How the Mining World Works ( Hint: It's Not about the Rocks)

The Globe and Mail (Canada)

May 19, 2007 Saturday

How to (still) get rich in mining;
Here are 10 insider tips that have led savvy investors to the motherlode - and we're not talking molybdenum

BYLINE: ANDY HOFFMAN AND SINCLAIR STEWART

SECTION: REPORT ON BUSINESS: CANADIAN; COVER STORY: MINING; Pg. B4

"Put Down that Shovel: An Insider's Guide to Mining." Here's an excerpt.

1. Don't fall in love with the rocks

Ask a mining executive, and he'll tell you straight up: geology degrees are so 1970s. Remember, these days the business runs on financial engineering - not mining engineering. Sure, it helps to have a passing understanding of base metals and gems, but the crucial thing is a financial background.

Just take a look around. Frank Giustra, the mining promoter from Vancouver, is a former investment banker. Ian Telfer, the chairman of Goldcorp., is trained as an accountant. So is Greg Wilkins, Barrick Gold's chief executive officer, and Mick Davis, the man who built Xstrata PLC into a major force. Don Lindsay, the head of Teck Cominco Ltd., is a career investment banker. Ditto for CVRD boss Roger Agnelli, who out-duelled Mr. Lindsay to grab Inco, and Tye Burt, the head of Kinross Gold. Peter Marrone, the head of high-flier Yamana Gold? A former corporate lawyer turned investment banker.

Metallurgists and geologists, who are being shoved from the CEO chair by their smart-suited counterparts, have a fatal flaw, explained one industry type: "They fall in love with the rocks." Translation? They get into cat fights over who has the better assets, instead of recognizing that in many cases, it isn't about the assets at all. It's about telling a good story and closing the deal.

2. Channel your Christopher Columbus

Exploring is a cinch. All you have to do is set up a company, wait for the markets to fall in love with a particular metal, and then tell the entire world you're hunting for it.

One word of caution, though - make sure not to look too carefully.

There's an old saw in the biz that "drill-holes ruin the story." The moral? Try to avoid the so-called "truth machines" if you don't want to disappoint your investors. Don't scour your property unless you're really, really, sure you'll find something.

Just take a look around. More than 400 junior explorers have cropped up recently to take advantage of a frenzied worldwide demand for uranium. Never mind that only a fraction of these will survive, much less extract a motherlode of the radioactive yellow stuff - what matters is they can still raise money.

Same deal with molybdenum, that metal-of-the-moment whose name most explorers couldn't even pronounce a year ago. Today, it's at the centre of an exploration craze. Just remember what we said before: People like good stories, especially suspenseful ones. Keep them guessing.

3. A metal by any other name ...

Not surprisingly, the biggest mining IPO in Canada last year was for a uranium company, First Uranium Inc. But is it really a uranium player? According to company filings, First Uranium expects to receive more than 75 per cent of its revenues from gold once it starts production in a couple of years. Not that there's anything wrong with being a gold company - it just doesn't have the same pizzazz as uranium (at least not this year).

Just ask Trigon Exploration Canada Ltd., a diamond explorer that showed some savvy by rechristening itself Trigon Uranium. Presto! Its shares jumped almost sixfold last year, soaring from about 20 cents to $1.20. Coincidence? Perhaps.

There are still some throwbacks, though, like DRC Resources Corp. The company's flagship project has one billion pounds of copper, and far less gold - about a million ounces.

But that didn't stop DRC from changing its name to New Gold Inc. in 2005. Gold companies tend to get better multiples than copper producers, and the rebranding effort certainly didn't hurt. New Gold's shares went on a tear following the name change, climbing from around $5 apiece to a high of $13.40 last year. Coincidence? You decide.

4. You are the market

You don't have to be an economist to figure out why metal prices have soared to record highs. This is supply and demand, right? China and India are placing orders for base metals faster than miners can dig them out of the ground, and prices are skyrocketing as a result.

For most people, the story ends here. Not for the smart money, though. Take uranium. Hedge funds and other financial players are further choking the supply chain by buying the metal and sitting on it for a while. (And you thought uranium was trading at $120 (U.S.) a pound just because of China?)

This isn't a bad strategy for an aspiring mining mogul, either. A new fund called Uranium Participation Corp. is snapping up concentrate, and in the process is helping the stock prices of industry players like Denison Mines Inc. (which happens to manage the fund, as well).

Still doubtful? Check out Sprott Molybdenum Participation Corp., a new fund that buys up the tongue-twisting metal as well as moly-related stocks.

Who are the hottest performers in the mining sector so far this year? Moly Mines (up more than 250 per cent), moly miner Thompson Creek Metals (up 70 per cent, and 515 per cent over the past 12 months), and moly/copper producer Mercator Minerals (up about 100 per cent).

5. Ask for advice

There's nothing embarrassing about seeking out counsel - in fact, you should brag about it to everybody.

We know what you're thinking. In other industries, when a company hires a strategic adviser to explore its options, it takes great pains to keep things secret, since investors will assume that merger talks are afoot, and send the stock surging.

Thankfully, there aren't so many Nervous Nellies in the mining sector. Take Northern Peru Copper. It put out a press release this winter trumpeting that it had hired an adviser to "explore its options." The stock went up. A week later, Northern Peru revealed its option: It wasn't merging - it was selling shares in the company (Alas, the financing was derailed, but you get the idea).

UraMin Inc. had better luck. In February it said it was hiring a financial adviser because of the frothy uranium market. Presto-chango, the stock went up 12 per cent that day. Within a week, the company announced it was selling $226-million worth of shares - a deal that was led by the same brokerage that acted as the strategic adviser. The only thing better than good advice is advice that comes this fast.

6. Do the asset shuffle

Forget about all those team-first analogies, about how "1 plus 1 equals 3." In mining, the whole is often worth less than the sum of its parts.

The problem is, when you're actually producing something, the market doesn't give you much credit for your exploration business. But it will give credit to a standalone junior explorer (remember those 400 uranium chasers?). If you're a mining executive, the solution is to spin off your exploration assets into a separate business - preferably at a decent price, since you're often acting as one of the buyers.

Have a look at B2Gold, which has interests in development projects in Colombia and Russia. The assets were owned by Bema Gold, which agreed to a takeover bid from Kinross Gold last year. Ex-Bema CEO Clive Johnson got to keep these development projects by paying Kinross $15-million (Canadian). Look for a B2Gold initial public offering in the fall, and let's just say it's a pretty good bet that the offering will raise a lot more than $15-million. That's fast money.

Yamana Gold, headed by Peter Marrone, has followed a similar path. It sold some property to a startup venture called Aura Resources, which counts Mr. Marrone as a director. Aura has also bought property from another company "related" to Mr. Marrone. And both Aura and Yamana share the same chairman, Vic Bradley.

Frank Giustra and Ian Telfer have perfected this move. They teamed up on Silver Wheaton, which was spun out of Wheaton River, and on Terrane Metals Corp. Their most recent project is Peak Gold Ltd., a company they created by buying a pair of mines from Goldcorp (where Mr. Telfer is chairman). These sorts of thumb's-length deals have long been a concern for investors in other sectors, but not so much in the mining world. It's just the way the business works.

7. The Shell Game

This is how you strike gold, without ever striking gold. The game itself is pretty simple: A mining promoter will buy a cheap "shell" company already listed on the stock exchange, gather some friends to help fund the acquisition, and then, some time down the road, load it up with mining assets (remember the shuffle?) and do another share offering. These deals can be very lucrative, especially if you're in a promoter's "circle of trust." Being a banker is especially helpful.

Consider those who paid 5 cents a unit last year to buy into a shell company called Imperial PlasTech Inc. They included Mr. Giustra, along with several investment bankers and traders from three high-profile brokerages. For the latter group, it was a nice double-payday. When the mining promoters wanted to buy gold assets, stuff them into a shell and rename the company Peak Gold, who did they award the $326-million financing to? You guessed it - the same firms whose bankers and traders were invited to participate on the cheap.

This is all perfectly legal and publicly disclosed - but that doesn't mean everybody likes it.

"To be buying the cheap shares and then have the firm pushing the stock at a higher price to clients - that's not kosher," says a banker at a firm that forbids the practice. One industry source referred to the move as "getting people pregnant," and with Peak shares trading at around 80 cents apiece these days, that's quite a baby.

8. Get your director's diploma

One of the great perquisites of the mining business is being appointed to a company board - and the more friends you have (particularly in Vancouver), the better your chances. Consider UrAsia Energy. When the company recently agreed to a $3.8-billion takeover bid, its six directors were sitting on $4-million worth of stock options. Each. And they'd been on the board for less than two years. But the lucrative payday didn't stop there. Mr. Giustra, one of the directors, had also been given 6.2 million shares a year and a half ago - free. Director Ian Telfer, his good friend and business partner, got 2.2 million of his own, gratis. Gordon Keep, a colleague of Mr. Giustra's at Endeavour Financial (the company that collected $12-million advising UrAsia on the takeover), was awarded 525,000 free shares, while Robert Cross, a former brokerage colleague of Mr. Giustra's, was handed 500,000.

At some companies, the payday can be even quicker. The directors at Yamana Gold, for instance, didn't have to wait for a merger before they could cash out. In fact, they didn't have to wait for anything. Most stock options "vest" for a few years before directors or executives can cash out. Yet, in 2005, Yamana's directors were awarded stock options worth more than $1-million each, and they vested immediately. CEO Peter Marrone said at the time it was simply "a practice in the resource sector." Not any more. Faced with criticism, the company stopped awarding options to directors.

9. Inspire a Letter Writer:

There's nothing better than having someone influential recommending your stock to retail investors. Take James Dines, the man behind The Dines Letter - a stock-picking report with a sizable following. Mr. Dines used to call himself "the original gold bug." These days, he is the "original uranium bug," and is touting a company called Mega Uranium Ltd. (as well as Pinetree Capital Ltd., which holds a big stake in Mega and shares the same chairman and CEO - Sheldon Inwentash). When the company revealed last year that regulators were investigating Mr. Inwentash for possible insider trading and stock manipulation, Pinetree shares plunged as much as 30 per cent. Enter Mr. Dines. He published a special edition of his newsletter, counselling readers to "back up the truck" and buy Pinetree shares. The stock rebounded, and finished the day up 4.2 per cent. Why does Mr. Dines like Mega Uranium and Pinetree so much? He didn't respond to requests for an interview, but he received 150,000 shares of a company called Maple Minerals Corp., in July 2005, for selling the rights to the name "Mega Uranium Ltd." Maple Minerals of course, soon morphed into Mega Uranium and the share price has climbed from around $1 since Mr. Dines received his stock to over $6.

10. Move to Canada.

Please - enough whining about the supposed "hollowing out" of the Canadian mining sector. Sure, the old stalwarts like Inco and Falconbridge have disappeared and Alcan may be next. But what about the legion of foreign miners who are taking their place? Canada understands miners. Its markets offer them cheap access to capital, with none of that annoying "country risk" that comes with doing business in Africa or South America. The great thing is, foreign miners can take advantage of all this without ever having to endure our brutal winters.

Australia's Equinox Minerals, which is developing a big copper mine in Zambia, has already figured this out. Since arriving on the TSX, its shares have surged from around 50 cents to about $2.75.

Bankers know this too. The folks at BMO Nesbitt Burns Inc. pitched sxr Uranium One management on the move to North American markets a few years ago, correctly predicting the listing would give the South African company more visibility and a higher valuation. A couple of deals later, Uranium One is the second-largest uranium play on the TSX, with a market value over $5.5-billion.

Never mind that the CEO still lives in South Africa, or that the head of Equinox remains in Australia. This is common practice.

After Toronto-based LionOre Mining became the subject of a bidding war between a pair of foreign giants, the nickel miner took pains to explain it wasn't really Canadian after all. Its CEO, Colin Steyn, resides in London, and the Canadian work force consists of "five accountants," according to one company insider.

So be careful about the hand-wringing when a "Canadian" company vanishes again; there's always another miner, foreign or otherwise, ready to take its place. And they've got a good chance of succeeding, as long as they know the tricks of the trade and investors continue to fall in love with the rocks.

How to create a half-billion-dollar gold miner in five easy steps

It took less than a year for the folks behind Peak Gold Ltd. to transform a dormant shell company into a bullion producer with a market valuation of about $570-million. The deal was particularly lucrative for those who were invited to buy into a private placement for Imperial PlasTech Inc. last year at 5 cents a unit.