Michael Fowler, senior mining analyst with Loewen Ondaatje McCutcheon Ltd. in Toronto, doesn't typically focus on midtier gold companies, but the opportunities are just too good to pass up. In this interview with The Gold Report, Fowler tells us that even private equity is getting into the game and discusses a handful of companies that are good growth plays.
The Gold Report: In January, the exchange-traded fund SPDR Gold Trust (GLD:NYSE.Arca) outperformed its silver counterpart, the iShares Silver Trust (SLV:NYSE.Arca), by about 6%. Should investors expect gold to outperform silver for the entire year?
Michael Fowler: Gold and silver are going to perform in tandem this year. Gold is in a corrective phase at the moment. I expect it to average around $1,300/ounce ($1,300/oz) and silver to average about $21/oz. We expect gold and silver prices to increase into 2015.
TGR: We've seen a bevy of bought-deal financings to start the year. Some, like Luna Gold Corp. (LGC:TSX; LGC:BVL), are financing below current market prices. Could you provide us with some insight as to what's happening there?
MF: There are about 1,800 resource companies on the Toronto Stock Exchange and TSX Venture Exchange and a capital shortage. The demand for capital is huge, but the supply is low. Companies are taking advantage of the small bounce in the gold price last month. In terms of financings, a 10% to 15% discount over the share price is typical when you're trying to get a deal done in this kind of environment. Luna Gold has reasonable quality.
TGR: Does that make you somewhat more optimistic?
MF: Yes, it is encouraging. However, it doesn't change my view that the industry is still in a mess. There continues to be a capital shortage. Companies spent money like drunken sailors in the past few years and the consequence is they have to cut costs significantly.
TGR: What types of projects are getting money?
MF: The better-quality companies are being financed. There is a capital shortage, but that doesn't mean there's no capital.
TGR: What makes a quality mining company in this market?
MF: Let's take Luna as an example. It has some production. The majority of these companies are still just exploring. Torex Gold Resources Inc. (TXG:TSX), which also came to the market, is a development play that is close to production. Investors want production, good assets and strong management.
TGR: Some recent reports suggest that there's as much as $10 billion in private equity looking to find its way into the undervalued junior mining sector. Is that changing how you evaluate companies in the junior gold and silver space?
MF: No, but if private equity finds the valuations of junior miners compelling, it means that these companies are extremely cheap. However, even private equity is having a hard time finding quality. There have been a few investments, but it's easy to get burned in this sector. Private equity firms are looking through the weeds and trying to find something of value.
TGR: Please outline the must-haves for companies you think are going to move in 2014.
MF: Jurisdiction-wise, North America is hot right now. So we would recommend assets in that jurisdiction. Companies have to have quality assets. The grade of the deposit is important. The cost structures are important. Valuation needs to be inexpensive, with potential for growing cash flows.
A good example is Osisko Mining Corp. (OSK:TSX), which is the focus of Goldcorp Inc.'s (G:TSX; GG:NYSE) takeover bid. Osisko has a quality deposit in Québec. There is some growing cash flow coming out of that one.
TGR: Your coverage universe has changed dramatically compared to the previous year. What are some notable companies that you continue to cover?
MF: We cover four companies, which are all Speculative Buys: Fortune Minerals Ltd. (FT:TSX), Clifton Star Resources Inc. (CFO:TSX.V; C3T:FSE), St Andrew Goldfields Ltd. (SAS:TSX) and Wesdome Gold Mines Ltd. (WDO:TSX).
I'd encourage people to also invest in midtier gold companies, which would be my favorites. Our coverage only reflects our business, which is more speculative, but it's wise to be involved in midtier gold companies, too.
TGR: Fortune Minerals has the NICO polymetallic deposit in northern Canada. It has a positive feasibility study. Where is it at with its environmental assessment?
MF: NICO is far along on the permitting side in the Northwest Territories. It is still looking to get some permits in Saskatchewan, where it's going to build the processing plant. It's close to being totally permitted, but it's been a painful process—as permitting usually is.
The key for Fortune Minerals will be getting financing. That financing will probably come from an Asian source. I also suspect Fortune will come out with a revised feasibility study. It might be changing the mine plan slightly, but most of the changes will be how it's going to process the deposit through the Saskatchewan plant.
TGR: With so much focus on NICO, where does that leave its Arctos Anthracite metallurgical coal project in British Columbia?
MF: Arctos isn't as advanced as NICO. It is in the permitting phase, but there have been some issues with the First Nations that Fortune still needs to resolve. The government of British Columbia seems to be positive on the situation there. The metallurgical coal price is at a low at the moment. However, if NICO gets financed then it should provide a catalyst for the stock.
TGR: Clifton Star recently got some drill results back from its Duparquet project. What's that deposit shaping up to be?
MF: It's pretty encouraging. I estimate that it could have about 3 million ounces (3 Moz) gold in reserves and could produce 150,000 oz a year. It's not going to be like Osisko's deposit, which is about 10 Moz, but Duparquet will likely be a good, smaller mine. The stock could benefit from a joint venture or an acquisition of Clifton Star.
TGR: What's the market valuing those ounces at?
MF: It's under $10/oz.
TGR: That's just a staggering number.
MF: The reason for the low valuation is because of financing risk. The biggest risk here is how does this deposit, like Fortune's, get built? There's a lot of potential for a major to come in and joint venture or acquire the company.
There's been a huge amount of drilling on this deposit. It's considerably derisked. Any issues will be on the mining, recovery and processing side. It's a pretty good deposit. I'm certain that Clifton Star will get some interest from majors on this one.
TGR: St Andrew Goldfields said in a recent presentation that its all-in sustaining costs for 2013 were $1,194/oz. The gold price is currently around $1,250/oz. [Editor's Note: Gold is currently around $1,325/oz.] It has some debt as well. Can St Andrew make money in the current gold price environment?
MF: In this environment, it's a little bit of a wash. Free cash flow will be zero, but it doesn't have a bad balance sheet. It has a very good team. It should be able to cut its all-in sustaining costs, particularly from the Holt mine. I'm optimistic that St Andrew can cut costs and also generate free cash flow. Maybe not by much, but its balance sheet is strong enough to sustain this present situation.
It also has a very good debt deal with Scotia Bank. Its interest rate is somewhere in the region of 4%. That gives you an indication of what the bank thinks of St Andrew. It doesn't think that this company is a particularly big risk. It should give equity investors some encouragement.
Next page: Identifying growth