EDITOR: | August 7th, 2015 | 3 Comments

If you know where the cash is, go get it!

| August 07, 2015 | 3 Comments
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All companies need cash to survive, whether to pay the researcher working on the latest anti-cancer drugs, the geologist in the field, the lawyer in the boardroom or the regulators. To get that cash into the company, a company must do a financing or earn revenue by selling assets.

R&D companies and the junior mining companies have a lot of overlap, including blue-sky promise, a high risk of failure, a need for government support by way of tax credits, and a lack of revenue. At some point, though, the company has to have something worth selling.

The miners are having a horrid time accessing cash right now. It seems everyone has a different analysis of why it’s happening – what’s inarguable is that it is happening. You need proof?

Yesterday Barrick Gold Corporation announced it was cutting its dividend by 60%. Barrick. This is the world’s largest gold miner, with quarterly free cash flow of $26 million, operating cash flow of $525 million and adjusted EBITDA of $725 million (all USD). Its press release announcing the quarterly results analyzed cost-cutting and debt reduction – the mining operations were an afterthought.

Goldcorp Inc., around $17.50 a share, is trading at little more than half its six-month high. The chart for iShares’s silver Exchange Traded Fund wouldn’t be out of place at Smugglers’ Notch. The five year and 30-day charts for copper ought to have a warning label on them: “caution, may induce vomiting”. And as a broad indicator, the TSX Venture Composite Index is off more than 40% over the past twelve months alone.

Any fault attributable to boards or management is minimal, a question of degree and not of kind. The brutal global market is what it is. Imagine the pain in the juniors’ boardrooms.

It gets worse when you realize the trickle-down impact this has. If Barrick is selling assets and reducing debt, it’s not putting any cash into new projects. That means no money is flowing to the intermediates from whom the largest companies like Barrick typically source projects. That means the intermediates don’t have the capital to joint venture, option or buy assets from the smaller companies, and that meagre food chain means the juniors must live on scraps.

This also means it’s extremely difficult for the juniors to carry out a meaningful financing. Equity financing is largely about optimism. “If we spend $500G, we’ll get this drug through FDA approval and then we’ll be billionaires!” “If we put 5,000 metres of drill holes into that hill we’ll find the motherlode and then we’ll be billionaires!”

The current environment offers little hope other than “stay the course, it’ll get better”. Hard to be an optimist when the best you can say is “Hey, let’s pray it doesn’t get any worse.”

Which brings us to the Pat Sheridan School of Mining. Class was usually convened mid-afternoon at Hy’s Steakhouse in Toronto.

Mr. Sheridan passed away earlier this year. If you knew him, the obituary was redundant. If you didn’t, it was of no help. Because more than a miner, Mr. Sheridan was a businessman who happened to be in mining.

I first met Mr. Sheridan in the early 1990’s when I was practicing law on Bay Street. My client sold him control of a publicly traded company, I don’t remember which. We stayed in touch and occasionally crossed paths over the years. One of my ties has a burn hole from his pipe at PDAC.

Whenever I was at or around Hy’s in the afternoon, I’d look around to see if he was there and available. A quick hello, a quick story, and I’d be off.

But one day, class was in session. Pat was seething about some company into which he had invested. The gist was that the company had spent enough money to define an economic deposit, but instead of mining it management wanted to keep on drilling to see how far the deposit went.

Instead of making money by mining the deposit, the board wanted to issue more shares to raise more money to spend more money to issue more shares to raise more to spend more to issue more to raise more to spend more …. Pat was, to put it mildly, in a state.

“Go get the money!”IMG_0586

Don’t keep drilling to find how far or deep the deposit goes – mine it! Put the investors’ dollars into extracting the resource from the ground, selling it and converting it to more dollars in the treasury. Give something back to the shareholders by earning revenue. It doesn’t have to a multimillion ounce deposit – if the economics prove up, go get it!

Does the anti-cancer drug work? Yes? Stop the research! Let’s get it approved and in the market before we run out of money. Is the uranium deposit economic? Yes? Stop drilling! Let’s get it permitted and mine it before we run out of money.

Not every R&D asset is viable and not every mineral deposit is mineable. But if it is economic, stop the analysis and go get the money. Surely shareholders would approve of a smaller current revenue stream that keeps the company alive, rather than taking a huge risk on still being around to further define that asset someday if funds ever become available.


Peter Clausi

Editor:

Mr. Clausi is an experienced investment banker, executive and director. A graduate of Osgoode Hall Law School called to Ontario's bar in 1990, Mr. Clausi ... <Read more about Peter Clausi>


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Comments

  • Jeff Thompson

    What do you think of Texas Rare Earths plan (linked below)
    http://investorintel.wpengine.com/technology-metals-intel/trer-plans-lower-capex-usd-100-million-round-top-heavy-rare-earths-project/
    where they proposed dramatically reducing CAPEX from the $293 million (2013 PEA value) to $60-90 million in order to get a smaller scale operation into profitable production, recognizing that $293 million is more difficult to come by in the current environment? Does that broadly fall in line with the business model you describe in this article, which if I may paraphrase, is along the lines of “Make small money now so you can survive market forces/competition long enough to make big money later”?

    August 7, 2015 - 7:13 PM

  • Michael Schuss

    Peter I agree. The new mantra for the mining industry is smaller is better. Smaller mines mean less cap ex and better control of the cap ex. When I started in this business 35 years ago to the month if you had a million ounce gold deposit that could produce 100,000 ounces a year for ten years you had a choice of senior partners. No it might get you a five to ten million dollar market cap on the TSXV. I have Canadian Mines Handbooks back to 1938. All mining companies paid significant dividends. That was in the pre takeover, we are leverage to higher gold prices that came in in the early 80s so dividends were a big part of returning investors capital. Also the the scourge of copper, gold or what ever equivalent. Someone with an MBA came up with equivalents as a way to compare apples and oranges. Made no difference on recoveries or concentrate qualities etc. To get on some Toronto mining analysts list you had to play the equivalent game. Promoters loved it. Any low grade uneconomic deposit of anything instantly became respectable when converted to copper, gold, silver equivalent. There are too many of these that keep getting more drilling and I`ve seen a lot of promoters living off more drilling and we are leveraged to higher metal price for decades. With the majors destroying capital for decades and with anyone with any kind of accounting background look at balance sheets and go these guys are all bankrupt. Barrick and Freeport ($10 and $20 billion in debt respectfully) will never pay the debt back long after all their mines are depleted. This business is getting smaller. Will be less companies but better projects. Smaller projects but ones that make sense on a return of capital and profitability. Mega projects and mega mining companies is over. Too big, expensive and their environmental foot print too large for any kind of timely approval. No other industry in the world aw shucks 100% plus cost over runs than the mining industry. No one wants to invest in mining stocks is of no surprise

    August 8, 2015 - 10:51 AM

  • Peter Clausi

    Hi, Jeff. I don’t know much about Texas Rare Earth’s plan so it’s hard to comment specifically, but at Michael points out in his comment above, in this environment a tighter, more controllable project has prominence. It does seem that TRE understands the environment and has adjusted its plan to provide a lower risk / lower short term return matrix for the shareholders.

    August 10, 2015 - 9:44 AM

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