BHP - RIO -- Merging Bubbles

I play CAPS and I am losing on my BHP call and barely holding on my RIO call. I believe both these companies to be highly bubbled values and BHP is courting RIO.

BHP has a market cap of about $190 billion and I believe BHP has been artificially sending its share price higher with its share buy back program. I simply see no value for long term shareholders, as I have previously written.

I think share buy back programs are gross violations of shareholder interests as ultimately they tend to line the pocket of the executives with stock options at the detriment of the company and shareholders. A share buyback creates a temporary increase in demand which increases price. Mish has a very good example of a share buy back that fell apart. I can't see the BHP buyback being much different.

Ouch, isn't this going to be good, look at some of the largest shareholders:

Company Citicorp Nominees Pty Ltd	Shares 440,460,280	% 13.12
HSBC Australia Nominees Pty Ltd	377,638,519	11.25
J P Morgan Nominees Australia Limited	372,983,700	11.11
UBS Nominees Pty Ltd	20,861,621	0.62
HSBC Custody Nominees (Australia) Limited	18,369,730	0.55
ARGO Investments Limited	6,422,411	0.19

Aren't those companies related to companies already in trouble because of subprime?

So, BHP has been making record profits, but when you look at their liabilities, they have increased from $17 to $28.5 billion. There is no question that equity has increased nicely, from $12.8 to $29.7 billion, but price to book is over 7x. Additionally, P/E is around 17-18. Say earning cut in half, then the P/E is about 35, and earnings cutting in half is highly realistic.

The problem is that many commodity prices have gone down and with weakening demand, and they are likely to decline further.

Take a look at BHP's earnings over the past six years:

Year	Total Income (billions)
2002	$1.25
2003	$1.58
2004	$2.72
2005	$6.32
2006	$9.75
2007	$13.16

BHP's business segments (and relative share of 2007 profit) are petroleum (16.4%), aluminium (9.9%), base metals (31.5%), diamonds and specialty products (1%), stainless steel (20.1%), iron ore (14.6%), manganese (1.4%), metal-lurgical coal (6.8%), energy coal (1.4%), and eliminations (-3%).

Take a look at the 5 year spot price for aluminium, some base metals and nickel, of which 60% of segment profits are dependent.







For Aluminium the profit before taxes was 31%, $1.8 billion out of $5.9 billion. The year ended in June and spot price graph shows a full year of strong price when the US dollar was on average about 15% stronger. A rough estimate of where the 2008 price will be with both spot price and currency declines is about 25% less. That comes off revenue and costs stay relatively the same, so expecting to see revenue decline to about $4.5 billion for 2008 for aluminium is highly realistic. Well, $4 billion was costs, so the aluminium segment declining to $0.5 billion in earnings isn't unrealistic, or $1.3 billion shaved off earnings.

There are a few base metals, but they all have strong prices so an estimate can be made just by looking at copper. The revenue was $12.6 billion and profit was $5.8 billion, or 43% of revenue. Copper had a 2-3 month period for 2007 with a strong price decline in the winter/spring so average copper price for 2007 looks to be around $3.20ish. Copper is currently 10% less and with the G7 economies all slowing down it is not likely to have the same kind of price support. So copper revenue down 20% for 2008 is not unrealistic. That would shave $2.8 billion off earnings.

Steel is nickel and nickel price is indeed scary. BHP caught the entire unsustainable nickel price spike in 2007. Whoo-hoo, no wonder it had a race to the bank 310% EBIT increase over the previous year. It looks like the average 2007 price was about $17-18/lb. Nickel is under $12/lb and there is about a 15% currency decline to consider. Expecting to see 2008 revenues will be down in the range of 40% is not unrealistic. That would be $2.8 billion off revenue and would take profit from $4 billion to $1.2 billion.

Looking at just 60% of the market segments of BHP and considering commodity and currency declines there is a feasible estimate of $7 billion decline in operating profit, or about 37% gone. For this year the energy earnings look sustainable, and could be up, but I would expect energy to decline as the gross over supply of housing used a lot of energy and that part of the demand is already declining as manufactures that supplied the housing boom are finding their inventories increasing and are cutting production.

For the merger with RIO they need $70 billion, $40 billion to restructure Rio's debt and another $30 billion for a share buy back. Their existing long term debt is about $9.3 billion, so they are looking to increase debt about 9-fold. They had $13 billion in earnings for 2007 and Rio had $7 billion. Wouldn't it be reasonable to expect debt servicing costs on $80 billion to be about $8 billion? With the kind of unsustainable record earnings of the past 5 years wouldn't you expect zero debt on the books?

This is the wrong time to increase debt. With $80 billion in debt, and say earnings go down 25% overall, would result in increased costs by about $7 billion and decrease income by $5 billion, and combined $20 billion in earnings would decline to $8 billion. Scraping the share buyback would reduced the debt burden by $3 billion so earnings would only decline to $11 billion.

But, overall, I would anticipate more like a 50% decline in earnings by the time the next year or two play out without increased debt costs.

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Is Zinc Deleveraging?

An article, Shanghai Exchange More Than Doubles Zinc Price Limits, describes how the margins for zinc contract have been increased and how price controls have been relaxed, if my understanding of the article is correct.

To enter a contract you needed 5% down, but that changed on November 19th to 9% down and it is increasing to 14% on November 22. That is almost three times the margin requirement and three times the amount of money down.

The price control limited the change in any single day to 6% and that has been raised to 13%.

The changes to margin are enormous.

Frank Veneroso has maintained that metal prices increased beyond reasonable levels partly due to hedge funds buying metals without ever planning to take possession of metal. With a 5% margin requirement, they could tie up 20 times the deposit on any commodity trade. Increasing the margin dropped the leverage to 11 times and the final increase drops the leverage to 7 times. Essentially traders now require about 3 times the money to enter a contract. If hedge funds are indeed responsible for the huge increases in price, that leveraging has got to fall apart pretty quickly with such enormous increases to the margin.

Zinc exports from China increased by 47% during the first 10 months of this year, which really doesn't say much unless you have an idea of how much of the world zinc market they produce and how much they export. Data from the US Geological survey suggests that China produced about 25% of the world production, about 3 times what the US produces. This certainly suggests China is a big enough producers of zinc to be dramatically influencing the price down with such huge increases in exports.

The price declines will result in enormous downward pressure on zinc stocks I've previously followed.

When I looked at Zinifex in July the P/E was around 8.6. The metal values per ton of their Rosebury mine that they were mining was about $610/ton, but the reserves for future mining were a higher grade at about $800/ton. Having a higher grade coming up, and not an outrageous P/E to start gave Zinifex room for downward pressure from prices. The downward pressure on zinc prices have been enormous, however, at today's prices that higher grade reserve still has metal values of over $650/ton. The Century mine also had higher grade in reserves to be mined. Costs are in Australian dollars. The higher grades to be mined are protective, however, zinc prices have come down enough to be cautious with this one now.

I didn't care much for Tamberlane, Breakwater or Acadian. Tamberlane only had one deposit out of the 34 that had very nice revenue potential and that would only last 1-2 years and the other deposits were questionable. Breakwater's best mine had metal values of about $410/ton and those are now below $300/ton. The metal values in El Toqui are down to about $230/ton. El Mochito's values are down to about $275/ton and Myra Falls about $320/ton. Myra Falls is showing $1.10 per pound cash costs last quarter. With zinc below that the mine doesn't look very good at all. Toqui has $0.76 cash costs per payable zinc sold. The costs appear to have gone up enormously, from $0.39 per pound payable in 2005. There has been share dilution to bring the fully diluted count from about 395 million to 461 million. Acadian estimates 8 million pounds of zinc and 3.5 million pounds of lead. The costs are estimated to be $12 million. They estimated $13 million of revenue, but the price declines of just the past days brings that down to $12.3 million. At best that might give just under a penny per share for full year production. It might even run at a loss.

Hudbay minerals looked to be valued at about 2-3x the valuation of Blue Note when I looked at them together. Today Hudbay's earning look to me like they are heading to the 50c/share for a full year range, and that won't show up on the next quarter, but Q1 2008 would have earnings in the 10-13c/share range based on today's metal prices and exchange rates. Q4 already has some better metal prices rounded into the quarter. I saw some serious reasons to see earnings declines when I reported on this stock and they have shown up and further declines will likely happen.

Blue Note's metal values are down to about $315/ton. They have have not met 2007 production goals, and there has been more dilution. Production costs are supposed to be in the $66 million range. The gross revenue potential is still in the $190-200 million per year, but that up to 4c/share earning potential in a quarter is mostly likely gone. The numbers still look like it has the potential for 1-2c eps for their first full quarter of production, but the first full quarter of production is not likely until 2008 due to problems getting the zinc circuit functioning.

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Currency Contrast of Commodity Prices

I am Canadian and as such when I look at commodity prices I convert to Canadian dollars. Earlier in the year the conversion meant adding as much as 19% onto the US quoted price yet today it means take 7% off.

The change in currency valuation is enormous for the base metal industry. If you look at the mining industry from a world perspective, there are some mines in the US, and for those mines wages have effectively declined as the US dollar has lost value in comparison to other currencies. The US has gone from a high of 1.1875 on Feb. 7 of this year to a low of 0.9323 this past week. At its height earlier in the year the US dollar was “worth” 27% more relative to the Canadian dollar. A $30/hour US wage on Feb 7th was $35.62 Canadian and at the low, this week, it is $27.97 Canadian. Canadian wages have done the opposite. A $30/hour Canadian wage at the height of the US dollar was $25.26 US and now it is $32.18 US.

For US based mining companies wages are fairly fixed relative to the US quoted commodity price. Their might be union contracts that give them an increase, but when you do your back of the napkin calculation on a company using commodity prices you do not need to correct for costs due to currency changes for mines located in the US. That cannot be said for mines located in the rest of the world.

Given that the US dollar has lost ground with almost all other currencies, when the “costs” are converted to US dollars the increases will be staggering, as the wage conversion calculation above shows. I suspect many investors are not going to be prepared for what this does to the value of their investments. The full effect of these increased costs are not going to show up in the third quarter financial reports, although some will. For the third quarter the US dollar averaged around 1.05. As of this week it has declined a further 12%. Only a portion of those wage changes will show up in the next series of quarterly reports. Expect to see costs up in that 12% range for 4th quarter results being reported next January to March.

The margins, or earnings, on base metal stocks are affected by both the costs, which are in the currency of the country and the commodity prices, which are quoted in US dollars. The workers may not have gotten wages, but once the costs are converted to US dollars, they are simply up dramatically relative to the US dollar in most countries. This is not good for investors, especially investors in commodity stocks with high P/Es. In general, I suspect that chances are if a base metal stock has a P/E over about 6-12 right now, depending on other strengths/weakness of the company, it is going to correct downwards in the next year, indeed, if the LME warehouse stock levels continue to rise this estimate may be conservative because of metal price declines due to increasing supply.

The one year copper spot price shows three almost equal peaks in the spot price of about $3.70 US, in April, July and October. In Canadian dollars those “peaks” are about $4.25, $3.85 and $3.60. Today in Canadian the US price of $3.40 is about $3.16 Canadian. In Canadian dollars the price of copper was about 35% higher at its peak. In an earlier blog I looked at the Bingham Canyon mine. About 2/3rds of the revenue when straight to earnings for the period I looked at it. Because this mine is located in the US it is not going to see enormous wage increases, although it will probably see large energy costs increasing. However, this mine will still have exceptionally healthy earnings, although the margin may decline a little. This mine has lots of room that if it saw a 35% hair cut on revenues it is still highly profitable, with probably 40-50% of revenue making it to earnings. Contrast that to a mine with say 20% of revenue with strong prices going to earnings. At 35% hair cut in commodity prices means that the mine is now losing money.

I dislike nickel immensely, and here’s why. Nickel prices peaked in April at around $24/lb US. In Canadian that would be around $27.50, and there is a lot of nickel being mined in Canada. On Friday nickel closed at $14.35 US, which is now about $13.40 Canadian. Nickel peaked at a price over 100% higher. The good thing about nickel is the peak was a short-term spike and that utterly unsustainable price only got averaged into earnings for a very short period. The very, very bad thing about nickel is that a number of nickel stocks have priced in an earnings expectation based on a much higher nickel price than is realistic. The current price is already a strong nickel price and a wise investor would be evaluating their investment at $10-12/lb nickel. I believe to have priced a nickel stock with a high P/E with the outrageous nickel price of $21.65/lb, or $25 Canadian, as investors in FNX mining did in the first quarter will prove to be economic suicide.

In my May 30th post on FNX I pointed out many problems with investing in this company, and in the shorter term the price has gone higher than the roughly $35/share it was at then. But, short-term hype and speculation is not true valuation and this is the type of investment susceptible a wake-up-one-morning to 40-50% haircut. Going back to first quarter, earnings were $30 million (extrapolate to $120 million full year expectation) with an average price of $21.65 and an exchange rate of 1.17. Guidance was that earnings are supposed to decline by $9 million per $1 decline in nickel price, so expect $66 million decline from the contraction of nickel price. A 10% change in exchange will kill another $12.7 million in earnings, so expect another $32 million decline from exchange, or $98 million. That leaves about $22 million for full year earnings, or $5.5 million per quarter. Factoring in the roughly 70% increase in production expected, that would give about $9 million per quarter, or earnings of $36 million per year. Assuming share count has not increase, which is full year earnings of about $0.42/share, outrageously low for a $37 commodity stock. The earnings have gone 36c the first quarter, 40c the second quarter and 15c this past quarter, yet this quarter had record output. Earnings were 24c/share in Q3 the year before. Output increased by 50%, yet instead of a 50% increase in earnings to 36c, earning were 15c, an expectation decline of 58%. The average exchange rate was 1.04 for quarter 3. Now it is 0.93. That 15c/quarter extrapolated to a full year is 60c, but factor in that further currency decline and expect to see next quarter earnings of 10-12c.

Anyone doing a peer valuation of their nickel stock relative to FNX is seriously misleading himself or herself.
I expected the US dollar to decline relative to the Canadian dollar, but never in my wildest dreams would I have predicted 0.9323 this fast. I suspect there is not an analyst report out there that has factored in the drastic loss of revenues, or alternative drastic cost increases, due to the strong changes in valuation of the US dollar.

I don’t have time to look at the degree of change in other commodity prices right now, but my prediction is 100% US companies will perform better relative to companies with operations in other countries because they will only be dealing with how commodity prices affect their bottom line where as other companies will have the huge challenges of how the drastic decline in the US dollar affects either costs or revenues, depending on what currency they do their reporting in.

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The Abundance of Minerals

In “Earth for Sale” I did a very rough calculation to determine the values of metals in the Earth’s crust for copper and uranium. The point of the post was that there are such enormous amounts of minerals in the ground, giving value to that which is in the ground at strong prices is imprudent, as that was the only “fundamental” behind the vertical ascent of uranium stocks.

This post will look closer at relative abundance of metals and how they are currently valued. I used the abundance values from Jefferson Lab and calculated the percent of the Earth’s crust each mineral would make up. I then calculated the volume of 1 km of the Earth’s crust taking the difference in volume of the Earth and a sphere 1km smaller. I used a density of 2.7g/cm^3 and 30% land area. For each metal I multiplied by the percent abundance and divided by either 454g for pounds or 31.1g for troy ounces and multiplied by the metal price.

Mineral	Abundance	% of Crust	Spot Price 09/26/07	"Value"
Aluminum	82300 ppm	8.2%	$1.09/lb	$8*10^19
Copper	60 ppm	0.006%	$3.64/lb	$2*10^17
Gold	4 ppb	0.0000004%	$728/oz	$4*10^16
Lead	14 ppm	0.0014%	$1.60/lb	$2*10^16
Molybdenum	1.2 ppm	0.00012%	$32.25 /lb	$3.5*10^16
Nickel	84 ppm	0.0084%	$14.61 /lb	$1*10^18
Palladium	15 ppb	0.0000015%	$342/oz	$7*10^16
Platinum	5 ppb	0.0000005%	$1349/oz	$9*10^16
Rhodium	1 ppb	0.0000001%	$6225/oz	$8*10^16
Silver	75 ppb	0.0000075%	$12.53/oz	$1.3*10^16
Zinc	70 ppm	0.007%	$1.36/lb	$9*10^16
Iridium	1 ppb	0.0000001%	$450/oz	$6*10^15
Uranium	2.7 ppm	0.00027%	$85/lb	$2*10^17

The “value” of metals in the Earth’s crust is grossly out of line with reality. The “value” of aluminum in the 1st km of the Earth’s crust is “worth” 80 quintillions (80 million trillions) – about 200,000 times the $415 trillion in derivative contracts that existed at the end of 2006. The lesson here is you are going to get in trouble with investments if you value metal equities based on what is in the ground. Not all minerals in the ground can be mined, but if you assumed only 1% of each mineral, or even 1/10th of 1% is recoverable, the numbers are still enormous. The metals of your commodity investment are only worth those prices if they make it to market and get sold at those prices.

Each mineral on the list is subject to supply and demand based on the mineral. Take a look going back 15 years at the price of Aluminum, which is the metal with the highest “value” in the Earth’s crust, and you see that the current price is about double the 15 year low.



Aluminum has not done the same degree of outrageous price increases and spikes as other metals. I would suggest the reason is that there is so much aluminum, the market can respond far faster to under and over supply situations. At 8.2% of the earth’s crust, aluminum is a macro element. The price of aluminum temporarily spiked to about 3 times the 15-year-low. It is currently about double the price of 15 years ago. The current price is still on the strong side in comparison to historical prices, but if you think about it from just an inflation perspective, many things have doubled in the past 15 years.

Iridium, which is the least followed and known metal on the list, also has the smallest relative valuation. It has limited applications. It is the most corrosive resistant metal known. It is also tied with Rhodium in terms of how rare it is on Earth, yet Rhodium has about 14 times the price, and relative valuation in the Earth’s crust. The following graph shows that Rhodium was not always so dearly valued; it is up about 16x what it was just a few years ago.



One has to ask if new applications and demand for rhodium really justify the increase. Rhodium tends to be mined with platinum group metals. Has world demand for rhodium increased that significantly relative to platinum? How sustainable is the demand at that price? I don’t know the answers, but I would be researching them if my investments were dependent on Rhodium price.

Nickel, uranium and copper are the next strongest valued metals. Nickel and uranium have had tremendous hype, hysteria, and speculation, very much like the tech boom of the late 90s. There is absolutely no shortage of these elements in the Earth’s crust, none what-so-ever.

Uranium consumption is about 150 million pounds per year. Say it increases 7-fold, to 1 billion pounds per year, and only 1/10th of 1% could be mined, well, that would mean the Earth has about a 2 thousand year supply. A price boom on uranium in the 70s resulted in about 50 years of uranium reserves being found. The current market is under 100,000 tons per year, which is very small compared to other metals. At the current rate that uranium is being used, current world resources would last 70 years. (http://www.uic.com.au/nip75.htm)

The shortage of uranium has nothing to do with its availability to in the ground, but rather the special licensing and controls that uranium mining is subject to do due to its inherently dangerous nature. Building uranium mines takes an extra 2-5 years longer than other mines because of the extra controls and safety concerns. Uranium spiked to about 13x its lows and as little as 2-3 years ago mining companies were bidding to supply uranium in the $10-15/lb range. Those who cash in on uranium will be those who enter long-term uranium contacts at higher prices, and those who are already in the process of building mines. The price of uranium will probably remain stronger for longer not because uranium deposits are unknown, but because the mines are not built and they take longer to build. When you consider the price was $10-15 just two to three years ago, even $40-50/lb is a very strong price.

Nickel is 1.4 times more abundant than copper and 30 times more abundant than Uranium in the Earth’s crust. The 15-year price chart for nickel shows it had a price around $3/lb, for years.



BHP’s financial results shows they made a good profit on nickel in 2006 at price around $7/lb and they more than tripled their earnings from nickel with nickel averaging around $20/lb. Nickel price is up because there was a supply squeeze, and it is unlikely that the price drop is finished when companies were able to make good profits at $7/lb. Nickel is highly abundant, and world demand is relatively small, about 1.5 million tonnes per year. Apparently some nickel supply is now coming from ore being imported into China and producing nickel at $8/lb. This new source of supply appears to be increasing rapidly.

Copper has a high value, but it has a much higher demand, about 16-18 million tonnes per year. This is about 10-12 times the demand of nickel. Relatively speaking, nickel has about 15x the abundance when contrasted to the relative size of world demand. Nickel completely lacks scarcity yet the price spiked to 8x that 10-year average price from about 93 to 03.

Copper price has spiked, but not as much as nickel in relative terms.



Clearly there is a price dip from 1998 to 2003. It is a time when companies were choosing to sell off valuable holding because of carrying costs and many new companies have made a fortune off what were previously cast-offs, some strictly on speculation, but quite a few by building mines. Copper price spiked to about 6x the weakest price in its history. Copper had a much stronger downward price trend that the other metals. Copper prices are strong and susceptible to downward price corrects. There are many strong “bears” about the copper market and there will be a downward price correction at some point, there always is, but the relative abundance to nickel and uranium when the size of the world market is considered makes me think that nickel and uranium are susceptible to stronger price corrections, but the uranium price corrections will lag due to the differences in building mines.

What has bigger implications for the price of copper is how many deposits like the recently discovered Noront drill results. Drill results on a press release today identify 68 meters averaging 5.9% nickel, 3.1% copper, 2.87 g/t platinum, 9.78 g/t palladium, 0.61 g/t gold and 8.5 g/t silver. In prior posts I talk about declining grade and how it is increasing costs so prices have a much higher cost support. I do not know how big this deposit will be, but if it were big, it would be profitable at very, very low copper prices. It does make me wonder if the declining grade being mined that seems apparent in report after report that I read is because mining efforts have focused on what resources that were known and real new exploration that would find high quality grades has been limited. This discovery should make investors in low quality grades very uncomfortable.

The value of gold surprised me. For something “scarce” the metal values in the ground are awfully high, $40 quadrillion dollars, or forty thousand trillions. Are there not these big market fears around the over $400 trillion in derivatives and somehow gold is supposed to prevent this by limiting the money supply? I pulled up a web page (http://www.gold.org/value/stats/statistics/gold_demand/index.html) that states that global demand for gold reached a record $14.5 billion last quarter. That’s about 1/300 millionth of the value of the metal in the ground. If 1/10th of one percent is recoverable, then that is $40 trillion available, or the supply can be expanded about 10-fold. At the current rate of mining the out of the ground gold supply is increasing by about 1.6% per year. Current the rate of mining seems small compared to the amount of gold that can potentially be mined. Infomine shows 1880 companies in their database involved with gold. I would think that strong gold prices would increase the mining and exploration activity of these companies and eventually increase output.

In order for price to go up you need to have more people/corporations wanting to hold gold as an investment. Currently more people seem to want to own the gold stocks as opposed to the bullion and the gold stock bugs seem utterly confused that the price of gold does not go up as they expect. It seems to me that until such time as there is a shift and the so called believers in gold actually own gold and/or the gold companies stop selling their gold there will be continued restraint on gold prices. Truly, the theory that banks are weak because they lack a gold standard because they’ve sold their gold equally applies to gold stocks as they sell off their hard assets for fiat currency.

Looking further, I find that at the end of 2005 there was around 155,000 tonnes of gold being stored in either jewelery or bars, or roughly $3.6 trillion dollars worth of gold, and they mining about $60 billion worth of gold each year. The value of gold per person from that 155,000 ton stockpile is about $500 and keeping prices constant, it is increasing by about $10/year per person from new mining. Certainly if people lose faith in paper money there is not a lot of already mined gold to go around, but there are many other hard assets that people can chose as investments that can also protect wealth. Gold does not appear to have the same degree of asset price inflation as other investments. Certainly if your country’s currency is declining, or at risk of declining relative to other currencies gold is probably a good currency hedge.



The above graph shows that if you are American and bought gold six months ago the US dollar value of your investment is up over 10%. However, if you are Canadian, the value of your investment relative to the Canadian dollar is down 4.5%.

As investors I think it is a good idea to be aware of how much actual metals exist and to use this kind of knowledge in assessing real value as opposed to apparent value in the assumption that metals in the ground today will be worth the same forever or even be stronger forever.

Looking at this makes me wonder more about iridium. It seems that the most corrosive resistant element would have market growth potential and it does not seem to have the same speculative pricing built into it.

In any event, I did quite a bit of traveling in the summer and now I am in the process of moving so I have not had the same kind of time to look at investments. So, I am still around, but not as able to be actively posting. I will probably work on shorter and less time consuming posts in the future.

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1000% in 15 trading days - It happens

Could have, would have, should have...

I could not help but notice, after the fact, that a stock that has been on my watch list since last December quite possibly made some kind of stock market record here.

Between August 20th and August 27th one could have bought Noront Resources for under 40c/share on the Canadian venture exchange. On September 13th it reached a high of $4.05 and closed at $3.94. About 80 million shares were traded during the 1st 4 days of the week -- they have about 90 million shares and another 33 million warrants and stock options. So, very close to the entire float being traded.

September 14th it was halted, and it remains halted. Rumor is that there will be news on Monday and trading will resume on Tuesday.

You can check them out at http://www.norontresources.com/home.htm

Personally, I wouldn't touch it at this point, but it is going to be interesting to watch.

The news that got so much attention... drill results of 36 meters averaging 1.84% nickel and 1.53% copper, and not that deep, starting at 56 meters down. Certainly, if this proves to be a large deposit it would be very profitable, but it would take 5-10 years to actually build a mine, so there has been way too much speculation here.

But it will be interesting to watch.

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Declining grade of Gold – Are the cost disadvantages linear?

This is an analysis that I have been meaning to do for a while that simply looks at how mining a declining ore grade affects costs. This is a particularly important analysis for investors of gold stocks as my sense of the market is that the grades of gold being mined are declining faster than any other commodity, and additionally, replacement reserves for gold companies are grossly lower quality than reserves that are currently being mined.

The markets were awful while I was away on vacation, and some of the market fears from the subprime mortgage market spilled over into commodities. These fears as well as fears of stagflation or hyper-inflation are part of what is driving gold prices and gold stocks. The idea is that gold will hold wealth better than paper currency that is simply printed at will.

Figuring out what gold bullion is “worth” is very easy, just go to Kitco.com. If you think the price of gold will double, well, just buy the bullion and your investment will double.

Figuring out what a gold stock is “worth” is a very complicated thing and nothing about how a company is run is in your control. Proper evaluation of a gold stock requires an enormous amount of time. A simple linear extrapolation that if they double production they double earnings is proving to be false due to increases in costs that would be best described as a hyperinflation of costs, as in the Goldcorp 2004 project of costs for 2006 of $70/oz that ended up 179% higher at $195/oz. Gold stocks also have a propensity to issue equity at will, highly diluting wealth as well.

My suspicions are that gold producers are mining off their higher grades at a rate that leaves drastically reduced grades left to be mined and they have drastically lower grades in replacement properties so new mines do not have any chance of coming close to the profitability of historical mines despite higher gold prices.

The question I want to answer is how does the declining grade affect costs. I suspect that costs do not increase linearly with declining grade, but exponentially and if I am correct, many investors are going to find themselves in serious trouble with their gold stock investments, even if the price of gold doubles.

As the purpose of this investigation is to simply understand what happens to costs when all things are equal except the grade declining, I will make some very simple assumptions. First, assume there is a part of the processing linked to the cost of grinding the ore and extracting the gold. For this analysis assume the cost is fixed per ton of ore. I will assume a cost of $25/ton of ore, as you might have for an open pit operation. At the end of this will be a gold concentrate that requires more processing to extract the pure gold. The second part of the process assumes a fixed cost per ounce of gold. I will assume a fixed cost of $10/oz of gold.

Further, I will look at how a 0.5 g/ton decline affects costs from 100 g/ton down to 1 g/ton. The last assumption will be that 32 grams of gold must be extracted to get one ounce of gold. Recovery is never 100% and using this number works out to 97% recovery. My educated guess as a chemist is that the overall percent recovery would also decline with declining grade, so more than likely this analysis will understate the increasing costs with grade.

I set up a simple spread sheet at http://spreadsheets.google.com/pub?key=pHy7hQjBLOcqL73eztsvRaQ. It shows that with the costs used a half-gram decline in grade when the grade is over 30g/ton is utterly marginal to costs. The follow graph is the percent increase in cost as the grade increases.



This graph demonstrates beyond my wildest expectations that costs hyper-inflate for low grades of ore. The prices I used would be for a low cost open pit operation. The graph does not explain how Goldcorp’s projected costs ended up being 179% higher over a two-year period.

When I put a cost of $175/ton of ore for processing for underground mining my model gives costs of $80/oz when the grade is 79.5g/ton, reasonably close to Goldcorp’s $80/oz when they were mining a grade of 77g/ton. At 30g/ton the model gives a cost of $187/oz, very close to the $195/oz they had around that grade. Interestingly, the model shows that it would cost $5,600/oz to mine underground grades of 1g/ton, and double that, $11,200, for a grade 0.5g/ton.

This is a very simple model, but the lesson it shows is something that every gold investor ought to understand. Below is the graph reproduced for grades 6 grams and less, showing the increased percentage cost for a grade decline of 0.5g/ton, and I reversed the director of the x-axis so you can see the out of control, concave up, shape of the curve.



This graph should have investors of companies with low-grade reserves feeling utterly ill. I would suggest that what it means is that anyone signing their name saying that a low-grade reserve is economically viable is either incompetent, unethical or they think investors are truly gullible and stupid.

I have worked as a chemist in a lab and the entire economic viability of the feasibility study rests on the accuracy and extrapolation of the assay results. The lab I worked in we used to regularly send out samples to other labs as a crosscheck on our results and there would typically be up to a 30% variation in results. To test where the problem in results lay, I sent out duplicate samples labelled differently and carefully prepared and tested standards and the results returned were out by 30%.

This graph is showing that when grade declines from 6g/ton to 5.5g/ton, costs increase by almost 10%. A half-gram decline at 3g/ton has cost increases of about 20%. At 2g/ton the same decline results in a 30% increase in costs, and at 1g/ton the decline results in about a 100% increase in costs. When you consider the potential error in assay results, the margin of error in these feasibility studies on low-grade deposits is potentially so enormous; these kinds of investments simply are not investments, but truly a form of gambling.

Conclusion:

The cost increases in low-grade deposits are not linear, but exponential and imitate a hyperinflation of costs as grade declines. In high-grade deposits errors in feasibility studies due to errors in grade or small declines in grade are relatively small and have a minor effect on investment decisions. Feasibility studies on low-grade deposits are highly suspected for huge errors due to the grossly different economics of low-grade deposits from small errors in assumptions and data. Using these studies for investment decisions resembles gambling more than investing.

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Copper $1.50 Next Year?

Some things you read stop you mid-step and send you re-evaluating what makes sense to you. Early I posted that I believe the average price on commodities would be higher than they have been.

The evidence shows that companies were cannibalizing their assets to reduce costs when commodities reached their all time low in 2002 and set up a squeeze on supply that has caused on average about a 6-fold increase from the 2002 lows, which if the lows were reasonable, would be utterly unsustainable pricing, but the lows were as insane as some of the highs have been, like $50k/ton nickel.

Frank Veneroso has been promoting that investors are at enormous risk due to the excessively high price of commodities and he uses that benchmark low in 2002 to say copper increased to peak of 570% of its low, which is true and by using these numbers he calculates numbers and projects scenarios that would wipe out commodity investors. His report can be found on his web site, venerosoassociates.net.

Sprott Asset Management has been promoting that because of China and emerging markets commodities are in a super cycle like one that has never been seen before, and their material is worth reviewing, sprott.com/pdf/marketsataglance/04-2007.pdf.

Investors that listened to Mr Veneroso over the past couple years have missed tremendous gains in the commodity market, and certainly from my analysis I believe some of those gains are unsustainable, but an all out implosion of the sector as a whole?

Independent information, for example, DryShips, a shipping company shows historical graphs of what has been shipped to China.



This graph is for ore, but this kind of data is abundant on the Internet for shipping of commodities if you look at shipping companies. Indeed, shipping companies have done very well because of this utterly enormous increase in imports from China. By all accounts, China has been a sinkhole for commodities.

If I hand pick the low, as Mr Veneroso has, and contrast it to the high in terms of shipping, 7.4 m tons from December 02 to 29.5 m tons in Feb 06 is a 4-fold increase in ore imports, but that is over stating the growth of imports as is Mr Veneroso’s claim of 570% for copper. Overall, China’s demand for commodities has grown and the growth or ore is about 2.5 times what it was about 5 years ago.

Steven Saville maintains that the global boom in commodity prices is driven by inflation, not real growth, and his post, stockhouse.com/shfn/editorial.asp?edtID=19969, is worth reading. What particularly got my attention was the graph of SS CPI Adjusted Copper Price.



A strong criticism of the Veneroso report is that he uses government inflation data, data that if anyone compares to their true costs knows is a blatant lie. I have calculated that the inflation that I have experienced in my non-discretionary costs is more like 5-6% over my adult life, and something I recently read pointed out that US government data specifically excludes housing, food and energy. Veneroso’s report would be more useful in assessing where commodities actually stand if it took into consideration realistic inflation rates because there are some truths to some of the things he says.

If anything, Saville’s graph shows a downward price trend with high levels of volatility and possibly the beginning of an upward trend.

So, what is the “truth”?

Investors need to come with their own "truth" that makes sense to them based on the evidence presented to them. What seems plausible to me may not seem plausible to others. Only time will tell which “truth” was correct.

For me to come up with what seems plausible I look at a bigger picture, and I go back a hundred years and try to relate what I am seeing to what I believe to be true.

So, a hundred years ago the concept of open pit mines was utterly new and a grade of 2% copper, stellar by today’s standards, was considered low grade. Mining was predominately underground and equipment obviously antiquated. Adjusting for inflation the price of copper was actually around today’s price, and if you further adjusted it for the manipulation to understate inflation, the price of copper was actually grossly higher than today. The graph above does show that copper had been declining in price and I would suggest that to go back further you would find a much longer term decline in the price of copper.

So, technology improved and the leverage of work output improvements to each worker declined as machines continued to get bigger and better. It is analogous to computer technology. In the 90s each computer upgrade was 100s and perhaps 1000s of times better, but lately upgrades are well under 100% better.

For mining, it would not surprise me if the efficiency of workers has improved because of these bigger machines so that one person in the actual mine does in the range of 100 times the productivity of 100 years ago. A lesson from my schooling is that real wealth is created by this kind of efficiency of leveraging worker output and it enabled wages to increase, prices to decline and I suspect, at least for copper, that it hid an overall declining grade of copper being mined over the last 100 years.

The Bingham Canyon mine started mining a 2% grade and the grade they now mine is less than 1/3rd of that. Some minerals are far more abundant, like aluminium, so over all grade declines would not be as significant, and for me, that is the most plausible reason aluminium has not seen the same degree of ramp up on price. It is my guess based on what I know about the world.

Today’s machines have reached limits of technology. You can’t build a 30-story wood frame building because the tensile strength of the wood will not allow it, as are the limits of today’s machines. There may yet be technological improvements, but they will be much slower coming and they will never give the kind of leveraged improvements of the past.

Living in BC, my truth points to a very strong other source of leverage of earnings for mining companies as the gains in technology declined – the export of jobs to countries employing slave labour wages. In BC in the 80s mines closed and were no longer economically sustainable. The move of the mining industry to countries with lower wages allowed the continued overall decline in commodity prices. Mines with good grades in North America were sustainable, but this trend wiped out lower grade mines.

The move of highly leverage productivity jobs to other countries empowered workers and workers have demanded and gone on strike for better wages and working conditions in these other countries, so the wage gap has declined and the options to export jobs to lower paying countries has dried up.

So, basically not a single economy of scale to reduce prices exists anymore, not increased leverage of output due to technology, not export of jobs to cheaper countries and to top it off, declining grade of mined ores can not longer hide behind these effects. I believe many analysts are missing the decline of grade in their analysis when they come up with something like $1- to $1.50 copper as a long-term price.

And then there is yet another point to take note of, the over burdening level of US debt and spending that is killing the US currency. Commodity prices are quoted in US dollars and there has been an enormous decline in the US dollar with respect to other countries, for example, Canada, Australia, Russia, Chile, and China.

Canada vs US


Australia vs US


Russia vs US


Chili vs US

China vs US (2 yr)


The US dollar has not declined with respect to all countries, but in terms of the world market, the US commodity price quote has not increased to the same degree if the prices were quoted in other currencies.

So as I see it, there are four driving forces for increased commodity prices:

• Inflation


• Wage demands in excess of inflation


• Declining grade which leads to increased costs


• A declining US currency

Considering these factors, I simply cannot see a long-term copper price being less than about $2, and costs for producing commodities will exceed the rate of inflation overall. Indeed, a real risk to investors is declining margins due to increasing costs.

However, an estimate of a long-term price isn’t a statement of belief that prices will never go below the price. Clearly, in 2002 prices were below a long-term sustainable price, as they are currently most likely above a long-term sustainable price.

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Exploring Declining Grade

In 1905 the Bingham Canyon mine opened mining a copper grade of 2%. Last year the grade they mined was 0.63% and the reserves they have left to mine have a grade of 0.54%. In 2003 Goldcorp’s Red Lake mine mined a gold grade of 77.5 g/ton, and 28 g/ton in 2006. These are a couple examples of a trend of declining grade in individual mines and within the industry as a whole as the best deposits tend to be mined first. This post looks at declining grade in a single mine. I suspect that declining grade affects costs exponentially rather than linearly, and I will examine that next post.

There is no question that grade is related to profitability. Looking back to Goldcorp’s 2003 financial reports, when it was much simpler company with just two gold mines, Wharf and Red Lake, it is absurdly easy to see the contrast in the two mines. For 2003 the Wharf mine had an operating profit of $100,000 and on the $24,900,000 in revenue, it left an operating margin of 0% reported on the financial reports. The average grade mined for the year was 0.9 g/ton. Red Lake had an operating profit of $153,000,000 on $224,000,000 in sales, or a monstrous 68%!

Indeed, in 2003 Goldcorp reports that from the 602,845 ounces it produced, 532,028 from Red Lake and 70,817 from Wharf, earnings were $85.7 million with an average gold price of $364. At a price of $600/oz, assuming 40% of the increase goes to taxes, at this rate you’d expect 600,000 oz of gold to earn about $170 million, or each 100,000 oz of gold produced to earn just over $28 million. If you correct for the fact that the Wharf ounces contributed nothing to earnings -- all $85.7 million in earnings came from Red Lake’s 532,028 ounces – Red Lake would have earned about $30 million per 100,000 oz had gold been $600/oz. Goldcorp actually earned more that year by selling off stockpiled gold, but that is an independent action in terms of individual mine’s profitability.

In 2006 Goldcorp’s Red Lake produced 665,600 oz, had an average price of $609 and contributed $177.1 million to the earnings. That is below the $203 million one would expect if Goldcorp had remained as profitable assuming 40% going to taxes. In fact, only 32% went to taxes and controlling interests, so with 32% used instead, one would expect $216 million towards earnings. The calculation I did here was:

($30 million +(($609-364)/oz)*(1-0.32)*100,000oz/$1,000,000)*(665,600oz/100,000oz))

where the $30 million per 100,000 oz was calculated above, the $609-364 is the increase in gold price realized, the 1-0.32 gives the 68% that should go to earnings, the 100,000oz/$1,000,000 converts the number to millions of dollars per 100,000 oz and the 665,600oz/100,000oz corrects the number of ounces to what Red Lake actually produced.

To put this change of how much more Red Deer ought to have earned based on how well it did in 2003, use the calculation $216/$177 -1 = 22%. There would be 2-3% inflation per year, but overall, profitability per ounce at Red Lake declined at a rate of 6.8% per year.

But even that does not include Goldcorp’s vision for 2006. They write in their summer 2004 Outlook:

It is December 2006, and the winter freeze has already engulfed Ontario’s northwest, but operations at Goldcorp’s Red Lake Mine are running at a feverish pace with the completion of a new 7,150-foot shaft that now gives greater access to the world’s richest gold deposit.

The $100 million project, which was completed on schedule and within budget, has increased production from 510,000 to 700,000 ounces per year and lowered costs from $80 per ounce to $70 per ounce. What’s more, the shaft has been constructed with excess capacity so that when ongoing exploration uncovers additional reserves, production will be able to increase accordingly. This will help achieve Goldcorp’s ultimate goal of increasing the company’s annual production to 1 million ounces.

Their vision was to reduce cash costs by $10/oz, which at that 32% tax rate should add even another $6.80*665,600/1,000,000 = $4.5 million, or, ignoring that they missed their production target by 5%, earnings ought to have been $220 million, or 24% more than they achieved.

Missing their production goal by about 5% is a relatively minor problem. But their cash costs of $195/oz are 179% above there vision!

How can a vision go so wrong?


In 2003 they mined 242 thousand tonnes of ore and in 2006 they mined 769 thousand tonnes of ore, a 218% increase, but because of the decline in ore grade they only mined an extra 25% more gold.

The costs are given per ounce of gold produced, but the numbers may make more sense trying to look at them as cost per ton.

So, in 2003 the grade was 77.5 grams per ton, or 77.5/31.1 = 2.49 oz per ton. With costs of $80/oz, $80*2.49= $199/ton. So the cost per ton of ore processed was $199.

In 2006 the grade was 28grams per ton, or 28/31.1 = 0.90 oz per ton. With costs of $195/oz, $195*0.90= $175/ton, or a decline of almost 14%, almost identical to the 14% decline in costs outlined in Goldcorp’s vision.

In this example, the rising price of gold has completely hidden perilously increasing costs due to declining grade and enabled a healthy profit margin to be maintained, but it is a rapidly declining margin relative to production, cost per oz of gold increased 179%!

Goldcorp’s remaining proven and probable reserves average 22.24 g/ton. They have 1.55 million ounces at a grade of 41.48 g/ton, and then the probable grade declines to 18.57 g/ton for 3.64 million ounces. If we use the $175/ton of ore processed, the cost per ounces for mining a 41.48 g/ton gold ore grade would be (31.1/41.48)*175 = $131 per ounce of gold. The 18.57 g/ton would have a cost (31.1/18.57)*175 = $293 per ounce of gold, and considering the average of the grade, 22.24 g/ton you get cost per ounce of gold of $245.

What this means to investors is that failing to pay attention and assess the quality of the reserve grade and whether it is maintaining, improving or declining could cost you dearly in your investments. It means that you absolutely cannot look at a gold stock, or any other metal for that matter, and mentally calculate that if they are doubling their production profits should double. It also means that the values of assets in the ground are highly dependent on grade. This simple look suggests that Goldcorp’s 1.55 million ounces of proven reserves in Red Lake are worth about $160/oz more than the probable reserves of 3.64 million ounces, and by the time Goldcorp starts mining the reduced grade, gold will need to be about $830/oz to maintain profits at Red Lake, not improve profits.

It is utter nonsense to add up the reserves and resources of grossly different metal grades and come up with some kind of valuation without correcting for the grade quality.

Many things affect profitability, but declining grade seems to be is the most ignored or unrecognized source of implosion of value and earnings.

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Blog Feature - Commodity News and Mining Stocks

One of the blogs I read regularly is Commodity News and Mining Stocks. Something that I really like about it is that he sends me to look at good articles and reports on the commodity business, and he takes what he learns and applies sound investment strategies to it.

Well, a Globe and Mail reporter also liked his blog and has run a story on him.

Congratulations Arjun!

End of post.

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Screening commodity stocks

I want to come up with a set of rules to essentially screen stock them according to some unwritten criteria that I currently follow. This post is a walk through and see if I can put that screening criteria into “rules” that work for me. So, what have I been looking at?

Nord Resources on the Pink Sheets

I saw a rumor that Sprott just bought 20% of the company. Often if you can get into a stock at a price close to Sprott you can do well. People follow Sprott and screen their selections and many just jump in driving the price up. This alone can lead to a share price going up just because it has more people looking. And sure enough, Sprott has bought 15,762,450 shares, giving them 20.5% of the company. By extrapolation, the company has about 77 million shares. The site doesn’t say how many shares they have. Prior to the Sprott purchase another investor calculated 87 million fully diluted in June. Another 16 million brings it up to 103 million. At $1/share US the fully diluted market cap is about $103 million. Not finding this information easily is a problem, and I have no confidence that the 103 million is correct.

Looking back at the last 20-day trading activity volume was very low and shares were averaging about 75c. With the Sprott news the shares jumped to $1 and volume is up, but overall liquidity is low, meaning an exit could be more difficult.

The plan is to re-open the Johnson Camp Mine in Tucson, Arizona. The company looks fully financed and it should produce 25 million pounds per year. Press releases going back 3.5 years talk about restarting the mine 8 months after financing. An earlier press release states 20 million pounds of copper from a 9,000 tons of ore per day operation. Reverse calculating suggests a copper grade recovery of 0.3-0.4% which is low, about $30/ton metal values. I am not sure how the production-plan when from 20 to 25 million pounds. Nothing is easy to find with this company through their web site and that has to shy potential investors away.

Their Coyote Springs Project is purely an exploration property and if they could establish they have good cash flow to afford to explore this property that would be good, but the grade question of Johnson Camp left me questioning this ability.

The Mimbres Project mentions 50 foot intervals of 0.5 to 1% copper. That’s 11-22lbs/ton. That is an OK grade for a strip mine but not for an underground mine. This property also needs cash flow to develop, and it would be a long way off.

So, this one steers me away from it. If they have a good quality reserve/resource for their Johnston property, that information should be easy to find.

Grade is a big concern for this one, so what is a reasonable open pit grade criteria?

Going back to past posts, in June I found the grade at Bingham to be worth about $90/ton, and prices have gotten stronger making it worth about $105/ton at today’s prices. Business conditions that make Bingham a lower cost producer include:

• Economies of scale because of large size


• Economies of scale because of being start to finished product producer as opposed to selling concentrate


• Capital cost allocation in deflationary book value dollars as opposed to replacement dollars

Making an assumption that the 2006 prices they got for their sales was in the $90/ton range I get costs including taxes of about $34/ton and about $28/ton without the taxes.

They say they mine approximately 500,000 tonnes of material per day with about 1/3rd being ore. Using their 2006 earnings and cost data and an assumption based on 500,000 tonnes of material I get $17/ton costs and $46/ton in metal values.

These two ways of coming up with an estimate are profoundly different. As an investor I don’t get to see all the data to understand why they are so profoundly different but possible sources are a higher strip ratio, an over estimate of actual material removed and recovery is never 100%. With that high of a grade 63% of revenue went to earnings.

With another example, looking at Goldcorp’s Alumbrera data, their revenues show they got about $43/ton of ore and their costs without taxes was $19/ton, for pre-tax earnings of $24/ton. Proportionately, there was about 25% tax so about $18/ton was earnings, or if you look at the grade actually mined at the $3.58/lb copper and $613/oz gold price the metals were sold at, you get $58/ton metal values. Operating in Argentina, and being a larger operation (400 million pounds/year), they also have some low cost advantages. For this one 42% of revenue went to earning, but if I calculated the metal values per ton based on what they said the mined grade and correct for what they did not sell I get 34%. These numbers did not “add” up, but they demonstrate the amount of error one can end up with in their back-of-napkin calculations.

None of these numbers are directly comparable, but what you can assess is that in a low cost environment like Argentina when you can calculate metal prices to be about $60/ton when prices are strong, the actual earning potential is about 30-35%. The higher grade Bingham in the US was showing 60-65% going to earning. You can not directly compare production and assume all mines will have equal profitability based on the same production. In general, the better the grade, the more profitable.

Johnson Camp is in the higher cost US and would probably also have higher costs already due to being smaller. There are lots of companies to consider and I do not see any reason to consider a company that leaves me wondering if the grade is high enough to even break even, especially if say the price of commodities decline by say 1/3rd. A decline by 1/3rd would still be double the historical average. It looks like it will be a very high cost producer highly dependent on strong prices for the long term.

Screening Conclusions from Nord

So, what steered me away from this one

1. Grade.


2. Lack of direct links to feasibility study on the web site.


3. Lack of information on fully diluted share count on the web site.


4. Highly dependent on strong prices for success.

Read Sprott’s analysis of the markets, especially on China, http://www.sprott.com/pdf/marketsataglance/04-2007.pdf. They present a case that very strong prices are here to stay. I believe the overall average prices are increasing and over the long-term will out strip inflation because of how the mining business is changing, but I would never invest in a commodity stock dependent on high prices, or at least as high as they are today. There are simply too many other choices. Sprott may like this one, but I did not see anything compelling with how I look at properties.

Screening Rule #1:

• Ore grade should be $60/ton or more at today’s strong metal prices for open pit mining, about 0.75% copper equivalent for a copper property.

This gives some protection from downward prices and from optimistic reports on websites. Personally, I like to see more in the range of $80/ton in metal values, but other reasons would compel me to consider a property with less that $80/ton.

For this one I spent way too much time looking for information that I never found and grade is probably the most important rule for me, simply because it gives the most leeway for problems, price corrections and the most profitability.

Screening Rule #2:

• Basic information such as share structure, reserves/resources, feasibility plan and their goals should be apparent within 10-15 minutes.

I hardly stopped to consider their development properties. The 0.5-1% copper drill result barely meets the grade rule and it will be years before this property can do much, and the other had little information. There are simply too many other choices where companies that have existing earnings that can be used to explore development properties and the development properties are stronger in that they have more historical work that supports they have value.

Screening Rule #3

• Development properties are a low priority if there is no cash flow and no development on them.

Crowflight Minerals CML

This one passed rule 2 very quickly. Fully diluted they have 275.5 million shares and that information was updated in June 07. It is trading at 94c as of Monday, which gives it a fully diluted market cap of $260 million. Looking at the chart, it peaked in May and has pulled back from $1.35.

They have their Bucko Lake project with a complete feasibility study showing 2.5 million tons of nickel at 2.01% and an additional 1.2 million tons with 2.23% nickel. Nickel prices have corrected to more reasonable levels, but they are still strong prices and still have some down risk. But the metal values per ton at that 2% is over $650/ton at these values, something that makes me want to give this company a closer look. At $12/lb metal values are about $530/ton.

It looks like about a 7 year life of mine can be built with the resource and the inferred reserves could extend it an additional 3 years at a production rate of 12.5 million pounds of nickel per year. At the current prices the revenue generated would be about $180 million. It has a year before it would be built so it isn’t ready to cash in on the strong prices now. More recently it has looked at upgrading to produce 50% more which would increase cash flow but lower the life of the mine.

Funding and permitting for building the mine have not been secured. This is a negative as it can result in dilution and investors have no control over how much dilution.

They have some future development prospects, the Aer Kidd Project that has 10 million tonnes with 1.5% nickel, 2% copper and 4.8 grams/tonne PGMs, which is very nice. As a development property, they one has already had investment and gives you an idea of what is there and the grade suggests it will be good.

This one prompted me to look again at FNX, which was the subject of a prior post. The grade they have looks much better than FNX which means it could have the opportunity to have much more of the relative revenue going to earnings. FNX has a market cap of around $3 billion.

All this information was easy to find and there are enough good things about this company that it is worth checking out closer. A comparison of CML to FNX would be a worthwhile activity to get a sense of relative valuation.

They issued 8,450,000 stock options in the last quarter. That is large. This company will need to be watched for dilution.

CML is on my watch list for closer evaluation.

Screening Conclusions from Crowflight

CML pass the ease of finding information test. I spent 1/10th of the time and I certainly wasn’t left to guess work to come up ore grade.

In terms of screening, open pit versus underground mines have very different cost structures. I want to see about $300/ton or more in metal values for me to consider looking further. Production costs tend to be in the $100/ton range and then there are all of the other costs and it is easy to see around $200/ton going to costs.

Screening Rule #4

• Ore grade should be about $300/ton or more for an underground mine. That’s about 1% nickel equivalent.

Conclusion

The screening rules are to give some basic guidelines for how to separate out what to spend further time checking out and what to pass, at least with the way I look at commodities. I would never then just buy a stock because it has a fantastic grade, good information and good cash flow.

The real work comes next, coming up with some kind of assessment of how realistic their information provided is, how it is valued in the market relative to peers and also assessment that the peers you are using are not valued to what could be considered bubbled levels. Finding a stock is valued at about 1/2 of the price of another does not mean it is a good deal if the peer stock is trading at 3x its worth.

My now written criteria is not necessarily going to be your criteria, but for me, it looks like ore grade and ease of finding information are the most important starting points.

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Looking at Lead - ADA, BN, BWR, TAM, Zinifex

Lead has reached an all time high, about 6 times its low since the start of this bull run. It is a strong price, but it isn’t as strong as say molybdenum which peaked about 18 times its low, or nickel, which peaked at around 12 times its low, or uranium which is about 15 times its low. Strong lead prices will mean unexpected profits for lead producers.

The market is tight for lead Lead Rises to Record for Third Day in London.

Lead deposits tend to exist with zinc deposits, this post looks at 5 companies that have some lead, Acadian Mining, Blue Note, Breakwater, Tamerlane and the Australian Zinifex. Metal prices are highly volatile and many calculations giving metal values are done here. They are intended to give a relative magnitude for comparison purposes--how good are grades relative to each other; how big are deposits relative to market cap; how much gross income can they bring in relative to each other. Higher grades and larger deposits tend to be more profitable. I have given valuations for metals in the ground at today's prices. In general, I believe that is a poor way to assess the value of a mining company and I look at it purely for a relative valuation. Prices used for metal values per ton calculated are $650/oz for gold, $12.40/oz for silver, $1.50/lb for zinc, $3.50/lb for copper and $1.20/lb for lead.

Zinifex

Zinifex is the largest of the companies and it produced about 5% of the world's 2006 zinc supply, 1.4 billion pounds of zinc, and about 230 million pounds of lead. As with the Australian mining practice, they maintain about a 6-year life-of-mine, and they have one mine has had a six-year LOF since 1893.

Few mines have a higher resource grade than their Rosebery mine, with an average resource of 15.3% zinc, 4.7% lead, 180 g/ton silver, 2.5 g/ton gold and 0.5% copper for an amazing $800/ton in metal values. They have 7.1 million tons of measured, indicated and inferred reserves for close to $5.6 billion in metal values at this grade. The reserves they are currently mining have about $610/ton in metal values.

Their other big property is their Century mine. The resources averages 12.7% zinc, 1.4% lead and 34 g/ton silver, for $470/ton metal values and with 60 million tonnes that’s $28 billion in metal values. Their reserves suggest metal value currently being mined are about $420/ton.

Zinifex’s properties are exceptional and they have further development prospects with their recently acquired Wolfden in Canada’s north, which has properties with metal values per ton of $250-700. They also have Dugald River and South Hercules for development.

In Australian dollars, last year the revenues were over $3 billion and of that $1.1 billion was profit, making $2.20 per share and shares are currently priced at about $19, for a P/E of about 8.6. Zinc prices peaked during this reporting period and have declined, but lead prices are up.

In the US, under the ticker ZFEXF.PK, it trades at $15.90/share and with 488 million shares, it has a US market cap of about $7.7 billion. At $1.50/lb zinc and $1.20/lb lead 1.4 billion pounds of zinc and 230 million pounds of lead would fetch $2.4 billion US gross revenue, or $2.9 billion Australian. Gross revenue potential is close to 1/3rd of market cap. Relatively speaking, with lead production potential of 230 million pounds their leverage to lead is not high; they are about six time more leveraged to zinc, but there is no question that lead’s ascent will be contributing nicely to their bottom line.

Tamerlane

Tamerlane is a junior explorer with a fully diluted market cap of about $67 million. Their prize property is the old northern Pine Point Mine, which historical records show they mined 64 million tonnes from 52 deposits with an average grade of 3.1% lead and 7% zinc, or about $310/ton metal values at today’s prices. Currently they have 34 known deposits from non-compliant historical data indicating 70 million tonnes of ore with 4.19% zinc and 1.59% lead, or about $180/ton of metal values at today’s prices. The grades and sizes of the deposits vary greatly.

Their flagship deposit, R190, has grades of 6.3% lead and 12.1% zinc for about $570/ton metal values and there are about 1 million tonnes of ore in this deposit, or about $570 million in metal values.

Tamerlane has plans to start building the mine in Q4/07 and to be in full operation for Q1 2009 and to mine the 240 million pounds of zinc and 120 million pounds of lead from R190 in 12-15 months, or half a billion at today's prices. Six of the 34 deposits are close by and have metal values/ton about $290/ton, so without milling upgrades their second year of production rates would be about half what they get with the R190 deposit.

Financing the mill construction has not been arranged. They are looking to forward sell some of their production to prevent further dilution, and appear to be looking at issuing 30 million in equity and 100 million in financing to move the project forward. They have already run into obstacle in terms of implementing their plan as in April 2006 the plan was to start building in January 07 and be producing in December 07 of this year.

Tamerlane was closed down due to declining metal prices and increased costs due to flooding, and the high cost of maintaining a town for workers in the north. They plan to deal with the flooding by implementing freezing technology around the deposits. As the size of a deposit decreases the relative cost of the freezing technology increases exponentially, just as a ratio of surface area to volume increases as the volume decreases. The economics of each deposit will be highly variable.

Breakwater Resources

Breakwater Resources has a fully diluted share capitalization of 460 million shares for a market cap of $1.5 billion. Their 2007 production forecast is 268 million pounds zinc, 18 million pounds copper, 28 million pounds lead, 2 million ounces silver and 43,000 oz gold or total metal values of $550 million. They also have an interest in Blue Note, which can be taken as shares or as 20% interest of their Caribou mine. At current metal prices that interest could bring an additional $30 million in gross revenue for 2007. Gross revenue has the potential to be around 40% of market cap.

Their Langlois property starting production this year and has a reserve with 10.1% zinc, 0.8% copper and 49g/ton silver, for metal values of $410/ton, for about $1.5 billion in metal values. The resource has comparable metal values/ton and is about twice as big as the reserve for a combined total of about $4.5 billion. The goal for this property is 62 million pounds of zinc, 3 million pounds of copper and 12,000 oz of silver. Metal values per ton mined in Q1 were about $250/ton.

El Toqui has 8.9% zinc and 1.3g/ton of gold for $320/ton in metal values and is also projected to start production for 2007 with a goal of 61 million pounds of zinc, 6 million pounds of lead, 10,000 oz of silver and 2,600 oz of gold. Metal values per ton mined Q1 were about $300/ton. Total reserve/resources is about $4.5 billion.

El Mochito has 6.7% zinc, 2.8% lead, and 97 g/ton silver for $330/ton in metal values. It is projected to produce 60 million pounds of zinc, 20 million pounds of lead and 1.1 million ounces of silver. Actual grades mined in Q1 had metal values of $300/ton. This property holds about $3 billion in metal values.

Myra Falls has resource with 7.2% zinc, 1.2% copper, 55g/ton silver, 0.6% lead and 1.7g/ton gold for metal values of $400/ton and has about $7 billion in reserves/resource. It is projected to produce 84 million pounds of zinc, 15 million pounds of copper, 2 million pounds of lead, 660,000 oz of silver, and 17,000 oz of gold. Actual grades mined in Q1 had metal values of $220/ton.

For Q1 prices Breakwater obtained in $US were $1.56/lb for zinc, $2.70/lb for copper, $0.81/lb for lead, $647/oz for gold and $13.03/oz for silver. Earnings on $78 million of gross revenue were $15 million. They are about 9-10 times more leveraged to zinc than to lead.

Blue Note

Blue Note is an almost producer, currently in the start-up phase of their newly refurbished/built Caribou mine that Breakwater has an 20% interest in. Figuring out their “true” fully diluted market cap is more complicated than for other companies because of the Breakwater interest, which gives Breakwater choices about how they cash in on their interest, either 20% of Caribou or about 42 million shares, and there are hidden shares with debentures that are easily missed. Breakwater must make a decision within one year providing Blue Note does $1.5 million in further exploration on the Caribou property. Fully diluted excluding Breakwater’s interest Blue Note has a market cap of about $172 million. As shares Breakwater’s interest adds an addition $22 million to the market cap.

For 2007 projected production is 68 million pounds of zinc, 35 million pounds of lead, 0.8 million pounds of copper and 850,000 oz of silver, for total metal values of $157 million of which 80% is $126 million or about 3/4rds of the market cap excluding Breakwater. For 2008, with full production, the projection is 104 million pounds of zinc, 57 million pounds of lead, 1.3 million pounds of copper and 1.3 million ounces of silver for $245 million, of which 80% is $196 million and exceeds the market cap.

Metal values per ton in the Caribou/Restigouche reserves are about $370/ton with a total reserve value of about $1.8 billion at today’s prices and the resource, where the life-of-the mine is extended beyond 5 years from, has about $380/ton in resource metal values and about $1.4 billion at today's prices. There is no measure for copper values in the resource, which is 0.34% in the reserves. The cut-off grade used was a profitable 9% combined lead and zinc.

Breakwater previously had problems with poor recovery rates and poor metal prices. Metal prices were low when they decided to sell. Blue Note has installed a milling process shown to dramatically improve recovery rates developed in the last 15 years by Xstrata. Xstrata has used the technology long enough to prove it works and Blue Note has a contract with Xstrata to buy half its zinc concentrate and all of its lead concentrate. Blue Note is still very much priced as a junior explorer. It is in start-up operations currently testing their milling process and will soon be a producer eligible to move to the Toronto exchange. As a new start-up it runs the risks that things will not go as management plans and there are no operational financial reports to review and evaluate.

Blue Note has several exploration properties in the vicinity of the Caribou mine including Armstrong, California Lake, McMaster, Orvan Brook, Rio Road and Woodside Brook.

Blue Note’s relative leverage to metal prices means that every 2c change in lead price has about the same effect as 1c change in zinc price.

Acadian Mining

Acadian Mining is a small new producer with 159 million shares fully diluted as of May 31, 2007, giving it a fully diluted market cap of $191 million. They have two main projects of interest, Scotia Zinc and Scotia Goldfields, and they own about half of Royal Roads, which owns about half of Buchans River.

Scotia Zinc has a 2007 production target of 23 million pounds of zinc and 8 million pounds of lead and a 2008 production target of 45 million pounds of zinc and 19 million pounds of lead, for $44 million of gross revenue in 2007, 1/4 of market cap and $90 million for 2008, almost half of market. The reserves have a zinc grade 3.6% zinc and 1.7% lead, for $160/ton metal values. Total reserves are about $750 million to be mined over 7.5 years. As a new start-up it runs the risks that things will not go as management plans and there are no operational financial reports to review and evaluate.

Goldfields has several properties with about 1.35 million ounces of gold contained in resources that have metal values ranging from about $60/ton with the Beaver Dam property which has about 600,000 oz of gold, to about $350/ton with Goldenville with about 265,000 oz. The metal values may be worth about $900 million, but low grades spread out in several deposits means high extraction costs.

The Royal Roads holding has given them an interest in the Tulks North property. It currently has inferred resources with metal values of about $530/ton, or about $900 million in metal values. With the 1% zinc cut off instead of a 2% zinc there is 2.5 times as many tons of ore, but metal values per ton of ore decline to about $250/ton. This only adds $100 million in metal values to the deposit for an extra 2.5 million tonnes of ore that would need to be processed. This extra could quite possibly cost more to mine and process than the value of the recoverable metals. Acadian's interest is about half of this deposit.

How do they compare?

Zinifex by far has the best grades and looking at their financial data, you can see that about 1/3 of the gross sales ended up as earnings. Contrast that to Breakwater's lower grades and about 20% of their sales ended up as earnings, although Breakwater's earnings were pulled down by Myra Falls' lower grade during the quarter and will likely increase to more like 25% of gross revenue. Zinifex's higher grades and endless deposits justify a higher P/E than Breakwater, but both are nice looking companies. With strong prices there is always more downside risk that prices will decline, so commodity companies in this market commodity companies should never be priced the way a company like Pepsi might be priced, with an expectation the prices will generally always increase. So, 5% earnings might be great for Pepsi, but is a good way to potentially lose your capital with commodity companies. Zinifex currently has earnings of about 11%, which has a safety margin built in and gives them cash flow to fund future growth and exploration.

Breakwater has lower grade and is priced lower relative to market cap. Earnings for Q1 were low, about 5%, but should improve, most likely doubling when their new production that has started shows up in the financial reports. Also, Myra Falls contribution to operational earnings was relatively small as the grade they actually mined for the quarter was much lower than the overall grade their reserves/resources indicate they hold. Breakwater has a safety margin built in and they have good cash flow to fund future growth and exploration.

Tamerlane has a beauty deposit with that R190 deposit but they have a lot of steps to go through to actually get that deposit producing and any revenue possibility is about two years out. The economics of the R190 deposit at today's prices are nice, but it is a minimum of two year out and the further out you go, the more likely projections on everything are going to be wrong.

Blue Note has high grade to mine, an exceptionally high gross revenue potential relative to market cap and good reserves/resources relative to market cap. On this basis it is currently priced at about 1/3rd to 1/2 of the valuation given to Zinifex or Breakwater. The metal values per ton are very comparable to Breakwater's grade, so the simplest projection on earnings by contrasting is that they will be about 20-25% of gross revenue. Octagon has an estimate of 15c/share, or about 30% for this year, and 25c next year, for about 50%, or a P/E of about 2.

Acadian Mining has the lowest start-up production relative to market cap and the lowest grades, less than half that of the other companies profiled. Blue Note has combined open pit and underground mining operation, as does Acadian. In general high grade is what makes a company profitable and low grade is what limits profitability. For Acadian the gold deposits also tend to be low grade and/or small deposits, both of which rarely make money. It has a grade that with a large operation and economies of scale can make money but from reviewing many financial reports of other operations my conclusions are that its small size makes it questionable as to whether it can make money. This one I'd definitely want to see proof of earnings because of the lower grades.

Other details I picked up from looking at the relative deposit size is that Acadian's information indicates that they expect to recover about 90% of their deposit in 7.5 years. Blue Note's numbers indicated about 60% of their deposit will be recovered in 5 years. It is strictly a perception it gives me that there is not much room for error built into Acadian's numbers. Blue Note uses a 9% zinc-lead equivalent cut off which builds in a safety margin for investors in their evaluation. The 1% zinc cut off used for Royal Roads does not.

Note: I am not an investment adviser and I write about investments to help me to evaluate my own investments or potential investments or to better understand investments as a whole. For this post, because I own Blue Note, it was time for me to re-assess it's valuation relative to other companies in the sector. If you've seen something of interest you need to do your own due diligence. Current prices, Blue Note 53c, Acadian $1.20, Breakwater $3.19, Tamerlane $1.62.

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Yamana, Northern Orion, and Meridian Gold Merger

Northern Orion first got my attention last fall when it was trading at about $4 Canadian at the beginning of October 2006, and given its under valuation, the upward march in October made sense. Then it gradually declined, again touching just under the $4 mark at the beginning of January.

It was during that descent that I started to contrast how it was being valued relatively in the market to ensure my perspective was reasonable and because of the joint ownership of the Alumbrera mine, Goldcorp was the most logical company to contrast relative valuations. The result was How I discovered the Gold Bubble and I came to the conclusion that Northern OrionLoading... was a buy to $7 based on its property holdings.

Wednesday’s joint news release announces a proposal to merger between Yamana Gold, and Northern OrionLoading... with an offer for Meridian Gold to be a part of the deal. The effective price for Northern OrionLoading... is $7.07 per share, a 21.3% premium over the day’s closing price, the same valuation that I came up with for Northern OrionLoading... without development of the Auga Rica property.

Northern Orion also has two types of warrants. The regular warrant holders closed at $4/share on Wednesday, so with an exercise price of $2, they have a 27% premium on the close, and still have until May 29, 2008 to exercise their warrants. The A warrants were not “in the money” warrants. They are exercisable until February 17, 2010. If Northern Orion managed to get their Auga Rica property developed in time for the A warrants, the roughly 600% growth in production meant that those out of the money warrants had a potentially very nice risk-reward ratio. The A warrants transfer to buy 0.543 of a Yamana share for $6. It means that Yamana’s share value must increase to $14.42, or $1.40 over the $13.02 close, in order for the A warrants to be in the money at their $1.83 price. Without this offer Northern Orion’s share price would have to increase $2 to $7.83 for the A warrants to be in the money. Relatively speaking, before the deal Northern Orion’s shares had to increase 34% to break even and at the time of the press release Yamana’s shares have to increase by 11% to break even.

But, that was before today’s Yamana’s share price declined. With the decline to $11.83 the take-over price works out to $6.42 for Northern Orion, and for the A warrants the Yamana share price needs to increase 23% to $14.54 to be in the money from today’s $1.90 close.

Before any merger fully diluted Yamana Gold has 381.9 million shares. The merge adds 309.4 million shares for shares and if all Northern Orion warrants and options were exercised, another 37.5 million. A real plus for Meridan Gold is they state they’ve only had 36% stock dilution compared to an average of 417% among their peers since 2000. There appears to be only an extra 820,830 options, so very little dilution. If all options were exercised there would be an additional 1.8 million shares, for a total of 730.6 million shares. Going with Wednesday’s close of $13.02, that would give a fully diluted market cap of $9.5 billion, which has declined to $8.6 billion with today’s price decline.

Production

So, putting together the total of the three company’s production, and you have:

Northern Orion

• Alumbrera, Argentina, about 50 million pounds of copper, 75,000 oz gold

Northern Orion can expect about $160 million of gross revenue, Q1 gross sales were $34.8 million. The royalty that kicked last year is costing 96c/lb of copper for Q1.

Meridian Gold

• Rossi/Storm JV, Nevada, 25,000 oz gold for 2007, 30-40,000 oz for 2008
• El Penon, Chili, 230,000 oz gold, 6 million oz silver
• Minera Florida, Chili, 70,000 oz gold
• Zinc production, 8 million pounds, my estimate from Q1 financial report

Meridian Gold can expect about $300 million gross revenue, Q1 gross sales were $66.4 million.
Yamana

• 600,000 oz gold, 140 million pounds of copper.

Yamana can expect about $840 million gross revenue, Q1’s gross were $145.1 million.
Combined production is about 1 million ounces gold, 6 million ounces silver, 8 million pounds zinc and 190 million pounds of copper. At $650/oz for gold, $12.50/oz for silver, $1.50/lb for zinc and $3.20/lb for copper it gives about $1.3 billion in gross sales without hedges.
Q1 earnings were $27.4 million for Yamana, $9.5 million for Northern Orion, and $18.9 million for Meridian Gold, or $55.8 million.
Quality of Reserves
Grade quality of reserves and resources must also be considered.
Yamana
At December 2006 Yamana had 6.9 million ounces of gold at 0.49 g/ton, or metal values of $10/ton. Additionally there is 2.3 billion pounds of copper at 0.35% or about $25/ton. As some of the copper metal values overlap with the gold, weighted average metal values of copper and gold combined work out to $28/ton. The 13.7 million ounce of gold and 2.8 billion pounds of copper in the mineral resource has smaller average metal values, about $23/ton.
If you could master 100% recovery, at these grades you need to mine over 63 tonnes of ore to produce a single ounce of gold with 0.49 g/ton. Chances are they have higher grade veins to mine first, but the sheer magnitude of the amount of ore per ounce of gold suggests high production costs, or grossly increasing production costs as the grade mined declines.
To put it into perspective, the Chapada property has both the copper and gold and its metal values work out to $37/ton in the proven reserves and $30/ton in the probable reserves, essentially a 20% decline in metal values as the mine life proceeds and they move from mining the proven reserves to the probable reserves. At 0.34 g/ton 92 tonnes of ore must be mined for an ounce of gold. Take the grade down to the 0.26 g/ton and you need 120 tonnes of ore. Compounding this problem is that recovery rates also tend to decline as the grade declines, so where you might have had 90% recovery, you now have 80 or 85% recovery, the 92 tonnes required becomes 102 tonnes required at 90% recovery and the 120 tonnes required becomes 142 tonnes at 85% recovery.
You can take copper production and take those dollars and apply them to gold production and give the appearance of low cost gold production, but what you’ve essentially done is allow copper production to trade at gold multiples. With Q1/07 dilute earnings of 7c/share multiplied forward by 4 quarters you get 28c/share. That gives a P/E of 46, so copper sales are trading at a P/E multiple of 46.
Looking further, for Q1 the Chapada mine produced 38,954 oz gold and 27.5 million pounds of copper. That is about 32% of the gold production. Chapada was responsible for 60.6% of the net revenue, which leveraged to 87.4% of the operating earnings. That detail screams that the other mines are not making much money. For Q1 the grade mined at Chapada was 0.57 g/ton gold and 0.47% copper, the metal values per tonne mined were $45/ton, way more than the $37/ton metal values for the remainder of the proven reserves, and the $30/ton of the probable reserves.
Northern Orion
Alumbrera has a life of mine until 2016 and has 0.45% copper, 0.014% molybdenum and 0.47g/ton of gold for metal values of about $51/ton. Alumbrera has a 20% royalty that kicked in last year.
Agua Rica has reserves of 0.50% copper, 0.033% molybdenum and 0.23g/ton gold for metal values of about $61/ton. The Agua reserve has 8 billion pounds contained copper, 531 million pounds molybdenum and 5.4 million ounces of gold.
Meridian Gold
Meridian’s El Penon is stellar, 6.6 g/ton of gold and 275 g/ton of silver in the proven and probable reserves. At $640/oz for gold and $12/oz for silver, that’s a very nice $242/ton in metal values.
Minera Florida has 1.5% zinc, 27 g/ton silver and 5.3 g/ton gold for $169/ton metal values.
Rossi has a resource grade of 15.4 g/ton of gold for $317/ton, but the deposit is very small.
Esquel is has a stellar grade of 23g/ton of silver and 15g/ton of gold for $317/ton.
Of the three, Meridian Gold has the smallest reserve/resource contribution, but it has more profitable grades, even for the more costly underground mining.
The Growth Profile
Checking out their presentation, the two-year plan is to move from 1 million ounces of production this year to 1.5 million ounce by 2009, or a 50% increase in gold production. Say gold is $650/oz, that’s an extra $325 million/year of gross revenue. A move from 1 million ounces to 1.5 million ounces would only increase the gross revenue by about 25% as about half the revenue is from the zinc, copper and silver. There may be plans to increase production of these metals, but that information was not included in their presentation.
The increased production plan does not include developing Agua Rica, or Esquel. Agua Rica has a feasibility study to produce 365 million pounds of copper, 125,000 oz of gold and 16 million pounds of molybdenum. Say copper was $2/lb and molybdenum was $15/lb and gold $700/oz, that would give $1 billion of gross revenue. There would be no outrageous 96c/lb royalty on this production. There could also be the option of partnering with Alumbrera for some other kind of production arrangements as they are close together.
Conclusion
Just because you label a company a gold producer or a base metal producer is not justification to accept different valuations for producing an identical product, such as copper, silver and zinc and for Yamana the market is grossly overvaluing production from producing these metals in comparison to if they’d been produced by say, Quadra.
Also, the market tends to fail to adjust valuation for reserves based on the quality of the reserves. The low metal values per ton for Yamana suggest that the reserves should be valued at a significant discount when you consider that the mining costs per ton tend to be fairly fixed costs. When grades are $50/ton, $10 processing per ton is 20%. At $25/ton it is 40%.
The gold grades are low and the actual production costs without metals credits are high. When Chapada’s costs are fairly allocated between copper and gold you get 66c/lb production costs for copper and $187/oz for gold.
Yamana is sufficiently overvalued that the “premium” offered to Northern Orionand Meridian is completely fiat.
Do your own due diligence, these are strictly my opinions. For the record, I owned Northern Orion until I realized it could very well be taken over by some bubble-valued gold producer.

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