Resource Maven: Drilling in context, The Eastmain question

The Maven Letter: March 30, 2016

Gwen Preston at PDAC 2016

Happy Monday everyone. Gold managed another sideways week and with that we’re a month past PDAC without the dreaded curse. Bull markets, especially new ones, act differently than bear markets. The biggest difference: new gold bull markets skip the summer doldrums, which otherwise are an incredibly reliable part of mining’s seasonality. If we get to September and the GDX is at or above current levels, consider that confirmation that the bull is on.

In more near-term news, a big announcement is coming later this week about the Metals Investor Forum. I’ll keep the details in the bag for now but I can say the change was sparked by overwhelming interest in the event, from companies and attendees. If you haven’t signed up yet, click here and reserve your tickets today.

As for the Monday snippet, the biggest article is a commentary on the battle brewing over Eastmain Resources. It’s a very interesting situation. I also write a bit about why similarly high-grade drill results, even from the same jurisdiction, can incite very different market responses. And a macro look at the possible paths forward for gold.

I hope you enjoy! As always, if you’d like to see what else comes in the full Maven Weekly letter, click here and sign up for a free trial subscription.

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In The News…

With high-grade drill results, context matters

Today we saw another set of results from Oban Mining (TSX: OBM), which has drills turning at its Windfall Lake gold project in Quebec. The sizeable program – 55,000 metres – is working to upgrade confidence in the resource above a stratigraphic layer known as the Red Dog intrusion while also punching through the Red Dog layer to expand a few pockets of mineralization known to sit below it.

Today’s results included some nice grades, such as 24.24 g/t gold over 5 metres, 10.3 g/t gold over 9.3 metres, and 14.13 g/t gold over 3 metres. The results extended a high-grade zone, unveiled a new zone, and confirmed grades in known zones.

Oban’s share price did nothing on the news.

Sirios (TSXV: SOI) also released drill results. Or a drill result, I should say: the company released partial assays from one hole. The assays returned 12.08 g/t gold over 20.3 metres, including 48 g/t gold over 4.4 metres.

The result matters because Sirios had already defined a zone of gold mineralization about 1 km across, but it was constrained to the tonalite (the criss-cross cluster of holes in the map). The new hole (circled) showed mineralization is also present in the surrounding metasediments.

A few earlier holes also returned gold from metasediments, in an area off the above map to the north, but the intercepts were low grade. The new zinger attracted attention and SOI’s share price was up as much as 40% in intraday trading. It closed up 12% at $0.235.

Not a huge move, but a nice one to be sure. And the news sparked a good amount of discussion amongst investors. Sirios has been around since 1995 and has always focused on the James Bay area of Quebec. President Dominique Doucet was involved in the discovery of the Eleonore deposit, one the best gold discoveries in Canadian history that is now a very nice mine operated by Goldcorp.

Eleonore is not only of historic interest here. The mine is only 15 km northwest of the Cheechoo discovery – and the grade and style of mineralization that Sirios just pulled out of the metasediments at Cheechoo looks a lot like the mineralization at Eleonore. Such parallels, if they pan out, are very significant.

Quebec is a hot jurisdiction, to be sure. Ask any explorer where they would most want to make a discovery today and Quebec will be near or at the top of their list, guaranteed. Ask any developer where they would want to build a mine and the answer will be the same. And so it follows that a drill hole suggesting a new gold discovery that looks like and is right beside the best gold discovery in recent history in Quebec attracts attention, especially when it comes from a group that really knows the area and isn’t riding its first rodeo.

Oban is also exploring in Quebec and is also manned by an experienced team. But the context of the news is very different.

Oban is a new company, born of the merger of four companies last year. Since the merger Oban has also taken over two additional companies, while also buying two projects and acquiring stakes in three other companies. The most recent of those takeovers only closed 2.5 weeks ago. That deal doubled Oban’s share count.

For the price to stay steady suggests shareholders thought the deal fair. It also means, though, that Oban’s market cap doubled two weeks ago. It takes time for the market to adjust expectations when a company’s parameters change so. Trading volumes have also been pretty high, suggesting some new shareholders acquired through the takeover are jumping ship. That creates downward pressure for some time post-deal.
The morale of the story is that context is king. Sirios has a portfolio of projects, but all are early stage assets in the same jurisdiction. Success at one changes the game. Oban, by contrast, have a portfolio of assets, some early stage and some advanced. Windfall Lake, where the recent holes were drilled, boasts a defined resource and a preliminary economic assessment.

The current drill program is designed to support a pre-feas or feasibility study in short order, because Oban’s vision is to become “an intermediate producer within three years” and Windfall is its best bet at this point. That being said, Oban is also cashed up ($65 million in the bank) and guaranteed the company is looking at other acquisitions with shorter timelines to production.
Add in a recently closed acquisition and the share price pressures that creates and you have in Oban a much more complicated story than in single asset explorer Sirios.

A Sneaky Move?

An interesting story is unfolding in another part of Quebec’s James Bay Lowlands, just south of the Eleonore mine. That’s where Eastmain Resources (TSXV: ER) has its Clearwater project, which is home to almost a million ounces of gold within an open pit resource averaging 4.05 g/t (mostly measured and indicated; some inferred).
The deposit, called Eau Claire, is classic Archean greenstone gold. Eau Claire is near a structural break that extends east-west for 100 km and specifically sits where the break runs through a major lithologic contact, where a swarm of intrusive rocks have also pushed through.
In other words, the context offers everything you looks for when seeking greenstone gold. And there is gold. Two vein sets align with shear zones near the lithologic contact to create a crescent-shaped deposit that is 100 metres wide, 1.8 km long, and has been traced to 900 metres depth.
Eastmain has put over $40 million into the project. A preliminary economic assessment is expected before the middle of the year. At least one bank analyst and several newsletter writers follow the stock and like the story.
When I was assessing it the other week, the question I came away with was: why is the share price so dead?

A high-grade gold project, near infrastructure in Quebec, advanced enough that a PEA is pending…you would think that would spark a stock to respond to gold’s gains. But ER did not. It stayed essentially flat through January and February.

Columbus Gold (TSX: CGT) thinks it knows why.

Columbus has launched a proxy fight, designed to replace Eastmain’s board with five new nominees. It’s an unusual move. Proxy fights usually come from frustrated shareholders, not peer companies. But Robert Guistra, CEO of Columbus, says this is the best way to crack open a closed nut.

Guistra says he has talked to many other companies that tried to talk M&A with Eastmain, but all were turned away. In a conversation Guistra told me those companies ranged from major miners to cashed-up, well-managed juniors.

Columbus came upon Eastmain in its M&A search. Guistra says they started by talking to ER shareholders and got a very clear message: shareholders were tired of management, who moved slowly and had no clear, let alone imaginative, vision for creating value.

However, Guistra says the public information about Clearwater is insufficient for Columbus to launch a normal takeover bid. Hence the proxy fight maneuver.

Guistra says his nominee slate, if elected, would consider all options. The new board could change priorities within Eastmain, keeping the company independent but improving its share price performance. Part of that would involve diversifying the focus away from Clearwater, to also advance some of Eastmain’s ten other projects. Or it could open Eastmain up to a merger or acquisition. Guistra suggested many companies have expressed interest in Eastmain’s assets, which is not surprising given that they are all high-grade gold targets in Quebec.

Columbus contends Eastmain hasn’t acted on these opportunities itself because its management is too entrenched to assess options clearly. Don Robinson and his wife, Catherine Butella, have run Eastmain for two decades. Guistra alleges they have collected hefty salaries (Robinson’s 2014 compensation totaled $250,000) while failing to advance ER’s assets at a reasonable pace.

‘Reasonable pace’ is a tough one to assess. Robinson counters that argument, saying his team discovered an important new zone at Clearwater in 2011 and have been working to drill it off and incorporate it into the resource. Now the PEA is pending. He says it takes time to understand a geologically complex deposit like Eau Claire.

(Here I have to note: a visit to the Eastmain website shows a project description for Clearwater that has not been updated since 2012.)
Robinson also says Eastmain has opened itself up to interested parties, but selectively. He is not interested in a merger of equals; he thinks the only way to assure that Clearwater will get the right kind of attention and investment is if the project or company is taken out by a mid-tier or major miner. (Here is but one place where the arguments are incongruent, with Guistra alleging Eastmain has turned away even mid-tier and majors as suitors.)

Robinson has also worked over the last year to strengthen Eastmain’s board of directors. Two new board members added many decades of mine development and operations expertise.

It is very difficult to know where the story will go from here. Guistra says he has support from many of Eastmain’s institutional shareholders, claiming shareholder “disenchantment runs deep.” Robinson believes he will have enough shareholder support to ward off the attack.

At the moment the fight is set to take place April 25, when Eastmain’s AGM is scheduled. However, I would bet Robinson has already filed the paperwork to apply for a three-month AGM delay, which would be granted.

If that happens, a few things matter.

  1. Eastmain should release the PEA for Clearwater within that 3-month window. If it is strong, it will support Robinson and current management. However, if it is weak it will be a hit against them, as Robinson’s argument has been that slow, steady work creates robust results. The plan seems to be a combination of open pit and underground operations. The deposit comes to surface but is a narrow package that dips rather steeply. That means the big question for the open pit portion will be strip ratio: it will be high but if too high it will render the open pit uneconomic. And developing an underground operation alongside an operating open pit stresses even a robust mine. The PEA could make or break current management.
  2. Expect Guistra and his slate to campaign hard. They will release plans for how they would unlock value from Eastmain’s assets and evidence supporting their contention that Eastmain’s management is failing shareholders. Among their plans, Guistra says Eastmain is failing by ignoring all the assets in its portfolio other than Clearwater. He likes Clearwater but is aware the project has its challenges (the open pit-versus-underground question as above, the need for more ounces). Meanwhile Eastmain has several other assets in the area that deserve attention.

There are a few more moving parts in this equation that will surface shortly. It certainly shaping up as an interesting fight. If Columbus succeeds, it will also make me wonder whether this might become a more routine avenue to shake up a stagnant company.

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On The Macro: Two Paths Diverged in the World…

A subscriber asked me last week: “Should we get out of gold by June, in expectation of a US rate hike?”

My answer was: it depends what you’re trying to achieve.

If you bought stocks late in 2015 and are looking at nice increases to now, selling makes sense. I do expect gold to move largely sideways over the next six weeks, as the markets obsess over the Federal Reserve’s June meeting. If expectation of a hike increases, gold will slide and the opportunity will present to re-enter some stocks at a lower price.

However, if you are more of a buy-and-hold type than a trader, staying in your gold stocks makes sense. Here’s why.

There are two potential paths ahead.

  1. Global economic growth is enough to avoid disaster. Easy monetary policy in Europe, Japan, and various emerging markets supports stock markets. Relative strength means United States can continue to normalize, starting with a rate hike in June.
  2. Global economic growth stalls and fails. Central banks in the EU, Japan, and emerging markets have no ammunition to fight the slide. The United States gets dragged down and implements rate cuts and quantitative easing, rather than tightening.

The latter is more likely, because in my view global data is weak at best. Consider also that doubts about global economic strength are now so entrenched it would take some pretty concerted improvements for the markets to accept that momentum has shifted to positive.

Also, the former situation suggests inflation while the latter suggests deflation. There is only one asset that does well against fears of both inflation and deflation: gold.

Most importantly, gold performs best when investors are uncertain.

Uncertainty – are we headed towards a recession or not? Is the US bull market over? What is going on with oil? Are US-dollar emerging market debts serviceable? Will energy sector defaults drag the market down? Will Trump be president? – is great for gold.

Gold is a hedge against the unknown. And there is a lot right now that we just don’t know. We don’t know how negative interest rates will play out. We don’t know what the long-term impacts of quantitative easing will be. We don’t know whether unprecedented central bank support actually fixed the problems of 2008 or just papered over them.

The broad nature of this uncertainty has in recent months translated into broad-based interest in gold. Clients from all different background have been buying gold and gold equities. The safe haven play is very real and very much in action.

That will continue until it becomes clear which path we are taking.

If it is path #1, investors will continue to buy gold as a hedge against inflation. There will also be a significant group that remains unconvinced about the recovery for a long time; this group will also buy gold.

If it is path #2, investors looking to escape the risks that stem from deflation (debt defaults, currency debasements, equity losses) and those simply looking for safety and value will buy gold.

So, if you are a long-term investor I would say the opposite: now is the time to accumulate positions in gold equities. No need to rush, as things will trend sideways from here for a time, but buy on dips.

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