M&A Opportunities Abound: Michael Gray and Shawn
Source: Brian Sylvester of
The Gold Report
Junior explorers may be underperforming the gold price this
year, but Macquarie Capital Markets Equity Analyst Michael Gray
is finding opportunities for mergers and acquisitions within the
precious metals space. In this exclusive interview with
The Gold Report,
Gray and Research Associate Shawn Campbell talk about the
technical aspects that are making a number of juniors attractive
The Gold Report:
Michael, the companies you cover read like a who's who of junior
precious metals explorers. But with the junior explorers vastly
underperforming the gold price this year, how are you pitching
these equities to your institutional clients?
Other than the strong mergers and acquisitions (M&A) thesis
for the majority of our coverage list, we've also highlighted to
clients what we would call game-changing exploration upside that
a number of our stocks are exposed to. One example would be
Extorre Gold Mines Ltd. (XG:TSX; XG:NYSE.A; E1R:Fkft), an
explorer in Santa Cruz, Argentina, which we initiated coverage on
in March 2011. At that point, it was trading at $5.09/share. We
had a $9.50/share target. It ran to $14/share during the
summertime based on its April 2011 Zoe vein discovery at Cerro
Moro. Currently, it trades around $7.50/share.
We also believe there's a strong investor appetite for
high-grade, high-margin situations with relatively near-term
production associated with low capital costs and short permitting
timelines. That's really reflected in Goldcorp Inc. (G:TSX;
GG:NYSE) acquisition of Andean Resources Inc. last year.
Finally, there is significant optionality associated with a
number of our stocks that have large gold resources in this gold
Your target prices for precious metals explorers are predicated
on prevailing forward-curve prices. That is a less than an ideal
method given that it doesn't take into account tightness or
weakness in the market, interest rates or inflation-adjusted
values. What are your thoughts on that?
It is difficult to accurately predict gold price over the next
year, let alone the next five years. We use the forward curve for
precious metals adjusted about every quarter on an as-needed
basis for our valuations. For the past seven years, we have found
it to be a very good predictor of realized future spot prices for
You recently revised your long-term gold metal price assumptions
for five years. In 2017, you're projecting a gold price of
$1,837/ounce (oz) up from $1,714/oz, while your long-term price
for silver is $33.42/oz up from $28.97/oz. Do you believe your
price projections are aggressive in comparison with other
Our valuation philosophy is to use a flat 5% discount rate and
the prevailing forward curve for long-term prices for gold,
silver and foreign exchange. We then apply an operating multiple
to the net asset value (
) that is less than one times NAV, whereas some banks may use a
lower price deck and a different discount rate, but a multiple to
NAV that is greater than one times. In the end, the entire
valuation picture needs to be looked at to assess aggressiveness.
We believe we're middle of the road.
What's your typical multiple to NAV?
Among our explorers, we have a range of 0.35 to 0.85x NAV. Our
high-end NAV multiples are associated with companies with
high-quality assets that we see as potential takeover candidates
Extorre and ATAC Resources Ltd. (ATC:TSX.V) have solid potential
to be involved in M&A activity in 2012, according to your
Extorre's Cerro Moro project has Measured, Indicated and Inferred
resources of 2.4 million ounces (Moz) gold equivalent (Au eq)
that, according to its recent scoping study, are both mineable
via open-pit and underground methods. We model Cerro Moro's
high-grade silver resources to have -$1,045 cash operating costs
on a silver byproduct basis. This is one of the best high-grade
projects out there in our view.
The Argentinean government recently issued a decree requiring the
repatriation of sales proceeds for mining companies in Argentina
that could impact a project like Cerro Moro. Has the way that you
valued the company changed as a result of those government
We looked at that decree when it came out and the stocks
definitely had an initial reaction to it. The explorers and
producers, such as Barrick Gold Corp. (ABX:TSX; ABX:NYSE), have
all been consistent in saying that they believe the effect of
this is an additional cost of 1-2% based on revenue. The
mechanics are that companies will have to convert, or repatriate,
sales into pesos, but the current system allows them to transfer
it back into the U.S. and then send the money abroad. We did a
sensitivity study on Extorre and it had minimal effect on our
target price and net asset value.
How big can Extorre's Cerro Moro get in terms of total ounces in
The analogy we draw is to AngloGold Ashanti Ltd. (AU:NYSE;
ANG:JSE; AGG:ASX; AGD:LSE) vein field at its Cerro Vanguardia
gold-silver mine, which has been operating since the late '90s.
Currently, it's 9 Moz gold in past-production current resources.
We hosted a conference in Toronto recently where one of the
representatives from Formicruz, who formerly worked with
AngloGold Ashanti, suggested that he wouldn't be surprised if
that district will ultimately see more than 12 Moz of gold
produced. Extorre's Cerro Moro project is basically an array of
veins in the early stages of exploration that have a number of
similarities with Cerro Vanguardia. It already has 2.4 Moz Au eq
in resources. We feel comfortable that Cerro Moro could
ultimately grow to a +5 Moz number in its life. We currently
value Cerro Moro based on 2.7 Moz Au eq.
Who are the likely suitors?
Companies that have expressed interest in that region certainly
are potential suitors. If the production profile can reach the
right critical mass, companies such as Eldorado Gold Corp.
(ELD:TSX; EGO:NYSE) would be interested, given it had bid for
Andean before. Yamana Gold Inc. (YRI:TSX; AUY:NYSE; YAU:LSE) and
Goldcorp, companies with operations down in Argentina that are
interested in a high-grade production of a certain size, could
also be interested. We also think given that it has high silver
content-roughly 50% of the value-some of the midtier silver
producers could also be interested.
Why is ATAC amongst the top group of Macquarie's list of M&A
candidates given that you just cut the 12-month target price to
$8.50/share from $11/share?
ATAC is an early call. This is a sediment-hosted gold geological
setting similar to Nevada's Carlin trend. It has all the right
signs and signals in terms of geological environment and early
success in drill holes from September 2010 documented ore-grade
gold mineralization over significant thicknesses. Although our
Carlin thesis is intact as far as we're concerned, it's clear
that the geological risk for defining large resources in the
short term has increased due to the high degree of structural
control versus lithological controls. We moved our target price
down to reflect this geological risk.
We have a strong conviction that the geology associated with
the Rackla gold belt is the type of hunting grounds that the
seniors have been looking for, but generally haven't found on a
worldwide basis outside of Nevada, and that given the strong
geological similarities the Rackla gold belt has good potential
for hosting such Carlin-type gold deposit. There are very few
tier-one (+20 Moz) opportunities in the world and, with the right
amount of success and given its enormous 100%-owned land
position, ATAC could be an attractive takeover target.
Is it any closer to proving the theory that this is a
With the empirical evidence of the geological setting, the
mineralization style, the signature of elements-antimony,
arsenic, mercury, thallium, gold, low silver-and numerous
characteristic alteration features, there are not too many people
out there who necessarily would disagree with that deposit-type
analog. The deposit type is important as it suggests that the
potential endowment could be very large given the northern part
of the Carlin trend alone has 100 Moz of gold. We're not
necessarily saying that would be the endowment within the Rackla
gold belt; however, we certainly see evidence of a big system in
place between the Osiris targets, where there's been a
significant amount of drilling, and out 26 kilometers (km) to the
west to the Pyramid gold prospect, which also has a number of the
indicative geological features. Again, ATAC is an early takeover
candidate in our view partly because of the rarity of this type
of geology and potential.
Is there a first-mover advantage in terms of a major coming in
early and locking up this belt once it has proven there are
significant amounts of gold there?
Some of the senior mining companies have been spending up to $50
)/year on their greenfield worldwide budgets, looking for another
Carlin trend or similar tier-one asset. It doesn't take too many
years of spending that amount of money to justify moving early on
an asset like this at the right price.
There is no question: ATAC's Rackla gold belt is still at a
very early exploration stage and no resources have been
documented. There is also a very short field season in the Yukon
to contend with, especially in this particular area, so it
certainly would be early and aggressive for a senior to be doing
anything right now. This said, it's a very special situation as
there's just not very many of these Carlin-type environments,
especially associated with a large land position, 100% ownership
and no royalties, anywhere on a worldwide basis.
Strategic Metals Ltd. (SMD:TSX.V) is developing the Midas Touch
project in the Yukon, south of ATAC Resources' Osiris discovery.
Why is ATAC a takeover target and not Strategic?
Strategic is a potential takeover target. However, its Midas
Touch project has not yet documented a discovery drill hole with
significant gold grades over a significant length, so ATAC is
more likely given that it has confirmed significant gold
mineralization. That said, Strategic has documented a fairly
extensive +400-meter (m) long zone of arsenic mineralization on
its Crag property, which seems to be in the right type of trap
rocks (as ATAC's Osiris targets). Strategic also owns about 9% of
ATAC, and its Midas Touch land position is very large and could
be a compelling way to gain exposure to the Rackla gold belt in
International Tower Hill Mines Ltd.'s (ITH:TSX; THM:NYSE.A)
Livengood project in Alaska, based on $1,400/oz gold and a cutout
grade of 0.22 grams/ton (g/t), has 16.5 Moz of Measured and
Indicated resources and 4.1 Moz of Inferred resources. Are we
ever going to see a project of that scale developed in Alaska?
There are certainly a couple there now that don't seem to be much
closer to development.
Livengood is a tier-one, +20 Moz gold asset, owned 100% by a
junior, which is relatively rare. We currently model Livengood
using a 0.35 g/t cutoff, a little bit of a higher grade, with
life-of-mine grades of 0.65 g/t gold and include a starter pit in
the first four years of 0.82 g/t gold. In September 2011,
International Tower Hill released a large mill preliminary
economic assessment (PEA), which contemplates a 91,000 ton/day
(tpd) milling operation with life-of-mine average gold production
of 607,000 oz per year. It is a large, low-grade mine proposition
in Alaska. Livengood's key attractive feature compared to some of
the other larger development projects is its good infrastructure
as it is located on a highway 100km north of Fairbanks along with
access to power and water.
Donlin Creek has 50 Moz and it's not anywhere close to being
developed. Northern Dynasty Minerals Ltd.'s (NDM:TSX; NAK:NYSE.A)
Pebble project is about 100 Moz and that's not very close to
being developed either. It does seem that even though the ounces
are there and the geology is prospective, they're not being
developed. What is the impediment?
For some of the other projects, there are significant
infrastructure challenges. There aren't necessarily roads or any
power infrastructure to these sites. Northern Dynasty also has
some stakeholder groups not embracing the project.
Livengood is a brownfield site from former placer mining and
it's next to the Alaska pipeline. It doesn't have a significant
stakeholder group that would be opposing the project. There
aren't obvious challenges in our view when it comes to community
relations, First Nations issues or competing interests.
Rainy River Resources Ltd. (RR:TSX.V) just made a
nickel-copper-cobalt discovery at its Rainy River gold project in
northwestern Ontario. What do you know about that project?
The Rainy River gold project is part of a new Canadian gold belt.
It has more than 6 Moz gold in its global Measured, Indicated and
Inferred resources. It's 100% owned and associated with a large
land position-all attributes we like. A recent scoping study
documented a combined open-pit/underground mine scenario that
would produce 325,000 oz/year over about a 13-year mine life. The
economic study estimated initial capital costs and sustaining
capital of about $1.5 billion. It resulted in a pretax internal
rate of return (
) of just less than 20% and a net present value (
) of $786,000 using a 5% discount rate. This project has come
into greater visibility with this study.
It's extremely well located near the U.S. border in
northwestern Ontario. The capital expenditure estimated in the
PEA at $1.4B for initial and sustaining capital is higher than we
expected. It is modeled as a 30 t/d operation. It will have a
higher than average strip ratio to deal with and have overburden
and water management issues to deal with, but certainly is a
project that can be permitted. As far as the nickel-copper-cobalt
discovery, it's not important to our valuation of Rainy River at
this time as we interpret it to be relatively small with limited
It would just be a bonus at best. That IRR is fairly low and a
lot can go wrong when bringing a project into production. What
does Rainy River have to do to get that IRR up around the 30%
It does have a pending resource announcement in January, which
would include the majority of the drilling it conducted this
year. Analysts are looking at that for visibility on conversion
ratios to Measured and Indicated categories and if there is an
improvement in the average grades. On a conference call in
November when it released the study, it indicated a 10% change in
grade had a +30% impact on project NPV. This is a grade-sensitive
project and this is the first so-called economic snapshot of the
deposit. That pretax IRR of 19%, given the capital costs, needs
to be improved for this to become robust.
Brett Resources Inc. (BBR:TSX.V), which had about 5 Moz in the
same area of northwestern Ontario, was bought by Osisko Mining a
couple of years ago. Is that the thesis here, too?
Rainy River is on a path where it has to derisk the project
vis-à-vis permitting and economic studies to make it a compelling
takeover target. It probably is in the gun sights given its size,
but at this time, the economic visibility is really going to
depend on that resource estimation that's coming up and the
ability to optimize a number of the parameters.
Heading further south still, Midas Gold Corp. (MAX:TSX) has a
100% interest in the Yellow Pine mining district in Valley
County, Idaho, and already has outlined about 6 Moz there. Why
haven't more people heard of this story?
The company just completed its initial public offering (IPO) in
July, so it is still a new story. However, its Golden Meadows
project, at 5.8 Moz Indicated and Inferred, is probably the
largest gold resource in an IPO that we're aware of.
What's ahead for Midas?
There are three resources on the property that have come in
through the consolidation of this district. The relatively
straightforward increase in resources will involve near-pit
expansion, so sketching in the resources lateral and to depth of
the existing three deposits, as well as the infill drilling to
increase the confidence in the resource categories. Subsequent to
that, there is very high potential to expand mineralization along
strike of the three deposits. Following that, there are a number
of new targets that have never been assessed to depth. A number
of the targets on the property were assessed only for oxide gold
mineralization. There's great sulfide-associated gold potential
to depth on a number of the targets throughout the property.
What's the permitting regime like in Idaho?
Idaho permitting has a bit of a reputation for taking a long
time, but it's a very clear and harmonized process between the
state and the federal government. Given that there are a number
of examples of successful mines having been permitted in Idaho
over the last 15 years, including a number of expansions, if you
propose the project effectively and it does not have fatal flaws,
our understanding is that eventually the projects get
In Guatemala, Tahoe Resources Inc. (THO:TSX) is developing the
massive Escobal silver project with roughly a 20-year mine life.
But Tahoe needs to convert its exploration license into a mining
exploitation license. Will that prove difficult?
In October, Tahoe received its environmental impact statement
approval and is able to proceed with construction of a mine. That
is a major derisking milestone. It signals that it's likely we'll
see conversion of its current exploration license to a mining
exploitation license. The timing is really going to depend on
when the new mining laws are passed by Congress. Guatemala has a
new president who will be inaugurated in January. We're likely
looking at the new mining laws being passed after May 2012.
We model Tahoe's +300 Moz Escobal silver-lead-zinc-gold
project at 13 Moz silver/year over a 20-year mine life, including
19 Moz over the first five years, with cash operating costs of
about $5.05/oz silver net of byproduct credits.
How do you account in your valuation for the risks associated
with the new mining law coming into effect, and that this is a
one-asset company developing a mine in a developing country over
the long term?
We try to reflect that as a balance between the world-class
nature of Tahoe's Escobal asset being rare, really part of an
emerging silver vein district, and with the political risk. In
this type of situation, we incorporate that political risk in our
multiple to NAV until we see events unfold otherwise. Goldcorp
has been operating the Marlin gold mine in northeast Guatemala
for a number of years, which essentially gives us confidence that
Escobal will become a mine. If the political situation doesn't
deteriorate, then we're comfortable with our risk multiple. That
said, we appreciate that Guatemala is a country that is moderate
to high risk.
Would you say the management at Tahoe is the kind of management
you would want in this situation?
Chief Executive Officer Kevin McArthur and a number of the
executives at Tahoe have extensive experience in Guatemala. It
makes a difference having a team that's operated in a country and
has that type of development experience. Our understanding is
that McArthur is focused on building Escobal, getting it into
commercial production, and then may look to build a multi-asset
silver company from there.
In Brazil, Colossus Minerals Inc. (CSI:TSX) plans to bring the
high-grade Serra Pelada gold-platinum-palladium (Au-Pt-Pd)
project into production and appears to have enough cash to do so.
But there could be some problems with Serra Pelada's metallurgy
and some of the ground conditions in the past-producing pit
there. Could you tell us about those issues?
Colossus' 75%-owned Serra Pelada Au-Pt-Pd project, in Para State,
Brazil, is one of the highest-grade precious metal deposits on
the planet. We conducted a site visit to Serra Pelada in
mid-October. On metallurgy, the flow sheet for a conventional
gravity recovery plant appears to be in place and would recover
about 95% of the gold. Construction for that gravity plant is
scheduled to start this quarter. For platinum and palladium
metallurgy, the company has been working on the optimal flow
sheet, which may involve calcining to burn off the carbon. This
metallurgical work is still in progress and will rely on the
evaluation of the bulk sample to be collected in the second half
of 2012. We're currently modeling 65% recovery of the platinum
As for ground conditions, the decline development for
exploration and ultimate extraction of the Central Mineralized
zone at Serra Pelada is lateral to the historic pit and initially
used road headers, but the poor ground conditions eventually
dictated that conventional drill and blast would be required and
be more effective. As of early November, the decline was at about
600m and it involved shotcreting the walls followed by rock
bolting and screening, then shotcreting again and locally
strapping with steel. If advance rates of 4m/day can be achieved,
then bulk sample extraction location should be reached toward the
middle of 2012. We also expect the ultra-high-grade Au-Pt-Pd
mineralization to have challenging ground conditions given the
carbonaceous host rocks.
There have been some changes in management there. Tell us about
There have been a number of changes starting with, most recently,
Ari Sussman becoming chairman of the board. He was the chief
executive of two companies and now he's focused just on
Continental Gold Ltd. (CNL:TSX). Claudio Mancuso was the chief
financial officer and now is the chief executive. He will be able
to focus all his energies on leading the company. There were
certainly a lot of other management changes between Q211 and Q311
when the chief operating officer left. Colossus has hired Paulo
de Tarso Serpa Fagundes as its new COO, who previously worked
with Yamana as the general manager for its Mercedes Mine in
Doesn't that make you raise an eyebrow or two at the same
Having been on the ground in mid-October, it was a chance for us
to meet the entire team and gain an appreciation for its skill
set and ability to work together. We were satisfied that the
current team is prepared for the challenges that lie ahead
associated with the project. This said, the technical risks
associated with the project are still not quantified at this
Do you have any parting thoughts on investing in the precious
metals explorer space or words of wisdom?
I like the expression
Good people do good things with a good capital structure
as it certainly applies to the precious metal exploration
business where projects come and go. My main comment is that to
be successful at picking the winners among the precious metal
explorers, especially the early-stage ones, it's really important
to reduce geological risk by looking at the right geology and
focusing on high-quality assets. More often than not, they tend
to be associated with technically superior management teams that
are extremely persistent.
Thanks for your time.
Michael Gray is a mining equity analyst with Macquarie
Capital Markets and covers a range of precious metal explorers
and producers with an emphasis on North and South America. He
is an exploration geologist and holds a Bachelor of Science in
geology from the University of British Columbia and a Master of
Science in economic geology from Laurentian University. His
career of over 25 years in the mineral exploration business
started with senior mining companies including Falconbridge,
Lac Minerals, Cominco and Minnova where he worked throughout
Canada and the USA. He co-founded Rubicon Minerals in 1996 and
helped navigate the company through a series of joint ventures
and an asset portfolio build that was eventually centered on
the Red Lake gold district, Canada. During this period, Gray
was president of the 5,000 member B.C. & Yukon Chamber of
Mines for one year and on the executive committee for six
years. Gray then joined the mining analyst world in 2005 where
he brought to bear his technical skills to identify new
precious metal opportunities at an early stage with outstanding
exploration potential; he has covered a number of these
opportunities that were subsequently taken over by gold
Shawn Campbell is a mining equity associate with Macquarie
Capital Markets and supports the analyst covering a range of
precious metal explorers and producers with an emphasis on
North and South America. Prior to being an associate, Campbell
was an auditor with Deloitte for six years where he held key
roles in auditing large public mining companies. He has a
Bachelor of Commerce degree from the University of Victoria and
is a CFA charterholder.
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1) Brian Sylvester of
The Gold Report
conducted this interview. He personally and/or his family own
shares of the following companies mentioned in this interview:
2) The following companies mentioned in the interview are
The Gold Report:
Extorre Gold Mines Ltd., Goldcorp Inc., Tahoe Resources Inc.,
Colossus Minerals Inc., Continental Gold Ltd. Streetwise Reports
does not accept stock in exchange for services.
3) Michael Gray: I personally and/or my family own shares of the
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personally and/or my family am paid by the following companies
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Streetwise for participating in this story.
4) Shawn Campbell: I personally and/or my family own shares of
the following companies mentioned in this interview: None. I
personally and/or my family am paid by the following companies
mentioned in this interview: None. Shawn Campbell was not paid by
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