The combination of increasing costs in the mining industry and tax loss selling has created an opportunity for investors in 2008. This follows an entire industry being taken down by profit taking following peaks in metal prices and concerns over jittery credit markets. Moving beyond December, the markets should be less distracted with tax strategies and year-end window dressing. Investors are likely to resume rational stock picking by focusing on fundamentals, seeking lower risk and higher return opportunities.
A great many investors are frustrated by metal equities falling during a period of record metal prices. Many favorite companies’ prices have fallen to some of the lowest levels in years despite success in hitting milestones in advancing projects to production. Future prospects of sustained margins are being squeezed, not by declining metal prices, but by increasing costs. Neglect in maintaining a pipeline of personnel and available equipment incapable of meeting demand worldwide has impacted the mining industry in unfortunate but predictable ways.
High cost levels should persist as long as investment bankers pump capital into the mining sector. This activity, reminiscent of the recent technology boom, may now be coming to an end. Companies are likely to spend down their treasuries, hoping for success relative to competitors for capital. Those unable to persuade markets to invest will economize on exploration and development, leading to shelving or spinning off projects. In addition, employees should resume seeking employment based on long-term employment and working conditions rather than bidding up salaries. We anticipate that both activities should gradually reduce demand and costs of equipment, personnel and projects. This should also accelerate consolidation and flight to quality.
We believe that companies with good fundamentals should provide the greatest value in the coming year. These are characterized by solid management, with ramping production opportunities fully exposed to metal prices. While these may not be less attractive to investment bankers and their analysts for gaining exposure in the market, they should have the best opportunity to create value by pursuing exploration or making acquisitions. These companies should be less dependent on capital markets, sparing their shareholders excessive dilution. We follow a number of companies with good fundamental value with likelihood for increasing cash flow and the combination of solid management and projects to support future growth.
Figure 1.—NovaGold’s Rock Creek Mine in Nome, Alaska
NovaGold Resources Inc. (NG) should soon begin commissioning its Rock Creek mine in Nome, Alaska (Fig. 1) (see report here; large pdf warning). The project is scheduled to reach full commercial production in 2Q08, fully exposed to current metal prices, combined with ongoing sand and gravel operations in Nome, should provide $25 to $30 million in cash flow on an annual basis. This should fund additional development of satellite deposits and accelerate development of gold placer operations in Nome. Additionally, NovaGold has a 50% owner of the Donlin Creek (see report here; large pdf warning)and Galore Creek (see report here; large pdf warning) projects, among the largest undeveloped gold and copper/gold deposits in the world.
Figure 2.—Etruscan’s Youga Mine in Burkina, Faso
Etruscan Resources Inc. (ETRUF.PK) (see report here; large pdf warning), with the largest land position of any mining company in West Africa, is now commissioning its Youga gold mine in Burkina Faso (Fig. 2) (see report here; large pdf warning). The Company is prepared to reach full commercial production in 2Q08, and with its price protection program should generate over C$18 million annually for development of its many projects. Additionally, they expect to increase reserves of gold as they commence production from identified satellite deposits. Also, the Company should increase gold reserves as it completes its Feasibility Study on it Agbaou project in Côte d’Ivoire. They expect to invest cash flow in over a dozen gold resource targets under their control. In addition, its ownership of Etruscan Diamonds (see report here; large pdf warning) is a hidden asset which we anticipate will become more prominent in 2008.
Figure 3.—Minefinders’ Dolores Mine in Chihuahua, Mexico
Minefinders Corp. Ltd. (MFN) is completing the leach pad and stockpiling ore for processing at its Dolores project near Chihuahua, Mexico (Fig. 3) (see report here; large pdf warning).
The Company expects to reach full commercial production in 2Q08. Production of gold and silver at Dolores is fully exposed to current metal prices. They recently competed additional financing and we anticipate that with an increase in resources they will make a positive decision to pursue expansion of Dolores to increase recoveries and production. The project should provide cash flow to advance the Company’s Real Viejo and Planches de Plata silver projects in northern Mexico.
Figure 4.—Acadian’s Scotia Mine in Nova Scotia
Acadian Mining Corp. (ADAIF.PK) is optimizing production of lead and zinc at its restarted Scotia Mine at Gays River in Nova Scotia (Fig.4) (see report here; large pdf warning).
Acadian is rolling up numerous lead/zinc properties, which we believe may keep them busy for a generation. The Scotia Mine is fully exposed to prices of base metals. Cash flow from the mine should permit payment of a dividend, repurchase of shares, or completion of a Feasibility Study for a central processing facility to mine gold in Nova Scotia. Acadian is well positioned to become the dominant mid-tier precious and base metal producer in Atlantic Canada.
Figure 5.—Mercator’s Mineral Park Mine near Kingman, Arizona
Mercator Minerals Ltd. (MLKKF.PK) is currently generating cash flow from production of cathode copper at its Mineral Park mine near Kingman, Arizona (Fig. 5) (see report here; large pdf warning).
Mercator is scheduled to complete the first phase of its 50,000 tpd copper/molybdenum facility by the end of 2Q08, commencing production at a rate of 25,000 tpd. The first phase is fully funded with none of the production hedged, allowing production to be exposed to current copper and moly prices. Upon completion of the first phase, they expect to continue with the construction of the second phase, ramping up plant capacity in the mill to 50,000 tpd, while financing the cost of construction from cash flow generated from the first phase. The second phase is expected to come on line in 1Q09. At full production Mineral Park is expected to produce on average over 56 million pounds of copper, 10 million pounds of moly and 600,000 ounces of silver annually over the first ten years of operation at the 50,000 tpd run rate. Current proven and probable reserves should allow for a 25 year mine life at Mineral Park, with additional opportunity to expand the mine life at depth (metals prices used for the calculation of proven and probable reserves were $1.40 per pound for copper, $7.50 per pound for moly and $7.50 per ounce for silver). Mercator has also launched a formal take over bid for all of the shares of Tyler Resources Inc.
Alexco Resource Corporation (AXU) wholly owns the Keno Silver district in the Yukon including over 220 km². The district has historic production of over 217 million ounces of silver with some of the highest silver grades in the world. The project is now being explored comprehensively in cooperation with NovaGold’s exploration team with modern mining methods. The Company is focusing on moving its most advanced projects to production in 2009. Alexco has a growing environmental business which allowed it to come into ownership of the district and provides cash flow and a unique ability to locate business development opportunities.
All of these companies have the ability to generate cash flow to offset exploration and development expenses in 2008. Each of these companies appear well managed, located in stable political jurisdictions friendly to mining, and in good position to expand resources in the coming year. We believe that they may be in the best position to benefit in a potential consolidation and flight to quality in the mining sector. For investors looking for quality in the mining sector following a challenging year, we believe these companies are worth investigating.
Disclosure: The author is long NG, ETRUF.PK, MFN, ADAIF.PK, and AXU and has no positions in any other stocks mentioned in this report. An affiliate of the author’s employer provides corporate advisory services to NG, ETRUF.PK, MFN, ADAIF.PK, MLKKF.PK, and AXU
