Stock picking can be an exercise in compromise, and investors who wait for a perfect zinc mining project could be sitting on the sidelines - and missing out on profits. Advanced zinc projects close to infrastructure are limited, and with zinc supply contracting in 2013, new operations are emerging both within and outside of established districts. Matthew O'Keefe, mining analyst with Mackie Research, talks with The Metals Report about his criteria for choosing investments in the zinc small-cap space and explains why he's sometimes willing to make concessions.
The Metals Report: What's your forecast for the upper range of zinc prices in 2013 and the first half of 2014?
Matthew O'Keefe: I think we're going to start to see a reversal in the fundamentals that should start to drive the price of zinc up. Some major mine closures are coming in North America, so the supply side is going to be a little tighter. Xstrata Plc's (XRAF.PK) Brunswick #12 mine in New Brunswick, a fairly large operation producing around 275,000 tons per year, is closing this month and Perseverance, another Xstrata mine located in Quebec, is also slated to close this year, removing another 228,000 tons from the supply. Zinc inventories have already begun to flatten and drop a little, a trend we expect will continue next year when two other large mines are expected to close, Lisheen in Ireland and Iscaycruz in Peru.
We have a 2013 zinc target of $1 per pound ($1/lb). In 2014, we're moving it up to $1.20/lb, citing this drop in inventories as a price increase catalyst. We're keeping our long-term price pretty low at $0.95/lb.
TMR: What are zinc's key uses?
MO: Zinc is primarily used to galvanize steel to prevent it from rusting and as an alloying metal in manufacturing, so it's related to the construction and automotive industries. In that respect, it is one of the key economic metals and strongly correlated to global economic growth.
TMR: Geologically speaking, why is lead often associated with zinc?
MO: Lead and zinc commonly occur together as part of the ore-forming process. Most lead-zinc deposits occur in volcanogenic massive sulfide (VMS) deposits, a common type of deposit initially formed on the ocean floor. Chemically, the lead- and zinc-forming minerals behave quite similarly, so under the same conditions they generally precipitate out at the same time.
TMR: What are the essentials of your investment thesis for lead-zinc plays in the small-cap space?
MO: I like the small-cap space because in addition to commodity exposure, you see value creation as the company passes development milestones. I look for advanced projects that are close to infrastructure and that carry manageable risk. Does it also have a good resource with decent byproducts? A good management team? Reasonable access to capital? Those are the main criteria.
TMR: Who do you cover in the zinc space?
MO: Rathdowney Resources Ltd. (RATHF.OB) is an earlier-stage company that is developing a zinc project in southern Poland, near Krakow, in a district that's been mining zinc for around 100 years. It has a large land position hosting a Mississippi Valley-type deposit, which is a carbonate-hosted zinc deposit. It's beautiful to find these deposits because they lie flat and have nice, coarse, simple metallurgy and are generally easy to mine. This is an established district, so the infrastructure and labor is in place.
From an investment perspective, it's about growing the resource. It has already outlined a 20-Mt resource and it could double that fairly easily. What we also like is that strategically, it's very well located. A state-owned company owns an adjacent mine and mill called Pomorzany, as well as a smelter. The mine only has about a year left and the whole complex is being sold. So there's an opportunity for these entities to get together, be it through a partnership, takeover or merger. That could change Rathdowney from pure exploration to a fast-to-production story.
TMR: It's also part of the Hunter Dickinson group, which has backed a number of successful small-cap junior mining companies over the years. I can't imagine Hunter Dickinson going to Poland if it didn't believe this could handsomely pay off.
MO: I agree. I cover a couple of Hunter Dickinson names, and it generally picks good assets. Sometimes it gets into difficult situations, like Northern Dynasty Minerals Ltd.'s (NAK) Pebble project up in Alaska - great deposit, challenging politics. But Hunter Dickinson has good resources and a long track record of dealing with more challenging political environments. You can't be afraid of these things because you can't move the asset. You've got to go where the assets are. But you also have to balance that risk. Poland is not a bad place to do business, and as I mentioned, Rathdowney's asset is located in an old zinc district. So we see the company's risk as relatively low.
TMR: Do you have any zinc names you'd like to discuss?
MO: Yes, Canadian Zinc Corp. (CZICF.OB) is another advanced developer. Again, you can bash me over the head for the fact it's not close to infrastructure. Its Prairie Creek project is located in the western Northwest Territories, but the beauty with this one is that it's already built - there is a mine and a mill. It was built by the Hunt Brothers in the 1980s for the silver because it's a high grade zinc-lead-silver deposit but the Hunt Brothers shut it down within months of completion when silver prices crashed.
I visited the site, and the mill is still in excellent shape. For the past 10 years, the company has been working on the permitting and environmental side, as well as plans for upgrading the mine and mill. The key catalyst is for the company to receive its primary water permit that will allow the discharge of treated water back into the environment. It's a sensitive topic because the mine is within the Nahanni National Park drainage area, so its work is under a lot more scrutiny. Canadian Zinc is expecting the draft of that permit to be issued later this quarter. Once awarded, it is effectively cleared to complete the mine and bring it into production, which could be as early as 2015.
TMR: As far as an offtake agreement goes, who are the potential suitors there?
MO: I believe Canadian Zinc has been talking to metal traders and various Chinese groups. There's mercury in the concentrate, and this adds a little bit of hassle, but it's saleable. It has to negotiate a good price, but there are smelters and metals traders who would be happy to take its concentrates.
TMR: To conclude, would you go as far as to say we're coming into an era of prolonged zinc price stability?
MO: I don't think we're coming into price stability for anything in the world right now. Anything that's related to the stock market is volatile. Everyone's doing very short-term trading. You get stability with patient, long-term investors. That's not the world we're in anymore.
If you have a longer view and think that the worst of the economic crisis is over, then it's an excellent time for zinc. I think its day is coming.
This interview was conducted by Brian Sylvester of The Metals Report and can be read in its entirety here.
Matthew O'Keefe is managing director of mining research at Mackie Research Capital Corp. O'Keefe was recently selected as the number-one mining analyst in The Wall Street Journal's 2010 "Best on the Street" survey. O'Keefe has 11 years of investment experience and began his career as an exploration geologist with a number of major and junior mining companies, spending five years in the field before becoming a mining specialist for Griffiths McBurney & Partners. Most recently, O'Keefe was a mining analyst with Cormark Securities. O'Keefe received a Bachelor of Science in geology from the University of Toronto, a Master of Science in geology from Queen's University in Kingston and a Master of Business Administration from the Richard Ivey School of Business at the University of Western Ontario.
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