Investors In Mining Stocks Will Do Best When They Focus On Great Projects That Are Well Promoted Using The Top Digital Marketing Tools
I’ve never been a fan of diversification, especially in terms of mutual funds. The problem with them is that they are baskets of stocks that contain great companies, good ones, so-so ones and bad ones.
They lull investors into believing that taking a shotgun approach is somehow safer than hunting for investments with a rifle. The greatest investor of all time is Warren Buffett, he hunts with a rifle not a shotgun and when he likes what he sees, he makes big bets.
He doesn’t think that a big basket of picks reduces risk, he believes that what reduces risk is finding stocks that their value is being mispriced and having a stable of those in his portfolio is what reduces risk and maximizes his gains when the crowd figures it out.
The hard facts are that professional money managers are bad at their job, really bad. Most of them can’t beat the averages they are compared against, and they charge a healthy management fee for their poor performance.
Take gold mining stocks for example, why own a basket, when you can focus on the best in breed. It isn’t overly difficult to distinguish them, it only takes a reasonable amount of homework and understanding the metrics that matter.
Look at the big 3 gold miners, Newmont, Agnico Eagle and Barrick. Both Newmont and Barrick have struggled for years to maintain their production, are not able to increase production in a meaningful way and are struggling to replace their old mines with new mines.
Meanwhile, Agnico Eagle has gone through several quarters making new records in free cash flow, and are making moves to increase their production and bring down costs. They already produce gold for well under the average cost of production of their peers. Plus, they are having no problems replacing what they mine each year. When it comes to the important metrics of gold miners, Agnico Eagle is firing on all cylinders.
They are the epitome of excellence in execution as a gold miner and they are also seriously talented players in the mergers and acquisition game. For too long, Newmont and Barrick were focused on getting bigger for the sake of being bigger. On the other hand, Agnico Eagle has been focused on buying mines that complement their other mines and have the same characteristics. They want to buy and build to be better when it comes to free cash flow.
Alamos Gold is a smaller version of Agnico Eagle. They are also making new records in free cash flow, and increasing their production while bringing down costs. What makes Alamos Gold a rising star is that they already produce gold for well under the average cost of their peers, but they have new mines coming online that will bring their cost of production down to around $1000 per ounce. That is the wow factor for them.
Mergers and acquisitions are picking up in the gold mining space, it would not surprise me to one day see Agnico Eagle take a run at Alamos Gold as they have the same business plan. Both are great miners that laser focused on free cash flow growth with the pipelines to keep being best in breed gold miners long into the future. A rising gold price of gold will make their free cash flow keep making new records.
To figure out how to identify the best in breed gold miners requires understanding the key metrics. Which is also true for gold mine developers and explorers. Basically, what is important is that they build new mines that could pass the Agnico Eagle and Alamos Gold tests.
When I look at mine developers, I focus on the cost to build (capex), internal rate of return (IRR) and payback period. I love low capex projects with high IRRs and rapid pace to pay back the capex. It is the quickest way to get to the goal of having a mine that is a free cash flow machine.
They are also the kinds of mines that a junior can build. One of our top mining picks was SilverCrest Metals, they were able to go from a small company that transformed into a free cash flow machine of a gold-silver miner that is now being taken over by Couer Mining.
Their Las Chispas Mine in Mexico had a low capex, when they turned it on they had $100 million in debt needed to build the mine. Within a few quarters of full commercial production they paid off all the debt and built up a war chest of cash, gold and silver worth over $150 million.
This doesn’t mean that those are the only kind of development projects to look at, high capex mines can also be very attractive if they have a healthy IRR. Sure it will take longer to pay back the capex, but they are also long life mines that once they pay off the capex can be free cash flow machines for a decade or two, sometimes longer. Another benefit is they have the scope to move the needle for majors and can turn into takeover targets.
The bottom line for developers is to focus on capex, IRR and payback. These are the key metrics that help investors find the best in breed developers.
Explorers fall into three categories for me, those that have hit a promising discovery hole, those that have made an important discovery and those that have advanced a discovery to the point of estimating how much gold they have in a resource calculation.
Each step gives insights into what will happen in the next steps. Take for example when a company has a discovery hole. I look at the grades in the discovery to assess if it is a high-grade underground target or a low-grade open pit mining target. Then I look at the geology, geophysics and geochemistry to assess if it has the potential to become an important discovery.
Once they have made a discovery, there are key characteristics I look for that I call the Bob Darney Trend. He was one of my key mentors in geology (sadly he is no longer with us) and he taught me some key things to look for that I have never forgotten and use every day.
One thing he told me was to follow the Truth Machine (that is what he loved to call the drill rig) and watch where the holes are in relation to each other and how the gold, or other metals, are distributed inside the drill hole. One of the most popular sayings in mining is that grade is king. But without continuity, a discovery won’t become a successful mine. Which is why I stress in my reports that grade and continuity are king.
He also taught me something else that I have never forgotten. He said every project starts out with a big target based on geochemistry, geology and geophysics. But, most of them get smaller once the Truth Machine goes to work. Then he would stress that mines are different, they get better and better the more science and drilling you throw at them. Another thing he stressed is that mines tend to have a lot of pleasant surprises along the way of being drilled to become a mine.
I always apply the Bob Darney Trend to every exploration project I follow from the discovery hole and throughout it being advanced. If they get better and better with more drilling and have pleasant surprises, I know they are headed toward being a future mine.
As a discovery advances, then the next step is to do a resource estimate. When they pull the trigger is important to me. I hate seeing an explorer rush into a resource estimate because it has a way of capping the project in investors minds and it shouldn’t because they are nowhere near the limits of the deposit. This happens much too often because management wants to promote that they have a significant deposit and think that they need to produce a resource estimate to make them a takeover target by a bigger company.
Majors and mid-tiers have robust technology and expertise in modelling deposits based on drill holes. They don’t need an explorer to give them a resource estimate to inform their decisions as to whether or not they should take them over or make an investment in them.
In my opinion, an explorer should never go to the stage of doing a resource estimate until they are getting close to the limits of their discovery, or at a minimum, are at the point that they think it is ready to have economics run on it soon after doing a resource estimate.
Plenty of people in mining will argue against this conclusion, but I would counter by saying, there have been explorers taken over in the billions with no resource estimate. Plus, plenty of others that got their projects capped in investor’s minds and take many years to have economic studies run on them.
For me, once a discovery is nearing the limits, or ready for economics to be wrapped around it, then it is time for a resource estimate, before then, is jumping the gun.
When I look at a discovery that has advanced to a resource estimate, I look for key details, one is the cutoff grade, and the second is the average grade. The cutoff grade helps assess what the cost of mining will be as it is calculated based on ballpark estimates of costs to mine that deposit. The margin between the cutoff grade and the average grade is a solid indicator of the potential for the discovery to have an impressive IRR.
Keeping these factors in mind gives indications of how the discovery will look when economics are wrapped around it. The first important economic evaluation is a preliminary economic assessment (PEA) that uses the data in the resource estimate. The key metrics in the resource estimate can give investors a pretty good handle on the capex, IRR and payback period for the capex.
The various factors and rules of thumb above make up some of the key metrics to help determine if a miner, developer or explorer is best in breed.
Throughout my career in mining, I have always been first and foremost focused on projects. These days promotion is taking almost an equal weighting in my mind, specifically a company’s commitment to digital marketing.
A great project that is not well promoted using digital marketing tools, will struggle to have an engaged audience of investors, resulting in a less than stellar stock valuation. When a company has great storytellers in management, with an impressive project, and are regularly doing interviews on videos and podcasts, plus effectively using social media, magic can happen.
All the best,
Allan Barry Laboucan
