Goldcorp Inc. (NYSE:GG) reports full-year results for 2015 on February 25, 2016 after market close. The conference call is on Friday morning. The report timing, combined with the recent run-up in both gold prices and GG's share price and the high-risk nature of new gold development projects such as the Cochenour deposit, has created an excellent convex short opportunity (limited downside with large upside potential).
Cochenour Project Background
The Cochenour project started in July 2008 with Goldcorp Consolidates Red Lake District With $1.5 Billion Acquisition of Gold Eagle.
According to Goldcorp's 2014 Annual Report,
Cochenour is an important component of Goldcorp's future in the Red Lake district. In 2014, the five-kilometer haulage drift was completed, which connects Red Lake's underground mine with Cochenour. This year, work continues on geotechnical assessments, backfill, and material handling studies, focusing on infrastructure rationalization and placement. During 2014, exploration and delineation drilling continued to ramp up with a focus on pre-production drilling to optimize the placement of capital development. In 2015, drilling will commence in the upper level and accelerate into the deeper portions of the Cochenour deposit.
The September 2015 MD&A included the following update on Cochenour:
Processing of mill feed from the initial sill-development work was consistent with expectations. Work is ongoing to define the timing of initial stope production and ramp up of Cochenour feed for processing at Red Lake.
Per reports to date, Cochenour is all good news. But it is hard to say just what Cochenour development work on mill feed means and it does not answer the more important question on production mining at Cochenour: Will Cochenour production ore meet expectations set by the billions of dollars spent on acquisition and development?
Cochenour Project Risk Review
It is useful to review available geological data from Cochenour and the surrounding area.
The GG Red Lake mine is a true gem with a production history dating back more than 50 years and many millions ounces of gold. 2014 production was 414,400 ounces.
Although Cochenour is 5km away from the main Red Lake deposit, there is hard evidence from the Red Lake area that great-looking drill cores from exploration and development phases can result in disappointing bulk mining tests and production failures.
Consider Rubicon's Phoenix project, which is 8km away from the main Red Lake mine. To develop Phoenix, Rubicon hired an experienced engineer with local expertise - Rubicon Minerals Appoints Michael Lalonde President and Chief Operating Officer, Apr30/12:
Mr. Lalonde holds a B.Sc. in mining engineering from Michigan Technological University and is a registered Professional Engineer in Ontario. He will be leaving the position of Director of Underground Projects for Goldcorp Inc. where he is responsible for guiding the construction and development of Goldcorp's underground mining projects internationally, as well as the preparation and oversight of scoping to feasibility level studies. His current duties at Goldcorp include management of the development of the Cochenour project in Red Lake. Between 2008 and 2011, Mr. Lalonde was the General Manager of Goldcorp's Red Lake Gold Mine in Red Lake, Ontario responsible for mine infrastructure, development and production programs at this world class gold deposit.
Yet after spending many hundreds of millions of development dollars, Rubicon announced on Nov3/15 Underground Activities Temporarily Suspended at the Phoenix Gold Project; Rubicon to Enhance Its Geological Model and Develop an Implementation Plan and then on Jan11/16 Rubicon revised project resource estimates down by approximately 80% to 90% Rubicon Updates Mineral Resource Statement for the Phoenix Gold Project And Evaluates Strategic Alternatives
Another interesting similarity between Cochenour and the Rubicon Phoenix Gold project is the independent geologist Peter George. In May 2008, Gold Eagle reported:
TORONTO, May 27 /CNW/ - Gold Eagle Mines Ltd. (TSX: GEA) ("Gold Eagle" or the "Company") is pleased to report an exploration target potential for the Bruce Channel which has been prepared by Mr. Peter George P.Geo., of Geoex Limited. In Mr. George's opinion, the exploration target potential of the Bruce Channel, based on the drilling completed to the end of 2007, is 14.1 million tonnes to 16.5 million tonnes grading between 20 grams gold per tonne to 25 grams gold per tonne, yielding an in-situ potential of between 9.0 million to 13.3 million ounces of gold.
Note: The Bruce Channel technical report was never filed as Gold Eagle was acquired by Goldcorp by July 2008.
I strongly suspect that the unfiled report by Peter George on the Bruce Channel deposit contained a section with words similar to these:
In the Author's opinion it is demonstrably valid to assess the geological potential of an undeveloped gold zone by establishing the volume of vein zone or mineralized structure as a basis for estimating tonnage potential, and, assessing the grade potential based upon the grade of similar deposit types, and where available, the statistics of the assay data for such deposits.
Major financings for underground exploration and development of Archean gold deposits should be based on well defined geological potential, otherwise, there is a high probability that Canada will miss out on significant gold production.
In addition to the standard operating procedure "drill for structure" and "drift for grade" that was common to the major Archean gold mining operations in Canada, the other commonly accepted parable was that "gold mines are made, not discovered".
The above quotation appeared in two subsequent Peter George Technical Reports available at Sedar:
HINGE AND 007 ZONES RICE LAKE GREENSTONE BELT, BISSETT, MANITOBA for San Gold Corporation, April 2010. History San Gold filings
F2 GOLD SYSTEM - PHOENIX GOLD PROJECT, for Rubicon, January 11, 2011. Rubicon Sedar filings
In another report, Mr. George used the nugget effect and logic similar to that used in the Rubicon and San Gold reports above to support a potential resource estimate of 40 to 90 million ounces.
CARIBOO GOLD PROJECT, for Barkerville Gold Mines Ltd., August 12, 2012. Barkerville Sedar filings
Subsequently San Gold production of the Hinge deposit failed to meet expectations and the company ultimately went into receivership in 2015 (for many reasons) and its assets were sold to pay creditors.
Rubicon's stock collapsed to less than 3 cents in 2016 as the full account of the Phoenix pre-development fail was released.
Barkerville has yet to produce even a Scoping Study on Cow Mountain but the following news release is worth reviewing Discipline Cases Highlight Improper Public Disclosure for Two Mineral Exploration Projects
Mr. Peter Thomas George, P.Geo., was the QP for the Barkerville Project in B.C., owned by Barkerville Gold Mines Ltd. Faced with a public hearing, Mr. George entered into a Consent Order with APEGBC by which Mr. George admitted to unprofessional conduct in producing a substandard technical report for Barkerville Gold Mines Ltd. that failed to meet the requirements of NI 43-101. Mr. George also admitted to producing two substandard technical reports for Rubicon Minerals Corporation for its Phoenix Gold Project in Ontario. Mr. George must pay a fine of $15,000, costs of $20,000, and is subject to a number of conditions on his membership with APEGBC, including the requirement that he not perform mineral resource or reserve estimations as defined by NI 43-101.
Cochenour Risks Conclusions
The overlap of professionals, results to date, geological similarities, plus the multi-year down trend in gold prices are the main reasons I will not be surprised to see a major writedown from Goldcorp on the Cochenour project in the 2015 full year report. Specifically:
Peter George prepared a key technical report on Cochenour and 3 other nuggety deposit projects in Canada. The Rubicon and San Gold projects have failed in pre-production/production and Peter George has admitted to preparing substandard Technical Reports for Barkerville and Rubicon. I do not expect that the Gold Eagle report, if it were to be reviewed, would be judged any better, or produce better results, than the Rubicon, San Gold or Barkerville reports.
A Goldcorp Engineer who worked on the Cochenour project went on to lead the Rubicon development project and after 3+ years of effort the project failed because of low grade ore. The Cochenour project was in pre-production at the end of 2015 and pre-production results can be reasonably expected. Given the people connections to Rubicon and San Gold combined with the geological similarities of a nuggety deposit, a surprise writedown at Cochenour should not be a surprise to investors considering the evidence presented above. Consider the possibility.
Other Goldcorp Risk Factors
Black Swans Circling Canada's Resource Sector - the new Liberal government is a wild card for Canada's resource extraction sector. Agnico Eagle Mines (NYSE:AEM) announced a slowdown in their spending at their Meadowbank project in Nunavut, a project with a heavy carbon foot print in the heart of First Nations Anticipating and Trading the Agnico Eagle Mines 2015 Full Year Results. I do not believe the AEM investment slowdown is entirely independent of uncertainties resulting from unpredictable statements made by Prime Minister Trudeau on Canada's future as a low carbon economy, First Nations rights, and new directions for the Canadian economy.
GG has operations in Canada and the new Federal government may cause GG to slow investment if it perceives a political risk. For the moment, however, this remains a minor concern.
Like that of virtually every gold producer, GG's stock price is highly correlated with the price of gold. The early February 2016 run-up in gold prices is likely to fall back and pull GG's stock price back down, undoing the recent run-up. SPDR Gold Trust ETF (NYSEARCA:GLD) bullion inventory levels provide a reasonable signal to predict the start of a gold price retracement - see Trading Gold Producers Using GLD Bullion Inventory Levels As A Signal for background and back test results and GoldMinerPulse for daily update of the GLD signal (as of 2016-02-12 the signal was "Out - Waiting Short Confirmation" which may come this week).
The upside to GG is very much dependent on the price of gold, which is, I believe, limited at this point and the odds of a pull back are much better than 50/50. A good play for the GG full-year results, then, would be to buy near-the-money March PUT options.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: I will look at AEM & GG March PUT options when the GLD signal show go short.