh yes, exploratory drilling often takes many years, maybe a decade or more for a large ore body before everything can be fully analyzed to determine if it's going to ever be profitable to rip the metal from the earth. Cash ponied up from stockholders via IPO's and private placements, venture capitalists, banking concerns, etc. is being burned throughout this very long process. Roughly 97% of all discoveries never graduate from an exploratory dream to a producing mine; they succumb to infant mortality even though tens of millions of your dollars were spent in a heroic but futile attempt to save her life. . • After honeycombing the earth around the property through drilling we have a good idea about the distribution of the ore. The more holes you drill, the more it costs and the longer it takes, but the better the picture of just what you have found. We will likely know roughly where veins and mineralization pockets start and stop, which way they run and how deep they go. Some drill holes may show good yields while others show little or no gold in that "plug." It is VERY important that the drill intersects the ore pocket at right angles to its "run" or "lay" in the earth so the thickness of the seam can be accurately determined. Drilling at any other angle may lead to HUGE errors in the calculations about just how much golden pay dirt is actually present. These HUGE errors can lead to the completely erroneous assumption that there is much more gold present than in reality. If these dubious results are published too early and lead to massive buying of the stock, you will have a NASTY surprise later in the drill regimen as these pockets are more clearly defined with subsequent drilling. The area is then divided into "zones of occurrence" typically to classify them as low grade or high grade regions. This is kind of arbitrary and relative. An ore body with many "low" grade zones can be profitably mined if the gold is close to the surface, easy to get to and the mineralization is amenable to simple mechanical and chemical separation of the gold from everything else we don't want. By the same token, a mine with easy to get high grades can die early. All the cream is scooped up when the gold price per ounce is low; it's the only portion of the ore reserves than can be extracted profitably when gold prices are low. This will kill the mine. They will have to replace their reserves through new discovery (outrageously expensive and hard to do), junior acquisitions (very expensive) or mergers with rivals to survive. Otherwise, they die. Cash flow or dividends from that stock are GONE long before you wanted them to end. The stock price may plummet; you won't even realize a much sought after capital-gain profit through stock price appreciation. . • What is all this mumbo-jumbo about proven, probable and inferred reserves or measured, indicated and inferred resources? This is one of the most significant bits of information when considering if any resource mining company WILL EVER BE PROFITABLE. Important caveat: All jurisdictions do not define these terms equally. In the United States the SEC prefers one set of definitions that must be adhered to when quoting ore discoveries in press releases, prospectuses, quarterly reports, etc. Canada has another set of standard definitions, which are different from those of Australia/New Zealand, which are very much different than the rest of the world. The definitions have VERY specific legal import and interpretation relative to risk disclosure and fraud. The reported accuracy of the "ore richness" terms often becomes the central point of any nasty post-bankruptcy litigation. All slices of "truth" in reporting are not created equal. It is very difficult for even an experienced geologist to make relative comparisons between mines in different parts of the world using the data that is reported. For example, in Canada these are the standard terms and their meanings: 1. The term "Resource" is used for exploratory and prospecting ventures that are not yet producing or even close to producing. This is for the "dirty pile of rock" that looks promising. That's it; nothing else is really known, so we call it a "resource." Resources are classified as measured, indicated, or inferred. If it is unknown, it has to be identified as unknown. Combinations of all these categories are permitted. Definitions: • Measured: The thickness, grade (in grams of gold per ton of host rock), distribution and extent of the deposit is "fully" known, or at least with great statistical confidence. Where the ore starts and stops in every direction should be "known." Many, many drill holes and assays are completed and analyzed. Relative concentrations of gold ore to host rock and overburden are "known." . • Indicated: Only a "few" drill core samples and assays of those cores may be completed and sufficient to calculate tonnage and grade. Inferred projection of the "goodies in the ground" at a measurable distance away from the drill holes is permissible with limitations. It is very expensive to drill every few feet, so you have to make reasonable assumptions about what is hidden between the drill holes; it may be a bonanza, it may be nothing. . • Inferred: Usually only crude, high level ground survey or statistical "sampling" of the area has been performed. Not enough actual testing has been performed. "Gee, it kind of looks like that outcropping way over there has some gold in it too; it looks like it starts here and continues all the way." 2. The term "Reserve" is used only for mines that are actually producing or very near that point. Much more is known about the richness, depth and expanse of the ore body. Drilling is complete and assays have been verified. Reserves are classified as proven, probable or possible. • Proven: The actual entire ore reserves are stated explicitly in terms of the mineable tons. The chemical and metallurgical properties of the mineralization are very well known and documented. The mining method is clearly identified and optimized. The estimate of the "mine life" before resources are exhausted is extrapolated. All of the supporting infrastructure, ancillary requirements and capital costs are identified and indexed to expected price and "net profit" per ounce. This is the most important category and should always be carefully analyzed when picking a potential stock for inclusion in your portfolio. Almost everything else is a "sales pitch." You've been warned. . • Probable: Only the mineable ore grades and tonnage are stated. The vein thickness is known and the way the gold ore lies in the ground is also known fairly well. Where mineralization starts and stops is reasonably estimated. This is often estimated from following industry accepted and permissible "ethical" procedures after drill results. . • Possible: This is a big estimate of how much gold might be here; it is sometimes referred to as "potential" How many of us know people that never lived up to their "potential" for one reason or another? Same thing here. It may be no more than some geo-pseudo-scientific guess based on little more than review of earth mapping satellite imagery or surface surveys. 3. The ore can migrate from one category to another over time as the deposit is better measured and understood after more drilling and extraction is completed. Any given "zone of occurrence" can have only one classification at any given time. Lodes can turn out to be either richer or leaner than initially "guesstimated." It is NEVER an exact science, errors are inevitable. A simple decimal point higher or lower in any mathematical measurement can be the difference between profit and failure. • Dirt and rock are heavy. Well, duh! Moving tons and tons of earth or overburden to eventually get a few grams of gold is common. One ounce of gold is about 31.1 grams. 10-20 tons or more, often much more, of earth will have to be completely processed to yield this final ounce. If it requires about 250 bucks of "all in cost effort" to perform this metallurgical magic and the metal was sold into the open market for 450 bucks, this only yields 200 bucks "profit." Be careful when you forget this by thinking "gee, a million ounces of proven reserves; this bad boy is worth 450 million." She's not. She may be "worth" far less than 200 million. . • Machinery to dig, drill and transport ore is expensive and often leased during the early years of a start up. They have to finance the payments of expensive machinery forever or burn start-up capital (provided by YOU via the "initial offering") at a rate that would even scare Bill Gates. The first hundred thousand ounces produced often have to be sold before the cash flow every common-stock investor is seeking even begins to materialize. The bankers, creditors and major financers always get paid first. Big machines require big energy. Big hauling trucks use up lots of diesel, diesel which is going up with the price of oil due to an ever more worthless dollar and explosive Asian demand. Ore crushing machines require lots of energy; often electricity. Getting electricity from the nearest generator all the way to the mine processing facility requires ground clearing, transmission wire and tower installation, and substation power step-down facilities which are all extremely expensive. Electricity generated from non-hydroelectric sources is also rising rapidly in cost. Even coal-fired boiler/steam turbine power plants are paying more for coal because China is sucking up every last briquette. Labor-wage inflation cost push has not hit the US, yet, but it is a problem where the local currency is strengthening relative to the nasty little US dollar, which is everywhere. (Isn't it amazing that penalties show up everywhere, everyday and in every form because of the worthlessness of the dollar?). Mines get fewer units of local currency in exchange for the gold they sell in declining value US dollars, even though the gold price is rising in those same dollars. They have to pay locals for supplies and labor in this harder to come by (relative to the dollar, that is) national currency. These are only some of the reasons for a drop in profitability in many mining operations even though the market price of gold is increasing. . • With all of the countless rules, laws, increasing environmental regulations (with stiff penalties and production delays for infractions) and ever growing national tax/royalty levies, I believe exploratory mining operations will decline in many parts of the industrialized west in the future. I expect many of the Yukos-type problems that occurred with Russian oil oligarchs to spill over into every other natural resource in the "rising from the ashes" golden Phoenix we call the reborn Soviet Union. I personally avoid operations completely or largely dependent on the "continuation of democratic rule of law and protection of free-market business interests" in locales where this is becoming an ever more naïve assumption. Ignore these geopolitical shifts to your own peril. In the third world, on the spot, impromptu inspections by the local mining chief, who is of course, the village mayor's brother-in-law, always seem to find something that is a no-no. Shakedowns and protection money payments are common in many smaller operations. So is claim jumping by squatters who are merely a nuisance. I wouldn't want to pay the same guy every month several thousand dollars to go away. Third world mine security officials are often more "creative." They might pay him the first time. The second time he will accidentally fall into an abandoned mineshaft. . • In US territory, the EPA is merciless. If you have submitted a mining plan that is approved for say, three cyanide leaching pads and well, you have four, that can be a $100,000 math error, not counting the down time for the facility if something more egregious is found. And oh, that cyanide stuff is very nasty. Cyanide is very inexpensive to buy, but very expensive to use because of all the process control and clean up costs after its use. Newmont currently has a lot of problems in Indonesia; prison sentences for high ranking in-country corporate officials are being considered. Even if it's just a sophisticated shakedown it will directly impact their bottom line. Newmont can handle it and recover; many explorers or juniors couldn't. Cyanide is both a dream come true in gold extraction as well as your worst nightmare. It's heinously toxic to people, plants and possums. Like most things in nature, we have to take the bitter with the sweet. Remember we used the term "sulphide" mineralization in our first bullet? One of the reasons that "sulphide" ores are economically (profitably) mined even with relatively small concentrations of gold is that the gold that is present is easily removed in a simple chemical reaction between gold and cyanide. In a typical leaching pit, crushed rock is piled high on clay pads with plastic liners. The rock is sprayed with a liquid sodium cyanide solution until it is thoroughly wet. As the liquid snakes it way to the bottom of the pile, it combines with the fine particles of gold very easily (in many cases up to about 97% of the gold is collected), rapidly forming a "mechanical mixture" of auriferous sodium cyanide. This mixture is heavier than the surrounding rock; under the force of gravity (gravimetric separation), the gold rich compound migrates to the bottom of the pile much like the way that water sinks below oil in such a mixture. Or that nasty stuff in the bottom of the salad dressing bottle. The bottom of the pile is now rich in gold; a layer of the pile can be removed and processed for the gold or the pile may be resprayed to repeat the process. The gold is separated from the cyanide in the next step. A tablespoon of the toxic spray liquor can kill the biggest of humans. This stuff has destroyed many waterways, wildlife, animal grazing ranges, lakes/streams full of fish, underground aquifers and bird feeding/migration routes as it spilled into the surrounding environment. The U.S. and most highly developed countries require the companies to build expensive specialized containment vessels with concrete and other materials inside earthen berms to keep this stuff from leaking out of the leach pits. All of the extra precautions required when using cyanide in the recovery technique are very expensive. Fines and shutdowns if this stuff gets out can literally bankrupt the mine. In their defense, mining companies always claim that under direct sunlight, the cyanide in the area is decomposed into its "basic" elements through this "photo-kinetic" process. But the resulting elemental sodium is still toxic to many living things, especially fish and water creatures. One of the worst cases on record occurred in February 2000 at the Aurul Gold Mine near Baia Mare in Romania. Hundreds of tons of poison cyanide leaching liquid eventually found its way indirectly into the not-so-blue Danube and Tisza rivers. It destroyed 150+ tones of fish, decimated the local fishing industry and contaminated drinking water for many miles of waterway. Even though there is still plenty of gold in Dracula's backyard, the toxic leftovers will be present for years to come. European officials declared this the worst industrial disaster since Chernobyl in 1986. Note: mines don't all necessarily use cyanide in the gold recovery process. But most still do, and will for the foreseeable future. It isn't necessary in all cases. New extraction technology avoiding cyanide does exist and is being refined; but it is not yet as cost effective for big, low grade deposits. I am "big" on achieving a sensible balance of safety and respect of natural beauty during resource extraction. These things are tragic for everyone, including the investor. . • Since no mine lasts forever, the costs and procedures required to close the mine, clean up the mess and walk away must be considered before the first shovel full is processed. Many regions require expensive remediation plans to restore the area to something resembling the natural beauty before the lust for gold turned it upside down. It is very expensive in the US and most of the developed west, especially if the mine is large and the mining technique was especially destructive to the environment. In fact the EPA, Bureau of Mines, Department Of The Interior, etc. will not even sign off on any plan that doesn't do an adequate job of apologizing and making amends to Mother Nature when all of her wealth has been pilfered. This "put everything back where you found it" legal and moral requirement is extremely expensive and will divert a significant portion of the net shareholder return. Of course, this is of less importance in some regions of the third world that are desperate for jobs and revenue associated with producing mines. . • A mining venture has most of all of the same costs and problems with making a decent profit as any other modern non-mining business. Attracting and keeping intelligent, hard- working personnel is a problem. With the long doldrums in most metal (especially tin, gold, silver, copper, and aluminum) prices through the 80's and 90's, fewer young people were even interested in obtaining a mining engineering or useful related degree. Everybody wanted to go to a top-tier business school and become an investment banker or stock jockey that might finance or sell mining stocks (in between big blocks of internet gee-wizardry trash). Nobody wanted to do the dirty, dangerous work to make it happen in the first place. Now the good part about this is that gold and silver mining output has declined and will decline (net-net) for years to come. Once the real, gluttonous feeding frenzy in precious metals gets underway (we are still in the appetizer stage), the few companies that are producing profitably will be more than glad they did whatever was necessary to survive. So will the savvy investors who bought carefully researched and cautiously acquired juniors, explorers and producers and held them tightly during the dips in the mother of all roller coaster rides that is coming. Some derivative flavored hedging to deliver "new" metal into the marketplace at "old" prices was necessary and prudent to survive during the lean years. Clearly many producers overdid it; this excess and profligate behavior will be catastrophic for many and we won't know until it is too late. I believe we will attend the funerals "tomorrow" of several of the well known names that look perfectly healthy today. So, how do we distill all of the foregoing blather into a few generic "tips?" 1. Look for the names of well known, respected successful geologists and consultants in the press releases, offering prospectuses, 10K filings, quarterly reports, etc. 2. Avoid the regions of the world where political and social unrest, as well as dubious law-enforcement, confiscatory royalty mindsets, minority empowerment attempts to right 100 years of past exploitation in one week, nationalization "rumors" and self-defeating taxation schemes are becoming the modus operandi. Remember, a rumor is a rumor until it's officially denied by authorities. THEN YOU KNOW IT IS THE TRUTH. Do not be deceived by thinking: "Gee, these folks want all of that foreign investment capital to flow into their country. They won't do inane things that will scare away the cash they desperately need to expand their industry and grow their economic base." I say, in Mogambo-Speak: HAHAHAHAHAH! For the short list of places that are in my OPINION, slightly less risky (and not in any particular risk order), try: A. Canada B. Australia C. New Zealand D. Papua New Guinea E. United States F. Tanzania G. Thailand H. Vietnam I. Myanmar J. Romania K. Mongolia L. Brazil 3. Wait until a comprehensive drill program is COMPLETED before loading up on the stock. Of course the stock will cost more at this point than if you bought it totally "blind," 20 minutes before two scruffy prospectors sped back to town in their rusty pick-em-up-truck screaming EUREKA from one end of the village to the other. Make sure the explorer drilled enough holes carefully to truly gauge the scope of the ore body. Make sure diamond drill core samples have been independently audited/assayed by at least two respected assay houses and compared to a controlled, locked up reference if there are any disputes about the "richness" in grams per ton, etc. I am sure there is a "Son Of Bre-X" out there somewhere, lurking in the pink sheets. We won't know until after it is too late to recover our capital. Every mania (and IT WILL BE A DOOZY) brings the charlatans and thieves to a heady froth. This chapter in our eternal gold story will be no different. 4. If you want to play with mining stocks, as a very crude rule of thumb and not financial advice, you, in my opinion, should keep a portfolio of about 10 stocks. With any less, your risks would be too large. Never buy just one, even Newmont. Don't try to handle more than 10; you can't keep up with all the details if you have a life outside the fine print of the WSJ. TALK TO YOUR OWN FINANCIAL ADVISOR; I AM NOT YOURS. A strategy that has served ME well (don't know about you, so again, this is not advice) is to pick the 10 this way: Throw Newmont (NEM) in at the top of your list. At the bottom, pick one of the sub $1.00 per share puppies that has found great ore bodies, has survived infant mortality, and is going to be actually producing good quantities of metal within a year or two at most. I like New Guinea Gold (NGG on Vancouver) here. DISCLOSURE NOTE: I LIKE HER AND OWN MANY THOUSANDS OF HER SHARES. She is one of my long shots with blue sky potential, but anything can happen to her. I won't warn you before I buy more of her or dump her. But since she didn't cost me very much, I will not toss her out easily. If she vaporizes, my life won't change. If she goes to the moon, you will never see another article written by me. What's that I hearsome of you are praying for her to go up now.? I also like Tan Range Exploration (TNX on Toronto) here too as another long shot because of their integrity, board of director savvy and massive potential. I don't own her yet. I may next year. I may not. Next, into your stocking stuff Kinross Gold Corp (KGC) in the middle of the pack. She is hard to beat as a mid-level player. I own her. If you like silver also (or better than gold, as some of you clearly do) toss in Hecla (HL) or Coeur d'Alene (CDE). Now it's your turn to have some fun. Do your own due-diligence type homework and pick the remaining five or six. Choose carefully only after reading EVERYTHING PUBLISHED YOU CAN FIND ABOUT YOUR PROSPECT. Diversify geographically throughout some of the suggested areas listed in number 2 above. Call the investor relations office and chat with them about anything you don't understand in the published literature. Visit the place if you can on your next vacation. It's a blast. Yes, it will be expensive, but the most fun you can have with your prospecting boots on if you really enjoy the mining stock casino. 5. The hardest part is NOT the BUYING of the stock, it is ALWAYS the SELLING. Greed and fear kill everyone. No exceptions. You must decide what you want from any given stock before you reach those bony fingers for the phone or the mouse button. If you have made a good profit either from dividends, if any, or through simple price appreciation, SELL ALL OR PART OF YOUR HOLDINGS when her price is strong and her volumes are decent and take money off the table. If the trend for gold overall or that specific stock is still strong, you can buy her again and repeat the process. With the upcoming volatility it may be difficult and you could leave some money on the table, but so what? Many fools watch real profit vaporize because they don't get while the gettin' is good. Cut losers quickly from the stable before growing losses make you emotionally determined to hold her until she comes back. Don't confuse tech fund liquidation of huge blocks of your little darlings, cartel cabal malfeasance, price manipulations or negative newsletter "top-picker" sentiments with a real dog that isn't doing well compared to other shares, who are in marked contrast, prospering in the same negative environment. Now, ignore this rule with the sub buck a share long shots. If you bought them in intelligent quantities, you don't care if they go to nothing. You only bought them instead of a lottery ticket, which will usually be a better bet. Even the best stock pickers get massacred now and then. I have had my head ripped from my shoulders on many occasions. All metal stocks are volatile and as you well know do CRAZY things like lead bullion when they should lag and vice versa. I HAVE NO CRYSTAL BALL. BUT IF I MAKE MONEY ON HER BY SELLING TODAY, I DON'T NEED ONE. I am taking it off the table. What is a decent return for me may not be enough juice for you. I have no way of knowing. It's a free country, do whatever you want; it's your money. Conclusion If all of this is just too much for you, simply buy low premium, well known/popular gold and silver bullion coins from a reputable dealer, tuck them away safely and be patient. With gross exaggeration, of course, about a billion things need to go exactly right to ever make a predictable, consistent profit from a mining stock. With finished coins, everything that needed to happen HAS happened. Think about it. With real bullion coins in your hands, the only thing needed now to make a respectable profit is that somebody, somewhere wants the gold more than the paper dollars they exchanged. And currently, about 3 billion people on the planet do. Wake up now or sleep forever. Get on board with stocks or coins; the Auric-Polar Express is leaving the station. Trust Governments For Nothing. Trust God For Everything. Trust Gold Somewhere In Between. Happy holidays to all. Be well and prosper. May 2005 find you content in all things. J. Kent Willis email: jkentw2@aol.com December 22, 2004 AGAPI Financial
THE PERFECT OPTION PART II http://www.financialsense.com/stormwatch/oldupdates/2004/1104.html Chasing Ounces The problem for investors is what to look for in a junior when making an investment purchase. The standard practice in the industry is to chase ounces. Advisors recommend buying the junior with the largest amount of ounces on the balance sheet. There is very little regard for the mineability or the profitability of those ounces. The market counts ounces and applies little—if any—discrimination to the quality of those ounces. Inferred ounces are treated in similar value to measured and indicated ounces, which are of higher quality. In a similar fashion, there is very little distinction made between ounces that are unprofitable and those that can be mined profitably. This same mistake is made by majors when they make acquisitions. Most takeovers have been made at prices that are above the spot price of gold. Very few acquisitions have been made at a reasonable price to allow for a margin of safety should the price of gold or silver drop sharply. In this regard investors will likely find three categories of ounces when shopping around for a junior mining company. They are as follows: Mineable Ounces - Inferred - Measured and Indicated - Convert to Reserves Profitable Ounces - Actually mined and produced Dreamable ounces - there, but not there Mineable Ounces are just exactly what is implied. They are ounces in the ground that are of sufficient size and quality that they can be mined. In order to put in a mine, a company has to conduct a feasibility study. In order to proceed to feasibility, ounces have to be in the Measured and Indicated category. Inferred ounces are not acceptable, since they cannot be converted into Reserves, which are developed from Measured & Indicated ounces. Mineable ounces may only be marginally profitable. So the first thing that an investor needs to do is to distinguish among the categories of ounces. Measured and Indicated ounces or Reserve ounces are worth more money to an acquirer than inferred ounces. The next category of ounces is what I refer to as Profitable Ounces. These are ounces that actually can be profitably mined by a company, resulting in profits for shareholders. One of my big beefs with the mining industry is that they have cared very little about profitability and have been more concerned with empire building and acquiring ounces. An investor only needs to spend a few moments examining the quarterly financial statements of most mining companies to realize that very few of them make money. The returns on capital and equity have been abysmal (4-6% range). In fairness, part of this has been due to a protracted bear market in metals. But there are other reasons as well. The industry has often overpaid to acquire ounces. As the table below illustrates, since 1994 when the industry began to consolidate and expand, most acquisitions have been made at prices above spot gold. The average for the industry is 101% of spot. Very few companies have acquired deposits cheaply. The last category of ounces is what I call Dreamable Ounces. Because of location, geology, metallurgy or geopolitical reasons, these ounces—although definitely there—will unlikely be brought into production. They are for the most part figments of imagination of the promoters of these companies and the brokerage firms who peddle them to unsuspecting investors. The ounces are either spread out in too many locations or because of the metallurgy of extracting those ounces, will require gold prices at a gazillion dollars to make the production profitable.
Three Possible Outcomes for Juniors Having an understanding of what kind of ounces a junior mining company holds will also be helpful in determining the eventual fate of a particular junior exploration company. There are only three possible outcomes for a junior exploration company. They are as follows: 1. Go into production. 2. Get acquired by another producer. 3. Go bankrupt or fade into oblivion. For long-term investors, the first outcome of becoming a producer offers the best possibility. The share price—and therefore the market cap of producers—is much larger than non-producers. Until a company goes into production and actually mines the gold and silver, it has no source of revenues. If you believe prices are going higher in this new gold and silver bull market, production is one of the best ways to make money from higher prices. The larger market caps afforded producers is a testament to this fact. The second outcome for a junior exploration company is that it gets acquired by a producer. As mentioned above, finding large profitable deposits are getting harder to find globally. Those exploration companies with million ounce deposits can become an attractive takeover candidate by a small to mid-size producer. An exploration company that has one million ounces that are highly profitable is a rare find. It is the diamond in the ruff. The Finance Cycle Another factor that is given very little consideration is how a company gets its financing. How a company is financed can make all the difference to a company’s survival and the returns shareholders can expect to earn on their investments. Junior exploration companies entail a high degree of risk. Very few juniors ever end up becoming a mine. Statistically the chances of a junior exploration company turning into a profitable mine are 1 in a 2,000. Because of this high degree of risk, it becomes enormously expensive for a junior mining company to get initial financing. The risk involved in actually finding and developing ounces are enormous. Obviously, a company acquiring an existing deposit, where there are known reserves, is less riskier than a company that is starting from scratch and hoping to make a discovery. Most initial stage financings are done at what I call "usurious" rates. The brokerage firm will charge the company an 8 percent commission and legal fees. In addition to upfront commissions, the brokerage firm will also demand 20% in broker shares. Since most initial financings are issued with warrants, the brokerage firm may get an additional 10-20 percent in the form of warrants that accompany each share. In effect, the brokerage firm may get the equivalent of 30, 40, or 50% of the offering in shares and commissions. This usurious form of compensation is highly dilutive to the founders and management of the company as well as the shareholders. Over the course of several financing cycles, the junior companies becomes overly diluted and find it difficult to attain success. An example below illustrates this point over a three-stage financing cycle. Danger of Dilution As mentioned above, the more dilutive the share structure, the lower the price of the stock. If a company is acquired on the basis of ounces, the fewer number of shares the better. This is because the total purchase price of the company will be made on the basis of ounces. That purchase price will have to be divided by the number of fully diluted shares. It boils down to simple arithmetic. The fewer the amount of shares given a fixed set of ounces, the higher price per share in a takeover. The higher the amount of shares, the lower the takeover price per share. Keeping shareholder dilution to a minimum can impact investment returns in a major way. Companies should either negotiate better terms from the start with their brokerage firm or renegotiate the terms as the project is developed and the risks are removed from the property. It is better to negotiate fair and equitable terms from the start. If that can’t be done, the company should try and break away and secure better terms from an investment bank, fund managers, or large private investor/shareholders. This is possible if the project is economical or if the property has been drilled enough to remove most of the geological and metallurgy risks. The other possibility is the depth and reputation of management. An experienced, proven, and reputable management team can often negotiate favorable terms right out of the gate when going public.
Pump, Dump, and Short Cycle There is another aspect to the finance cycle that most investors—and in many cases junior mining executives—may not be aware of. This is the pump, dump, and short operations conducted by some of the brokerage firms that underwrite junior exploration companies. On a daily and weekly basis, there are numerous financings that come to the market. Most of these companies will never make it, despite the high hopes of the founders and the brokerage firms that take them public. The odds of a junior mining company making it into actual production are about 1 in 2,000. Many of these companies will survive by either consolidating, locating another property, or starting the process over again. In addition to the high risks involved in exploring for gold and silver, generally there aren’t enough buyers to absorb all of the selling that comes into the market from new financings. This is where the pump, dump, and short cycle comes into play. The Pump In order to sell shares to the public, the brokerage firm will promote the new offering with a high degree of hype in order to induce investors to buy into the offering. Once the offering is complete, the mining company now has the funds to begin drilling and exploring for gold. As drill results start to come in, enthusiasm for the stock heightens. With most investors having little understanding of how to read a drill or assay report, they tend to get overly hyped. The brokers tend to get everyone excited and talking about the stock. Often the hype can build into a frenzy with the new company being" talked up" as the next big mining play because of their discovery of the “The Dream and Fantasy Mine.” At this point enthusiasm for the stock is at a peak and the brokerage firm that sponsored the company starts unloading their broker shares, which they received as a fee for doing the financing. These shares are acquired at a very low cost. Since many of these shares are acquired on an option basis, the firm can sell the shares as broker warrants as their inducement to do the financing. So these are shares that can be easily sold into the market, because there is very little cost associated with the shares. The brokerage firm has no cash at risk. It is pure profit. The Dump The brokerage firm takes advantage of the enthusiasm and hype as an opportune time to unload their shares to an unsuspecting public. Investors at this time are caught up in all of the hype, believing they are going to make a fortune in the stock. That enthusiasm by the public creates demand for the shares, which are unusually bid up in spectacular fashion. Eventually, the brokerage firm has sold enough shares to absorb all of the buying and the stock starts to crater with individual investors losing big money. The brokerage firm may also begin to spin the firm’s biggest clients out of the stock in preparation for selling them the next “Penny Dreadful” (the firm’s next offering). During the pump phase of operations, a penny stock can often climb to heights in the market that can mesmerize investors with thoughts of making large fortunes. The brokerage firm and its brokers are talking the stock up and talk on the street can fuel a stock rally that resembles the Internet boom in the U.S. in the late 90’s. However, during this time as the stock price gets elevated through hype, the company’s management—along with the brokerage firm and large shareholders who acquired their stock earlier at lower prices—use this opportunity to dump their shares. Eventually the news starts to fade, the price of the shares start to fall, and small investors, who bought into the market at the top on hype, are stuck with high prices shares. In some cases the pump and dump operations are conducted in collusion with the brokerage house that took the company public. If it is a reputable company with good prospects, an investor simply needs to hold and ride the cycle out. Eventually, more drill results and favorable news on the company will help to elevate the shares again as the company expands its drilling operations with successful results. However, this does not always happen. Most drilling will result in some degree of mineralization—most of it will not be worth much. It may simply be iron ore, which is worth less than actual gold, silver or other base minerals. The hype was over the possibility of finding large gold and silver deposits. The company may find some gold and silver, but it may be so small or uneconomical that it is virtually worthless. The Short In addition to pumping and dumping a stock, a brokerage house will often begin shorting the stock after a brief time period following the initial financing. They do this to make money. They sell the stock short into the hype phase when the price of the stock is rising and investor demand is at its peak. Eventually, enough selling comes into the stock to absorb all buying and the stock then begins to fall due to additional selling pressure. The brokerage house will stop talking up the stock and eventually the news dries up and the stock craters. At this point, they will quietly start buying shares and cover their short position at a nice profit from disappointed investors who, are now selling their high-priced shares at a lower price. Some brokerage firms make more money shorting the shares of companies they underwrite than what they actually made in financing the company. It is all part of the business and the brokerage house makes money on either side of the trade. In Vancouver, the mindset of some brokerage firms is based on failure. Most of the junior mining companies that are taken public will never reach production. The vast majority of companies will fail. Given the odds of failure, brokerage firms have found it more profitable to bet on failure than to bet on success. The simple fact is that most junior mining companies will fail or never reach the production stage. Even then, very few companies will ever become profitable as most mines don’t make money. Only a very small group of companies ever break out of the pack or the vicious pump, dump, and short cycle. Those that do are the real winners and they are rare. Finding these companies is not an easy job, which is why most advisors recommend buying a large basket of juniors to protect and diversify a portfolio. All you need is one spectacular company to make up for all of the ones that don’t work out. Because of the high degree of failure of most junior mining companies and the shenanigans that take place in the finance cycle, an investor is better off investing in a mutual fund or dealing with a knowledgeable advisor.
Caveat Emptor Buyer Beware. With all of the hype that surrounds the junior mining sector, investors and mining executives need to become more aware of what goes on during the financing cycle. For mining executives, it becomes imperative that they get educated on the conduct of their brokerage firm. Is the brokerage firm supportive of the company or is the brokerage firm pumping, while dumping their stock? Is the brokerage firm shorting shares in an effort to drive down the price and profit from the trade? Not monitoring the actions of the brokerage firm can be costly to the company's financing plans. Many times, before the next financing takes place, the brokerage firm will drive down the shares to take the stock down and make it easier to finance. Juniors are valued on the basis of ounces or the potential ounces the company may own. Driving the price down before an offering makes it easier to sell the shares to knowledgeable investors. It also enhances the brokerage firm's profit opportunity in making a profitable trade. For example, let’s say the price of the shares are currently selling at $0.75 a share and that based on the ounces, the company's fair value for shares would be $0.60 a share. The brokerage firm may start selling the shares or shorting the stock ahead of doing a financing at $0.40 a share. Financing the shares at a lower price increases the odds of conducting a successful financing and making a profitable trade for the brokerage firm. Since the brokerage firm will receive broker shares in addition to commissions for doing the financing, those broker shares and warrants can then be sold at a profit. If the financing is done at $0.40 a share, the warrants may be exercisable at $0.45-0.50 a share. If the stock is currently selling at $0.75 and fair value for the stock is $0.60, knocking the stock down makes it easier to do the financing and also makes it more profitable for the brokerage firm to trade out of the shares later on after the financing has been completed. From management and shareholder point of view, the financing should be done at as high a price as possible. This brings in more money to the company that can be used to conduct drilling and it also means less shareholder dilution since fewer shares have to be issued at the higher price. Oftentimes the brokerage firm's goal of doing a financing at a lower price are in direct conflict with management's goal of minimizing shareholder dilution. Unless management monitors the brokerage firm's market operations, they may not be aware that the brokerage firm is driving down the share price ahead of a financing. A company should have access to Level II quotes, which lists bid and ask prices and also discloses who is making the bids and offers. In some cases, an brokerage firm may have one of its subsidiaries doing the selling to disguise their market actions. Knowing who the subsidiaries are and following the brokerage firm operations is critical to holding the brokerage firm accountable. It will also help in the negotiating process. Examples of Manipulation With all of the scandals going on in the market, investors as well as mining executives need to become aware of what goes on in the marketplace with their shares. Two examples will illustrate this point. Last year while accumulating shares of a junior, my firm began to see increasing liquidity come into the market. The amount of offers coming to the market each day was higher than normal for most juniors. We were able to acquire shares at a much faster pace than usual. Because as a fund most of our purchases are sizable, it takes time to acquire a position in a company. Even then because of the sizable buying that we do, share prices may often rise. That is because the float or available stock of most juniors is small and the stock during its early life may be thinly traded. On one particular day when we had accumulated a large number of shares, I got a call from a broker at the brokerage firm. He asked me if I liked this particular company. I said I did. He then began to explain to me the advantage of backing off from my buying, so that the firm could take the shares down. The advantage to me would be that I could then buy my shares at a lower price. He then promised me they could deliver the shares I intended to buy at more favorable terms. I told my trading department of the phone call. My trader picked up on what was going on and informed me that this particular firm had been shorting a tremendous amount of shares. In essence, the firm was trapped short and my persistent buying was causing them to lose money. They hoped to get me out of the way by promising me shares at lower prices. In the end, the stock went much higher and the firm realized significant mark-to-market losses on their trading books. In another example a newsletter friend of mine told me about a company on his recommended list that was getting ready to do an additional financing. Being aware of what goes on in Vancouver, he monitored the brokerage firm's market operations and also had the company execs monitoring the market. Ahead of the upcoming financing, their brokerage firm had been a heavy seller of the stock—despite some rather spectacular drill results, which had driven up the stock price. At first the brokerage firm denied it. Finally, the mining company confronted them with evidence of their market operations. In the end, they fired the brokerage firm and are now getting financing in Europe. Advice To The Wary These kinds of stories can be seen daily by anyone with a Level II quote system that displays bids and offers and who is behind them. No mining company seeking financing or an investor with substantial positions in juniors should be without this kind of information. Knowledgeable people who have been around the business for a long time are very aware of what goes on in the financing cycle. That is why many companies have chosen to seek financing elsewhere. An investor needs to be aware that this goes on in order to make smarter purchases and avoid being taken to the cleaners in a pump, dump, and short cycle. If your broker calls you and is pumping the firm's offering and you see that they have been big sellers, walk away from the offering or at least wait until the firm gets done pumping or shorting the stock. Knowledge is everything in this business and very few juniors will ever make it to production much less survive longer term. That is why the average investor may be better off in a fund or seeking professional advice. Not all juniors are created equal. Not all ounces are mineable and very few ounces are profitable. Caveat emptor. It’s your money that is at stake. Despite the shenanigans and market manipulation schemes of certain brokerage houses, investing in juniors can be quite rewarding for the enterprising investor. We are still in the early stages of a new bull market in precious metals that is going to see the price of gold and silver go to levels undreamed of in the past. Demand for gold and silver is going up each year, while supply fails to keep up with demand. This has resulted in persistent deficits with above ground stockpiles of silver and gold falling sharply. This gold and silver bull market is still in its formative stage and has much further to run. The Profitability Question However, looking at this same argument from a business point of view, would it not be more profitable to own a junior that holds mineable and profitable ounces at today’s market prices? If a company can mine gold and silver at a profit at $300 gold and $6 silver, how much more profitable will the company become at $800 gold or $20 silver? A company that is profitable at lower prices makes much more money when prices rise. That higher degree of profitability allows the company to pay dividends to its shareholders and or buy other companies or deposits. The company that can mine ounces more profitably eventually commands a higher market price for its shares. Profitable companies can also pay higher dividends to their shareholders. Profitable companies can also become more attractive to an acquirer especially if their reserves are long life and those reserves can be mined at a low cost. A good example is Wheaton River, a highly profitable mining company and the target of a recent takeover attempt. Wheaton’s ounces are highly profitable, which is why it was such an attractive takeover target. The mining industry is no different from any other industry or business. Those companies that can mine gold and silver profitably will realize a much higher stock price over the long run than those companies who lose money for their shareholders. The mining sector is notorious for losing money or for paying little attention to shareholder value. Companies have gone on to build empires at a terrible expense to shareholders. Few profits have been made and more money has been wasted in worthless acquisitions. The takeover tables shown in this essay are a perfect example of this practice. Little attention is paid to the price paid or the profitability of ounces acquired. That is why, when you survey the mining industry, you find fewer companies that have remained profitable for shareholders over the long run. The metals market was caught in a multi-decade bear market. Yet there were companies that remained profitable during this entire bear market period. They did so by controlling costs, watching what they pay to acquire property and remaining efficient and what they mine. Companies such as Freeport McMoRan, Newmont, Alcoa, and BHP remained profitable and paid dividends throughout the long bear market in commodities. In order to survive, they had to run their mining operations as a business. Now that the bear market in commodities is over and a new bull market has begun, the companies are making record profits and share prices are reflecting this fact. In a bull market, the price of most mining shares—whether they are majors, intermediate or junior producers, as well as junior exploration companies—will rise with the tide. Some will rise more than others. Those companies that can mine ounces profitably and enhance shareholder value through profits and growing resources will reward investors the most. An investor who can find, invest and hold on to these companies will make more money through the application of sound investment principles than those who speculate. Investing in junior exploration companies or junior producers will become most profitable to the investor, if these investment decisions are made with a businesslike approach. I’m not making an argument against the find-the-ounces crowd or the crowd that believes higher prices will make all ounces more profitable. I’m simply making the case that not all ounces are created equal. Those that are mineable at a profit will be worth much more to shareholders or acquiring companies in the end. From a businessman’s point of view, the most important issues when looking at a junior exploration company boil down to two simple questions. Will there be a mine? and Will it be profitable?
An Opportune Time to Invest Finally, once you have determined that you have found a junior that has merit, I believe one of the best times to buy that company is in the gestation phase when its share price has fallen. To better explain this concept, an investor needs to know which phase of the mining cycle the company is at. There are six phases in the development of a junior exploration company. These phases are as follows: Phase 1 Discovery Phase 2 Reality Phase 3 Gestation Phase 4 Feasibility Phase 5 Construction Phase 6 Production The discovery phase is the beginning of the junior mining cycle. A company raises money and goes out and drills a potential deposit in the hopes of making a major discovery. The deposit may have been drilled or mined in the past. The founders of the company could have already staked some ground and have found surface mineralization. At the point of finding surface mineralization and the possibility of finding gold or silver, the company has several decisions to make. They can go find equity money to explore the property or partner with an established company to do the work and take on the expense. In the case of equity, the owners will approach a brokerage firm who—judging on the merits of the property or experience and integrity of management—will take the company public. During the discovery process, the company drills the property looking for mineralization. Drill results start to come in and if they are successful, the discovery gains success and the price of the stock starts to fly. At this point, investors are simply dreaming and speculating as to the property's gold and silver potential, if there will be a mine, and how many ounces it will contain. Share prices can oftentimes go parabolic on news of the initial discovery and all of the hype that surrounds it. Eventually, the second phase, the reality phase, starts to set in after much of the hype has worn off. Share prices at this point can fall sharply from their high. Analyst reports may bring in a dose of reality or investors may realize that the initial discovery isn’t all it was cracked up to be after several drill results have come in. Assuming the deposit holds promise, the company will have to raise more capital—if they haven’t already done so—to drill out the property. If there is going to be a mine, the company will have to do development drilling on the property in an effort to find the degree of mineralization, the actual size and grade of the ore-body, its depth and more about the geology of the deposit. During this gestation phase, the company isn’t discovering new ounces. They are conducting infill drilling. They are developing the property, taking inferred ounces into the measured and indicated category, which makes them more mineable. During this phase of the mining process, the share price tends to fall as much as 40-60 percent from their discovery peak. There is very little news and no new discoveries are made. The company is simply defining the deposit and getting it ready for the next phase of the cycle which is feasibility. This is an opportune time to invest in a promising junior as shown in the graph below: The fourth phase of the junior mining cycle is the feasibility phase. A feasibility study is done with a major engineering firm with two questions in mind: Can a mine be put in? And will it be profitable? The feasibility study tries to estimate the cost of operating a mine. The price that the mining company will have to pay for labor and energy to operate the mine as well as the capital costs of putting in a mine are estimated in the hopes of defining profitability. The mining engineers are trying to determine "the payback period” or how long it will take the company to recoup its investment. The feasibility phase removes much of the risk of the project. It determines if there will be a mine and if it be profitable. A completed feasibility study moves ounces into reserve category, which makes them more valuable. Assuming the feasibility study shows merit, the stock price usually begins to start climbing on release of this news. Oftentimes a stock may take off on the news that a feasibility study is being undertaken. The next phases of construction and eventually production are the culmination of the junior mining cycle. As the company goes through these final phases, the stock price keeps climbing as investors anticipate the rewards of production. As a producer, the company now has revenues and a source of profit. As a general rule, producing companies have much higher market caps, because they have the ability to turn ounces into dollars of production and hopefully profits to their shareholders. The Best Time to Buy I have simplified this process, leaving out many of the details of each phase. For a more complete understanding of this process, the investor is encouraged to read or obtain a copy of “Mining Explained” published by the Northern Miner. What I wanted to illustrate here is the best buying opportunity in the junior mining cycle, a time where much of the risk of the deposit or company has been removed. Generally speaking, this is the time when the share price can be bought at very attractive prices before the share price could potentially begin to accelerate again. This is when it looks like the company will evolve into a mine. It is also the part of the junior mining cycle at which time takeovers occur. In summary, the two most important questions to be asked when making an investment in a junior are: Will there be mine? And will it become profitable? Mining is no different than any other business. A common sense approach to investing in mining is no different than any other industry. Can they produce a widget and can they make money in making that widget? To repeat once again Ben Graham’s often repeated mantra of value investing, “Investment is soundest when it is most businesslike.” If you believe as I do that we have begun a new bull market in precious metals that will last for many years and that we are just at the beginning phase of this new bull market, then investing in junior producers and junior exploration companies can become the most profitable way to participate in this emerging bull run. As with the use of options, which offer the investor a way in which to use leverage, junior miners offer investors leverage to the price of precious metals. They represent a call option on the future price of silver and gold. Unlike regular options, they have no time expiration. This makes them "the perfect option." The juniors have been hit hard this year in a corrective cycle. The froth and speculation that dominated the sector at the beginning of the year is now absent. Most funds and large investors have been playing the market cautiously trading in and out of shares of the major and intermediate producers. The shares of majors and producers are selling at a 30% premium to NAV, versus an average of 27%. On the otherhand, the price of many high quality juniors—including a few that are ready for feasibility—are practically being given away. From this perspective, the price of the majors remained overpriced, while the price of many juniors are under priced to their NAV. For a value investor, this provides an opportunity to buy, while prices are depressed and below net asset values. The time to buy cheaply is when nobody wants to own them. I believe that time is now. Juniors are the perfect option. Jim Puplava
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