TGR: The last time we talked, you also anticipated that mergers and acquisitions (M&A) would be a major theme for this year, and that definitely seems to have played out. Let's talk about some of the deals that have happened recently in the resource sector. What can investors learn from that?
FS: There were a few interesting acquisitions/mergers in the last month. The transaction between OceanaGold Corp. and Romarco Minerals Inc. is interesting because OceanaGold is an Australian gold producer with assets in the Philippines and New Zealand. The company is buying, for almost CA $900 million in an all-equity transaction, Romarco, which has the 4 million ounce (4 Moz) high-grade Haile deposit in South Carolina.
I think the transaction shows that good quality deposits are very rare. Otherwise, an Australian company wouldn't enter new territory in the U.S. Also, I think this shows investors that good projects, despite dire market conditions, come at a premium. OceanaGold paid almost a 70% premium on the Romarco shares.
TGR: Are similar premiums being paid for rare high-quality silver projects?
FS: Yes. First Majestic Silver Corp. recently bought SilverCrest Mines Inc. Both are silver producers in Mexico. This was a friendly all-share deal for the Santa Elena high-grade mine. It is probably strategically important for a company like First Majestic to add to its footprint to realize the vision of becoming the leading silver producer in Mexico.
The deal also adds net cash to its balance sheet on the order of CA $25M. That means the company is improving its balance sheet and it has another high-grade deposit to add to its portfolio.
In this market, there aren't too many companies that can offer a $120M transaction, so it's a buyer's market. In a rising silver price environment investors will revalue the whole company and see the wisdom in the timing.
TGR: Will these deals set a precedent for pricing going forward?
FS: It really depends on quality.
Temex Resources Corp. recently received a superior proposal from Lake Shore Gold Corp. (LSG:TSX) following the initial takeover bid from Oban Mining Corp. Lake Shore is paying 50% more than Oban offered on the Temex share price and the weighted average price is roughly a 100% premium, but it's a small transaction, $24M, compared to Lake Shore's $500M market cap. That transaction makes sense strategically because the Whitney project is so close to Lake Shore's Bell Creek mill in Ontario, Canada.
I would be cautious when transactions don't make sense operationally, for example, a company with a good asset base and poor balance sheet buying another company with a bad asset base but a good treasury. That might just be a transaction to fix the company financially without creating any long-term value or creating any benefit for the shareholders.
TGR: As you mentioned, a lot of these are paper deals. Do you think that's going to be the standard?
FS: The companies buying now can dictate the terms. No one wants to pay a premium in cash because cash is rare, and companies need the cash for their mines, as we probably won't come out of the downturn any time soon. So they use their share price as currencies, and that's exactly the right thing to do. But it's going to change when the market gets more buoyant, companies make cash and accumulate a treasury, and banks prove more willing to lend. It's all cyclical.
TGR: Based on those deals, what are some companies that look attractive today, either as M&A targets or as projects that could be well positioned once the gold price does turn?
FS: The big mining companies, AngloGold Ashanti Ltd. Barrick Gold Corp. and Newmont Mining Corp. are currently disposing of nonstrategic assets. They have to shrink their portfolios and fix their balance sheets. Sooner or later, these companies have to refill their production pipeline, and they will have to do this by acquiring.
When you are betting on M&A, one way is to evaluate smaller exploration companies that are in a good position financially because they're backed by major shareholders who can fund their exploration programs through the downturn. Even better are companies with solid brownfield assets, which make it rather easy to prove up a substantial gold resource.
One of two companies I would suggest that are in this position would be Falco Resources Ltd. which has a past-producing portfolio in Quebec called the Horne project. The strategy is pretty clear—drill this deposit out, prove up the preliminary economic assessment (PEA), prove up the metallurgy, move the project to bankable feasibility level and then sell it to a major. One way of getting exposure to M&A upside is through Falco Resources.
The other one in a similar position is TerraX Minerals Inc. which has a huge district in the Northwest Territories, the Yellowknife City project, just north of the historic Con and Giant mines, which collectively produced about 10 Moz gold in the past. TerraX controls the whole district and is targeting a 5 Moz gold resource. Management knows what a high-grade deposit should look like to make it attractive as a takeover target.
TerraX is never going to be a producer. I think it is heading for an exit strategy. Management holds 15% of the company. When the majors need to buy something, this project will be available with great recent work. But it needs time. This is not a stock you only need to hold for a couple months. You have to be patient. That requires a three- to five-year time horizon.